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Brief Counsel

"Good faith" defence to insolvent transaction claims is narrow

29 July 2013

​The “good faith” defence for creditors facing insolvent transaction claims has now been fully explored by the Court of Appeal in two separate judgments relating to the Farrell v Fences and Kerbs Limited1 litigation – and has been confirmed on all points to have narrow application.

The Court found earlier this year that value must be given at the time of payment, or after payment was made, to make out the “gave value” limb of the defence.  Value given before payment was insufficient.  In so finding, the Court overturned two earlier High Court decisions.  See our commentary here.

But the finding was interim only and was subject to a further hearing on whether a creditor can give value at the time or following payment by either:

  • forbearing to sue, or
  • discharging previously incurred/existing debt.

That door has now been firmly shut2, other than in very exceptional circumstances.

Discharging previously incurred/existing debt – is it “giving value”?

In short, no. 

The Court followed its reasoning from the earlier judgment in reaching its decision.  The purpose of the insolvent transaction regime is to ensure that all creditors share equitably (on a pari passu basis) in the pool of assets available to meet creditors’ claims, and to swell that pool.  Receipt of payment in satisfaction of a debt due does nothing to swell that pool.   

Accordingly, any new value must be real and substantial in order to make out the defence.  Whether such new value is given will be a question of fact in each case.

Forbearance to sue – is it “giving value”?

Yes, but in limited cases.  To establish the defence, a creditor must be able to demonstrate that the value given was real or substantial - which will often be difficult (although not impossible) to prove, especially as giving a company more time to pay may only allow it to descend further into debt.

Relevant factors would include whether:

  • the forbearance allowed the company to trade on until it was able to pay off its creditors
  • the creditor would have been able to recover the debt successfully if it sued, and
  • there is evidence of a promise of forbearance to sue, at the express or implied request of the opposite party.  A creditor’s failure to take steps to enforce the debt does not amount to forbearance.

Where to from here?

We are interested to see whether the three creditors apply to the Supreme Court for leave to appeal the decision further.  To date, the Supreme Court has heard only one appeal on insolvent transactions, and that appeal addressed a separate issue to the “good faith” defence.

Our thanks to Janko Marcetic for writing this Brief Counsel. For more information, please contact the lawyers featured.

Footnotes:

1   [2013] NZCA 91   
2   [2013] NZCA 329 

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