Insolvency — Sale of property — Sale at undervalue — Insolvency Act 1986 — Sale and leaseback entered into with purpose of putting assets beyond reach of judgment creditors — Sale price less than unencumbered freehold value owing to grant of lease — Section 423 of 1986 Act — Whether lease forming part of consideration Whether transaction at undervalue
The appellant purchased a residential property and simultaneously let it back to the vendors for a 21-year term at a rent of £500 per calendar month. The tenancy was exclusive to the vendors and unassignable. Owing to the leaseback, the sale price of £210,000 was substantially lower than the £275,000 unencumbered freehold value. The day before the sale, charging orders had been granted against the vendors’ interest in the property to secure the payment of costs to the respondents, as judgment creditors. However, the transfer of the freehold took place before the charging orders could be protected on the register. The vendors used £160,435 of the sale proceeds to discharge their mortgage and they retained the balance.
The respondents applied to set aside the sale, under section 423 of the Insolvency Act 1986, on the ground that it was a transaction at an undervalue, made with the purpose of putting assets beyond their reach or otherwise harming their interests as judgment creditors. The district judge: (i) held the sale to be a transaction at an undervalue with the requisite purpose under section 423 of the Insolvency Act 1986; (ii) declared it to be void as against the respondents; and (iii) ordered the retransfer of the property to the vendors subject to a charge in the appellant’s favour in the sum of £160,435, the amount of the previous mortgage, to have priority over the respondents’ charging orders.
The appellant appealed. He contended that the transaction had not been at an undervalue because he had acquired only a freehold reversion subject to the tenancy, rather than the unencumbered freehold interest. Alternatively, the consideration for the sale of the freehold was both the £210,000 purchase price and the grant of the tenancy, which had a value to the vendors of £65,000. The respondents argued that the tenancy did not add to the value of the consideration because it was valueless, being exclusive and unassignable.
Held: The appeal was allowed. The impugned transaction was not a sale at an undervalue. Although a sale of the freehold reversion for £210,000 might be viewed as such, in the light of the fact that the vendors had an unencumbered freehold up to the point of sale and could have sold to another purchaser at the full unencumbered value, the consideration that the vendors received was not only the £210,000 but also a tenancy, which was far from valueless. Assuming the unencumbered value of the property to be £275,000, the tenancy had a value of £65,000 to the vendors, and it was irrelevant that the tenancy was unassignable. A transaction that depletes the vendor’s assets will not be at an undervalue if the vendor, although receiving nothing saleable in return, none the less receives full value. Had the vendors sold the property to the appellant for £275,000, and then taken a long lease at a low rent of a comparable property at a market premium of £65,000, the payment of that premium would not have been a transaction at an undervalue. The instant transaction, which was equivalent to a sale and leaseback, should be regarded no differently; the premium value of the tenancy made up for any shortfall in the purchase price. The surrender value of a tenancy is measurable in money’s worth and is to be regarded as part of the consideration for the purposes of section 423. Further, the fact that the tenancy was not registered did not affect its value at the date of the transaction because it was binding between the vendors and the appellant. Nor did the fact that it was subject to forfeiture on all the usual grounds, since it was not suggested that the tenancy was put in place as a device to engineer a forfeiture and it had the potential to last for the full 21-year term.
The following cases are referred to in this report.
Abbey National Building Society v Cann [1991] 1 AC 56; [1990] 2 WLR 832; [1990] 1 All ER 1085; (1990) 60 P&CR 278; 22 HLR 360, HL
Agricultural Mortgage Corporation plc v Woodward, CA (1994) 70 P&CR 53; [1995] 1 EGLR 1; [1995] 04 EG 155; [1995] 1 BCLC 1
Inland Revenue Commissioners v Hashmi [2002] 2 BCLC 489
MC Bacon Ltd (No 1), Re [1991] Ch 127; [1990] BCC 78; [1990] BCLC 324, Ch
Moon v Franklin [1996] BPIR 196, Ch
National Bank of Kuwait SAK v Menzies [1994] 2 BCLC 306, CA
Phillips (liquidator of AJ Bekhor & Co) v Brewin Dolphin Bell Lawrie Ltd (formerly Brewin Dolphin & Co Ltd) [2001] UKHL 2; [2001] 1 WLR 143; [2001] 1 All ER 673
Redstone Mortgages plc v Welch [2009] 3 EGLR 71; [2009] 36 EG 98, CC
This was an appeal by the appellant, Paul Delaney, from a decision of District Judge Ingram, sitting in the Chancery Division, Birmingham District Registry, allowing an application by the respondents, Can Chen and An Xiang Du, under section 324 of the Insolvency Act 1986, to set aside a sale of residential property as a transaction at an undervalue.
