"It's hard to avoid the preferential payment trap!" by Steve Marsten

It’s hard enough in business to build a customer base; deal with staff issues; secure decent suppliers who are ethical and professional; look for well positioned premises and deal with the multitude of red tape and licences to get up and running and then you need your customers to pay you! So it completely blows me away when a good local business who operates with a proper purchase ordering system and a good debt collection team, gets stung by the fact that they are paid by a business that collapses!

OK so you are asking how is that a problem if they get paid? The problem is – in Australia, if you happen to be paid by a customer that goes into liquidation or administration within six months of you receiving your payments, you may be considered a “preferred creditor” or a “preferred payment”.

A preferential payment is a payment or transfer of assets to creditors that gives that creditor a supposed advantage over other creditors. These payments or transfers may be recoverable by trustees in bankruptcy under the provisions of the Bankruptcy Act.

The transfer of funds must take place during a specific period before the bankruptcy.  As I mentioned above, this period is usually 6 months before the filing of the creditors petition.

The creditor has three arms of defence. These include:        

1.       The transfer was in the ordinary course of business

2.       The recipient of the funds acted in good faith;

3.       The recipient gave market value consideration or service.

However the Administrators or the liquidators will often go to court spending down the assets of what’s left in the defunct Company to secure the (so called preferentially) paid funds. These are funds often paid in the normal course of business and more often then not - in good faith. So the customer who has acted in good faith now has to incur legal fees to attempt to keep the funds that they have genuinely earnt. These are funds that have been used to pay the wages of his employees and costs of operations.

If the Trustee can prove that the company that paid the funds was insolvent at the time of payment, regardless of the good faith of the creditor, they can often force the repayment of the funds. This area of the Bankruptcy Act is not fair by any means.

At Sothertons we can assist businesses to prepare a case with their legal advisers to minimise the chances of losing hard earnt income. Contact us on 07 4972 1300.