Swedish Supreme Court Ruling on Clawback in Bankruptcy and Third-Party Effects – Hökerums Lånefordran

In the case, two subcontractor companies (the "Subcontractor Companies") waived a claim they had against a construction company ("Hökerum"). In exchange, Hökerum waived a claim it had against the representatives of the Subcontractor Companies. When the Subcontractor Companies later went bankrupt, their waiver of the claim against Hökerum was subject to clawback. The case before the Supreme Court concerned the legal effect of the clawback on Hökerum’s waiver of the claim against the representatives.

The reasoning of the Supreme Court sheds light on aspects relevant to both bankruptcy disputes and to parties considering entering into agreements with financially weak counterparts.

In this article, we will first briefly explain the rules of clawback in bankruptcy. We will then go into the background of the dispute, the reasoning of the courts, and the effect of the clawback in relation to third parties. Finally, we will make some concluding remarks about the case and the clawback regulation.

A fundamental principle behind the regulation regarding bankruptcy is that a debtor’s assets, when insufficient to pay all creditors, should be distributed equally among the creditors according to set rules. Most bankruptcy rules take effect when the bankruptcy decision is made. However, the creditors’ battle for the debtor's assets often begins when the debtor’s financial difficulties become apparent, which can occur long before bankruptcy. Therefore, some bankruptcy rules come into effect even before bankruptcy – the clawback rules.

The clawback rules allow a bankruptcy trustee to reverse certain transactions made shortly before bankruptcy that harm one or more creditors by favouring others.

For instance, if a debtor prioritizes paying the outstanding invoices of a specific creditor and shortly afterward goes bankrupt, the payment may be subject to clawback under certain conditions. The legal consequence is that the payment is returned to the bankruptcy estate, and the creditor's claim is revived. After the clawback, the parties' relationship is as if the transaction never occurred, and the creditor must file its claim in the bankruptcy like the other creditors.

But what if the clawed-back transaction was part of a settlement involving not just the debtor and creditor? The Swedish Bankruptcy Act contains limited provisions on the effect of clawback in relation to third parties, which is the aspect highlighted by the precedent.

The two Subcontractor Companies reached a settlement with the construction company Hökerum, whereby the Subcontractor Companies reduced claims they had against Hökerum in exchange for Hökerum reducing loan claims it had against the representatives of the Subcontractor Companies (the "Settlement").

Subsequent to the Settlement, the Subcontractor Companies were declared bankrupt. Through a court judgment, the Subcontractor Companies' reduction of claims against Hökerum was clawed back, as the reduction was considered an impermissible gift by the companies to Hökerum (see Chapter 4, Section 6 of the Swedish Bankruptcy Act).

The representatives of the Subcontractor Companies then filed a claim against Hökerum to return the collateral (mortgage deeds) they had provided as security for the loans from Hökerum. Hökerum contested the claim and filed a counterclaim, demanding that the representatives pay their loans in an amount corresponding to the sum clawed back in bankruptcy. The representatives contested Hökerum's claim, arguing that the loans had been settled by the Settlement.

The question that arose in the case between Hökerum and the representatives was how the clawback of the Subcontractor Companies’ reduction of the claim against Hökerum affected the debt relationship between Hökerum and the representatives – i.e., whether Hökerum’s reduction of the claim against the representatives remained valid despite the clawback of the Subcontractor Companies' reduction of the claim against Hökerum.

Both the District Court and the Court of Appeal found that neither the statutory text nor case law provides a clear answer to what applies in the situation, i.e., what significance clawback has for a separate debt relationship.

Both the District Court and the Court of Appeal granted Hökerum’s claim for payment of the loans, but they reached their conclusions through different lines of reasoning. While the District Court argued that the question should be resolved by interpreting the agreement made between the parties, with consideration to the purpose of the clawback rules, the Court of Appeal based its assessment on the fundamental legal principle of clawback that the situation should be restored to how it was before the transaction. The court noted that this meant, given the representatives' full knowledge of the transaction setup, that the debt discharge through the reduction no longer applied after the clawback.

In its judgment on July 18, 2024, the Supreme Court set a new precedent regarding what effects the clawback should have on third-party relationships. The Court began by noting the limited provisions in the Swedish Bankruptcy Act on this issue and then addressed the legal framework.

Regarding the effect of clawback in relation to a third party who has provided a guarantee for a debt that has been settled but later clawed back, the Supreme Court noted, based on the case 'Taina's Kiosk,' NJA 1997 p. 240, that the guarantee liability remains in effect until the debt is fully paid. However, if the payment is clawed back and the debt is reinstated, the guarantee liability is also revived. Exceptions to this rule may occur, but only in rare cases (e.g., if the creditor concedes to an unjustified clawback claim or has given the guarantor a 'special reason' to believe that the guarantee liability has ended; in such cases, the risk of loss should rest with the creditor).

In light of NJA 1997 p. 240, the Supreme Court then made the following remarks regarding the situation between Hökerum and the representatives. If a bankrupt debtor has paid a third party’s debt (the debtor in the debt relationship) directly to the creditor (in the debt relationship), and this payment is clawed back, then, the clawback from the creditor means that the debt between the third party and the creditor is revived. The same should apply if a waiver of a claim that constituted a debt discharge for the benefit of a third party is clawed back. Even if the debt had been discharged, the debt generally remains after the clawback.

However, the Supreme Court stated that the exceptions outlined in NJA 1997 p. 240 should be applied correspondingly to the current situation, and that additional exceptions may be conceivable. In a separate opinion, the reporting judge in the case noted that such exceptions might apply, for example, if the third party was in good faith about the circumstances leading to the clawback and had acted based on the belief that the transaction would stand. Under such conditions, there could be grounds to allocate the risk between the third party and their creditor in a way that differs from the main rule.

In the present case, the Supreme Court found that no exception from the main rule was warranted. The Subcontractor Companies’ reductions of claims against Hökerum constituted a discharge of the representatives' debts against Hökerum, and according to the main rule, the subsequent clawback of the Subcontractor Companies’ reductions meant that the corresponding amount of the representatives' debt to Hökerum was re-instated.

The statutory clawback rules in Chapter 4 of the Bankruptcy Law do not address situations where a waiver of a claim – contingent on a debt discharge for a third party – is clawed back. In Hökerumslånefordran, the Supreme Court crafted a specific solution for the situation, concluding that clawback generally revives the debt between the creditor and the third party. A key takeaway from the case is the Supreme Court’s flexibility in dealing with clawback in unregulated areas like complex three-party relationships, reflecting a willingness to consider broader case contexts rather than rigidly adhering to statutory rules.

The rules around clawback are complex and their application can produce unexpected outcomes for parties involved in transactions with counterparties who later enter bankruptcy. This case has further expanded their scope. Whether you're entering into an agreement with a financially unstable partner or facing a clawback claim from a trustee, it’s wise to seek advice from an expert who can help reduce the risk of having a valuable transaction undone.