What is an Uncommercial Transaction?

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In this article we discuss ‘uncommercial transactions’, an avoidance provision which allows liquidators to apply to the court to void a transaction where it may be expected that a reasonable person in the company’s circumstances would not have entered into the transaction, having regard to its benefits and detriments. 

What is the purpose of the ‘uncommercial transaction’ avoidance provision?

On the winding-up of the company, a liquidator is required to distribute the pool of assets to unsecured creditors pari passu. That is, on an ‘equal footing’ in proportion to their provable debt.

However, prior to the winding-up, the company, its directors, its officers or some other individuals, may have entered into transactions which have improperly adjusted the assets of the company in favour of one party, and against the pari passu principle. 

In Rubin v Eurofinance SA [2012] UKSC 46, Lord Collins of the Supreme Court of the United Kingdom, described avoidance provisions in the following way: 

The underlying policy is to protect the general body of creditors against a diminution of the assets by a transaction which confers an unfair or improper advantage on the other party, and it is therefore an essential aspect of the process of liquidation that antecedent transactions whose consequences have been detrimental to the collective interest of the creditors should be amenable to adjustment or avoidance. 

Through the voidable transaction provisions of the Act, liquidators can apply to the court to have transactions unwound or recover money where the test for the relevant voidable transaction has been met. 

The general purpose of the ‘uncommercial transactions’ provision is to allow a liquidator to recover amounts where a transaction, rather than being to the overall benefit of the insolvent company, provides an overall advantage to another party. We discuss the precise definition of an uncommercial transaction in detail below. 

What is the definition of an ‘uncommercial transaction’?

Section 588FB of the Act provides the following definition of an uncommercial transaction. A transaction of the company must be:

• One where it may be expected that a reasonable person, in the company’s circumstances, would not have entered into the transaction.
• In determining the above, regard will be had to the benefits (if any) to the company of entering into the transaction, the detriment to the company of entering into the transaction, the respective benefits to other parties to the transaction of entering into it and any other relevant matter.
• Entered into two years prior to the ‘relation back’ day (generally speaking, the day that the liquidation begins).
• At a time when the company was insolvent, or became so as a consequence of the transaction. 

What counts as ‘unreasonable’ or ‘uncommercial’?

The broad reference to whether a reasonable person would have entered into the transaction in this provision may leave it unclear, from reading the statute alone, which transactions a liquidator might decide count as ‘uncommercial’ in order to be covered by this provision. 

However existing case law suggests that the court emphasises transactions which are, from the perspective of the company, significantly less-than-market value. 

In Capital Finance Australia Ltd v Tolcher [2007] FCAFC 185, the Full Federal Court emphasised a party receiving a ‘bargain’ inexplicable by normal commercial practice and consideration that ‘lacks a commercial quality’.  

The uncommercial transactions provision appears to have been used infrequently, so there is not a large amount of case law on the issue. However, some of the situations that the courts have found to constitute uncommercial transactions include: 

• An accounting firm charging more than double its standard fee without explanation (see Re Employ No 96 Pty Ltd (in liq) [2013] 93 ASCR 48).
• A company’s sole director buying an engagement ring for his fiancee using company funds. As the wife had received the ring in good faith, the transaction was unwound by a direction that the director repay the equivalent amount (see Re Pacific Hardware Brokers (Qld) Pty Ltd (1997) 16 ACLC 442). 

Keay’s list of potential uncommercial transactions in ‘Liquidators’ Avoidance of Uncommercial Transactions (1996) 70 ALJ 390’ is still useful in considering the broad range of transactions that might be covered (see page 398). Uncommercial transactions could include: 

• Gifts
• Agreeing to perform tasks for no consideration
• Purchasing or disposing of property for less than market value
• Agreeing to pay for services in a sum far exceeding its value
• Agreement to provide services for less than market value
• Providing a guarantee for no value, or less than market value
• Providing security for previously unsecured loans

Nevertheless, there has been some reluctance from the court to find that a transaction was uncommercial for the purposes of this provision. In Skouloudis Group Pty Ltd (in Liq) v Planet Enterprizes Pty Ltd [2002] NSWSC 329, the New South Wales Supreme Court considered the transfer of a newspaper business from a husband to a company owned by his wife. The consideration was the existing liabilities of the business. The Court considered that, as it was a related party transfer, the transaction warranted close attention.

The Court accepted that the purchase price was low, there was no documentation (both in terms of financial records of the business and a written agreement relating to the sale of the business) and that the other party to the transaction was a ‘related party’. However, the Court still failed to find that the transaction was uncommercial. 

Given that the company in question appeared to be unable to pay the debts of its newspaper business as they fell due, the Court found that it was ‘not necessarily an unreasonable transaction’.

This demonstrates the reluctance of the courts to find a transaction ‘unreasonable’ or ‘uncommercial’ without good grounds to do so. 

How do uncommercial transactions differ from creditor-defeating dispositions?

Uncommercial transactions are not the only type of voidable transaction. Another similar type of voidable transaction is a ‘creditor-defeating disposition’. This recent addition to the Act was introduced in order to put a stop to ‘illegal phoenix activity’. The reform prevents companies from stripping assets prior to liquidation and passing those assets on to a related company for less-than-market value. 

Under section 588FDB of the Act, if a disposition of property is for:

• less than the market value of the property (or the best price that was reasonably obtainable for the property, having regard to the circumstances existing at that time); and,
• it had the effect of defeating the interests of creditors in a winding-up

it could be voidable as a creditor-defeating disposition. 

There are a few differences between the ‘uncommercial transaction’ and ‘creditor-defeating disposition’ avoidance provisions: 

• The latter only applies to ‘dispositions’ whilst uncommercial transactions cover a broader range of conduct. For example, a company agreeing to provide services for free where they would usually charge for them might count as an uncommercial transaction but no property has been transferred in order to constitute a creditor-defeating disposition
• There is no requirement for ‘unreasonableness’ in the latter provision. It is (in principle) a more straightforward factual matter whether or not a disposition was below market value and defeated the interests of creditors. By contrast, ‘reasonableness’ is inherently a matter of interpretation. 
• Proof of the value of the disposition is required. This could be relatively expensive for the liquidator to prove in court. 

Conclusion 

The courts have proven reluctant to second-guess the commercial character of company decisions. In order to void a transaction as uncommercial, the courts will expect to see robust evidence that the company’s decision was clearly unreasonable. This is one of the reasons why Parliament has added ‘creditor-defeating dispositions’ to the liquidator’s ‘avoidance provision’ toolbox.