Insolvency Oracle

Developments in UK insolvency by Michelle Butler


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HoC BIS Committee recommendations on the Insolvency Service: will they help?

Goodness, what a busy week it has been! Consultations, draft Regulations, a DMP Protocol, and a bit of a backlog of High Court decisions… but they will have to wait.

Although the release of the House of Commons’ BIS Select Committee’s report on the Insolvency Service has already been reported widely, I wonder if you, like me, sigh at the tone of the press coverage, which all seems to lie somewhere on the spectrum between cold neutrality and wholehearted support. Don’t you wish people would come out and say what they really think? Therefore, I thought I would give it a go…

If you want to read all the Committee’s recommendations, this is not the place for you – I have only described the ones that have raised my hackles or got me thinking. You can access the report in full at: http://www.publications.parliament.uk/pa/cm201213/cmselect/cmbis/675/675.pdf

Changes to debtors’ bankruptcy fees

“At present, individual debtor bankrupts have to pay an upfront fee of £525. Given the level of debt relief they can receive we agree with the Insolvency Service that it would not be unreasonable to increase that fee, possibly on a sliding scale. We also agree that the fee should not be automatically required to be paid up front but could be staggered along similar lines as payments to debt management companies. We will expect the Insolvency Service to set out progress in both of these areas in its response to this Report.” (paragraph 43)

It is clear that the Insolvency Service’s sums currently do not add up; something must change (and the BIS Committee made other recommendations to this effect). However, I had always thought that the charges relating to the bankruptcy process reflected the work carried out (setting aside the need for cross-subsidisation, which gives rise to another debate entirely). How does the service provided differ depending on a debtor’s level of debt? Whatever the individual’s liabilities, he/she has to go through pretty much the same process to enter bankruptcy as anyone else. True, the higher the debt level, often the more time-consuming the bankruptcy administration, but this is usually also reflected in the asset values, and as asset realisations attract a percentage fee, this already means that a high-liability bankruptcy is paying more.

I am not saying that individuals with large debts should not pay more, but I feel it is quite a step-change to structure fees, not as proportionate to the work undertaken, but to reflect somehow the level of debt relief that the individual is receiving. I am certain that it would not work in other fields of insolvency: could an IP justify basing the cost of putting a company into liquidation on the level of creditors’ claims, rather than on how much work was involved in preparing the Statement of Affairs and convening/holding the meetings? There is a Dear IP (no. 18, July 1991) warning against such a practice!

It is widely accepted that the cost of the petition and court fee restricts access to bankruptcy for many individuals. Graham Horne told the Committee that the Service would look at the DMCs’ model of paying fees in instalments. However, from the consultation and response on bankruptcy petition reform, it appears to me that the Service is looking only at the possibility of individuals paying instalments prior to entering bankruptcy, not after bankruptcy. Quite simply, this is not the DMCs’ model, which involves providing the service of administering a debt management plan whilst being paid the fee by instalments. It will be of little use to individuals to have to make payments to the Service… over how long, 6 months, 12 months..? but not get the relief of a bankruptcy order until the £700 (or more) is paid in full. I can imagine the Service’s suspense account soon bulging with countless numbers of one or two months’ staged payments from individuals who intended to go bankrupt, but because of the continuing stress of fighting off creditors they handed their affairs over to a DMC simply for a break from it all.

If a bankruptcy order cannot be made until the petition and court fees have been paid in full, it is still an up-front fee notwithstanding whether this is paid in instalments, and it will remain a barrier to bankruptcy for many.

Would the Service contemplate providing for the fees to be paid after bankruptcy? The Service already charges £1,625 to each bankruptcy estate and the report acknowledges that this is not recouped “in the majority of cases” (paragraph 35), so a post-bankruptcy application fee would simply be another unrecovered cost to write-off. There would be a few cases that could bear this cost, but then who really would be paying? The creditors.

Pre-packs

“We therefore recommend that together, the Department and the Insolvency Service commission research to renew the evidential basis for pre-pack administrations.” (paragraph 72)

Some have greeted this with an “oh please, not this old chestnut again!” Personally, I would welcome this step. Arguments against the use of pre-packs as a principle (or at least those that involve connected parties, “phoenixes”) usually relate to the perception that the connected party has achieved an unfair advantage – the directors have been able to under-cut their competitors because they have left creditors standing with Oldco and they have bought the business and assets at a steal. There is the additional allegation that there is no overall benefit to the economy because, whilst jobs may be saved in the business transfer from Oldco to Newco, jobs are lost in rival companies and/or with creditors. I think that the difficulty the insolvency profession has in responding to these arguments is that all IPs can do is their best, their statutory duty to maximise realisations of the insolvent company’s assets; even if these anti-pre-pack arguments were valid and that pre-packs were not good for the world at large, if IPs were to adjust their actions somehow to accommodate these wider concerns, i.e. resist completing a pre-pack in favour of a break-up or an expensive trading-on in the hope that an independent buyer comes along, they could be failing in their statutory duties.

