Week 10 Personal Insolvency and bankruptcy Exam Questions with Complete Solutions.

Week 10 : Personal Insolvency and bankruptcy Exam Questions with Complete Solutions Scope of the topic ? - Correct Answers: 1. This module will cover the nature and effect of the principal collective insolvency regimes applicable to entities other than companies. For convenience, I shall refer to this as "personal" insolvency (although the legal procedures described apply to other entities such as trusts and partnerships). This module will explain: · The rationale of collective insolvency regimes, · the key concepts and terminology applicable to many insolvency regimes (such as apparent insolvency, and absolute insolvency, the different kinds of debts) as well as the terminology specific to personal insolvency (bankruptcy and sequestration), · debtor-driven schemes or sequestrations, including trust deeds and protected trust deeds, · the legal effects of the grant of sequestration (eg divestment of the whole estate or patrimony of the debtor and the vesting of that estate in the trustee in sequestration), · the course of a sequestration (how it starts, the submission and adjudication of creditors' claims) · incidental steps a trustee might take to challenge certain transactions (gratuitous alienations or unfair preferences), and · how a sequestration ends for the debtor and for the trustee (involving discrete discharges of each). Suggested readings ? - Correct Answers: Texts 1. The basic texts comprising the essential reading are: · Davidson, Garrity, Macgregor, MacPherson and Richardson, Commercial Law in Scotland, 6th Edn. (2020) Ch.10. · Black (Ed.), Commercial Law in Scotland, 4th Edn. (2019) paras. 2. For the keen, the subject is dealt with in greater depth in: · Donna W. McKenzie Skene, Bankruptcy, (2017), Ch1, Ch6, Ch15 Statutory materials - Correct Answers: 1. The Bankruptcy (Scotland) Act 2016 ("the Act"): is the key statute, which consolidated the last major bankruptcy act (the much-amended Bankruptcy (Scotland) Act 1985) as well as subsequent acts of the Scottish Parliament dealing with debt recovery, diligence and related matters. 2. The absolutely essential sections are: · S 2 Sequestration of estate of living debtor, · S 16 Meaning of 'apparent insolvency', · S 50 Functions of a trustee, · S 78 Vesting of estate at the date of sequestration, · S 88 Limitation on vesting, · S 98 Gratuitous alienations, · S 99 Unfair preferences, · S 100 Recall of order for payment of capital sum on divorce or on dissolution of a civil partnership, · S 101 Recovery of excessive pension contributions, · Other sources of information? - Correct Answers: 1. The website of the Accountant in Bankruptcy ("the AiB") give below, is an excellent source of information, in simple language, about the several types of personal insolvency regimes (sequestration, trust deeds, small asset procedures, debt arrangement schemes) and the operation of the moratorium as well as about Money Advice, the common financial tool and the role of trustees and insolvency practitioners: 2. The list of guidance and publications available via that website may be found at: 3. W A Wilson, The Scottish Law of Debt, (W Green/ Sweet & Maxwell, 2nd ed, 1991). Ch 1 has a good discussion of the nature and types of debts Introduction: The rationale for collective insolvency regimes what are the definitions of Debtors and creditors? - Correct Answers: - In every credit relationship, there's a debtor and a creditor: The debtor is the borrower and the creditor is the lender. how does the concept of insolvency relate to the concepts of creditor and debtor ? - Correct Answers: The relationship of debtor and creditor. Debtors who are unable to pay their creditors In its most general sense, the law of insolvency is concerned with the circumstance where the debtor is unable to pay its creditor. Consider for a moment what this means in practice: (1) From the perspective of the unpaid creditor: · What are the rights and remedies of the creditor? · How does a creditor get repaid? · Can a creditor obtain control over the debtor's assets in order to realise them to repay the debt owed to it (in whole or at part)? · What can a creditor do if it believes its debtor has -hidden assets, or -has transferred them for free or at an undervalue ("a gratuitous alienation") to a third party (or to a close relative), or -paid one creditor in full but left other creditors with similar debts unpaid ("unfair preferences")? (1) From the perspective of the debtor unable to pay its creditors: · What are the obligations of the debtor? · Can a debtor prefer one creditor over another (ie pay one creditor in full and leave another creditor's det wholly unpaid)? · Can the debtor ever obtain a release from these obligations (commonly called a "discharge")? · If so, when and how, and from whom does a debtor secure a discharge; and whom does a discharge bind? · If a debtor is unable to obtain a discharge, is the debtor faced with a lifetime of being at risk that, as soon as the debtor acquires some new assets or generates new income, the unpaid creditor can continue to pursue the debtor for payment of these debts (ie with a view to using the debtor's new assets)? what happens if there is more than one creditor ? - Correct Answers: The circumstances become more complicated if the debtor has more than one creditor. Steps taken by one creditor to enforce its debt, may prompt the debtor's other creditors to do so. what is diligence ? - Correct Answers: Multiple diligences against the debtor's assets. (Diligence is a legal procedure that enables a creditor to acquire a judicial security, usually a real right in security, against an asset of the debtor and which, if effective, can give the creditor first call on that asset to satisfy (in whole or in part) the debt owed to it.) · Are there any limits to the use of diligence? How many times may it be used, and against what assets? · What about the necessary staples of life: beds, pots and pans, mobile phones? · If the debtor has a family, can shared family assets (sofas, fridges, kitchen tables) be subject to diligence at the instance of the creditors? · What about the availability of assets that the debtor acquires after it has become insolvent ("acquireneda")- can its creditors resort to these assets to satisfy their claims? · If the rule is 'prior in time, stronger in right', Why should the slower or more tolerant creditor lose out to the creditor who is quickest