Chris is an Insolvency Practitioner regulated by the ICAEW since 2014,.
He is experienced in contentious insolvency with excellent analytical skills and strong knowledge of both general and technical insolvency matters.
Two months before the liquidator was appointed, the director cleared a £40,000 loan his wife had made to the company in 2019. The payment came out of the trading account on a Friday.
The Barclays app showed the transfer, the bookkeeper coded it, and nothing felt wrong at the time. Three months later, the liquidator is on the phone asking why his wife was paid when the VAT was not.
This is the shape of a preference claim.
Under section 239 of the Insolvency Act 1986, a payment made by an insolvent company that puts one creditor in a better position than others can be unwound by the liquidator, with the court ordering repayment.
The test is narrow, the lookback is long, and the presumptions for connected parties are against you.
In our caseload, most preference claims we see are not fraud. They are directors paying the creditor who was easiest to face: the spouse, the family friend, the landlord, the bank with your personal guarantee.
The liquidator does not need to prove fraud against you. They need to prove the four elements of section 239, and if the recipient is connected to you, the “desire to prefer” is presumed.
What Counts as a Preferential Payment Under Section 239
Section 239 of the Insolvency Act 1986 gives liquidators (and administrators) the power to apply to court to unwind a preferential payment your company made before it entered insolvency.
Four elements must be established against you.
First, your company was insolvent at the time of the payment, or became insolvent as a result of it.
Insolvency here is either cash-flow insolvency under section 123(1)(e) IA 1986 (cannot pay debts as they fall due) or balance-sheet insolvency under section 123(2).
Second, the recipient was a creditor (or a surety or guarantor for a company debt).
Third, the effect of the payment was to put the creditor in a better position than they would have been in if the company had gone into liquidation on the payment date, and the payment had not been made.
Fourth, the company was influenced by a “desire to prefer” the recipient over other creditors. This is the central test, and it is the element Re M.C. Bacon Ltd [1990] BCC 78 settled for good.
Desire means a positive wish to improve the creditor’s position. Commercial pressure, on its own, is not desire, which is why Millett J held that the payment in Bacon was not a preference.
The director had no positive wish to prefer the bank; he just wanted to keep the company alive.
The Preferential Payment Lookback: 6 Months and 2 Years
Section 240 IA 1986 fixes the “relevant time” for preference claims against your company. If the recipient is not connected with you, the lookback is 6 months from the onset of insolvency.
If the recipient is connected (a director, a spouse, a parent, a fellow group company, or a person over whom you have influence), the lookback is 2 years.
Connected creditors also carry a statutory presumption under section 239(6): the company is presumed to have been influenced by a desire to prefer them, unless you can prove otherwise. This flips the evidential burden.
In an unconnected case, the liquidator must prove desire. In a connected case, you must disprove it.
The onset of insolvency is defined in section 240(3): in a compulsory liquidation, the date of presentation of the winding-up petition; in a creditors’ voluntary liquidation, the date the resolution is passed;
in administration, the date the application or notice of appointment is filed. You need to identify that date on your calendar and work backwards.
Common Preferential Payment Patterns We See
The patterns are surprisingly consistent. In our caseload, these five account for most of the preference claims that reach court.
Clearing your director’s loan account. An overdrawn DLA becomes a debt you owe the company and has to be repaid.
A credit DLA becomes a debt from the company to you, and directors often pay themselves back in the final months. Both sides of this trigger scrutiny: one as an asset the liquidator will chase, the other as a preference.
Paying off the bank where you have given a personal guarantee. Your home is on the line under the PG. You pay down the bank facility to reduce your PG exposure, often while the VAT is already in arrears.
The effect is to convert a joint liability into the company’s loss, and the liquidator will challenge it.
Repaying a loan from a family member. The parent or spouse who lent £30,000 two years ago is paid in the final weeks. Because the lender is connected, the lookback is 2 years and the desire to prefer is presumed.