If these arguments against pre-packs hold water, then let’s see the evidence and then watch the policy-makers decide whether some or all pre-packs should be banned in the public interest. In the meantime, all IPs can do is their best to fulfil their statutory duties in relation to each insolvency over which they are appointed.

One small point: I sincerely hope that the researchers avoid falling into the trap occupied by the pre-pack protesters. The arguments of unfair advantage and of creditors being left high and dry whilst the phoenix rises apply to business sales to connected parties, not to pre-packs. If an IP trades on a business in administration and then sells it to a connected party, the same allegations apply, don’t they? It seems strange to me that there is so much antagonism towards pre-packs when, really, I see little difference between a pre-pack administration and the Receivership business sales of the 1990s. In fact, I would suggest that pre-pack administrations are an improvement over Receivership business sales because at least the administrator is an officer of the court with wider responsibilities to creditors as a whole.

I’m not sure how the researchers will test the allegations. However, if they limit the research to a comparison of the direct outcomes of pre-pack sales compared with longer-running administration business sales, then I do not believe it will do anything to answer those who cry unfairness.

SIP16

“Despite the introduction of Statement of Insolvency Practice Note 16 and additional guidance, pre-pack administrations remain a controversial practice. The Insolvency Service is committed to continue to monitor SIP 16 compliance, but to make this effective, non-compliance needs to be followed through with stronger penalties by way of larger fines and stronger measures of enforcement. We have some sympathy with the concerns of the regulator R3, which argues that noncompliant insolvency practitioners are not made aware of the criteria on which they are being judged by The Insolvency Service, or given any feedback on their reports. We recommend that the Insolvency Service amend its monitoring processes to include feedback to each insolvency practitioner and their regulatory body where SIP 16 reports have been judged to be non-compliant. We further recommend that the criteria by which SIP 16 reports are judged should be published alongside the guidance.” (paragraphs 80 and 81)

This time I will cry: “oh please, not this old chestnut again!” Given the perceptions of unfairness surrounding pre-packs – or to describe the issue more accurately, business sales to connected parties – as explained above, it is not surprising that “despite the introduction of SIP16 and additional guidance, pre-pack administrations remain a controversial practice”. Even with 100% compliance with SIP16, the controversy would never fall away. SIP16 is simply about helping creditors to understand why the pre-pack sale was conducted; it will never answer the allegations that the practice of pre-packing businesses in general is unfair.

However, this limitation of SIP16 disclosures can never be an excuse for IPs failing to meet the requirements of the SIP. It is not beyond the ability of professional IPs to get this right.

Unfortunately, the key principle of SIP16 of “providing a detailed explanation and justification of why a pre-packaged sale was undertaken so that [creditors] can be satisfied that the administrator has acted with due regard for their interests” (SIP16, paragraph 8) does not fit well with a checklist of pieces of information. If an IP were to sit a creditor down and say “let me tell you why I did this sale this way”, I believe that it is very likely that, on a case-by-case basis, not every last detail required by SIP16 paragraph 9 would always be relevant to telling this story and it may even be that other factors not strictly required by SIP16 paragraph 9 would be valuable in helping the creditor understand. It makes me wonder how we got into this position – where unique stories describing a vast range of demised businesses and complex rescues are reduced to a monitoring exercise on a par with recounting Old Macdonald Had a Farm!

However, I repeat: this limitation of SIP16 monitoring should never be allowed to fuel the pre-pack critics. If IPs are being judged on strict compliance with SIP16, why can we not get it right?

There is no doubt in my mind that the absence of Insolvency Service feedback on each individual SIP16 disclosure has not helped. It also seems insensible to me that the Service would make these assessments and not inform each IP where they thought he/she had gone wrong. What on earth was the point of carrying out the review in the first place?!

