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Bankruptcy: A Fresh Start
7. Possible reforms to the law 7.1 The idea that bankruptcy might represent "an easy solution for those who can bear with equanimity the stigma of their own failure"7 seems at considerable odds with present day reality. Despite that, it is clearly one that any proposal for reform of the law relating to personal insolvency must ensure does not become reality. Nor should any changes to the system serve to encourage individuals not to pay their debts when, with a little effort, payment, in full or in part, could be made. However the experience of Official Receivers is that the vast majority of people who become bankrupt become so from necessity not choice, that they will have made very considerable efforts to avoid becoming bankrupt and that they will have dealt responsibly with their creditors. For many individuals bankruptcy represents a personal tragedy, the last act in a series of events that have led to financial disaster. For many others there is still an element of shame in being unable to pay their debts. 7.2 Bankruptcy, whilst an unpleasant experience, offers the prospect of financial rehabilitation although under the present rubric that rehabilitation, is postponed for three years (or two in a minority of cases) regardless of the circumstances leading up to the insolvency or the moral culpability of the bankrupt. There seems today to be little purpose in such a postponement as, of itself, it adds nothing to the debtor’s rehabilitation and the public do not require protection in the great majority of cases. 7.3 What is therefore proposed is that the issue of discharge, that is the release of the bankrupt from his financial obligations, should be separated from the question of his conduct and the need, where that conduct has been reprehensible, to protect the public and the commercial community from that bankrupt’s irresponsibility in the future. An earlier discharge for the honest, responsible majority 7.4 Earlier rehabilitation could be achieved by providing for an automatic discharge for all bankrupts after six months, or sooner if the Official Receiver had completed his enquiries into the bankrupt’s affairs. This would not affect the realisation of the bankrupt’s estate and it would be possible for the Official Receiver or the trustee to apply to the court to suspend the operation of the discharge in cases of non-cooperation. Whilst the current restrictions on obtaining credit, being a director of a limited company and trading in a different name would continue to apply from the date of the bankruptcy order to the date of discharge, this would be, and be seen to be, a temporary situation lasting only as long as was required to ensure an adequate enquiry into the debtor’s affairs. Bankruptcy would in effect become a period in which the great majority of individuals could sort out their finances and their futures in the expectation of early rehabilitation. In return for this early rehabilitation, the individual would be under an obligation (as now) to make a timely and complete disclosure to the Official Receiver (and to any trustee) and to show a willingness to consider ways in which the creditors might be paid a greater portion of their claims than the realisation of their assets, with all the costs and expenses involved, would permit (see paragraph 7.12 below). Insuring the position of creditors 7.5 A shortening of the period of bankruptcy would, on the face of it at least, impact on the interests of creditors. Certainly the theoretical effect of the after-acquired property rule (by which property acquired by a bankrupt after the date of bankruptcy but before discharge) would be very considerably reduced as the period of bankruptcy before discharge would, in most cases, be six months or less. In practice, however, any such effect is unlikely to be material as few bankrupts currently acquire property in such circumstances. Even where they do it is generally a matter of chance, for example where property is inherited. 7.6 A potentially more serious issue for creditors would be any loss, in practice, of a Trustee’s ability to seek a contribution from the surplus earnings of the bankrupt before discharge. In proposing these changes to the personal bankruptcy regime there is no desire to cut across or undermine the fundamental policy objective that seeks to ensure that where someone made bankrupt is, by virtue of their current and future income, in a position to make a material contribution to the repayment of their creditors, they should do so. 7.7 Section 310 of the Insolvency Act 1986 enables the court to order contributions to the estate from a bankrupt’s income and in the year to 31 March 2000 it is likely that Official Receivers will have secured between 2300 and 2500 such orders, nearly all with the consent of the bankrupt individual. This number of orders will represent a level of about 10% of the total number of new bankruptcies in the financial year to 31 March 2000. It is therefore reasonable to conclude that some 90% of those who are made bankrupt do not have sufficient surplus income to justify the Official Receiver seeking an income payments order (IPO). Whilst it is possible for the court to make an order in respect of a bankrupt’s income for a total of three years and which therefore may run on beyond the date of the current three-year (or in a small number of cases two-year) automatic discharge, such orders are unusual. It is the general practice that such orders are made to run up to the date of discharge. 