Preference and undervalue transactions explained

A preference is a transaction — payment, granting security, or any other act — that puts a creditor, surety or guarantor into a better position on the company's insolvent liquidation than they would otherwise have been in, and was influenced by a desire to prefer that person. If the court finds a preference, it can order the transaction unwound and the value returned to the estate.

A transaction at an undervalue is a gift, or a deal where the consideration received by the company is significantly less than the consideration it gave. The classic example is selling assets to a connected party for less than market value shortly before insolvency. Unlike preferences, undervalue transactions do not require proof of intent to prefer — the mathematics does the work.

Section 240 IA 1986 sets the lookback: six months for preferences to unconnected parties, two years for preferences to connected persons or transactions at an undervalue. The lookback runs backwards from the 'onset of insolvency' — filing the administration notice or presentation of the liquidation petition. The company must also have been insolvent at the time or become so as a result.

Section 249 IA 1986 defines connection widely: directors, shadow directors, their families (spouse, civil partner, children, parents, siblings), business partners, employees, and any company under common control. When a transaction is with a connected person, s.239(6) presumes the desire to prefer — reversing the burden of proof onto the recipient.

Yes, in principle. Repaying an overdraft or loan can be a preference if it was influenced by a desire to prefer the bank. In practice bank repayments are usually unwound only if the bank knew the company was insolvent and pressured for payment ahead of other creditors. Ordinary cash-sweep clearings of an overdraft in the ordinary course are much harder to challenge.

Rarely, because HMRC does not usually 'ask to be preferred' — but yes, occasionally. If directors made a discretionary lump-sum HMRC payment while withholding payment from other creditors, and were influenced by fear of HMRC enforcement rather than commercial necessity, s.239 can bite. Post–1 December 2020, HMRC's secondary preferential status changes the arithmetic but not the principle.

The main defence is that the transaction was not influenced by a desire to prefer — for example, a genuine commercial necessity, an ordinary-course payment, or a routine credit-control cycle. In Re MC Bacon [1990] BCLC 324, Millett J drew the line: the desire must be a positive wish, not just an appreciation of the effect. Absence of desire is a complete defence.

That is the highest-risk pattern for a s.239 claim. Repaying a director's loan account within two years of insolvency, to a connected person, triggers the s.239(6) presumption of intent to prefer. Even if the loan was validly owed, the transaction can be unwound and the director required to repay the money to the estate for redistribution to other creditors.

The court still orders restitution. Section 241 IA 1986 gives the court broad powers to unwind the transaction 'as if it had not been made': setting aside security, requiring repayment of cash, releasing charges, reversing conveyances. Third-party recipients acting in good faith and for value without notice may keep the benefit — but a connected party rarely qualifies.

Section 245 IA 1986 catches a related but distinct problem: a floating charge created within 12 months of insolvency (two years for connected persons) that secured no fresh money advanced to the company is automatically void. This is separate from s.239 preferences and s.238 undervalues, but often runs in parallel in the same case.