Insolvency law update: Section 299 of the Companies Act 1993 and the court's role in setting transactions aside.

When a company is placed into liquidation, the liquidator of the company has several avenues of recovery available for the benefit of the company’s creditors. A liquidator can apply to the court to have transactions set aside due to being voidable.

One method is through the mechanism of section 299 of the Companies Act 1993 (the Act), where the liquidator can apply to the court to have certain securities or charges over the company set aside.

Section 299 provides that if the following are present, the court may set aside a security or charge if it is just and equitable to do so:

• The company is in liquidation and unable to meet all its debts.
• The security or charge, or part of it, created by the company over any of its property or undertaking is in favour of: Individuals associated with the company’s directors at the time of creating the security or charge (including, directors of the company, nominees or relatives of a director, and trustees for or trustees for a relative of a director);Individuals or their relatives who had control of the company when the security or charge was created; Other companies that were under the control of a director of the company, or nominees, relatives, or trustees of the director, at the time of creating the security or charge; Other companies that were considered related to the company when the security or charge was created (related companies are companies that are holding companies/subsidiaries, or hold more than half of the shares in the company, or where the businesses of the companies are not readily identifiable as separate – section 2(3) of the Act).

If these two elements are present, the court may set aside a security or charge over the company if it thinks it is just and equitable to do so. The court considers the following in this assessment:

• The circumstances in which the security or charge was created – this includes the company’s financial position, any contingent claims, the company’s creditors and their priority.
• The conduct of the person/relative/company/related company in relation to the affairs of the company – such as insider knowledge, conduct that has the effect of protecting that party from financial fallout in the event of liquidation or allowing them to recover more than what they would otherwise be entitled to in the company’s liquidation.
• Any other relevant circumstances.

The purpose of this section is to allow a liquidator to have securities set aside when they are made by a person who has insider knowledge into the company’s affairs, and using this knowledge to gain an unfair advantage over other creditors in the company.

Schedule 7 of the Act sets out the usual priority of payments to the company’s creditors:

1. Secured creditors
2. Liquidator fees
3. Employee preferential claims
4. Inland Revenue preferential claims
5. Unsecured creditors

If an ‘insider’ has advanced money to a company and claims a security over the company to elevate their position to be a secured creditor, the court may consider it is just and equitable to have their security or charge set aside. This would have the effect of demoting this party to the position of an unsecured creditor, meaning they will not be prioritised over other creditors in the company if and when distributions are made.

Section 299 – https://www.legislation.govt.nz/act/public/1993/0105/latest/DLM322321.html