7.8 How might an earlier discharge be reconciled with the need to ensure that those who can make a significant contribution to their debts from their current and future income do so? One way would be to continue to impose income payment requirements for periods that ran well beyond the likely date of discharge (six months or earlier) in the great majority of cases. This would continue current practice but could serve to undermine the concept of an earlier fresh start for the bankrupt individual. 7.9 A better way would be to offer incentives to bankrupts who are willing to make contributions from their income towards the payment of their debts. This could be done by encouraging them to propose post-bankruptcy Individual Voluntary Arrangements (IVAs). Paragraphs 7.11 to 7.13 (below) describe how such post-bankruptcy IVAs proposed by those bankrupts with surplus income (potentially the subject of income payment orders) could be made far more efficient for creditors in terms of the return to them. At the same time the bankrupt would receive the benefit of an automatic annulment of the bankruptcy on agreement to the IVA proposal by their creditors. This would then leave them in the same position as if the bankruptcy order had not been made. 7.10 Such post-bankruptcy IVAs would be of benefit in those cases where the potential contribution by the bankrupt from future income comprised the whole (or substantially the whole) of the realisable estate. This is the position in most bankruptcy cases. Where there are substantial assets to be realised in addition to the contributions from future income any proposed post-bankruptcy IVA would have to ensure that the creditors were no worse off than under a bankruptcy in which they can look to the realisation of the bankrupt’s assets and an enforced contribution from income. In cases where bankrupts had surplus income but were not willing to propose an IVA or to consent to an IPO there would continue to be the power to obtain an order and compel their contribution. A new approach to post-bankruptcy IVAs 7.11 In many cases where an IPO is obtained its effect may be more punitive than compensatory. Given the average size of the monthly contribution ordered, a substantial proportion (and, in many smaller cases the whole) of what is paid may be absorbed in discharging the costs of the proceedings and of any insolvency practitioner appointed to deal with the case. Creditors often receive minimal benefit from the great majority of such payments from income and that would continue to be the case in respect of post-bankruptcy IVAs unless other changes were made. 7.12 A particular feature of the administration of estates under Chapter 13 of the US Bankruptcy Code (the near equivalent to our Individual Voluntary Arrangement) is the role of standing trustees. There is usually one for each judicial district (the more populous districts may have several) who deals with all Chapter 13 cases filed in that district. His duties include supervising the production of debtors’ payment plans, recommending confirmation, conversion or dismissal to the court and, where the plan is confirmed, receiving the debtors’ monthly payments and making distributions to creditors. Whilst standing trustees are private sector practitioners, their salaries are set by Congress and their expenses are approved by the Executive Office for US Trustees, a government agency which is the US equivalent of the Insolvency Service. 7.13 In the year to 30 September 1999 there were some 385,000 Chapter 13 filings and because a standing trustee deals with all the Chapter 13 cases in his district, each is responsible for thousands of cases. Economies of scale have meant that the overhead expenses can be kept very low so that figures as high as 95 cents in the dollar (paid by the debtor) can in turn be paid to creditors. Such substantial economies of scale could be generated if the Insolvency Act 1986 was amended to enable Official Receivers to put proposals to creditors and act as supervisors of post-bankruptcy IVAs. The Official Receiver would already have information regarding the assets, liabilities and surplus income of the debtor and would not need to charge a separate fee for acting as nominee in relation to the proposal. In considering such proposals creditors and debtors would have a choice between private sector insolvency practitioners and the Official Receiver on whose behalf the administration of receipts and payments could be undertaken centrally. While seeking full recovery of the ring-fenced costs of administering such IVAs, Official Receivers could publish annual targets in terms of pence in the pound of debtor contributions to be paid to creditors. Substantially reduced costs in smaller IVAs (smaller in terms of both of assets available and debts owed) would almost certainly ensure that creditors would be better off than at present even where they agreed not to look to the realisation of some or all of the debtor’s assets in bankruptcy. Dealing with the small minority of dishonest or irresponsible debtors 7.14 As the statistics relating to bankruptcy prosecutions show, some individuals are simply dishonest, have shown little or no regard for the interests of their creditors and are, in financial terms, the equivalent of dangerous drivers – in other words a menace to any credit-based economy. They should, of course, continue to be prosecuted as now. However not all convictions of bankrupts connote actual dishonesty, for example where insolvency legislation criminalizes acts which at the time of their commission were not illegal but which become so (after the event) as a consequence of the bankruptcy. A bankrupt’s failure to have kept proper books of account (where he is trading) or having materially contributed to his insolvency by gambling are offences that fall into this category. In a significant number of cases the behaviour of a bankrupt towards his creditors may constitute an offence but, because of the amounts or circumstances involved, it will not be in the public interest to institute criminal proceedings. 