Mark Anderson (instructed by The Wilkes Partnership, of Birmingham) appeared for the appellant; Aubrey Craig (instructed by Elliott & Co, of Birmingham) represented the respondents.
Giving judgment, HH Judge Charles Purle QC said:
[1] This case concerns the effect of section 423 of the Insolvency Act 1986 (the Act) on sale and leaseback transactions. There are now a number of organisations that will purchase properties from homeowners on terms requiring the buyer to grant a tenancy or other interest back to the original homeowners. The purchase price is reduced to take account of the tenancy or other interest granted back. The original homeowners thus release some of the equity in their house, without having to move. The issue is whether and to what extent such a transaction may be vulnerable to attack as a transaction at an undervalue.
[2] The present case concerns the sale of a house (the property) by Mrs Ge Chiu and Mr Ji Feng Ding (the sellers) to Mr Paul Delaney (the buyer) at a price that was substantially lower than the unencumbered freehold value because of the grant back to the sellers of a tenancy of a day or two over 21 years. The address of the property is |page:22| 10 Pioneer Close, Simpson Manor, Northampton, and it is registered at HM Land Registry. It was sold to the buyer for £210,000 on 8 May 2008. Of the sale proceeds, £160,435.15 was applied to discharge an existing mortgage taken out by the sellers. The balance (a little under £50,000) was paid to the sellers. The sale was challenged by judgment creditors of the sellers, Mrs Can Chen and Mr An Xiang Du (the victims) who say that a substantial purpose of the sellers was to put assets beyond their reach or otherwise harm their interests as judgment creditors. I emphasise that in describing the judgment creditors as “the victims”, I in no way prejudge the outcome of this appeal. I do so because that is (as will appear) the language chosen by parliament to describe persons claiming (as they do) the benefit of section 423. For the avoidance of doubt, the expression “the victims” should be understood whenever it is used in this judgment in respect of the judgment creditors as a reference to their alleged status as such.
[3] The matter came before me by way of an appeal from the order of District Judge Ingram made on 9 July 2009. The district judge decided that the sale was a transaction at an undervalue with the requisite purpose. She declared that the transfer to the buyer of the property was void as against the victims. She also ordered the retransfer of the property to the sellers, although subjecting it to a charge with repayment to the buyer of the sum of £160,435.15 (the amount of the previous mortgage), which was to have priority over two charging orders made in the victims’ favour to secure costs orders made on 7 May 2008 by Judge McCahill QC and by the district judge on the day she handed down judgment. The charging orders would, in the events that then ensued, have had no effect on the freehold without a retransfer since they were made against the interests of the sellers in the property, who transferred the freehold to the buyer before the charging order could be protected on the register.
[4] The litigation between the victims and the sellers has a long history. The proceedings (commenced in 2004) did not originally involve the buyer, who is a property investor and long-standing acquaintance of the sellers, although he gave evidence at the trial before Judge McCahill QC. Following that trial, the sellers were, on 22 November 2007, found to hold half of the shares in a company (Herbmagic (UK) Ltd) on trust for the victims, who were awarded their costs to be assessed. The sum of £30,000 (then standing in court) was ordered to be paid to the victims on account of their costs, and was paid. Subsequently, Judge McCahill QC, at a hearing on 7 May 2008 in Bristol, made an order for a further interim payment of £30,000 on account of the victims’ costs and made a charging order nisi in respect both of the property and another buy-to-let property owned by the sellers. Since the order was not drawn up immediately by the court in Bristol, the charging orders could not then be protected on the register. With regard to the other buy-to-let property, there presently appears to be no, or no significant, equity in it following its remortgage by the sellers.