Giving new security for an old debt. Granting a charge over the company’s plant and machinery to secure an existing unsecured loan, in the weeks before insolvency.
This is caught by section 239 as well as by section 245 (avoidance of floating charges).
Paying a critical supplier in full while others wait. Less clear-cut.
Where the supplier was genuinely essential to trading and the payment was driven by commercial necessity (no supplier, no trade, no chance of rescue), the Bacon test usually saves it.
Where the supplier was also a friend or family business, the analysis collapses.
Consequences of an Unwound Preferential Payment
If the court finds a preference, the remedies under section 241 IA 1986 are wide. The most common order is that the recipient repays the sum to the liquidator.
Where the recipient is a surety, the court can restore the guarantee. Where the recipient has sold on the asset in good faith, the tracing is harder, but still possible.
For you as director, the consequences layer up. First, if the payment also involved misapplication of company money, there is a section 212 IA 1986 misfeasance claim.
Second, if the payment contributed to creditor losses and the company was already past the point of no return, there is a section 214 wrongful trading claim.
Third, your conduct is reported to the Insolvency Service under section 7A CDDA 1986. A preference involving connected parties is a routine trigger for a disqualification undertaking of 3 to 7 years.
In our files, where the preferred creditor is a family member and the payment is reversed, the family member usually cannot repay.
The shortfall then often falls back on you personally through a parallel misfeasance claim, because you “caused” the company to make the payment.
This is why preference defences matter. The real question is not whether the recipient loses the money, but whether you absorb the shortfall.
Defences to a Preferential Payment Claim
Your strongest defence is the Bacon defence: no desire to prefer.
The payment was driven by commercial pressure (the supplier refused further deliveries, the landlord threatened forfeiture, the bank froze the facility), not by your wish to improve the creditor’s position.
Contemporaneous evidence matters. Your emails, file notes, and Board minutes carry the weight. A solicitor’s letter threatening statutory demand the day before the payment is the kind of evidence that turns a preference into ordinary-course trading.
The second defence is the ordinary course of business. Routine supplier payments made on normal terms, when the company was meeting other obligations, are harder to attack.
In the cases we take on after liquidation has begun, we regularly advise directors to pay all creditors proportionately rather than prioritising the loudest one.
Your third defence is that the company was not insolvent at the relevant time.
If you can show the company was still solvent on a cash-flow basis at the date of the payment, with reasonable management accounts and a realistic cash forecast, the section 239 gateway is closed.
This is evidentially difficult in the last six months before liquidation, but not impossible.
Your fourth defence is that the recipient was not a creditor. Payments to a landlord for rent actually due, or to a supplier for goods already delivered, are not preferences in the first place.
The payment discharges a liability that otherwise would have ranked as unsecured, but only if all other elements are met.
How Preferential Payments Differ From Legitimate Priority Creditors
This is worth separating, because the language confuses directors. “Preferential creditor” under Schedule 6 IA 1986 is a statutory ranking. Employees rank as ordinary preferential (capped at £800 in wages arrears).
HMRC ranks as secondary preferential for VAT/PAYE/NIC/CIS since 1 December 2020. Paying those creditors in full in a normal trading month is lawful.
“Preferential payment” under section 239 is different. It is any payment to any creditor that improves that creditor’s position ahead of the insolvency and is influenced by a desire to prefer.
An employee with £5,000 in arrears could, in theory, be the recipient of a preferential payment if you paid them in full with a desire to prefer them over other creditors.
In practice, the Schedule 6 ranking makes that unlikely to be challenged, because the employee would have been paid first in liquidation anyway.
The test is always the same: did the payment change the outcome for the creditor, relative to what liquidation would have produced? If the answer is no, there is no preference.
If you are a director who has made payments to connected parties in the last two years, or to any creditor in the last six months, and insolvency is now on the horizon, this is a time-sensitive decision.
Two groups again.