to chase the debtor's assets? what is a real right in security ? - Correct Answers: - A right in security allows the holder to sell a thing if a debt is not paid, such as in Mortgage or Pawn. "acquireneda" definition ? - Correct Answers: ? - the availability of assets that the debtor acquires after it has become insolvent The rationale of a collective insolvency regime: - This stops the race of the creditors , like in property law with registration. In summary, the purpose of a collective insolvency regime, such as sequestration for individuals and liquidations for companies, is to ? - Correct Answers: · to enable an independent third party (a trustee in sequestration for an individual or a liquidator for a company) · to take control (and, in the case of a trustee in sequestration, ownership) of the assets of the debtor, · in order that they may be realised; and the proceeds distributed among the debtor's creditors according to their claims, once accepted and ranked by the trustee or liquidator. what are debts ? - Correct Answers: Debts are "mere rights to demand payment of money at a stipulated time." - Bell, Comm., II, 15 : foundational text for commercial law what are the Types of debts or liabilities? - Correct Answers: Prestable, future and contingent liabilities Having regard to the "stipulated time" when debts are payable, debts may be classified as follows:- - Correct Answers: (1) Presently due: Some debts are due immediately or payable on demand (these are often referred to as "prestable" or "current liabilities", and formerly as a "pure" debt); (2) Future: Future debts are debts for which the debtor is definitely liable, but the stipulated time for payment is in the future. A 25 year mortgage, payable monthly, is the classic example of a future debt; (3) Contingent: Some debts are contingent, in the sense that the liability depends on the occurrence of an uncertain event. The event may never occur and therefore the liability may never materialise. The classic example if an insurer's contingent liability to insure you against the risk of fire to your flat. This is only a contingent liability. If your flat is not damaged by fire during the period of cover, the contingency never occurred and there is no actual liability. What is contingent liability ? - Correct Answers: contingent liability is a liability or a potential loss that may occur in the future depending on the outcome of a specific event. Potential lawsuits, product warranties, and pending investigation are some examples of contingent liability. An example illustrating the importance of distinguishing between present and future debts. - Correct Answers: D wishes to buy a house (worth £1000) and borrows £1100 to purchase it (and to cover the costs of acquisition, moving and redecorating). D borrows this money from C, who agrees to lend this to D, to be repaid (with interest, totalling £400) over 10 years. The total amount of capital and interest payable by D over the 10-year life of the mortgage is £1500. Each annual payment is £150. If D had no other assets, it has a house worth £1000 but total liabilities of £1500. D is not absolutely insolvent. This is because D's current indebtedness - the indebtedness due within 12 months) - is £150. Under the loan contract, C is only entitled to payment of £150 in each year. Unless D breaches the terms of the mortgage, so as to entitle C to accelerate payment and demand the whole amount, D does not have current liabilities (ie owed within 12 months) that exceed his assets (the house worth £1000). However, if D defaulted and C called up the whole amount, then D would be absolutely insolvent. what are Liquid and illiquid debts? - Correct Answers: Debts can also be liquid or illiquid. · A liquid debt is where the amount is known or readily ascertainable - the amount on your overdraft on your bank account or an IOU. · IOU: informal letter saying that you owe someone an amount of money with the date so the other person can be paid back. · An illiquid debt simply means that some further process is required to ascertain the precise amount of the liability. A claim for personal injury is illiquid, until the court determines the extent of the injured person's loss and damage. The sum specified in the decree is how the illiquid claim is transformed into a liquid debt. What is insolvency ? - Correct Answers: In its most general sense, the law of insolvency is concerned with the circumstance where the debtor is unable to pay its creditor. The meaning(s) of insolvency "Insolvency" is the general term where a debtor (of any kind) is unable to pay its creditor. - Inability to pay and not a refusal to pay (Note that an inability to pay is different from the situation where a debtor is able to pay, but refuses or is unwilling to pay, eg because of a contractual dispute.) An individual who is insolvent is described as being "bankrupt" (although, surprisingly, this is not a term of art). The legal process by which an individual is made bankrupt is called "sequestration" and an individual subjected to that process is "sequestrated". Note: on sequestration is no longer an exclusively a court process. · only sequestrations initiated by a petitioning creditor, result in a court-controlled sequestration. · all debtor applications for sequestration initiate administrative (as opposed to court) procedures. what is gratuitous alienation ? - Correct Answers: As far as a property is concerned, gratuitous alienation is where the company or the individual has given away the property for nil consideration or for an amount which is under market value. The intention of the transfer is irrelevant, it is the effect which is important. ("unfair preferences")? What does this mean ? - Correct Answers: - paid one creditor in full but left other creditors with similar debts unpaid what are the Different types of insolvency? - Correct Answers: Insolvency can take several forms, absolute insolvency and practical insolvency. Absolute insolvency A debtor is absolutely insolvent if its liabilities exceed its assets. Also referred to as balance sheet insolvency. Practical insolvency and apparent insolvency If a debtor is "unable to pay its debts as they fall due", then the debtor may be said to be "practically insolvent". The modern legal term for this is the state of apparent insolvency. (The former term was to describe an individual as a "notour [ie notoriously] bankrupt") Section 16 of the B(S)A 2016. This definition is important because it operates as a threshold requirement to the award of sequestration. what are Some principles applicable in collective insolvency regimes? - Correct Answers: 1, Respect for pre-litigation rights Especially for creditors' secured rights. 