When the liquidator wants back money your customer already paid you

If a customer paid you in the six months before it went into liquidation, at a time it could not pay its debts, the liquidator can ask for that money back where it left you better off than the other creditors in the queue. For related parties the period is two years. If you receive the notice, you have 20 working days to object in writing.

Robbing Peter to pay Paul

We have all been there at some point, in business and in life, when more has to go out than is coming in. You juggle. You pay the person who is pushing hardest, or the one you need to keep the job moving, and you hope the rest can wait. The challenge comes when a business cannot sustain that. It only takes one moment to tip it over, and when it goes into liquidation, a lot of other people do not get paid.

A clawback is how the law deals with that juggling after the event. Say your customer paid you for the drain laying and let the GST go unpaid. When it fails, the liquidator can look at that $30,000 you were paid, when the tax was not, and ask for it back, so it goes into the pool to be shared among the creditors.

It does not happen every day, and it is not something liquidators use all the time. But it is something they can do, and when that letter lands on the desk of someone who was paid fair and square for real work, it is a hard one to read.

How far back can they go?

Under section 292 of the Companies Act 1993, for an ordinary supplier or subcontractor the period is six months before the liquidation started, plus the time until the liquidator was appointed. Where the court put the company into liquidation, it is the six months before the application to the court, through to the court’s order.

For a related party of the company, such as a director, a shareholder, their family or a related company, the period is two years.

You may have heard two years for everyone. That was the rule until 16 May 2020, when the period for everyone other than related parties came down to six months. It has stayed there since.

What makes a payment one they can claw back?

The Act calls it an insolvent transaction. It has two parts, and both have to be true:

• The company could not pay its debts as they fell due when it paid you. Inside the six months, that is presumed unless it is proved otherwise.
• The payment let you receive more towards what you were owed than you would have received in the liquidation.

A payment is more than money, too. The Act also covers transferring property, giving a charge over the company’s assets, and anything done to give effect to those.

If you kept supplying while you were being paid

Where the payments were part of a continuing trading relationship, like a running account where the balance went up and down as you supplied and they paid, the Act treats all of those transactions together as a single one. What matters is the overall effect across the period, rather than each payment on its own.

The good-faith defence

Section 296 says a court must not order you to repay if you prove that, when you were paid, you acted in good faith, a reasonable person in your position would not have suspected, and you had no reasonable grounds to suspect, that the company was or would become insolvent, and you gave value for the payment or changed your position believing it was valid.

If you receive a liquidator’s notice

To claw a payment back, the liquidator must file a notice with the court and serve it on you, under section 294. The notice has to say which transaction they want to set aside and how much they want to recover, and it has to tell you that you can object.

You have 20 working days from when the notice is served on you to object in writing. If you do not, the payment is set aside automatically.

Your objection has to reach the liquidator within those 20 working days, give full particulars of your reasons, and identify the documents that back them up. If you object, the liquidator can still apply to the court to have the payment set aside, and the court then decides. If a payment is set aside, section 295 lets the court also decide to what extent you can then claim in the liquidation as a creditor.

So the one thing not to do is file the notice and wait. Note the date it was served, pull together your invoices, your terms, and anything that shows what you knew at the time, and get advice quickly.

Follow the liquidation on the Companies Office

Look the company up on the Companies Register by its correct legal name, and follow what is happening through the reports and documents filed there. Then put the director’s name into a director search, to see whether other companies of theirs are also affected. The full creditor lists are not always on the register, so here is where else to look, and how to read the report.

Does being secured protect you?

Being a secured creditor puts you in a better position to avoid a clawback, to the extent your security covers what you’re owed. It isn’t a blanket protection, and security taken late, once a customer is already in trouble, can itself be challenged.

That last part matters, because it is exactly when people reach for it. You hear a whisper that a customer is struggling, and you race to get a general security agreement signed. Under section 293, a charge given in the same six months, while the company could not pay its debts, can be set aside, except to the extent it secures new money, goods or services supplied at or after the time it was given. If you are waiting for something to go sideways before you secure yourself, the horse may have already bolted.

Protection that has to be in place beforehand

The protection that holds is the protection put in place at the start of the relationship, while everything is going well. Security registered when the account opens is worth far more than security chased once the whispers begin.

Keep a paper trail. Back up the verbal conversations with an email or a text, so there is a record of what was agreed and when. If you ever need to show that you acted in good faith and gave value, that record is what you will be showing.

And keep the gap short. Getting prepayment where you can, and getting onto your invoices faster, stops the risk from getting out as far. The less a customer owes you at any one time, the less there is to argue about if they fail. We cover the first step in checking a customer before you give them credit, and where secured creditors sit in who gets paid first.

This page describes the law in general terms, from our own research and commercial experience. Do your own research, and get legal advice for your own situation, especially if you have received a notice.