[5] The impugned transfer was the next day, 8 May 2008. The sellers sold the property to the buyer for £210,000. The sale was not with vacant possession (despite routine completion information suggesting otherwise) although it was with full title guarantee. The intention was that the sellers would continue to live there. In anticipation of the transfer, the buyer had previously, on 1 May 2008, granted a tenancy of the property to the sellers expressed to commence from 8 May 2008 “to and including the ninth day of 2029” at a rent of £500 per calendar month exclusive of council tax and water charges. The argument proceeded before the district judge (and before me) on the assumption that the intended reference was to 9 May 2029. The buyer was responsible for the maintenance of the external areas of the property, and for insuring the building. The sellers in turn covenanted to keep the interior of the property in good repair and condition. There was no provision for rent review during the term granted by the tenancy. The tenancy was also expressed to be an assured shorthold tenancy, as defined by section 19A of the Housing Act 1988 as amended. It was also expressed to be “exclusive” to the sellers and “unassignable”. It was common ground before me that the transfer took effect subject to the tenancy, as plainly it did.
[6] Section 423 of the 1986 Act relates to transactions (defined in section 436 as including a gift, agreement or arrangement) entered into at an undervalue. If such a transaction is entered into by a person for the purpose of putting assets beyond the reach of a person (the victim) making a claim against that person or otherwise to prejudice the interests of the victim in respect of his claim, the court may make such order as it thinks fit for restoring the position to what it would have been had the transaction not been entered into. A person enters into a transaction at an undervalue if the value of the consideration, in money or money’s worth, provided by the other party to the transaction is significantly less than the value, in money or money’s worth, of the consideration provided by himself. This is not a complete or verbatim statement of the section, but a summary of the parts relevant to the present appeal.
[7] The district judge noted that the section required a comparison to be made between the value obtained by and the value of the consideration provided by the sellers. Founding herself on the observations of Millett J (as he then was) in Re MC Bacon Ltd (No 1) [1990] BCLC 324 (which related to section 238 of the Act), she said that both values must be considered from the point of view of the sellers. In that case, Millett J held that the granting of a debenture was not a transaction at an undervalue since the granting of the debenture did not deplete or diminish the value of the company’s assets. The real complaint was not that the company had entered into the transaction at an undervalue, but that it had entered into it at all.
[8] The Court of Appeal in National Bank of Kuwait SAK v Menzies [1994] 2 BCLC 306 approved the approach of Millett J towards undervalue and applied it to a section 423 case.
[9] On the evidence before the district judge, the unencumbered freehold value of the property in May 2008 was £275,000. This was based on the buyer’s own assessment (as recorded in para 34 of his witness statement) and a valuation of Mr Jonathan Carpenter FRICS obtained for the purpose of these proceedings by the buyer. Although given the opportunity to do so by [6] of Judge McCahill QC’s order of 28 July 2008, the victims did not seek permission to adduce valuation evidence of their own, but based their submissions on the buyer’s evidence (including Mr Carpenter’s valuation, which was admitted into evidence without objection). The district judge held that there was an undervalue of £65,000.
[10] The buyer appeals this ruling on the ground that he did not acquire the unencumbered freehold, but a freehold subject to the tenancy. The tenancy had been granted prior to the 8 May transfer and took effect simultaneously with that transfer, which coincided with the commencement date of the term. Even if the tenancy had been created at the same time as the transfer, the position would have been the same. The transfer and tenancy were indissolubly bound up as part of the same overall transaction. Just as a purchaser dependent on a mortgage never acquires anything other than an equity of redemption (Abbey National Building Society v Cann [1991] 1 AC 56, in particular Lord Oliver of Aylmerton, at pp92F-93C) so the buyer in this case never acquired anything other than a freehold reversion. The full title guarantee was irrelevant to this conclusion because the tenancy was an incumbrance created by the buyer himself (and therefore well known to him) to take effect on completion as part of the bargain between himself and the sellers: see section 6(2) of the Law of Property (Miscellaneous Provisions) Act 1994.