However, I foresee a problem: in 2011, there were 1,341 appointment-taking IPs and 723 pre-packs. I appreciate that an average of 0.5 pre-packs per IP does not reflect reality, but even so it would seem to me that pre-packs are not that common; IPs might only conduct one or two each year and some IPs might go years before doing another pre-pack. In 2011, the Insolvency Service only reviewed 58% of all SIP16 disclosures, so there’s a big chunk of all SIP16s where no feedback is possible. In addition, 32% of the 2011 SIP16 disclosures reviewed were considered non-compliant by the Service. If our profession is lucky, it might be that these non-compliant SIP16s are being produced by the same bunch of IPs. However, my hunch (having worked in the IPA’s regulation department) is that sometimes an IP gets it right, sometimes he/she misses something. If this is the case, then years might pass before (i) an IP receives feedback on where he/she slipped up with SIP16 compliance and then when (ii) he/she can apply that feedback to his/her next pre-pack. Waiting for IPs to apply the Service’s feedback will not crack this nut: I suspect that, if the 2013 SIP16 monitoring report shows similar levels of non-compliance, there will be hell to pay!

Thus, I feel it is down to each and every IP to work at producing perfect SIP16 disclosures. Some may rebel at this formulaic approach to recounting the skills used in getting the best out of an insolvent company – I do! – but the threat of more legislation, which I suggest could be even more prescriptive and restrictive than SIP16, remains loud. Can we not just try to get it right?

Continuation of supply

“We recommend that the Department undertake a consultation as a matter of urgency on the rules relating to the continuation of supply to businesses on insolvency in order to assess whether a greater number of liquidations or further damage to businesses could be avoided if that supply was better protected.” (paragraph 86)

I shall use this opportunity to update you on the progress of the Enterprise and Regulatory Reform Bill. On 21 January, I reported that the House of Lords was considering a proposed amendment to S233 regarding the continuation of utilities and other contracted services and goods (https://insolvencyoracle.com/2013/01/21/more-on-the-err-bill-and-two-cases-1-scottish-court-shows-more-than-the-usual-interest-in-provisional-liquidators-fees-and-2-court-avoids-unpardonable-waste-or-scarce-resources/). Unfortunately, the Grand Committee threw the amendments out in full on the ground that there needed to be proper consideration of the consequences of such amendments. In hindsight, I can see that it was very unlikely that such changes could be slipped in to the Bill at such a late stage, but I guess that at least it keeps the issue on the table.

My personal view is that, whilst changes to S233 will be welcome, I do feel that some are over-egging the advantages. The BIS Committee picked up on R3’s research suggesting that “over 2,000 additional businesses could be saved each year, rather than being put into liquidation”, if suppliers were obliged to continue to supply on insolvency (paragraph 82). I bow to R3’s and IPs’ greater experience, however I cannot help but wonder whether companies really are resorting to liquidation, rather than trading on in an administration, simply because contracts with suppliers are terminated on insolvency. I would have thought that there were far more substantial barriers to trading-on that will remain even after S233 is changed.

Regulating the RPBs

“We agree that the Insolvency Service, in regulating the recognised professional bodies (RPBs), should have a wider range of powers, very much akin to those that the RPBs themselves have in disciplining their members.” (paragraph 97)

I note this simply because I was stunned at this non sequitur – none of the preceding paragraphs hinted that there was a problem with the RPBs that needed to be fixed or that this was any solution.

Having said that, personally I have no issues with the Service having such powers. In my experience at the IPA, whilst there may have been some tendency to want to push back on some of the Service’s recommendations from time to time (to be perfectly honest, usually more on my part than on the part of my employer!), it would always end up with the RPB taking the required action. I cannot see that the Service needs to be able formally to warn, fine, or restrict RPBs, but if it helps perception, why not?

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As I mentioned at the start, there were other Committee recommendations, which I would encourage you to read if you have not already done so, as I believe they help us to see how the profession is viewed from the outside and, whether we agree with them or not, those views will continue to influence the shape of our profession in the years to come.


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More on the ERR Bill and two cases: (1) Scottish Court shows more than the usual interest in provisional liquidator’s fees; and (2) Court avoids “unpardonable waste of scarce resources” by striking out evidence

I present a bit of a mixed bag here:
• The Enterprise & Regulatory Reform Bill – developments since my blog post of 12 January
Nimmo – the Scottish Court of Session takes more than a passing interest in a provisional liquidator’s fees
Secretary of State v Potiwal – despite the seeming absence of a technical argument, the court saves the taxpayers’ money in proving a case a second time

Update on the Enterprise & Regulatory Reform Bill

New Bankruptcy Application Process

On 12 January, I posted to this blog my thoughts on the insolvency parts of the ERR Bill. Last week, some interesting tweaks to the Bill had been proposed: that the adjudicator be allowed to apply to the court for directions (which might have helped if the adjudicator had been presented with a bankruptcy application with tricky COMI dimensions); and that, if the adjudicator felt that an alternative remedy were more suitable, the individual be given ten days to seek advice and potentially withdraw the bankruptcy application. Unfortunately, both these proposals were withdrawn following the House of Lords’ debate.