2, The equal treatment of creditors in the same class ("pari passu" ranking) 3, An unsecured creditor who is owed £100 will receive twice that of a creditor in the same class who is owed £50. 4, The ant-deprivation rule: Parties cannot contract out of collective insolvency regimes Creditor-led sequestrations: what is sequestration? - Correct Answers: Sequestration is the formal legal process by which an individual debtor is subjected to a collective insolvency regime for the benefit of its creditors, and which (generally) ends with the debtor's discharge. Creditor-led sequestration: what is The purpose of a collective insolvency regime? - Correct Answers: · to take control and ownership of the debtor's estate (with certain exceptions) · in order that it is placed into the hands of an independent person (the trustee in sequestration) · for realisation and distribution of the proceeds to the debtor's creditors in accordance with their claims, once accepted and ranked by the trustee. The principal threshold requirement to be satisfied: apparent insolvency definition ? and legislation ? - Correct Answers: Apparent insolvency" within the meaning of section 16 of the 2016 Act The change in legal status from a solvent person to being a sequestrated one is a significant change, with radical consequences. In Scotland, the concept of "apparent insolvency" is generally a necessary threshold requirement that must first be established (the single exception is the use of a certificate for sequestration used in a debtor application for sequestration under s 2(8), read with s 2(9)). The term "apparent insolvency" (first introduced in the B(S)A 1985) replaced the older term of "notour bankruptcy". In practice, if the definition of apparent insolvency is met, a person may be subject to sequestration. However, a sequestration may not necessarily follow, and one may repeatedly become apparently insolvent. Modern definition of apparent insolvency is now found in 16 of the 2016 Act. Some principles Collective insolvency regime there is a respect for pre-sequestration rights Respects the personal rights, only so valuable as the asset pool but not non-existent Un-secured creditors, (reliant on personal rights) treated like any other unsecured creditors in the same class, given the same % from the estate 2016 act confusing wording 'sequestration' - court controlled creditor led in this context Abusive process without thresholds - threshold concept is refered to as apparent insolvency The principal grounds provided for in section 16 (which you must read and understand) constituting apparently insolvent are (the following is a simplifying the provision, and is not its exact text): - Correct Answers: 1. That a debtor's estate is sequestrated (or has been subject the equivalent processes in England and Wales) (subsections (1)(a) and (b)); 2. That the debtor gives notice that it has ceased to pay its debts in the ordinary course of business (subject to subsection (2)) (subsection (1)(c)); 3. The debtor grants a trust deed (subsection (1)(e))- but which has not become a protected trust deed; 4. The days of charge (served on the debtor) expire without payment (subject to subsection (2)) (subsection (1)(f)); 5. A decree of adjudication is granted either for payment or security (subject to subsection (2)) (subsection 1(g)); 6. A debt constituted by decree or a document of debt and payable under a debt payment programme is revoked ((subject to subsection (2)) subsection (1)(h)); 7. The final ground of sequestration is that a creditor of a liquid debt amounting to £1,500 may serve a demand in a prescribed form and the debtor neither complies with the demand nor disputes the debt within three weeks (in subsection (1)(i) read together with subsection (3)). · There are lots of criteria to be met, but you may find it helpful to bear in mind the test for practical insolvency - of being unable to pay its debts as they fall due- which is the circumstance underpinning most of the grounds under section 16 just discussed. If one of these occurs sequestration is possible Decree granted against somebody (Stair phrase) decrees are like bees without stings unless they have diligence - Enforces decree in absence of compliance Serve a formal demand ('charge') if they expire without payment, renders the debtor insolvent Highlighting is important - commonality is inability to the creditor to pay the debts of the debtor Comment on the grounds constituting apparent insolvency in section 16? - Correct Answers: There is a degree of circularity in (1): a debtor whose estate has been sequestrated may be sequestrated. It is implicit that the sequestration means a sequestration following a debtor's application. · The grant of a trust deed is, as explained, a less formal non-court procedure for a debtor to try to achieve by agreement (by the creditors acceding to the trust deed) to accept the debtor's assets conveyed by the trust deed in exchange for being relieved of those debts. · A charge is a procedure by which a creditor makes a formal demand, with draconian consequences. The procedure requires proof of a debt due. · Adjudication is a form of diligence. The exceptions in s 16(2)? - Correct Answers: Five of these grounds capable of constituting apparent insolvency are subject to the exceptions in subsection (2). Section 16(2) is as follows: "(2) The circumstances are— (a) that at the time of the occurrence, the debtor was able and willing to pay the debtor's debts as they became due, or (b) that, but for the debtor's property being affected by a restraint order or being subject to a confiscation order or charging order, the debtor would at that time have been able to pay those debts as they became due." Please note: · The effect of subsection 16(2)(a) is to enable a debtor who is able and willing to pay its debts as they fall due to stave off sequestration. · The purpose of subsection 16 (2)(b) is to preclude a debtor who is subject to the orders narrated -which, in broad terms- are imposed by the court under criminal statutes - are not defeated by a debtor engineering its own sequestration. Who may be sequestrated? - Correct Answers: The types of legal persons who may be subject to sequestration: (1) Living individuals, (2) Deceased