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It often does not come as a shock to a person when they are made bankrupt. This is because individuals will generally suffer a period of significant financial difficulty before being made bankrupt. During that period, in some instances, the individual will undertake steps to transfer or dispose of their assets just before they are declared bankrupt. In some circumstances, the trustee appointed to manage the bankrupt’s financial affairs can take steps to unwind these pre-bankruptcy transactions. This trustee can recover any assets from the people who received them to satisfy the claims of the bankrupt’s creditors. The Bankruptcy Act 1966 (Cth) governs this process, often known as a ‘claw-back’. This article will explain claw-back provisions in bankruptcy.

Why a ‘Claw-Back’ Provision?

The rationale behind the ‘claw-back’ provisions is straightforward. A person who received full payment before the individual declared bankruptcy should not be at an advantage to someone who receives payment after (and who may only receive part of their entitlement).  Further, a bankrupt should not be able to take measures to undermine the trustee in bankruptcy, to protect its assets, such as by transferring them to friends or family members. Likewise, they should not treat certain creditors preferentially.

When Can a Trustee ‘Claw-Back’ a Transaction?

The trustee does not have absolute authority to ‘claw-back’ every transaction that the bankrupt carried out before being declared bankrupt. It is dependent on several factors. You should ask yourself:

  • Did the person transferring the asset do so in good faith?
  • What was the bankrupt’s solvency when the transaction occurred?
  • Was the transaction made for less than market value?
  • Were the transactions undertaken with the intent to defeat creditors?
  • Were the payments ‘preference payments’? That is, do the transactions result in a party receiving a preference over the remaining unsecured creditors?

Additionally, consider when the bankrupt made the transactions as there are different time limits for claw-backs. Likewise, the time limits vary relative to the type of transaction. Typically, time limits range from 90 days to 5 years before being made bankrupt can be clawed back. Note, in some cases, there is no time limit.

An Example

John Doe has been facing financial difficulty for six months. He has been struggling to pay his bills when they fall due. Likewise, John owns a car and certain other valuable assets. John has also borrowed $2,000 from his brother by way of an unsecured loan

John anticipates that he may become bankrupt. Hence, he transfers his car to his wife’s name for less than market value. He also sells some of his assets (his laptop and some shares) to pay back $1,800, which he still owes to his brother.

When John is declared bankrupt, the trustee could unwind all of the above transactions. This is because:

  • John made the transfer of his car to his wife with the intention to defeat creditors and was for less than market value; and 
  • the sale of his laptop and shares, and the repayment of his brother’s loan, were all carried out to give his brother preference over other creditors.   

Defending Payments Received From a Claw-Back

If you have received a payment from a bankrupt, you may now be asking whether you can defend these payments. Can the trustee claw-back everything? In short, yes and no.

Fortunately, if you are a creditor who received pre-bankruptcy payments, you can rely on several available defences. For instance, if you received the payment in good faith, without notice or suspicion of the insolvency of the other party. However, you will need to show the trustee in bankruptcy that you had no suspicion that the other party was in financial difficulty. 

Note that you may potentially need to defend yourself in Court if the trustee commences proceedings to claw-back the money.

What the trustee will look out for to try and prove that you had knowledge may include:

  • defaulted payments;
  • requests for extended payment terms;
  • dishonoured cheques;
  • instalment payments; and
  • payments of round numbers rather than payment of the actual invoice amount.

Of course, there are other ways that you can ‘promote’ yourself ahead of other creditors and avoid a possible claw-back. But you must do this before the bankruptcy. Where possible, you can try to secure your right to payment through a registered dealing on land and assets.

Key Takeaways

If you are experiencing financial difficulty, you should not attempt to protect your assets invalidly. Likewise, be aware you cannot preferentially treat friends, family or colleagues.  Doing so will likely lead to the trustee in bankruptcy clawing back such transactions. This can be costly, frustrating and time consuming for you and the transferees. Conversely, suppose you are a transferee, and a trustee in bankruptcy is attempting to avoid a transaction and claw-back assets that you have purchased. In that case, you should consider what defences are available to you. 

For more information on claw-back provisions in bankruptcy, contact LegalVision’s business lawyers on 1300 544 755 or fill out the form on this page. 

Frequently Asked Questions

What are claw-back provisions?

If you are bankrupt, claw-back provisions allow a trustee appointed to manage your financial affairs to unwind certain pre-bankruptcy transactions. For example, the trustee can take steps to unwind transactions where you have tried to protect your assets invalidly, such as by transferring them to friends or family members.

Can you defend your payments received from a claw-back?

In some circumstances, yes. Suppose you are a transferee, and a trustee in bankruptcy is attempting to avoid a transaction and claw-back assets that you have purchased. You can rely on certain defences if you received the payment in good faith, without notice or suspicion of the insolvency of the other party.

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