[11] In Redstone Mortgages plc v Welch [2009] 36 EG 98*, HH Judge Worster held that the registered purchaser under a similar sale and leaseback transaction acquired nothing more than the freehold reversion, so that the rights of the tenants (who remained in actual occupation throughout) had priority over the rights of the purchaser’s mortgagee. Although that decision is not binding on me (Judge Worster was sitting in Birmingham County Court), I find the reasoning compelling on this point, and agree with it. |page:23|
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* Editor’s note: Also reported at [2009] 3 EGLR 71
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[12] It follows, according to Mr Mark Anderson, for the appellant, that what the district judge should have focused on was the value of the freehold reversion acquired by the buyer and compared that with the consideration of £210,000 provided to the sellers. On the evidence, the freehold reversion was worth no more than £210,000, and may have been worth a lot less. According to Mr Carpenter, the value of the freehold reversion as at 16 September 2008 was £115,000. This was, unfortunately, the wrong valuation date for the purpose of the statutory comparison and Mr Carpenter explained that this was merely the investment value, commenting that a prudent investor buyer would probably pay a higher figure (albeit lower than the vacant possession valuation) in the light of the possibility of the tenancy terminating before the end of the term. Even taking that into account, there is nothing in the evidence to justify a drop in value of as much as almost 50% between May and September 2008, although it cannot be doubted that the market was on a downward trend during that period. More importantly, the comparable transactions considered by Mr Carpenter (which were actual quotations obtained by the sellers in April 2008 from UK-Property Buyers, an organisation specialising in sale and leaseback transactions) indicated that the price of £210,000 for the freehold reversion was, in the present case, a fair one. There was therefore, according to Mr Anderson, no transaction at an undervalue.
[13] Mr Anderson, in advancing the appeal in that way, was inviting me to compare the value of what the buyer got with what the buyer paid. For my part, I accept that, thus regarded, the buyer paid full value, treating him as having acquired no more than the freehold reversion; £210,000 was a fair price for that interest.
[14] However, Mr Aubrey Craig, for the victims, urged me to look at the matter, in line with MC Bacon, from the sellers’ perspective. What the sellers had immediately before the impugned transaction was an unencumbered freehold worth £275,000. What they got in return was £210,000 and a tenancy having no value because it was exclusive and non-assignable. Thus regarded, there was indeed, as the district judge held, a significant undervalue. Mr Anderson countered this by saying that what the sellers transferred was no more than what the buyers received, which was the freehold reversion. Any diminution in value occasioned by their rights under the tenancy was merely incidental and should, consistently with the MC Bacon decision, be ignored.
[15] I cannot without more accept Mr Anderson’s analysis of the position. The sellers had an unencumbered freehold down to the point of sale to the buyer. They could have sold the property to anyone else at its full unencumbered value, notwithstanding the tenancy agreement put in place on 1 May in anticipation of the subsequent sale to the buyer. Their decision to sell to the buyer had the result that the purchase price was lower than it needed to have been, and the sale of the property for £210,000 was on this footing at an undervalue. The same result would follow had the transaction followed the more conventional course of the transfer and leaseback being executed at the same time. The sellers would (on the approach presently under consideration) have transferred the property at an undervalue by selling on those terms.
[16] However, Mr Anderson had another point. The consideration that the sellers received was £210,000 and a tenancy that was far from valueless. On the footing that the unencumbered value of the property was £275,000, the tenancy must (on my finding that £210,000 was a fair price for the freehold reversion) have had a value of £65,000, since that is effectively what the sellers paid for it by receiving a discount on the price of an unencumbered freehold. The fact that the tenancy was unassignable is irrelevant. The tenancy had a value to the sellers of £65,000, and that is enough.
[17] There are many instances where a transaction may be entered into that depletes the transferor’s assets, but that is not sufficient to stigmatise the transaction as being at an undervalue. Thus, a debtor facing bankruptcy may decide to dissipate substantial amounts on food, drink and other aspects of high living. He gets nothing saleable in return, but receives full value. Whatever else may be said concerning such a transaction, it is not at an undervalue. The debtor pays full value for the consumables or services in question. Once consumed or enjoyed, there is nothing left and what he pays is irretrievably lost to his creditors. The complaint would, however, as in MC Bacon, be that the transaction was entered into at all, not that it was entered into at an undervalue.
[18] Closer to the present case, had the sellers sold the property to the buyer for £275,000, and then taken a long lease at a low rent of a comparable property, paying a market premium of £65,000, the payment of that premium would not be a transaction at an undervalue. It would make no difference that the tenancy once granted would not be assignable. The premium element would be no different in principle from part-payment in advance for any other services, such as hotel accommodation. The result can be no different in the case, as here, of a sale and leaseback, where the premium value of the tenancy made up for any shortfall in the purchase price. In those circumstances, the sale at £210,000 was (on the present example) the equivalent of a sale at £275,000, with a leaseback at a premium of £65,000.
