Legal Guide

Transfers to Defeat Creditors — s121 Bankruptcy Act

What Is a Transfer to Defeat Creditors?

Section 121 of the Bankruptcy Act 1966 (Cth) allows a bankruptcy trustee to void transfers of property made by a person who later becomes bankrupt, where the transferor's main purpose was to defeat creditors.

The term "void against the trustee" in section 121 means "voidable." The transaction is not affected until the trustee takes legal action and a court finds in the trustee's favour. Until then, the transaction remains operative.

Unlike section 120 (undervalued transactions), which applies an objective test based on whether adequate consideration was given, section 121 turns on the transferor's subjective purpose. There is no time limit on how far back a trustee can reach under section 121 — it applies regardless of when the transfer occurred, provided the main purpose test is satisfied.

What Constitutes a Transfer

A "transfer of property" under section 121 includes a payment of money (s121(9)(a)). A person who does something so that someone else becomes the owner of property that did not previously exist is taken to have transferred the property to the other person (s121(9)(b)).

In Peldan v Anderson [2006] HCA 48, a man who later became bankrupt unilaterally severed a joint tenancy so that he and his wife became tenants in common in equal shares. The High Court held that the severance was a "transfer of property" under section 121 and was void because its purpose had been to place one half of the matrimonial home out of the reach of creditors.

When the transfer involves land, the relevant time of the transfer is the date of its registration (Lo Pilato v Kamy Saeedi Lawyers Pty Ltd [2017] FCA 34).

Key Elements

Property would have been available to creditors

The trustee must establish that the transferred property would probably have become part of the transferor's estate, or would probably have been available to creditors, if the transfer had not been made (s121(1)(a)).

Main purpose to defeat creditors

The transferor's main purpose in making the transfer must have been either:

• To prevent the transferred property from becoming divisible among the transferor's creditors (s121(1)(b)(i)); or
• To hinder or delay the process of making property available for division among the transferor's creditors (s121(1)(b)(ii)).

There need be no creditors at the time of the transfer, and the transferor may be solvent. A transfer made immediately before entering into a financially hazardous venture could satisfy section 121 even where there were no outstanding creditors at the time.

Under section 121(2), the transferor's main purpose is taken to be the purpose described in section 121(1)(b) if it can reasonably be inferred from all the circumstances that, at the time of the transfer, the transferor was, or was about to become, insolvent. A trustee is not limited by section 121(2) as to the ways the transferor's main purpose may be proved (s121(3)).

Rebuttable presumption of insolvency

Section 121(4A) creates a rebuttable presumption that the transferor was, or was about to become, insolvent at the time of the transfer if the transferor:

• Had not kept such books, accounts and records as are usual and proper in relation to the business carried on by the transferor and as sufficiently disclose the transferor's business transactions and financial position (s121(4A)(a)); or
• Having kept such books, accounts and records, has not preserved them (s121(4A)(b)).

Good Faith Defence

A transfer is not void against the trustee if all three conditions in section 121(4) are met:

1. The consideration that the transferee gave was at least as valuable as the market value of the property (s121(4)(a));
2. The transferee did not know, and could not reasonably have inferred, that the transferor's main purpose was to prevent or hinder property being available to creditors (s121(4)(b)); and
3. The transferee could not reasonably have inferred that the transferor was, or was about to become, insolvent at the time of the transfer (s121(4)(c)).

Section 121(8) separately protects subsequent purchasers who acquired property from the transferee in good faith and for at least the market value of the property.

Recovery and Consideration

If a court finds in favour of the trustee and the transferee is required to return the property, the trustee must pay to the transferee a sum equal to the value of any consideration the transferee paid for the property (s121(5)).

Exemptions

The only transfers specifically exempt from section 121 are those made pursuant to a debt agreement under Part IX of the Bankruptcy Act (s121(7)).

