For decades, the tactical tug-of-war between liquidators and unsecured creditors in Australia was governed by a predictable, albeit highly contested, set of unwritten rules and statutory interpretations. Liquidators wielded the "peak indebtedness" rule as a blunt instrument to maximize clawbacks, while creditors clung to the hope of statutory set-off to mitigate their losses. But following two seismic High Court of Australia decisions—Badenoch and Morton—the foundations of unfair preference claims under the Corporations Act 2001 (Cth) have been fundamentally rewired.
As insolvency appointments across Australia continue to climb in 2026, driven by tightening credit conditions and persistent inflationary pressures, understanding the practical mechanics of these rulings is no longer just an academic exercise—it is essential for survival. As highlighted in a comprehensive analysis by Chamberlains, these judgments have forced insolvency practitioners, commercial litigators, and corporate counsel to entirely rethink their litigation and defense strategies.
The Demise of the Peak Indebtedness Rule: Badenoch
To understand the magnitude of Bryant v Badenoch Integrated Logging Pty Ltd [2023] HCA 2, one must look at the historical advantage held by liquidators. Under section 588FA of the Corporations Act, a payment is an unfair preference if it results in a creditor receiving more than they would have in a liquidation scenario.
Historically, where a "continuing business relationship" existed (often referred to as a running account), liquidators utilized the judicially created peak indebtedness rule. This allowed a liquidator to artificially sever the commercial relationship, selecting the point during the statutory relation-back period (usually six months) where the company's debt to the creditor was at its absolute highest. They would then calculate the preference claim from that peak down to the date of liquidation, ignoring any value the creditor provided prior to that peak.
The High Court's Intervention
The High Court unanimously abolished this practice. The Court ruled that section 588FA(3) embodies the doctrine of the running account in its entirety. You cannot carve up a continuous commercial relationship to maximize a claim.
"The abolition of the peak indebtedness rule requires liquidators to look at the continuous business relationship as a whole. The starting point is now either the beginning of the relationship or the start of the statutory six-month period—whichever is later. This single change has wiped millions of dollars off the potential value of liquidator clawbacks nationwide."
For legal professionals defending creditors, Badenoch is a powerful shield. If your client continued to supply goods or services during the six-month relation-back period, the ultimate preference claim is merely the difference between the debt owed at the start of the period and the debt owed at the end. If the overall debt increased or remained static, there is no unfair preference.
The Death of the Statutory Set-Off Defense: Morton
If Badenoch was a victory for creditors, Morton as Liquidator of MJ Woodman Electrical Contractors Pty Ltd v Metal Manufactures Pty Limited [2023] HCA 1 was their devastating defeat.
Prior to Morton, a creditor facing an unfair preference claim would often attempt to rely on section 553C of the Corporations Act (statutory set-off). The argument was simple: "Yes, I received a $50,000 preference payment, but the company still owes me $100,000 for unpaid invoices. I will set off the preference claim against the unpaid debt, reducing my liability to zero."
The Mutuality Roadblock
The High Court struck this down, focusing on the strict requirement of mutuality. For a set-off to occur, the debts must exist between the same parties in the same right. The Court determined that an unfair preference claim does not exist prior to liquidation. It is a statutory right that vests in the company only upon a court order sought by the liquidator under section 588FF.
Therefore, there is no mutuality between the historical debt owed by the company to the creditor and the new statutory liability owed by the creditor to the liquidator.
The New Strategic Landscape
The intersection of these two rulings has created a highly technical environment for insolvency litigation. The table below outlines how the tactical calculus has shifted for practitioners.
| Strategic Aspect | Pre-2023 Position | Post-Badenoch/Morton Reality | Practical Implication for Lawyers |
|---|---|---|---|
| Claim Quantification | Liquidators select the highest point of debt (Peak Indebtedness). | Assessment spans the entire statutory period or the whole business relationship. | Defending lawyers must demand full ledgers from liquidators, not just isolated transaction records. |
| Set-Off Defenses | Creditors frequently used s 553C to zero-out preference claims. | s 553C is entirely unavailable for unfair preference claims. | Creditors must rely on the "good faith" defense (s 588FG) or running account arguments instead. |
| Commercial Leverage | Liquidators issued high-value demands to force early settlements. | Liquidator claims are lower in value but harder to defend once established. | Litigation is more likely to proceed to trial on the factual dispute of when a "relationship" ended. |
Practical Implications for Australian Legal Professionals
For corporate counsel and commercial litigators, the focus has entirely shifted to the factual matrix of the continuing business relationship. Because liquidators can no longer rely on peak indebtedness, their primary tactic is now to argue that the continuing business relationship was severed before the liquidation, thereby crystallizing the preference at an earlier, more advantageous date.
To protect clients, legal professionals must proactively manage how creditors handle distressed debtors. Consider the following steps:
- Audit Debt Recovery Communications: A continuing business relationship is based on the mutual assumption that the relationship will continue. If a creditor issues a statutory demand, sends aggressive letters threatening legal action, or places a debtor on strict "Cash on Delivery" (COD) terms, courts will likely view the relationship as severed.
- Structure Payment Plans Carefully: When advising clients on payment plans with struggling debtors, ensure the agreement explicitly contemplates future supply. A payment plan designed solely to clear old debt, without ongoing trade, will not be protected by section 588FA(3).
- Bolster the Good Faith Defense: With statutory set-off gone, the section 588FG "good faith" defense is more critical than ever. Ensure clients maintain robust credit management policies and document their lack of suspicion regarding a debtor's insolvency.
- Re-evaluate Litigation Risk: Liquidators are now conducting deeper forensic accounting before issuing demands. If your client receives a demand, immediately reconstruct the entire trading ledger for the six months prior to the relation-back day to calculate the true net movement of the debt.
Looking Forward
As the Australian economy navigates the complexities of 2026, the volume of corporate insolvencies is providing a real-time stress test for the Badenoch and Morton precedents. While the elimination of peak indebtedness has undoubtedly saved creditors millions, the loss of statutory set-off means that when a preference claim does stick, it bites hard.
For legal practitioners, the era of relying on broad, formulaic defenses is over. Success in unfair preference disputes now requires a granular, forensic understanding of the commercial relationship, precise drafting of supply terms, and a highly strategic approach to debt recovery. In this new architecture of insolvency law, precision is the ultimate currency.