This guide is maintained as a current resource for September 2026 and covers only the laws of England and Wales. Information is for general guidance, not legal advice. Consult a qualified solicitor for advice specific to your situation.
Transaction at undervalue legal test explained under UK insolvency law. Covers section 238 Insolvency Act 1986, insolvency requirements, valuation rules, court powers, defences, and how undervalue transactions are assessed in England and Wales.
A transaction at an undervalue legal test determines whether a company has transferred assets or incurred obligations for less than their true value before entering insolvency. If the legal criteria are met, an insolvency office holder (such as a liquidator or administrator) may apply to court to reverse the transaction under section 238 of the Insolvency Act 1986.
The test is a key mechanism in UK insolvency law designed to protect creditors from asset stripping or unfair depletion of an insolvent estate. It ensures that company assets are preserved and distributed fairly once insolvency proceedings begin.
Legal Basis for Transactions at Undervalue
The statutory framework is primarily set out in:
- Section 238 Insolvency Act 1986 – definition and court power to set aside transactions
- Section 241 Insolvency Act 1986 – remedies available to the court
- Section 240 Insolvency Act 1986 – “relevant time” (look-back period)
Under section 238, a company enters into a transaction at an undervalue where it:
- makes a gift, or
- receives no consideration, or
- receives consideration significantly less than the value it gives away
The court may then unwind the transaction if the statutory test is satisfied.
The Transaction at Undervalue Legal Test (Core Elements)
To establish a transaction at an undervalue, the office holder must prove each element of the legal test.
1. Existence of a “transaction”
A transaction is interpreted broadly and includes:
- Asset sales
- Transfers of property or equipment
- Debt releases or waivers
- Guarantees or security arrangements
- Any arrangement affecting company value
The courts adopt a wide interpretation to prevent avoidance of insolvency rules.
2. Nature of the consideration
The transaction must fall into one of two categories:
- The company gave something away for free (a gift), or
- The company received significantly less value than it provided
The comparison is based on market value versus actual consideration received at the time of the transaction.
3. Timing: the “relevant time”
The transaction must have occurred within the statutory look-back period under section 240:
- Up to 2 years before insolvency for all counterparties in corporate insolvency cases
- The timing is calculated backwards from the “onset of insolvency”
This ensures only pre-insolvency value stripping is targeted.
4. Insolvency requirement
The company must have been:
- insolvent at the time of the transaction, or
- rendered insolvent by the transaction itself
This ensures that ordinary commercial dealings by solvent companies are not unwound.
5. Good faith and business purpose defence
Even if the above elements are met, the court will not set aside the transaction if:
- it was entered into in good faith, and
- there were reasonable grounds for believing it would benefit the company
This defence is set out in section 238(5) and is commonly relied upon in commercial restructuring contexts.
Key Legal Concepts Used in the Test
“Significantly less value”
Courts assess whether the disparity between what the company gave and received is material. Minor commercial discounting will not normally qualify. The focus is on substantial undervalue.
“Onset of insolvency”
This is a defined statutory point used to calculate the relevant time period. It typically relates to when formal insolvency proceedings begin or when insolvency can be legally established.
“Connected persons”
Transactions involving directors, shareholders, or associated entities are subject to stricter scrutiny. In many cases, insolvency and intent may be presumed more readily.
How the Legal Test Is Applied in Practice
Office holders typically follow a structured analysis:
Step 1: Identify the transaction
All disposals of assets prior to insolvency are reviewed.
Step 2: Value assessment
Independent valuation evidence is used to determine whether consideration was adequate.
Step 3: Insolvency analysis
Financial statements, cash-flow position, and liabilities are assessed.
Step 4: Timing check
The transaction is tested against the statutory look-back period.
Step 5: Defence evaluation
Any justification, commercial rationale, or good faith explanation is considered.
Step 6: Court application (if necessary)
If criteria are met, an application is made for reversal under section 238.
Court Powers and Remedies
If a transaction at an undervalue is proven, the court may:
- require repayment of money to the insolvent estate
- order re-transfer of assets
- invalidate security or contractual terms
- impose alternative compensatory remedies
The aim is restorative, not punitive: to return creditors to the position they would have been in absent the transaction.
Distinction From Other Insolvency Claims
A transaction at an undervalue is often confused with related claims:
- Preferences (section 239) – unfairly favouring one creditor over others
- Voidable floating charges – security granted shortly before insolvency
- Fraudulent or improper transactions (section 423) – designed to defeat creditors
The key distinction is that undervalue claims focus on inadequate consideration, not creditor preference or intent to defraud.
Practical Examples
Transactions commonly examined under the legal test include:
- Sale of company property to a director for below market value
- Transfer of assets to a group company without payment
- Writing off large debts owed by connected parties
- Disposal of stock or equipment at heavily discounted rates before liquidation
Time Limits and Limitation Issues
The statutory “relevant time” is fixed at two years for corporate insolvency. However, practical enforcement depends on:
- availability of financial evidence
- tracing of assets
- timing of insolvency appointment
- court discretion in granting remedies
Delays can make recovery more difficult even if the legal test is satisfied.
Consequences of a Successful Claim
Where the test is met and the court intervenes:
- assets are restored to the insolvency estate
- creditors receive increased distributions
- directors may face further investigation for misconduct
- transactions may be unwound even years after completion
Key Takeaways
The transaction at an undervalue legal test under section 238 of the Insolvency Act 1986 requires proof that a company, while insolvent or close to insolvency, disposed of assets for no value or significantly less than their worth within the relevant time period. The court also considers insolvency status, timing, and any good faith business justification. If satisfied, it can reverse the transaction to protect creditors and restore value to the insolvent estate.