individuals (assuming their executor can demonstrate that the deceased's estate is insolvent);(uncommon) (3) Partnerships and limited partnerships (including dissolved ones) (but not limited liability partnerships, which fall under the companies acts and are subject to corporate insolvency regimes), (4) Trusts, and (5) Bodies corporate or unincorporated body, such as clubs or trade unions, so long as not a company registered under the Companies Acts. (Use of "individual" as shorthand - but remember that other legal persons may also be sequestrated). The course of a court sequestration: The commencement of a court sequestration Creditor Applications by petition to the sheriff court - Correct Answers: The paradigmatic form of sequestration is that made by a creditor to the court applying for the sequestration of its debtor. (Do note that applications may also be by trustees under trust deeds, if the debtor is not co-operating and if the trustee feels it is in the best interests of creditors for there to be a s 2(1)(b)(iv) and 2(7).) what is the "qualifying creditor"? - Correct Answers: An unpaid creditor may not seek the sequestration of its debtor, unless it is a qualifying creditor, meaning that certain threshold and procedural requirements of the 2016 Act are met. The threshold criteria are as follows:- (1) A creditor is a qualified creditor (meaning it is owed at least £3,000 in respect of "relevant debts"): s 7(1). A group of creditors may also be "qualified creditors" if, in aggregate, the relevant debts are at least £3,000. What is a "relevant debt"? and where is it found in legislation ? - Correct Answers: Given the draconian effect of a sequestration, particularly an involuntary one commenced by a creditor, it is important that only certain debts are counted. Remember the mortgage example and the earlier explanation of the different kinds of debts! (Which will help you better to understand the definition of "relevant debts" and the rationale behind that definition. ) "Relevant debts" are defined (in s7(2)) as follows- "means liquid or illiquid debts (other than contingent or future debts or amounts payable under a confiscation order) whether secured or unsecured" In practice this means debts presently due (or overdue) by the debtor to the creditor. what are the kinds of debts are excluded from this calculation? - Correct Answers: 1, Future debts 2, Contingent debts, and (learn dfference, covered in previous) 3,Amounts due under confiscation orders.(security against criminal proceedings, unbale to identify where this money comes from etc)(unlawful benefitted/profitted from illegal acts)(anti-avoidance of not paying this money) - Please note that there is further provision for the treatment of contingent and future debts in Schedule 2 of the Act. what is the criteria for grant of a court-controlled sequestration? - Correct Answers: The principal substantive criteria to be satisfied in order to obtain a court-controlled award of sequestration include the following (excluding procedural or jurisdictional criteria): · The application is made by a qualifying creditor; · The debtor is apparently insolvent within the meaning of s16 of the 2016 Act (which can be established in a variety of ways); and · The creditor has provided the debtor with a debt advice and information pack (under section 10(5) of the Debt Arrangement and Attachment (Scotland) Act 2002 ("the 2002 Act"), not less than 14 days and not more than 12 weeks before the presentation of the petition. what can be said about The date of sequestration? - Correct Answers: - Given its dramatic effects, it is important to know the date of sequestration (found in s 22(7)). - This differs depending on the form of sequestration. 1,Debtor applications 2, Creditor (and other) petitions to the court: what is Debtor applications? - Correct Answers: · In debtor applications (described above) it is from the date of the award of the sequestration by the AiB (which is an essentially administrative step); Creditor (and other) petitions to the court: - Correct Answers: · You will appreciate that most court applications require prior notice to the person to whom it applies, and so time will pass between the first presentation of the petition and the ultimate award of sequestration. If sequestration is awarded, it is back-dated to the date of the presentation of the petition (the formal style of application to the court). what is The effect of a sequestration? (4) - Correct Answers: The principal legal effects are as follows:- (1) the divestment of the debtor, (2) the vesting of the debtor's estate in the trustee, (3) the equalisation of diligence, and (4) the disqualification of the debtor from certain positions.(e.g. solicitor) (1) the divestment of the debtor, (2) the vesting of the debtor's estate in the trustee, in more detail ? - Correct Answers: The divestment of the debtor and vesting in the trustee in sequestration One of the most significant effects of the award of sequestration is the divestment of the debtor of his whole estate or patrimony(with certain exceptions) and the vesting of that in the trustee in sequestration. It is a judicial conveyance of (most of) the debtor's estate in favour of the trustee. · The trustee in sequestration holds the debtor's property in trust to be applied for the trust purposes. (The trust purposes are to realise the debtor's estate and to pay his creditors.) · (Most of) the debtor's patrimony or estate vests in the trustee. The rules of vesting, which is unduly technical, are found in Part 5 of the 2016 Act. · The mode of transfer reflects the nature of the asset transferred: so, there is a · For physical goods, there is a deemed delivery, · For incorporeal real rights, there is a deemed assignation (see s 78(8) of the 2016 Act), but · For heritable property - it is a little bit more complicated, because acquisition of a real right (also termed "infeftment" in respect of heritable property) is only acquired on registration of title (see s 78(3),(6) and (7) of the 2016 Act). The effect of sequestration is to put the trustee in the like position as if it were the disponee with a delivered disposition. The disponee does not acquire a real right in heritable property (meaning a right good against the world) until the disposition is (or its details are) registered in one of the property registers. The problem of the unregistered disposition explained affect of sequestration ? - Correct Answers: The effect of a delay between receiving