In relation to the subject of applying to court for directions, Viscount Younger of Leckie said: “Persons appointed as adjudicators will have the skills they need to do the job without the need for recourse to the court. It is acknowledged that the court still has a role to play. Where the adjudicator refuses to make a bankruptcy order because the criteria are not met, the debtor will have the right to appeal to the court. That provides a route to court in those cases where it is needed” (Lords Hansard on House of Lords Grand Committee 16 January 2013, http://www.publications.parliament.uk/pa/ld201213/ldhansrd/text/130116-gc0002.htm).

With regard to allowing the individual time to explore alternative solutions, Viscount Younger said: “I reassure noble Lords that before making their bankruptcy application, applicants will be strongly encouraged to take independent debt advice to ensure that bankruptcy is really the right option for them. My officials will work with the Money Advice Service and providers within the debt advice sector to ensure that applicants have the information they need to make an informed decision. Furthermore, within the electronic application process itself, we propose to include a series of warnings to ensure that applicants are made fully aware of the serious implications of bankruptcy before they make their application. We will also ensure that the process flags up any alternative debt remedies that may better suit their circumstances. The Government consider that these safeguards are sufficient to ensure that debtors are empowered to make an informed decision as to whether or not bankruptcy is the right option for them before they take the serious step of making a bankruptcy application. The Government believe that these amendments would unnecessarily complicate the process by requiring the adjudicator to exercise discretion on a case-by-case basis. That would increase administration costs with an impact on the application fee. It would also delay access to debt relief for the debtor, who would have elected for bankruptcy in full knowledge of their other options.”

Whilst I understand the government’s intention to formulate a simple administrative process to replace the current court-led debtor’s bankruptcy petition process (although those IA86 provisions are not being repealed via the Bill, presumably so that individuals who cannot/do not wish to apply online can still instigate their own bankruptcy), it seems inevitable to me that such a process will be ill equipped to deal with out-of-the-norm cases.

Continuation of contracted supplies in corporate insolvencies

It seems that R3’s “Holding Rescue to Ransom” campaign is paying off! Added to the list of proposed amendments to the Bill are the following proposed changes to S233 of IA86:

• To include “a supply of computer hardware or software or infrastructure permitting electronic communications” as another utility that must continue to be supplied (subject to the current S233 conditions) on request by the office holder.
• Utility supplies to be caught by the provisions irrespective of the identity of the supplier.
• To include that “any provision in a contract between a company and a supplier of goods or services that purports to terminate the agreement, or alter the terms of the contract, on the happening of any of the events specified in subsection (1) [i.e. administration, administrative receivership, S1A moratorium, CVA, liquidation, or appointment of a provisional liquidator] is void” – this does not seem to be limited only to utility supplies.

It remains to be seen, however, if these proposed changes survive the debate in the House of Lords (next sitting is scheduled for 28 January 2013).

Scottish Court of Session not content to take as read the court auditor’s and reporter’s recommendations of approval of provisional liquidator’s fees

Nimmo, as liquidator of St Margaret’s School, Edinburgh, Limited [2013] ScotCS CSOH 4 (11 January 2013)

http://www.bailii.org/scot/cases/ScotCS/2013/2013CSOH4.html

Summary: Despite both the reporter and the court auditor recommending that the provisional liquidator’s remuneration of c.£120,000 be allowed, the court sought further information in justification of the fee. Whilst IPs can take some comfort in the result that the judge allowed the fees in full, his comments suggest some lingering concern and hinted at a desire for a review of the court procedures.

The Detail: Over 20 days, a provisional liquidator managed “a high profile and extremely sensitive appointment” (paragraph 9) over a school and incurred time costs of c.£120,000. Later, the IP was appointed liquidator of the same company with his fees for the liquidation being approved by the liquidation committee. Interestingly, Lord Malcolm disapproved of the use of the word “cost” when referring to as yet unauthorised remuneration: “For the future I would advise that in reports to committees the proposed fee should not be described as ‘a cost’ already incurred by the liquidator. It should be made clear that the committee is being asked to exercise a judgment as to whether the proposed remuneration is reasonable and appropriate (or words to that effect). A proposed fee is in a different category from outlays. The scope for disagreement or questioning should be obvious to the readers of the report” (paragraph 31). The IP’s fees as provisional liquidator remained to be approved by the court.

