K2013046547/07 (South Africa) (Pty) Ltd and Others v Hyde Construction CC and Another

Blue Cloud Investments 40 (Pty) Ltd owned property (Erf 2941) in Plettenberg Bay, purchased in 2003. In 2007, the property was subdivided into 12 sectional title units, including Section 1 (a shopping centre called "The Square") and residential units. Hyde Construction was contracted in 2005 to renovate the shopping centre, leading to disputes and arbitration. Hyde Construction successfully sued Blue Cloud for payment in 2010. Between 2013-2015, rental income from the shopping centre proved insufficient to service mortgage bonds, and shareholders had to make contributions. On 11 April 2014, Blue Cloud sold Section 1 as a rental enterprise to K2013046547/07 (South Africa) (Pty) Ltd for R36 million. Investec Bank provided R30 million finance secured by a mortgage bond. Transfer occurred on 14 August 2014. Before advancing the loan, Investec required confirmation that Blue Cloud was not a "trader" or if so, that disposal was in the ordinary course of business. Blue Cloud's auditors certified it was not a trader. Hyde Construction applied to set aside the transfer and mortgage bond as void under s 34(3) of the Insolvency Act 24 of 1936, arguing Blue Cloud was a trader.

• Whether Blue Cloud was a 'trader' as defined in s 2 of the Insolvency Act 24 of 1936 at the time of transfer of the property
• Whether the transfer of property and registration of mortgage bond were void under s 34(3) of the Insolvency Act for purposes of enforcing Hyde Construction's claim
• What constitutes the 'core business' of an enterprise for purposes of determining trader status
• Whether the onus to prove non-trader status was discharged by Blue Cloud
• Whether a business enterprise can change from trader to non-trader status over time

The appeal was upheld with costs, including costs of two counsel where employed. The high court order setting aside the transfer and mortgage bond was replaced with an order dismissing the application with costs.

For s 34(3) of the Insolvency Act to apply and render a transfer void for purposes of enforcing a creditor's claim, the transferor must be a 'trader' as defined in s 2 of the Act at the date of transfer. Whether an entity is a trader is determined by examining whether the activity in question (buying and selling property) constitutes the core business of the entity or is merely incidental to its primary business. The test from McCarthy Ltd v Gore NO applies: the definition of trader must be linked to the primary business activities of the enterprise and not extended to activities incidental thereto. The determination is made by having regard to the nature of the undertaking and determining whether such undertaking is part of the core business. An entity whose core business is holding property for investment and earning rental income is not a trader merely because it sells properties from time to time, particularly when such sales are motivated by financial necessity rather than as the normal course of a property trading business. Where an entity has not acquired properties for years and has held only one property for a substantial period for rental purposes, the sale of that property does not constitute trading but is incidental to the rental enterprise.

The Court noted that even if Blue Cloud could be said to have been a trader during its early years of operation (2002-2006), its core business had changed by August 2014, analogous to the situation in Commissioner for Inland Revenue v Richmond Estates (Pty) Ltd where stock in trade was converted to fixed capital assets. The Court also observed that judges wield great power and must exercise restraint when making critical findings about parties, citing Gold Circle (Pty) Ltd v Maharaj - such criticism requires circumspection and must be supported by all the facts. The Court criticized the high court for making adverse findings against Investec that were both irrelevant to the issues and not warranted on the facts. The Court declined to address the question of whether s 34(3) applies to a mortgage bond registered over property where the transfer itself is hit by s 34(3), as this was unnecessary for determination of the appeal, but noted that silence should not be construed as endorsement of the high court's finding on this point.

This case clarifies the test for determining 'trader' status under the Insolvency Act. It confirms that: (1) The definition must be linked to primary business activities at the relevant time, not activities incidental thereto; (2) The onus rests on the alleged trader to prove it is not a trader; (3) The relevant date for assessment is the date of transfer; (4) An entity's core business can change over time - an entity that was once a trader can cease to be one; (5) A property-holding entity that generates rental income as its core business is not a trader merely because it occasionally sells properties due to financial necessity or changed circumstances; (6) The characterization of income and assets in audited financial statements and by SARS is relevant evidence; (7) Factual circumstances must be carefully scrutinized over an appropriate time period, not just isolated transactions. The case provides important guidance on when s 34(3) of the Insolvency Act applies to property transactions.