a disposition of heritable property and recording it can bear harshly, at least if the disponer is sequestrated after delivery of the disposition but before the disponee records it. See Burnett's Trustee v Grainger 2004 SC (HL) 19. The outcome of that case was reversed by legislation, the current form of which is now found in section 78 of the 2016 Act. There are further detailed provisions about a trustee's dealings in respect of a debtor's family home: ss 112 to 115. Burnett's Trustee v Grainger 2004 SC (HL) 19. - Correct Answers: topic : Property law - Land registration - Mistake Facts: Grainger purchased the title to a flat for £45,000 from Burnett (B). Once this was agreed, Grainger failed to register the disposition of title to the flat. B was subsequently sequestrated and B's trustee who knew about the sale of flat to Grainger, recorded a notice of title to the premises before Grainger could do so. Grainger argued that the trustee had been enriched unjustly and that it had not been the intention of the Bankruptcy (Scotland) Act 1985, for this to be the case. B's trustee argued that he was not bound by any previous personal obligations of B, and that the transfer of the title of the property had not been completed. Grainger appealed an initial decision that held that the property had vested into B's trustee. Issue: The key issue, in this case, was whether the court was to prefer a trustee in sequestration, to a prospective purchaser of a property. It was clear that Grainger had not registered the benefit gained from purchasing the property, and therefore it was for the court to answer whether this allowed B's trustee the opportunity to register such interest. Decision/Outcome: The appeal from Grainger was dismissed. The court held that the Act clearly defined the requirements to register title. Moreover, the estate of B and those possessions had been vested in the trustee, who had not intended to become the trustee of the premises for Grainger's benefit. Ultimately, Grainger had not registered the interest gained from purchasing the flat, and therefore the trustee was entitled to take advantage of the mistake of not doing so. Debtor's claim for personal injury , effect of sequestration ? - Correct Answers: A debtor's claim for personal injury is part of its patrimony and any award of damages received during the currency of the sequestration will vest in the trustee. The single exception for any sum recovered in respect of solatium does not vest and may be retained by the (injured) debtor. (These matters were all clarified by caselaw, discussed in the texts, and which is now uncontroversial.) There is also a statutory exception for payment of criminal injuries compensation (s 72) of the Criminal Injuries Compensation Act 1995). Other exceptions to vesting of the debtor's property - Correct Answers: There are now many exceptions to vesting, which generally include the essentials of life, tools and vehicles used for the purposes of the debtor's trade or business and goods within the family dwellinghouse. Property held by debtor in trust - Correct Answers: Property that a debtor holds as trustee for another (remember that the trust property is vested in the trustees) is one of the exceptions, established in the old House of Lords case of Heritable Reversionary Co Ltd v Millar's Trustee (1892) 19 R (HL) 43. Property held in trust by a debtor for another is not part of the debtor's personal patrimony for the purposes of sequestration. (essential to life/tools of trade exception applies) Heritable Reversionary Co Ltd v Millar's Trustee (1892) 19 R (HL) 43. - Correct Answers: Where the bankrupt had been the trustee of property, the bare legal title to that property did not form part of 'the whole property of the debtor' and so did not vest in the permanent trustee in bankruptcy under the section. 'My Lords, if this House were compelled to uphold the decision under appeal, I rather think I should be inclined to doubt whether the law of bankruptcy in Scotland was in a condition altogether satisfactory.' Confusion must be avoided between the position where 'the owner appearing on the register is a bare trustee' and that where the owner has simply 'come under some contractual obligation'. Lord Watson: 'As between [the debtor and the other person] there can, in my opinion, be no doubt that according to the law of Scotland the one, though possessed of the legal title, and being the apparent owner, is in reality a bare trustee' Real rights in security over property that vests in a trustee survive vesting Finally, please note that the vesting in the trustee does not affect, or it is without prejudice to: - Correct Answers: · The rights a secured creditors, or · The landlord's hypothec. These exceptions illustrate the power and benefit of a real right in security (which is good against the world). These exceptions also illustrate one of the general principles of insolvency law I discussed earlier, namely, that certain pre-sequestration rights are respected. This is also encapsulated in the saying that the principle of vesting is tantum et tale. Turning to the third effect of sequestration - Correct Answers: (1) the divestment of the debtor, (2) the vesting of the debtor's estate in the trustee, (3) the equalisation of diligence, and (4) the disqualification of the debtor from certain positions. Equalisation of diligence within certain time periods relative to the award of sequestration The third effect of an award of sequestration is the equalisation of diligence. - Correct Answers: Diligence is, in effect, a judicial right in security in favour of the creditor who obtains it and in respect of the property to which it relates. Recall that one of the core principles of insolvency law is the equal treatment of creditors in the same class. · The equalisation of diligence can be seen as promoting that principle, as well as reinforcing the broader policy considerations supporting the very rationale of a collective insolvency regime. Ddiligence done within a specified period of the date of sequestration (generally 60 days or during the currency of the sequestration) are equalised. The fourth consequences of sequestration on the debtor - Correct Answers: Upon sequestration, the debtor is precluded from occupying certain positions or practising certain professions (being en enrolled solicitor is one of them!). Administrative steps between the award of sequestration and the adjudication of creditors' claims Creation of a