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A White Paper issued by the Insolvency Service

Executive Summary

We support the proposal to distinguish between culpable and non-culpable bankrupts. For this to be done effectively, however, there needs to be a clear set of criteria for the assessment of bankrupts' conduct and adequate resources must be made available for a thorough assessment to be carried out in each and every case. These criteria need to be able to encompass individuals' behaviour in consumer as well as business bankruptcies.

The practicality of the White Paper's proposal to discharge bankrupts within twelve months, or even earlier where the Official Receiver agrees, will depend to a great extent on whether the assessment of individuals' conduct can in all cases be carried out, and proceedings heard and determined, within that time.

In deciding on the assessment criteria and the fixing of any new standard discharge period, the Government should strive to avoid giving any impression that bankruptcy is an easy option and one which is more attractive to debtors than the Individual Voluntary Arrangement (IVA) procedure.

We support the proposal to abolish Crown preference in insolvencies provided that the effect of doing this will be to improve the position of trade creditors. Our overriding concern about the proposal effectively to abolish administrative receivership lies in its possible consequences for banks' lending policies. The White Paper has, at its heart, a desire to promote entrepreneurial activity: we would not wish to see any reform which had the effect of reducing the flow of bank lending to, in particular, the SME sector.

Bankruptcy

1. The principal aim of the Government's proposed reform of bankruptcy law is to facilitate the return to business activity of individuals who have been made bankrupt, subject to the imposition of certain safeguards aimed at protecting the public interest. We are sympathetic, in principle, to a reduction in the standard period of bankruptcy. It needs to be borne in mind, however, that the stigma of bankruptcy, if it exists at all, lies in the fact that a bankruptcy order has been made against a person: it is not something which endures for only as long as the order itself lasts. If the intention is for the stigma of bankruptcy to be expunged along with the discharge of the order, changes to insolvency legislation are not in themselves sufficient: credit reference agencies need to be encouraged or obliged to remove from their files references to an individual's past bankruptcy.
   
   
2. We support the proposal to distinguish between culpable and non-culpable bankrupts, and to include within the former category those who have acted negligently and incompetently as well as dishonestly. For such differentiation to be feasible, there will need to be clear criteria for the assessment of individual bankrupts' conduct, along the lines of those which apply already to the assessment of the conduct of company directors. Not only this, but sufficient resources need to be made available for the Official Receiver to undertake adequate enquiries in every case. If the necessary resources are not made available, it is conceivable that the Official Receiver will simply accept the word of the bankrupt without further verification. This will not be acceptable.
   
   
3. Whatever the duration of the standard period of bankruptcy, it must be sufficiently long to enable proper assessments of conduct to be made and, where appropriate, for proceedings to be brought and determined. Over the years, the two-year limit on the bringing of proceedings under the Company Directors Disqualification Act 1986 has proved to be a barrier to the efficient prosecution of delinquent directors in the public interest. The new bankruptcy period must be set at a level which is administratively realistic. On the assumption that a Bankruptcy Restriction Order (BRO) will operate to extend a bankruptcy order which is still current, the standard period will need to be sufficient to encompass the assessment process, a hearing and an appeal. It is not clear from the White Paper what would happen where the standard period had expired but the BRO application process had not run its full course.
   
   
4. While it is reasonable to think in terms of reducing the stigma of bankruptcy for 'blameless' bankrupts, the Government must be careful not to move too far in the other direction and encourage the idea that filing for bankruptcy is a pain-free option for those with debts which they cannot immediately pay. A short period of bankruptcy, and the chance to start afresh on its conclusion, will seem an attractive prospect for many consumers, and possibly even students, who have accumulated substantial debts. Much of the White Paper appears to have been drafted on the assumption that the typical bankrupt will always be a business person, yet the Paper cites the statistic that 53% of bankruptcies in 2000 were consumer-related.
   
   
5. The criteria which are finally adopted for determining the circumstances in which BROs may be made must be such as to discourage recourse to bankruptcy as a means of escape from debt. We stress that the IVA is now a well-established and, in our view, successful means of preserving financially-troubled businesses. If bankruptcy restrictions are too lenient, and discharge can be gained too easily, there will be less incentive for a business person to face up to the prospect of reconstructing his or her business. This would be to the detriment of creditors and business activity generally.
   
   
6. Many of the restrictions which are currently imposed on bankrupts are out-dated and need to be reviewed. We would not, however, support the idea of relaxing the restrictions on obtaining credit or acting as a company director.
   
   
7. The White Paper proposes that, when a bankrupt is able to make payments out of income, s/he will be required to do so for up to three years, regardless of whether s/he has been discharged. It is not clear what sanction would apply in the event of default.
   
   

   Corporate Insolvency

   Crown preference
   
   
8. We support the proposal to abolish Crown preference on the ground that it could have the effect of increasing trade creditors' confidence in insolvency procedures. The White Paper suggests that the benefit of the abolition of Crown preference would go to unsecured creditors via a mechanism which ring-fenced a proportion of the funds generated from floating charge assets. The White Paper does not, however, suggest what proportion of such funds might be ring-fenced in this way. It will be difficult to devise a system which secured creditors will consider to be fair to them while at the same time providing a worthwhile return to unsecured creditors.
   
   
9. The White Paper proposes that the preferential status of employee claims would be exempt from the proposed abolition. We suggest that the opportunity presented by the current reform should be taken to upgrade the statutory limits for preferential claims, which have remained unchanged since 1986.
   
   Administrative receivership
   
   
10. If administrative receivership is effectively to be abolished, it must be on condition that alternative procedures, in particular administration, are made fair and attractive to secured creditors. Since its inception, the administration procedure has been used less frequently than other procedures. In part, this has occurred because secured creditors have been able to veto administration applications and in part because the demands for information from the courts have made the procedure cumbersome and expensive. We would agree that promoting the administration procedure as the preferred method of saving businesses is a move in the right direction provided it can be made to work effectively in practice and obstacles to its efficient operation are quickly removed. We do not, in fact, accept the White Paper's proposition that the administration procedure - which is expensive and requires the involvement of the court - is, at present, an easier option for secured creditors than is receivership. Receivership can also, in our view, be beneficial in that it enables receivers to sell those parts of a business which are profitable, thus saving jobs.
    
    
11. One major disadvantage of the administration procedure is that it does not allow for any funds to be distributed to creditors. The proposal in the White Paper is that the administrator should be able to petition the court for the company to be wound up and for his appointment as liquidator. This is already the position under present legislation. We consider it would be better to give an administrator power to distribute available funds to creditors.
    
    
12. The overriding concern that we have about the proposal regarding administrative receivership relates to its likely repercussions for banks' lending policies. These ramifications might have the effect, in particular, of reducing the provision of finance to small businesses. If such an outcome were to materialise, it would clearly run counter to the entrepreneurial culture that the White Paper is expressly trying to promote. When it makes its final decision on the future of receivership, the Government must take the possible consequences for the provision of finance into account.
    
    

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