[19] I note in this connection that the monthly rent of £500 throughout the entire 21-year term was a small yield (a little under 2.2%) for a property valued with vacant possession in May 2008 at £275,000. That alone suggests that the tenancy had a premium value, and this is confirmed by the quotations obtained from UK-Property Buyers. It is, of course, possible that the mere existence of a tenancy, even at a rack-rent, will, in any given case, have a depressive effect on value. However, evidence is needed to establish that fact, and none was forthcoming in this case, despite the opportunity the victims had to seek permission to adduce valuation evidence. The legal burden was on the victims to establish that the transaction in question was at an undervalue, which means that they had to show that the tenancy granted to the sellers had a premium value of less than £65,000. They have not discharged that burden. Had they done so, I might then have needed to consider whether any diminution in value was merely incidental, as that expression is used in MC Bacon. The Court of Appeal left open in Agricultural Mortgage Corporation plc v Woodward [1995] 1 BCLC 1* whether incidental diminution in value takes the case out of section 423. I need not decide whether it does, since the victims have not established even an incidental diminution in value in the present case.
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* Editor’s note: Also reported at [1995] 1 EGLR 1
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[20] The reference to Agricultural Mortgage is instructive. A farmer granted a tenancy of mortgaged property to his wife at what was assumed, for the purpose of summary judgment proceedings, to have been at full market rent. The effect was to diminish the value of the mortgaged property to the detriment of the mortgagee. The fact that the tenancy was at a market rent was not sufficient to save the transaction from being at an undervalue, since the wife also received from the transaction the benefit of the surrender value, which exceeded the value of the consideration provided by her.
[21] That case is therefore authority for the proposition that the surrender value of a tenancy is measurable in money’s worth and is to be regarded as part of the consideration for the purposes of section 423. Since, moreover, the tenancy that the district judge was considering in the present case appears to have been for less than the full market rent, the district judge needed to be satisfied that the premium element, as well as any surrender value, was less than £65,000.
[22] The district judge did consider whether a value could be put on the tenancy, and, taking her lead from Phillips (liquidator of AJ Bekhor & Co) v Brewin Dolphin Bell Lawrie Ltd (formerly Brewin Dolphin & Co Ltd) [2001] UKHL 2; [2001] 1 WLR 143, concluded that the tenancy had only a speculative value, and that meant that the burden was on the buyer to produce evidence establishing that the tenancy had a value to the sellers of at least £65,000.
[23] I do not consider that a proper appreciation of Phillips justified this conclusion. That case concerned the sale of a business coupled with a subletting of computer equipment under a collateral agreement in the face of an absolute bar in the headlease. The House of Lords held that the consideration included the collateral agreement, but that, because the collateral agreement was so precarious as to make it worthless and the head lessors had almost immediately declared it to be a repudiatory breach, it was for the party relying on the collateral |page:24| agreement to establish its value. In the present case, there was nothing precarious about the tenancy, and no justification therefore for throwing any burden on the buyer. The burden of proving an undervalue under the section is on the victims. The circumstances in Phillips were such as amply to discharge that burden and shift the evidential burden onto the buyer. That is not the case here. The tenancy had the potential to last for at least the whole of the 21-year term. There was no basis for concluding that it had no value to the sellers.
[24] Moreover, the buyer did adduce valuation evidence before the district judge, namely the buyer’s own valuation evidence, which I have summarised, and the comparables embodied in the UK-Property Buyers’ quotations. The district judge discounted the comparables because she treated the UK-Property Buyers’ quotations as being based on a 12-month lease, not a 21-year lease. That would, if anything, suggest a higher premium or surrender value in the case of the tenancy agreement granted to the sellers. However, perusal of the quotations and accompanying correspondence from UK-Property Buyers showed that, although the proposed assured shortholds (which also contained a covenant against subletting or parting with possession) were for 12 months in the first instance, UK-Property Buyers would enter into a binding commitment to allow the tenancy to roll forward indefinitely, for as long as the sellers wanted to live in the property.
[25] The district judge also appears to have accepted the following submissions of the victims:
(i) Since the tenancy was not assignable, it had no value in money or money’s worth. I reject this submission for the reasons given above.
(ii) There was no provision for rent review. This, however, must have increased rather than reduced any premium or surrender value.