trust? - Correct Answers: The award of sequestration results in a conveyance of the bankrupt debtor's estate to its trustee, bringing into existence a trust whose purpose is to realise the estate and, ultimately, to rank and pay the creditors' claims. Duties of the trustee - Correct Answers: The trustee is subject to the usual rules of conduct applicable to trustees generally: · against self-dealing or conflicts of interest, · the obligation to act in the interests of the beneficiaries, · to be accountable to for its acts and intromissions (of which a record must be kept). The 2016 Act confers powers on the trustee in sequestration to fulfil those trust purposes. The administrative steps Certain administrative steps must occur. The following is a non- exhaustive list of the key steps: In relation to the debtor's estate? - Correct Answers: · The trustee takes possession of or ingathers the estate. This includes powers to manage the estate meantime and to realise it. The specific powers of this kind are set out in s 109(5). The general functions of the trustee are summarised in s 50(1); · Note there is specific provision for any dealing with heritable property over which there is security (see s 109(7)), which is designed to minimise conflict between trustees and standard securities (and which under the 1985 Act was productive of conflict and case law); · The trustee can adopt or refuse to adopt a contract which, in effect, means the trustee is accepting that the personal right will be honoured or not. If the latter, the counterparty in that contract is generally an ordinary creditor who must rely on a personal right; · The trustee has powers to examine a debtor, either privately or publicly (eg before the local sheriff), and the debtor is obliged to cooperate with such an examination; · The trustee may make interim payments of dividends to creditors. · The payment of the final dividend is a prelude to the conclusion of the sequestration and the trustee's discharge. Vis-à-vis creditors? - Correct Answers: · In early course the trustee also calls a meeting (known as the statutory meeting) of the creditors. One of the purposes of the statutory meeting is for the election of up to five creditors to act as commissioners. The function of the committee of commissioners is to represent the interests of the creditors as a body and to give directions to the trustee, as appropriate. · Creditors will be asked to submit claims for two purposes which are ? - Correct Answers: The first, at an early stage, is to do so with a view to determining their respective voting rights. (Some matters might be determined by the proportion of the creditor's claim rather than their simple number.). -At a later stage, as the estate is ingathered and realised, the trustee invites creditors to submit their claims in order to determine the dividend payable to each creditor. A creditor can only obtain an adjudication on its claim - meaning a formal valuation which entitles it to rank on the debtor's estate for a dividend - if it submits and vouches its claim. The details are in Part 10 of the 2016 Act, especially ss 122 to 17. There is provision for a creditor to appeal against an adverse adjudication against it or against what it might feel is an overly generous adjudication in favour of another creditor (see s 126(7)). Principles applicable to the adjudication of creditors' claims and ranking - Correct Answers: Trustee's adjudication on creditors' claims. Trustee examines the proof of debt and places a value on it. è This helps determine what proportion of the pot the creditor might be entitled to. è However, the next step is to rank those claims in order of entitlement. This turns on the nature of the debt: whether preferential, secured, postponed, unsecured or ordinary Note: the order of ranking of debts in sequestration are largely adopted and applied in corporate insolvencies. The order of priority is of distribution is in s 129 of the 2016 Act. You will need to know the terms of that section. (The several kinds of preferential debts are set out in Part 1 of Schedule 3, and which has its own interpretation section in Part 2 of the same schedule). In summary, the order of priority is: - Correct Answers: (1) The outlays and remuneration of the interim and the permanent trustee in sequestration, (2) Deathbed /funeral expenses of a deceased debtor and the costs of administering its estate; (3) A creditor's expenses in petitioning for the sequestration; (4) Ordinary preferred debts, (5) Secondary preferred debts, (6) Ordinary (ie non-preferential debts) - the claims of creditors relying on personal rights, (7) Secondary non-preferential debts, (8) Tertiary non-preferential debts, (9) Interest on the forgoing (in the same order of priority as listed) accruing between the date of sequestration and payment, and Any postponed debt. Personal insolvency regimes in Scotland: Trust deeds Voluntary trust deed for the behoof of one's creditors - Correct Answers: A voluntary conveyance (by grant of a trust deed) of some or all of the debtor's estate to a trustee The grant of a trust deed results in the creation of a trust from which the debtor's creditors will benefit. At common law: it worked if the debtor's creditors agreed or acceded to the trust deed A trust deed was, in essence, a multi-party contract with certain legal effects. Only worked as a "collective" insolvency regime if the whole or substantially the whole body of the debtor's creditors accepted (or acceded to) the trust deed. Protected trust deed status - Correct Answers: The creation of trust deeds capable of becoming a "protected trust deed". The requirements are set out in ss 164, 165, 166(2) -if applicable, and ss 167 to 170. The trust deed must also be registered under s 171(2) in the Register of Insolvencies. In brief, the threshold requirements are that: - Correct Answers: · the debtor who may apply is the same as may apply for sequestration (with the exception that deceased debtors may not apply) and the debtor's debts must be not less than £5,000 (s 162); · the debtor has obtained stipulated advice from the trustee (s 167); and · the trust deed states that the debtor's surplus income will be applied for a 48-month period (or other lesser period the trustee may determine) (s 168). The procedural requirements are: - Correct Answers: · that the trust deed is registered in the register of insolvencies (s 169); · that within 7 days of that registration, the trustee has sent all known