7.15 Whilst bankruptcy proceedings should continue to offer even dishonest or irresponsible debtors the possibility of financial rehabilitation, there is a strong argument for ensuring that society is given some protection from any future repetition of such behaviour. This would be possible by introducing ‘bankruptcy restriction orders’ to operate in much the same way as the company directors disqualification regime. Where the Official Receiver reported to the Secretary of State that a bankrupt’s conduct had been such as to make it expedient in the public interest that a ‘restriction order’ should be made in respect of him, the Secretary of State would have the discretion to direct that proceedings be brought by the Official Receiver. These would have to be commenced within six months of the bankruptcy order being made and the bankrupt’s discharge would be suspended until they were determined, thus providing the public with continuing protection. On determination, whether or not an order was made, the bankrupt would obtain a discharge of his debts. The ‘restriction order’ would in effect continue the restrictions imposed automatically on the making of the bankruptcy order namely on obtaining credit, trading in a name other than that by which he was known in the bankruptcy and acting as a director of or in the management of a limited company. Where the court found allegations of misconduct proved it would make a ‘restriction order’ for a minimum of two years up to a maximum of fifteen. 7.16 As in the Company Directors Disqualification Act 1986, a non-exhaustive schedule of matters indicating misconduct would be drawn up and consideration could be given to listing there the substance of many of the offences set out in Chapter VI of the Insolvency Act8 (which might then be substantially repealed), and particularly those creating offences retrospectively. In order to deter abuse, the incidence of second or subsequent bankruptcies would also be prima facie evidence of misconduct. Alternatively, the current regime or a variation of it could be retained. Under this an individual going into bankruptcy for a second (or subsequent) time within fifteen years, does not receive an automatic discharge and is prevented from applying to the court for an earlier discharge until at least five years have elapsed from the date of the second or subsequent bankruptcy. 7.17 As for the restriction on obtaining credit, whether whilst undischarged or subject to a ‘restriction’ order, it is proposed that this should be an offence only where the credit obtained is not repaid within the terms of any contract agreed or any period of grace allowed by the creditor. 7.18 Proposals to amend Part III of the Fair Trading Act 1973 (highlighted in the Consumer White Paper "Modern Markets: Confident Consumers" published in July 1999) will give new powers to Trading Standards Services to undertake enforcement action against rogue traders. Clearly information obtained by Official Receivers regarding the affairs of such individuals would be of considerable use to Trading Standards Departments and they will be encouraged to work together in their local areas. Financial skills for bankrupts 7.19 A large number of those who experience financial failure tend to lack the financial and management skills which can contribute to success in business or, indeed, to the proper management of personal financial affairs. As pointed out above (paragraph 4.8) Canadian bankrupts (who are overwhelmingly consumers) are required to attend financial counselling session as a condition of obtaining a discharge and it seems likely that such a requirement will shortly become a feature of the US Bankruptcy Code. 7.20 Such a requirement could be imposed on all bankrupts as a condition of the proposed earlier discharge although those whose failure was not in any sense due to a lack of financial or management skills would be unlikely to benefit from such counselling. It might be a better use of resources if the Official Receiver were to identify those who lacked the appropriate skills. Alternatively such counselling could be an optional matter, available to all bankrupts. Failure to take it up might then feature in any later proceedings that were considering the bankrupt’s subsequent conduct. 7.21 There would be likely to be a wide range of potential providers of such financial counselling. However an obvious one would be the Small Business Service who would, in any event, be looking to develop an ongoing relationship with new businesses. Questions for consultees:
7 Cork Report Page 53, paragraph 191
[Foreword] [Responses To] [Executive Summary] [Section 1] [Section 2] [Section 3] [Section 4] [Section 5] [Section 6] [Section 7] [Section 8] [Section 9] [Annex A] [Annex B] [Glossary of Terms] |
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