Void Property Transactions: My seller turned out to be insolvent but I paid market value, so why am I being sued? - Paris Smith Skip to content

12th May 2015

Void Property Transactions: My seller turned out to be insolvent but I paid market value, so why am I being sued?


12th May 2015

Void Property Transactions: My seller turned out to be insolvent but I paid market value, so why am I being sued?

Most people who deal in property regularly will be very aware of the risk of acquiring a property for less than its true value if it turns out that the seller falls into some sort of insolvent procedure after the sale. This “undervalue” concern will often be front of mind if it is known that the seller is in a distressed situation, e.g. their lender is threatening to take possession. In some cases the ‘look back period’ for an insolvency practitioner taking office over an insolvent seller’s affairs can be as long as 5 years. Insolvent seller insurance is often available to cover this risk, and there are established defences for buyers especially if they proceed in good faith and for value, without notice of the seller’s insolvency, so typically a couple of credible valuations and perhaps some evidence and/or declarations of the seller’s solvency will afford the buyer, and their lender, reasonable protection. So far, so good; business as usual.

All sales void if petition pending

In my experience, however, people are far less aware that – unless the purchaser goes to Court to perfect this – even an apparently completed, market value sale is legally void if the seller has had a winding up or bankruptcy petition presented against them before the sale goes through, which petition later results in a winding up or bankruptcy order. This comes from sections 127 (compulsory liquidation) and 284 (bankruptcy) of the Insolvency Act 1986. The public policy behind these provisions is to ensure that the insolvent seller’s creditors are not adversely affected by a sale of their debtor’s property (or any other disposition of their assets for that matter) in the run up to an insolvency event. To achieve this policy the law operates to catch all transactions during the relevant window. This is the case even if the seller, too, is ignorant of the petition. Typically insurance will not cover this eventuality so to manage the risk the buyer’s solicitor may be instructed to conduct up to date searches before (exchange and) completion (including in the case of limited company sellers with the London Gazette website and premium rate, often engaged, Companies Court hotline), to hopefully reveal the existence of such petitions. If this happens and reveals a petition there will usually be an opportunity at that time to pull out of the purchase or else for an application to be made to the court in which the petition has been presented to validate (make valid) the proposed or contracted transaction.

Even so, occasionally sales will still, for whatever reason, proceed in the face of a petition in circumstances where a liquidator or trustee in bankruptcy is later appointed over the seller(‘s estate). One of these appointees’ first jobs in those circumstances will be to assert that the seller does not have good title to the property they thought they had bought and that it (or its proceeds) should be yielded up for the benefit of the seller’s creditors. In that event, the purchaser would potentially go from being an owner of property to an unsecured creditor in the insolvency to the extent they have parted with money and/or entered into onward contracts which they would not be able to fulfil. This could obviously be catastrophic to a purchaser, or anyone claiming under them. Given the indiscriminate effect of the void transaction provisions, the purchaser’s only recourse in these circumstances would be to persuade the Court that it was just that the transaction be validated or ratified retrospectively. The burden of doing this would lie with the purchaser, and unless there is very clear evidence of contemporaneous value available, or other evidence that the creditors did not lose out as a result of the sale, there will invariably be quite a fight.

Recent case example

One such case came before the High Court very recently, under the name 375 Live Limited (in liquidation) [2015] EWHC 870 (Ch). The transcript is not yet available on free information sources, but it is enough to know that the facts were complex, relying upon witness evidence from multiple parties, from the director of 375 Live Limited himself, to the director of the purchaser (SMC), the mortgagee putting pressure on 375 Live Limited, solicitors acting for the parties and a multitude of others. At the most basic level, however, a Grade II listed property was sold by 375 Live Limited for £850,000 at a time when there was an HMRC winding up petition pending against it for some £280,000 of overdue VAT assessments and the petition was not paid off so a winding up order was made. On the facts, despite poor documentary evidence and the director of 375 Live Limited not turning up for cross-examination, the Court accepted that SMC was a bona fide, unconnected purchaser with no notice of the winding up petition and that there was no conspiracy between the parties. That being the case, the Court went on to consider detailed expert evidence as to the value of the property and, perhaps fortunately for SMC given there had been previous offers at £1.3m and £1.1m, decided that in the circumstances in which the property was being offered for sale (which included the property having been on the market for a very long time, the buyer knowing the seller needed a quick sale for fear of repossession and higher offerors having pulled out because of funding issues), the price paid was in fact at or around market value. The proper value was assessed in the end by reference to a ‘special assumption’ regarding the timeframe within which any buyer would have been required to complete (failing which the value would have been that achievable by a mortgagee taking possession and selling as such, which the court found not to exceed £850,000). In short, SMC was the only offer in town in the circumstances and, on the facts, got away with what might, but for what followed, have turned out to be quite a bargain. The creditors undoubtedly did lose out from the sale, but not as a result of the sale itself so much as the director seemingly pocketing the surplus net proceeds. Even so, it was within the Court’s discretion whether to validate the sale. It did so on the basis that, on the facts, there had been no appreciable loss to 375 Live Limited’s creditors deriving from the sale; it accepted that a 5{ba3215b0bf35eaeb06be458b3396ffbfc50bb9db10c9ff1594dfc3875e90ea48} margin (2.5{ba3215b0bf35eaeb06be458b3396ffbfc50bb9db10c9ff1594dfc3875e90ea48} either way) should be allowed in terms of what price might have been achieved even after a full valuation exercise had been undertaken.