(iii) The tenancy was subject to forfeiture on what was described as “all the usual grounds”. It is not suggested, however, that the tenancy was put in place as a device to engineer a forfeiture. The buyer’s valuation evidence took into account the terms of the tenancy, and the UK-Property Buyers’ proposed tenancy also contained provisions for forfeiture.
(iv) The tenancy was not registered. This seems to me to be irrelevant because the tenancy was binding between the sellers and the buyer and non-registration did not affect the tenancy’s value at the date of the transaction.
[26] In the circumstances, I consider that there was no evidence before the district judge entitling her to conclude (as she did) that the impugned transaction was at an undervalue. It follows from this that section 423 has no application, and the appeal must be allowed.
[27] Having reached that conclusion, it is not strictly necessary for me to express a conclusion on the second aspect of the case, namely whether the requisite statutory purpose was established. I will, however, deal with the matter briefly.
[28] The district judge correctly noted that what mattered in this context was the sellers’ purpose (Moon v Franklin [1996] BPIR 196), which need be only a substantial as opposed to the predominant purpose: Inland Revenue Commissioners v Hashmi [2002] 2 BCLC 489. As to that, the evidence of one of the sellers (Mr Ding), and the evidence of the buyer, was that they did not know of the charging order made on 7 May 2008, when the transaction was completed on 8 May 2008, and that the reason that date was chosen was because a fixed-rate mortgage was coming to an end. The district judge rejected this evidence, preferring, she said, the victims’ evidence. However, the victims gave no evidence that was relevant to the sellers’ or buyer’s state of mind, and I have considerable doubt as to whether it was open to the district judge to reject the sellers’ and buyer’s evidence in this respect, since there was no cross-examination (as there would have been had it been sought) on these or any other points.
[29] None the less, I do consider that the evidence before the district judge justified the conclusion that the sellers’ purpose was to harm the interests of creditors generally, which would of course include the victims, who were known to be applying for a further interim payment. Mr Ding’s witness statement recorded that it became clear after 2007 that the property had to be sold to pay off debts, legal costs and to fund further legal action. He then explained the difficulties that the sellers had encountered in their attempts to sell the property, and how they came to turn their minds to a sale and leaseback. With regard to the sale to the buyer, Mr Ding explained, at the very end of his witness statement, that “the sale was done with the best interest of my family to retain a roof over their heads and to reduce my debts and outgoings; it was not to cheat anyone or deprive any creditors”.
[30] The reference to retaining a roof over his family’s heads clearly recognised that, absent the sale and leaseback, the roof may have been blown away to satisfy the demands of creditors. The effect of the sale and leaseback was, as was obvious, to make the property, including the leasehold interest, immune from the claims of creditors, including the victims, and this must have been, on a proper understanding of Mr Ding’s evidence, one of the sellers’ purposes as well as its effect. It is noteworthy also that, despite the concluding words of Mr Ding’s witness statement, the sellers have not paid any part of the £30,000 due under the order of 7 May 2008. In those circumstances, the district judge was entitled to conclude that the requisite purpose was made out, whether or not the charging order came to the sellers’ attention before completion and even though there may have been other reasons for completing on 8 May 2008. I would, on Mr Ding’s evidence, reach the same conclusion myself.
[31] Despite my upholding of the district judge’s conclusion on the issue of purpose, the appeal is allowed because I consider that the burden was on the victims to establish the requisite undervalue, which they have not done.
[32] I should finally mention that had I upheld the decision on undervalue, Mr Anderson would have wanted to address me on the appropriate remedy. It will be noted that the district judge, treating the impugned transfer as void (although that word is nowhere to be found in section 423) made no provision for the repayment to the buyer of the purchase price of £210,000, but limited his recovery (by way of subrogated charge) to the mortgage paid off from the proceeds of sale. I have real doubts as to whether it was appropriate for the district judge to go that far. The real complaint with regard to the surplus proceeds is that they have been disbursed or dissipated in some way. I can, as at present advised, see no justification for visiting the consequences of that on the buyer because that would presumably have happened even if the sale had been for £275,000, and he had no control over the destination of the proceeds. Since, however, I have heard no detailed argument, which was deferred pending my decision on the main appeal, it is not necessary for me to rule on the point.
Appeal allowed.
