On 1 October 2015, there will be a dramatic change in the landscape for bankruptcy, as the level for which a creditor’s Bankruptcy Petition may be presented to the Court rises from £750 to £5,000.
We consider the government’s reasoning for the impending increase in the threshold of bankruptcy, the market reaction and the anticipated effect and impact on creditors.
When Henry VIII granted Royal assent to the Statute of Bankrupts in 1543, its lengthy Preamble declared that:
"Where divers and sundry persons craftily obtaining into their hands great substance of other men’s goods do suddenly flee to parts unknown or keep their houses, not minding to pay or restore to any their creditors their debts and duties, but at their own will and pleasure consume the substance obtained by credit of other men, for their own pleasure and delicate living, against all reason, equity and good conscience … the Lord Chancellor … shall have power and authority by virtue of this Act to take … imprisonment of their bodies or otherwise, as also with their [real and personal property however held] and to make sale of said [property] for true satisfaction and payment of the said creditors, that is to say; to every of the said creditors a portion, rate and rate like, according to the quantity of their debt.”
Insolvency law has come a long way since and (with much less censure) the Insolvency Act 1986 sought to “consolidate the enactments relating to the insolvency and bankruptcy of individuals”, prescribing that a Petition for a Bankruptcy Order may be presented to the court in respect of a debt (or debts) if the amount of the debt (or aggregate thereof) is equal to or exceeds the ‘bankruptcy level’, that being £750. In addition, the debt must be:
- for a liquidated sum (that is to say, for an ascertainable sum not subject to dispute).
- one that the debtor appears either unable to pay or to have no reasonable prospect of being able to pay.
- not subject to an outstanding application to set aside a Statutory Demand in respect of the debt.
On 1 October 2015, the fundamental threshold for bankruptcy changes for the first time in almost 30 years. The government’s reasoning is that the level has remained unchanged since 1986 and “This has given creditors, due to the effect of inflation, an enforcement option over low level debt, which Parliament had not originally intended them to have.” The increase, however, isn’t tied to the total rate of inflation since 1986 – a not insignificant 164.62% - but, rather, a 566.66% increase from £750 to £5,000!
Business Minister Jo Swinson states that: “Bankruptcy has serious consequences and there is a strong argument that bankrupting someone for a debt of £750 is no longer fair or reasonable, especially when there are often alternative cheaper ways for those owed money to seek repayment.”
Many, undoubtedly, disagree with the current threshold. From a purely commercial perspective, a creditor would be ill-advised to pursue this as a strategy for recovery of a debt on the threshold. This is because:
- To issue a Bankruptcy Petition a creditor is first required to serve a Statutory Demand on their debtor, which may incur costs in respect of drafting and/or service.
- If the debt is not paid after 21 days the petitioning creditor will then incur a Court Fee of £280 and must lodge a £750 deposit as security for payment of the Official Receiver’s fees.
- Disregarding the costs of instructing a legal representative to draft the necessary documentation and/or attend Hearing, a creditor will nevertheless incur disbursements in excess of £1,200, which could be ‘tied up’ for some time, even if the Petition results in payment.
Also, there are certainly cheaper ways to recover a debt of £750, with a variety of methods of enforcement that may be employed to seek repayment of a Judgment debt at this level. A creditor might, for example, consider the following options:
- An Attachment of Earnings Order, to make deductions from a Judgment debtor’s salary.
- A Third Party Debt Order, to freeze money in a Judgment debtor’s bank or building society account.
- Taking Control of Goods, by Warrant or Writ of Control, which will allow a County Court Bailiff or High Court Enforcement Officer to attend a Judgment debtor’s property to collect the money or sell goods to pay the debt.
Alternatively, a creditor might seek to secure their Judgment debt against a debtor’s property by way of Charging Order. However, to actually release funds in satisfaction of the Judgment from the equity within the property (if any) a creditor may wait years for sale or re-mortgage. Alternatively they could incur the not insignificant fees and costs of making an application for an Order for Sale, where the outcome will be much less certain given the wide-ranging discretion a Judge will have at the hearing. Indeed, from experience, the courts can be hostile to what it regards as a ‘draconian’ method of enforcement, particularly where an unsecured debt is converted to a security.
Although many disagree with the current threshold, few (outside debtor charities) agree with the increase to the height of £5,000. The Association of Business Recovery Professionals (R3), which represents approximately 97% of the United Kingdom’s Insolvency Practitioners (IPs), took the view that the creditor’s Bankruptcy Petition threshold should be raised to £3,000 – this is a level equivalent to that in Scotland and would have excluded a not insignificant 8% of Petitions for 2013-2014 debts. R3’s reasoning was that: “This level would both cover the creditor’s petition costs [estimated at £3,000 in total] and ensure an element of legislative ‘future proofing’ against inflation”, where insolvency legislation has lagged behind inflation.
The much greater than anticipated increase would exclude almost 18% of Petitions issued in 2013-2014, let alone the unreportable number of Statutory Demands that will have been issued in this period. This will undoubtedly impact upon a wide variety of creditors, who will miss this option. These include:
- Creditors who deal with consumers (albeit the Financial Conduct Authority’s guidance already stipulates that: “A firm should not make undue, excessive or otherwise unfair use of statutory demands”).
- Creditors who deal with tradespeople, including sole traders firms/partnerships and/or landlords, where the debt never increases beyond the new threshold and who steadfastly refuse to pay.
- Bodies who are obliged to provide a service even without payment, such as local authorities and utilities providers of last resort, where the level of debt is not likely to exceed the new threshold for many years.
The anticipated effect of the rising bankruptcy level will, as a result, be equally wide ranging. We expect that the following will be the likely effects:
- Commercial creditors must start to revise their Credit Procedures and assess the impact on their credit risk management. Currently around half of all creditor petition bankruptcies are self-employed individuals.
- There will be an increase in the number of claims being issued between £500 - £5,000. Whilst there has been a general trend in decreasing levels of creditor petition bankruptcies since 2010, Bankruptcy Orders by creditor’s petitions still number c.5,300 per annum. These National Statistics don’t account of the number of Petitions without Order, or Statutory Demands behind them.
- There will be a need for those local authorities and utilities providers affected by the increase to consider alternative strategies for recovery.
Of particular concern to all – given that the creditor’s Winding Up Petition threshold is not set to rise commensurately – is that the ‘professional debtor’ in the course of business may be encouraged to remain a sole trader (or revert from conducting business as a limited company) in order to avoid the potential for insolvency. Credit vetting policies will need to reflect this and potentially constrict credit more generally.
In addition, with an increased focus on enforcement on this level of debts now, it will be important to take a ‘strategic enforcement’ approach.
If you have any questions about this article, or would like to find out more about how the Debt Recovery team could help you please contact one of our specialists below.This information is intended as a general discussion surrounding the topics covered and is for guidance purposes only. It does not constitute legal advice and should not be regarded as a substitute for taking legal advice. DWF is not responsible for any activity undertaken based on this information.