The judgment does not go on to deal with the legal costs of the proceedings, but these must have been very substantial. Presumably the liquidator and purchaser will have gone on to consider these between themselves, along with any prospects of appeal, etc. On one view, it would be unjust were the Liquidator to have to bear the costs of the purchaser even though he lost the case, given that on the face of it there was good credible evidence that the property was worth a good deal more than was paid so the Liquidator was merely doing his job by initiating proceedings on the basis that validation would potentially have prejudiced the creditors quite substantially. There may be nothing in the liquidation from which to meet the purchaser’s costs in any event, although reference in the judgment was made to the prospect of the Liquidator pursuing the director and possibly others for an account of some £217,000 of surplus proceeds of sale after the mortgagee was discharged, and it may be that the Liquidator’s own claim carried adverse costs insurance. At all events, however the purchaser will have been seriously out of pocket as a result of having to go to court in such a labour intensive way to justify a purchase it had made in a distressed situation, with no contemporaneous valuation evidence of their own to point to, and the amount of management time and mental energies the purchaser will have had to expend in the process, not to mention a very uncomfortable cross-examination, cannot be disregarded either. Their valuation expert alone will have cost them a pretty penny, not only for reports, but for all their time in Court. This could all potentially have been avoided if the purchaser had discovered the petition before committing to the purchase and then made it a condition of proceeding that the seller either secure the dismissal of the petition or a prospective validation order, or else the purchaser could have passed up the opportunity, perhaps with half a mind to approaching the mortgagee and buying from them following the seller’s possible liquidation. That may seem harsh, but on the facts it is not as if the seller could have avoided liquidation by getting the sale away.

How might we avoid the same mess?

So, what is the moral of the story? For the speculative property investor, I suppose it might be that if they will insist on buying a property investment without a valuation they should at least build in a generous contingency for having to fight out claims like this. The more prudent investor should, of course, take additional precautions in the event of a possible undervalue purchase to ensure he can prove in advance that he is in fact paying market value, and that he is not buying the property in the face of a winding up or bankruptcy petition having been issued against the seller, comfort on which they can typically obtain without too much difficulty.

As for insolvency practitioners considering taking appointments from the Official Receiver on the basis that the only obvious asset is a potential claim for a void disposition, I would suggest that they will wish to undertake a fair amount of due diligence before taking that appointment on. As the Liquidator of 375 Live Limited discovered, even an apparently obvious undervalue or conspiracy might be considered, in the special circumstances of the sale undertaken, to have been for value and/or otherwise a proper candidate for validation. An insolvency practitioner who gets over-excited about the prospect of void disposition claims without giving sufficient thought to the risks of a retrospective validation / ratification could soon find himself heavily overinvested in litigation and struggling to control his own firm’s cashflow.

Over the past 15 years or so I have had a great deal of experience with validation / ratification applications in the context of both liquidation and bankruptcy. These cases are rarely as straightforward as they may at first appear, and often dependent upon the availability of contemporaneous, clear records and/or expensive expert evidence. As with all prospective litigation the name of the game is to get the evidence together quickly and comprehensively and to resolve the dispute if at all possible by negotiation. Even though a transaction may require formal validation in order to perfect title, it will be far simpler for the purchaser to obtain the required court order if the Liquidator has been persuaded to consent to it on terms which reflect his perceived prospects in the event of his opposing it or cross-applying for a declaration.

If you are affected by any of the issues in this blog, please do not hesitate to contact me.

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