creditors (defined as "the notified creditors") a copy of the trust deed and a statement of the debtor's affairs (s 170) ; and · the requisite number of "notified creditors" have acceded (s 170(2). But note: they will have deemed to have acceded, unless within the relevant period the trustee receives notification that a majority in number of the creditors or no fewer than 1/3 in value object to the trust deed being granted protected status. The modern statutory basis of a trust deed and a protected trust deed The grant of a trust deed was originally governed by the common law but it is now the subject of statutory provision, as follows: - Correct Answers: · Part 14 of the B(S) Act 2016 ("Voluntary Trust Deeds for Creditors"); · The definition of "trust deed" (in s 228 of the 2016 Act); · The definition of "protected trust deed" (also in s 228(1), which refers back to s 163); and · The Protected Trust Deeds (Forms) (Scotland) Regulations 2016. Note: such a trust deed also falls within the several Trust Acts, namely: the Trusts (Scotland) Acts of 1921 and 1961). Advantages and disadvantages of a protected trust deed - Correct Answers: Advantages are: · Quicker, · less expensive than a formal sequestration; · initiated by the debtor; and · less publicity. The disadvantage · only effective if it becomes a "protected trust deed" (meaning that it binds all ordinary creditors). The potential exclusion by secured creditors of the secured assets or their claims from the protected trust deed - Correct Answers: But note: there are mechanisms for a secured creditor's claim (and the asset(s) over which it is secured) to be excluded from the trust deed procedure (see s 166). Recall what I said above: one of the features of a secured creditor is the ability to operate independently of a collective insolvency regime. Legal effects of a trust deed becoming a protected trust deed Its legal effects include the following: - Correct Answers: · a non-notified creditor has no higher right than a notified creditor (in de facto terms the non-acceding or non-notified ordinary creditors are being brought within the pari passu rule I mentioned earlier); · a debtor may not apply for its own sequestration during the currency of the protected trust deed; · the grant of a trust deed cannot instruct apparent insolvency for the purposes of debtor applications: see s 2(9). · certain forms of arrestments (earnings and maintenance ones) or deductions cease to have effect (s 173); · essential supplies to a debtor's business can be safeguarded (because a contract term purporting to have a supply of such goods cease upon the grant of a trust deed is itself disapplied: s 173A); and · the debtor may be able to preclude the sale of its heritable estate (ie dwellinghouse) if certain payments are made (and if it is not excluded from the estate conveyed under the trust deed) (s 175). 1. If the trust deed mechanism is effective, then, the trustee ingathers the estate which is subject to the trust; adjudicates on the creditors' claims and pays them a dividend from the proceeds generated by the realisation of those assets. 2. I now turn to consider sequestration, the paradigmatic kind of personal collective insolvency regime. Key definitions in personal insolvency: - Correct Answers: Commonly used definitions which are not terms of art Bankruptcy or insolvency Practical insolvency Absolute insolvency Apparent insolvency (general) Terms of art or having a statutory definition Apparent insolvency (statutory definition in s 16 of the 2016 Act) Current debt Future debt Contingent debt acquirenda Moratorium Qualifying creditor (and "relevant debt" in that context) Relevant debt (note the types included & excluded) Trustee Vesting Trust deed Protected trust deed Voluntary trust deed for creditors Protected trust deed Date of sequestration (varies depending on type of insolvency procedure) Gratuitous alienation Unfair preference Dare of sequestration Petition (cf debtor application) Debtor application (cf petition) Register of insolvencies Adjudication on claims Proof of debt Dividend Final distribution Accountant in Bankruptcy ("AiB") Terms applicable to the non-court debtor-led administrative processes - Correct Answers: Minimal asset process (MAP) Debtor arrangement scheme (DAS) Common financial tool (CFT) Certificate of sequestration Definitions or concepts from other areas of law - Correct Answers: Diligence (eg arrestment, attachment, inhibition) Charge (formal demand used by creditor) Real right Personal right Real right in security Core principles of collective insolvency regimes - Correct Answers: The rationale of a collective insolvency regime Respect for certain pre-sequestration rights Equal treatment of creditors in the same class Equalisation of diligences Non contracting out to avoid effect of an insolvency (anti-deprivation principle) Legal effects of court-controlled sequestration - Correct Answers: 1) Debtor divested of (most of) its estate or patrimony, 2) Vesting of (most of) estate in trustee in sequestration · Moveable property: deemed delivery, · Incorporeal movable: deemed assignation (eg sum in a bank account), · Heritable property: as if holder of delivered disposition, · Other forms of property created or recorded in a public register: by registration (eg shares, forms of intellectual property etc) · Claims against third parties (eg arising in delict (personal injury or financial mis-selling claims) · Acquirenda (property acquired/devolved on debtor during currency of the sequestration process) But not: · Property the debtor itself holds as trustee for another, · Solatium (element of damages in case for personal injury), · Essential personal/trade goods (listed in 2016 Act), 3) Equalisation of diligence, 4) Disqualification of debtor from certain offices and professions. Outline of the course of a creditor-led court-controlled sequestration - Correct Answers: Commencement and early stages · Presentation of petition by qualifying creditor (with relevant debt) able to show apparent insolvency. Note: o As a court process, notice to debtor (and publication of petition in official gazettes) required. o Debtor may oppose. o If sequestration later awarded, it is backdated to date of the presentation of the petition. · Award of sequestration and appointment of trustee (circumstances might require appointment of interim trustee). Note: Debtor may try to recall- rarely successful. · Statutory meeting of creditors & election. · Creditors submit