Extortionate Credit Arrangements: What Accountants Should Know Under Section 588FD

Extortionate Credit Arrangements: What accounts should know under Section 588FD

As companies experience financial distress, directors may resort to high-risk lenders offering quick finance with harsh terms. While these arrangements can appear to provide short-term relief, they can later be challenged in liquidation if deemed extortionate. Under section 588FD of the Corporations Act 2001 (Cth), liquidators have the power to seek relief from the Court where such lending arrangements are considered grossly unfair.

As a trusted advisor, your ability to recognise the warning signs of an extortionate credit arrangement can be critical in safeguarding the company and its creditors.

What is an Extortionate Credit Arrangement?

Section 588FD defines a credit arrangement as extortionate if its terms, in light of the risk to the lender, are either:

• Grossly exorbitant, or
• Grossly unfair.

This includes interest rates, charges, and other conditions that far exceed market standards or impose disproportionate consequences on the borrower.

Factors the Court may consider include:

• The company’s financial position,
• The lender’s risk,
• Market lending rates at the time, and
• Whether the lender took advantage of the company’s vulnerability.

Key Case Law Examples

Re Mexicali Pty Ltd (in liq) [2014] NSWSC 1436

In this case, the Court examined a loan where the annual interest rate was 60%, with daily compounding and an excessive default interest regime. The company was already in financial distress at the time of the loan. The Court ruled the terms were grossly exorbitant and grossly unfair, declaring the arrangement extortionate under s588FD. The lender was ordered to repay the liquidator the excess amount received under the unfair terms.

Re Say Enterprises Pty Ltd (in liq) [2000] NSWSC 1107

Here, a lender provided funds to a financially distressed company at an annualised interest rate of over 144%, secured against the company’s assets. The Court held the credit arrangement was extortionate, highlighting that while lenders are entitled to a risk premium, there are limits. The effective interest rate was found to be well beyond what could be commercially justified.

Re 123 Sweden AB (t/as Spoor & Fisher) [2020] NSWSC 1128

Although not directly involving s588FD, this case underscored how Courts scrutinise the fairness of agreements during periods of insolvency. It reinforces the point that agreements made under financial distress may not stand if they lack commercial reasonableness.

Why This Matters for Accountants

Accountants are often in the best position to detect early warning signs of problematic credit arrangements—especially when clients are struggling with cash flow or relying on short-term finance providers.

Red flags to watch for:

• Interest rates well above commercial norms (e.g., over 30–40% p.a.),
• Penalty clauses that multiply liabilities after a short default,
• Related-party lenders or private financiers demanding extensive control or security,
• A lack of documentation or proper disclosure in financial statements.

If a liquidator later challenges the arrangement, directors may face further scrutiny—particularly if they entered the agreement without advice or proper consideration of alternatives.

 Your Role as a Safeguard

Accountants advising businesses in distress should:

• Review loan terms carefully—compare to prevailing market conditions.
• Encourage clients to seek legal advice before entering high-interest or complex credit agreements.
• Ensure accurate documentation and disclosure of loan terms in the accounts.
• Flag any concerns early with the client’s legal or insolvency advisor if you suspect an arrangement may be challenged later.

The cost of ignoring extortionate lending arrangements can be high—both for creditors and directors personally.

Final Thoughts

Extortionate credit arrangements are not simply poor financial choices—they may be voidable under the Corporations Act. For accountants, understanding the legal implications of s588FD can be crucial in advising clients who are at risk or are considering restructuring options.

If you’re assisting a client facing financial difficulty, stay alert to aggressive lending terms. The earlier the issue is identified, the more options are available.