Transfers under family law financial agreements are not protected from section 121. In Combis v Jensen [2009] FCA 778, a trustee successfully applied under section 121 to set aside a financial agreement under section 90C of the Family Law Act without the need to apply to the Family Court to set aside the agreement under section 90K.

This differs from section 120, which does protect transfers pursuant to maintenance agreements or orders.

Section 121 Compared to Section 120

Superannuation Contributions

While superannuation interests in regulated funds are generally protected from bankruptcy under section 116(2)(d), sections 128B and 128C allow trustees to claw back superannuation contributions made to defeat creditors. These provisions were enacted by the Bankruptcy Legislation Amendment (Superannuation Contributions) Act 2007 to overcome the effect of Cook v Benson [2003] HCA 36, in which the High Court held that arm's-length commercial payments to regulated funds constituted valuable consideration.

Section 128B applies to contributions made by the person who later becomes bankrupt. Section 128C applies to contributions made by a third party under a scheme to which the person who later becomes bankrupt was a party. Both provisions apply only to transfers made on or after 28 July 2006.

State and Territory Equivalents

Property legislation of the Australian states and territories allows creditors to challenge transfers of property made with intent to defraud creditors independently of the Bankruptcy Act. These provisions have their origin in the 16th century Statute of Elizabeth (13 Eliz I, c 5), which was the precursor of section 121. (For the historical background, see South Square.)

For example, section 37A of the Conveyancing Act 1919 (NSW) provides that every alienation of property with intent to defraud creditors is voidable at the instance of any person thereby prejudiced. Equivalent provisions exist in other jurisdictions, including section 228 of the Property Law Act 1974 (Qld) and section 89 of the Property Law Act 1969 (WA).

A case that falls within section 121 would clearly fall within section 37A, but the reverse is not true, because section 37A requires proof of "intent" to defraud rather than "main purpose" (Andrew v Zant Pty Ltd [2004] FCA 1716 at [20]).

Key Case Law

• Cummins v Cummins [2006] HCA 6 — A barrister who had not paid income tax for most of his working life transferred his joint tenancy interest in a property to his wife. The High Court held the transfer was void under section 121. The Court stated that for a main purpose to be determined, it "must be a reasonable and definite inference, not merely one of a number of conflicting inferences with equal degree of probability." (See also Stonegate Legal and Chamberlains for analysis.)

• Cook v Benson [2003] HCA 36 — The bankrupt rolled over $80,000 of his superannuation entitlement into other superannuation funds before bankruptcy. The High Court held that the payments were made in return for rights and benefits under the funds' policies, constituting valuable consideration. This decision was subsequently overcome by the enactment of sections 128B and 128C.

• Peldan v Anderson [2006] HCA 48 — A man who later became bankrupt unilaterally severed a joint tenancy so that he and his wife became tenants in common in equal shares. The High Court held the severance constituted a "transfer of property" under section 121 and was void because its purpose had been to place one half of the matrimonial home out of the reach of creditors.

• Do (Trustee) v Sijabat [2023] FCAFC 6 — The Full Federal Court considered the rebuttable presumption of insolvency under section 128B(5) in the context of superannuation contributions made by a bankrupt into his self-managed superannuation fund. At first instance, contributions totalling $437,767 made in the financial year ended 30 June 2013 were declared void. On appeal, the Full Court overturned that finding, holding that the bankruptcy trustee had not established the rebuttable presumption of insolvency because the contributions formed part of a six-year pattern and were not out of character. Only contributions made in the financial years ended 30 June 2014 and 2015 remained void. The decision raised the evidentiary burden on trustees seeking to rely on section 128B(5). (See TG Law, Moray & Agnew, and McCabes for analysis.)

• Combis v Jensen [2009] FCA 778 — A trustee applied under section 121 to set aside a financial agreement under section 90C of the Family Law Act. The Federal Court held the trustee could proceed under section 121 without first applying to the Family Court to set aside the agreement under section 90K of the Family Law Act.