If the only “preferential” payments you can identify were ordinary supplier payments, routine payroll, and HMRC remittances made in the course of trading, your section 239 exposure is low.
The Bacon test protects you, and a competent IP will file a neutral conduct report. You do not need urgent advice; you need to complete your PIQ accurately when it arrives.
If you paid down your own DLA, cleared a family loan, reduced a bank facility covered by your PG, or granted new security for an old debt, your exposure is real. You have three options and only one window.
Option one: do nothing, and defend the claim when it arrives, usually 6 to 12 months after appointment.
Option two: engage the IP early and negotiate a reversal before proceedings issue, which can reduce or eliminate your costs exposure.
Option three: restructure the payment now, before insolvency crystallises, if solvent rescue is still feasible.
For most directors in group two, option two is cheaper than option one. Call us on 0800 074 6757 before the liquidator’s solicitor does.
We can review the transactions, model your section 239 exposure, and tell you within a call whether your payment is Bacon-defensible or a concession case. For related risks, see our guide on misfeasance claims.
Frequently Asked Questions
Is every payment to a creditor before insolvency a preference?
No. A payment is only a preference if the company was insolvent at the time, the recipient was a creditor, the payment improved the creditor’s position relative to liquidation, and the company was influenced by a desire to prefer. Ordinary-course supplier payments where the company was meeting its obligations usually survive the test.
What does ‘desire to prefer’ actually mean?
Set by Re M.C. Bacon Ltd [1990] BCC 78, desire means a positive wish that the creditor should be better off, not just an acceptance that they will be. If you paid because a supplier threatened to walk away, that is commercial pressure, not desire. If you paid because your mother-in-law asked, that is desire.
How far back can a liquidator look for preferences?
Six months for unconnected creditors, two years for connected creditors (directors, relatives, associated companies). The lookback runs backwards from the onset of insolvency, which is usually the date of the winding-up petition or the CVL resolution.
Does HMRC count as a preferred creditor for section 239 purposes?
HMRC’s secondary preferential status (for VAT, PAYE, NIC, CIS since 1 December 2020) is about the Schedule 6 waterfall, not section 239. A payment to HMRC can still be challenged as a preference if it meets the four-part test, but because HMRC would have been paid ahead of unsecured creditors anyway, the “better position” limb is rarely satisfied.
Can I pay wages ahead of suppliers without triggering a preference?
Generally yes, because wages are ordinary preferential debts under Schedule 6 (up to £800 arrears) and would rank ahead of unsecured suppliers in liquidation anyway. The payment does not change the creditor’s relative position. Where wages arrears exceed the £800 cap, the excess sits in the unsecured pool and the analysis changes.
If I repay the preference voluntarily, does that end the matter?
Voluntary reversal stops the section 239 claim against the recipient but does not end the director’s own exposure. The IP’s conduct report will still record the preference, and the Insolvency Service will still sift the case. Voluntary repayment is a mitigating factor, not an eraser.
When should I get independent advice on a suspected preference?
Before the PIQ goes back, and before the first interview with the office-holder. Once your answers are on the record, the room for restructure narrows. If there is any payment to a connected party in the last two years that could be questioned, the call costs nothing and the preparation changes the outcome.
Methodology & Disclosure
This guide was prepared by our editorial team and reviewed by a licensed insolvency practitioner within Company Debt’s director advisory practice.
It applies section 239 and 240 of the Insolvency Act 1986, the insolvency test at section 123, and the leading authority Re M.C. Bacon Ltd [1990] BCC 78 on the “desire to prefer” element.
It also reflects BNY Corporate Trustee Services v Eurosail [2013] UKSC 28 on balance-sheet insolvency and BTI 2014 LLC v Sequana SA [2022] UKSC 25 on the creditor duty.
Company Debt is a UK insolvency and business rescue firm. We advise directors separately from appointed office-holders and disclose any prior contact before accepting instructions.
Preference exposure is highly fact-specific; this guide is general information, not legal advice on a specific transaction.
