Preference Payments: What Are They And Why Should I Avoid Them?April 22, 2020
If you’re a company director, you may have heard the term 'preference payments' used in relation to insolvency.
In this blog, we’ll explain what preference payments are and why you should avoid making them.
The insolvency practitioner’s duty
When a company goes into administration or liquidation, the appointed insolvency practitioner has a duty to investigate the directors’ conduct prior to the insolvency.
This investigation aims to determine whether the directors acted wrongfully or unlawfully. One essential consideration in determining this is whether the directors made any preference payments.
Not sure whether your company is insolvent or not? We wrote this article to help you find out.
What are preference payments?
A preference payment occurs when a company favours one creditor over others, to the detriment of the other creditors.
For example, let’s say your company is facing financial difficulties and has two loans: one from a bank and one from a close relative.
If you paid back the relative and not the bank, this would be considered a preference payment to the relative.
Factors that determine whether a payment is preferential
When investigating a company’s affairs, the liquidator or administrator will review the company’s bank statements.
If they find any transactions that look like potential preference payments, they’ll consider the following factors:
- Any connection between the beneficiary and the company: This could mean a person who is connected to one of the directors, such as a relative or spouse, or an associated business.
- Evidence of the desire to prefer: Although generally the desire to prefer is difficult to prove, when it comes to connected parties the desire to prefer is presumed. In other words, the burden of proof is on the director.
- The date of the payment in question: To be considered preferential, a payment must have been made within a certain time period before the date of insolvency. When the payment is made to a connected party or an associate of the company, the time limit is two years before the date the company entered liquidation or administration. When the beneficiary is a non-connected party, the transaction must be within six months prior to the company’ insolvency.
What are the consequences of making preference payments?
Preference payments are illegal. There are several potential consequences of making preference payments:
- Disqualification: If the insolvency practitioner identifies potential preference payments that were made when the director ought to have known the company was insolvent, or when the mentioned transactions led to the company’s insolvency, the director could face disqualification for a period of up to 15 years.
- Call back: The insolvency practitioner has the power to write to the creditors who benefited from preference payments and recall those funds or assets. The insolvency practitioner could also ask the court for the transactions to be set aside, meaning the transaction would become null and void by order of the court.
- Financial penalty: If the insolvency practitioner is able to prove that a payment was preferential, the director could be personally liable for the company’s debt. Most of the time, directors are surprised to learn about preference payments to creditors, but it’s important to stress that the law aims to protect the interests of creditors equally and to stop preference payments.
If you want to know more about preferential payments or are concerned about your company, get in touch with us today. Our team of experts is always happy to offer advice and assistance.