Well advised partners in high profile firms are often unaware that ‘pre emptive restructuring’ could breach section 238 IA 1986. If challenged, it could be classed as civil fraud — or worse.
In the face of impending partnership insolvency, well advised partners in high profile firms often seek to implement what they consider to be legitimate ‘pre emptive restructuring’ measures. The intention might be to streamline operations, protect core assets, or prepare for a sale. However, what some perceive as prudent business planning, particularly if it involves moving assets, can inadvertently breach Section 238 of the Insolvency Act 1986 (IA 1986). If challenged, such actions could be deemed transactions at an undervalue, potentially leading to severe consequences, ranging from civil fraud to, in the gravest cases, criminal prosecution.
With over 36 years of having dealt with insolvency related cases, I’ve witnessed how a sophisticated approach to ‘restructuring’ can be misinterpreted, or deliberately used, to hide assets, leading to the devastating fallout of legal action.
The Fine Line Between Restructuring and Undervalue Dealing
Section 238 IA 1986 allows a liquidator (if the partnership enters liquidation) to challenge transactions where the company (or partnership being wound up as an unregistered company) has transferred assets for significantly less than their true value. The “look back period” for such transactions is typically two years, extended to five years if the recipient of the assets is a “connected person” (e.g., another partner, a family member, or an associated company).
The challenge for well advised partners lies in understanding that even if legal or accounting advice was sought for the ‘pre emptive restructuring’, the commercial reality and intent behind the transaction can still expose them. For instance:
- Transferring assets to a new, related entity at a nominal or significantly reduced price, ostensibly for “future growth,” but effectively stripping the failing partnership of valuable equity.
- Selling off a profitable division to a third party (or connected party) at a price that undervalues its true market worth, perhaps to quickly raise cash or to hive off a valuable asset before creditors can claim it.
- Granting intellectual property rights or favourable licenses to an associated entity without receiving adequate commercial consideration.
While these might be presented as strategic ‘restructuring’, if the partnership was already in financial distress and the transaction resulted in a significant loss of value to its estate, a liquidator will scrutinise it heavily.
When ‘Pre emptive Restructuring’ Turns Sour
The initial consequence of breaching Section 238 IA 1986 is usually a civil challenge. The liquidator will seek to have the transaction reversed or the difference in value paid back to the partnership’s estate. However, the situation can rapidly deteriorate. If the liquidator uncovers evidence of dishonesty or a deliberate intent to defraud creditors through the ‘restructuring’, it can escalate to allegations of civil fraud, or even referral for criminal prosecution under the Fraud Act 2006.
I recall a particularly complex case involving a high profile legal partnership. The partners, with advice from a niche consultancy, embarked on a ‘pre emptive restructuring’ where they spun off their lucrative client database and a key technology platform into a new limited company owned by a few select partners, for a price that the liquidator later proved was a fraction of its true value. Their argument was that they were protecting the long term future of the “practice” by separating the profitable parts from the loss making parts of the original partnership. However, the liquidator’s investigation, which delved into the true market value of the assets transferred and the partners’ knowledge of the impending insolvency, demonstrated a clear intention to strip the original partnership of its most valuable assets, leaving little for other creditors. The transaction was successfully reversed as a transaction at an undervalue, and the partners faced significant claims for civil fraud and personal liability, which for some, was ‘worse’ than any criminal charge, given the catastrophic impact on their professional reputation and financial standing.
Consequences for Well Advised Partners
Being found to have engaged in pre emptive restructuring that breaches Section 238 IA 1986 can lead to significant consequences for well advised partners:
- Transaction Reversal: The Court can order the transaction to be set aside, and the assets or their value returned to the partnership’s estate.
- Personal Liability: Partners may face personal claims for the losses incurred by the partnership’s creditors due to the undervalued transaction.
- Civil Fraud Claims: If dishonesty is proven, partners can face direct claims for civil fraud, leading to substantial financial penalties.
- Criminal Investigation: In severe cases where clear fraudulent intent is found, the matter can be referred for criminal prosecution under the Fraud Act 2006.
- Reputational Damage: For partners in high profile firms, allegations of fraudulent undervalue dealings, whether civil or criminal, can cause irreparable harm to their professional standing and future career.
My Guidance: Substance Over Form in Restructuring
For well advised partners in high profile firms considering ‘pre emptive restructuring’ ahead of potential insolvency, my advice is to focus on the economic substance and true intent of your actions, not just the legal form. Any transaction involving the transfer of assets must be for full and proper commercial value and transparently justified. The risk that such restructuring could be challenged as a transaction at an undervalue, leading to claims of civil fraud or even criminal prosecution, is a very real one. Seek robust, independent insolvency advice before taking any significant steps.
I can assist you by:
- Assessing Restructuring Proposals: Critically reviewing your proposed ‘pre emptive restructuring’ plans to identify any potential breaches of Section 238 IA 1986 and the risk of civil or criminal fraud allegations.
- Ensuring Proper Valuation: Advising on the importance of obtaining independent, professional valuations for all assets involved in any transfers to demonstrate proper commercial consideration.
- Navigating Investigations: Guiding you through inquiries from liquidators or the Insolvency Service regarding past restructuring activities, helping to provide clear and defensible explanations.
- Addressing Legal Claims: Providing robust, straight talking advice if civil fraud claims or criminal prosecution are threatened, helping you understand the implications and formulate a comprehensive response.
- Managing Reputational Fallout: Offering strategic guidance to mitigate the severe reputational damage that can arise from such allegations in the public domain.
Do not let sophisticated planning become a source of legal peril. Transparency and genuine commerciality are your strongest safeguards.
If you want to find out anything further about this topic then please feel free to call me on 0330 236 9937 or 07961 116321. All conversations will be in strict confidence. You can also email me vee@navigatebr.com. This article is for information and interest only. It is not a substitute for full professional advice, which will take in to account the specific and individual circumstances. Navigate Business Recovery Limited cannot accept any responsibility for any loss arising as a result of any person or organisation acting or refraining from acting on any information.
Leave a Reply