Both the reporter and the court auditor considered that the provisional liquidator’s fees were reasonable, but the judge requested further information. Despite learning of the complexities handled by the IP, Lord Malcolm stated: “nonetheless I retain a sense of surprise and concern at a proposed fee of over £120,000 (exclusive of vat) for 20 days work, and I suspect that many will find it remarkable that the winding up of a middling size private school can generate fees of over £620,000 (again exclusive of vat)” (paragraph 31). However, the judge allowed the fee, noting that “the court cannot simply reject the clear advice of the reporter and the auditor of court without cogent and objectively justifiable reasons for doing so” (paragraph 35).

Lord Malcolm’s closing comments suggest a desire for more widespread consideration of the issue of insolvency office-holders’ remuneration: “Perhaps it is no bad thing that, now and again, an opinion is issued which shows how these matters are presented to, and addressed by the court. Generally they are resolved without any public hearing or publicity. There is at least a risk that the fee levels and general practices and procedures seen as normal in the corporate insolvency world become, when the court is asked to adjudicate, in a sense self-fulfilling. This highlights the important role of the auditor of court in the current system, given that he is not directly involved in such work. It may also be that, from time to time, and in the light of experience, the judges should review current practice to check whether there is room for improvements in the court’s procedures which might help it to exercise its jurisdiction under the insolvency rules” (paragraph 38).

Court avoids “unpardonable waste of scarce resources” by striking out director’s evidence in disqualification proceedings

Secretary of State for Business, Innovation & Skills v Potiwal (Rev 4) [2012] EWHC 3723 (Ch) (21 December 2012)

http://www.bailii.org/ew/cases/EWHC/Ch/2012/3723.html

Summary: In relation to disqualification proceedings, the Secretary of State (“SoS”) sought to rely on the fact that a VAT Tribunal had already proven a director’s knowledge of his company’s fraud. The court found that, although the SoS’ argument that the director was estopped from denying knowledge failed because the SoS and HMRC were not privies, it agreed that it would be manifestly unfair and it would bring the administration of justice into disrepute to require the SoS to prove the director’s knowledge a second time.

The Detail: An earlier VAT Tribunal had concluded that the director knew of the company’s VAT fraud, but in evidence to defend disqualification proceedings the director denied having such knowledge. The SoS sought to have that part of the director’s evidence struck out on the grounds that he was estopped from denying that he had this knowledge; or that his denial was an abuse of process, as it would be manifestly unfair for the SoS to be put to the substantial cost and delay of proving the allegation; and/or that to permit the issue to be re-litigated would bring the administration of justice into disrepute.

For the argument of estoppel to win out, the parties to the disqualification proceedings – the SoS and the director – had to be in privity with the parties to the earlier VAT Tribunal – HMRC and the insolvent company. Given the director’s role in the company and in the VAT Tribunal proceedings, the judge had no difficulty in concluding that the director and his company were privies. However, he decided that the SoS and HMRC were not privies: “I consider that it would therefore go against the grain of the development of the law about abuse of process to identify for the first time a new class of privity of interest between two very different arms of government pursuing different aspects of the public interest, and being motivated in particular cases by different policy and funding considerations when doing so” (paragraph 21). Consequently, in relation to the first ground, Mr Justice Briggs concluded that, because there was no privity of interest between the SoS and HMRC, the proven position in the VAT Tribunal could not be carried forward into the disqualification proceedings.

However, Briggs J then considered whether “hundreds of thousands of pounds” of tax-payers’ money should be used to prove the allegation a second time. Having considered the circumstances of the VAT Tribunal, which was funded by the taxpayer throughout, the judge concluded that it would be manifestly unfair to impose the cost of re-litigating the issue on the SoS. With regard to the argument that re-litigation would also bring the administration of justice into disrepute, Briggs J stated: “Where, as here, the issue as to a director’s knowledge of a complex MTIC fraud has been fully and fairly investigated by an experienced tribunal and the director found to have had the requisite knowledge, it seems to me that right-thinking members of the public would regard it as an unpardonable waste of scarce resources to have that issue re-litigated merely because, by a simple denial and without deducing any fresh evidence, Mr Potiwal seeks to require the complex case against him to be proved all over again” (paragraph 29). Thus, he ordered that parts of the director’s evidence be struck out as an abuse of process.