claims, note a claim is relevant, in different ways, o to creditor's right to vote, and o creditor's ultimate right to a dividend). Trustee's principal steps - Correct Answers: · Trustee ingathers (acquires possession of) debtor's estate (mechanics dictated by nature of the asset). See s 50 (for duties) and s 109 (for powers in respect of heritage), · Trustee obtains valuations (where necessary), · Trustee realises assets (ie converts to cash), but o Must respect valid real rights in security (including any diligence), o Interaction can be complex between trustee's powers in respect of heritable property secured by a standard security and exercise by secured creditor of its powers (eg power of sale). o Special rules affecting matrimonial / family home. · Trustee has fiduciary duties: - Correct Answers: o to safeguard assets (may include need to carry on business) o to realise best price reasonably possible in the circumstances on disposal, o to act in best interests of beneficiaries (ie the whole bodies of creditors), o not to self-deal or put self in a position of conflict. · Trustee's ongoing administrative duties: - Correct Answers: o to report to creditors and AiB (interim and final reports), o to maintain record of dealings and adjudications, o to accept or reject contractual obligations to which debtor was a counterparty, o to consider/ report on conduct of debtor and whether debtor's discharge appropriate Incidental steps a trustee might take - Correct Answers: · To pursuer/resist litigation involving debtor or debtor's estate, · To examine the debtor (if concern about debtor's failure to disclose whole estate). · To challenge certain transactions: o Gratuitous alienations, o Unfair preferences, o Other dealings by the debtor (eg excessive pension payments, divorce settlements etc) Trustee's adjudication on creditors' claims - Correct Answers: · Trustee considers each creditors' claim (supported by proof debt) and adjudicates on it (ie ascribes a value to it). Creditor can appeal against adjudication of its claim (or that of another). · To rank the claims of creditors the trustee has accepted, according to the prescribed rules on priority, · The payment of the final dividend is a prelude to the conclusion of the sequestration and the trustee's discharge. The end of the sequestration: - Correct Answers: · The payment of the final dividend is a prelude to the conclusion of the sequestration and the trustee's discharge. · Trustee's final report(s), · Discharge(s): Remember there are two discharges · Debtor's discharge (no longer automatic) and to which trustee's views highly relevant. Note: that the effect of the debtor's discharge is to relieve it of liability for pre-sequestration debts (but this does not extinguish or discharge those debts). · Trustee's exoneration and discharge. Outline of the debtor-led (ie non-court) forms of insolvency and debt-management processes under the 2016 Act - Correct Answers: Common features of debtor-led processes include · These are all commenced by the debtor, · These are all administrative processes (ie not granted or controlled by the court), and in which the AiB plays a central role, · Except for the grant of a trust deed, the other processes are public and under the control or purview of the AiB. · These processes are generally quicker and significantly less expensive than a sequestration controlled by the court. · By contrast with a court-controlled sequestration (in which the debtor is divested of (most of) but no payment of another sum is prescribed), these administrative processes stipulate for a minimum contribution to be made by a debtor, calculated in accordance with the common financial tool (CFT). The different administrative debt-management and insolvency processes under the 2016 Act - Correct Answers: · The availability of approved Money Advisors (consultation with them a threshold requirement for some of the debtor-led applications). Ø Moratorium: - Correct Answers: · Moratorium: Scotland has also introduced a moratorium. It is not itself a free-standing insolvency process. Unlike a DAS, which can also freeze enforcement be a creditor, a moratorium is for a limited period of time - essentially to give the debtor time to consider its options in terms of what is the appropriate insolvency or money-management regime to pursue (eg such as to apply for bankruptcy, to grant a trust deed or to apply for DAS (just noted). Ø A moratorium provides a debtor with protection from its creditors enforcing the debtor's debt. Ø This protection normally lasts for a period of 6 weeks. (Due to the current Covid-19 pandemic, emergency legislation has been enacted to extend the duration of the moratorium to 6 months on a temporary basis.) DAS: - Correct Answers: · The Debt Arrangement Scheme. Scotland's DAS is the only statutory debt management plan in the UK. It is a Scottish Government-backed debt management scheme which allows a debtor to repay its debts through a debt payment programme over an extended period of time. A DAS is open to an individual, to couples and to businesses. The purpose is to give the debtor breathing space and protection from its creditors taking action against it to recover the debt. Ø The first step is for the debtor to speak to a DAS- approved Money Advisor, Ø It can last for any reasonable length of time, Ø If approved, a DAS will freeze all interest, fees and charges on the debt included, resulting in them being waived if the debtor fully completes the programme. If sequestration cannot be avoided, there are two types of sequestration for which the debtor may apply and which are wholly administrative in character. The size of the debtor's estate and the amount of its indebtedness dictates which of these is available. 1, MAP 2, The non-MAP or normal sequestration - Correct Answers: MAP - Correct Answers: · MAP: The minimal asset process (MAP) is (as the name suggests) for debtors with very few assets, limited sources of income and indebtedness below a certain level. A MAP avoids the need for court procedures, and the associated expense. The amount a debtor pays who uses MAP is also limited and determined in advance (using the common financial tool). MAP is also much quicker, in that the debtor's discharge can be obtained in six months. The minimal asset criteria apply. o The AiB is the default trustee in the small asset or "Minimal Asset Process" (or "MAP"). o The (financial) eligibility requirement of MAP are as follows:- Ø The debtor must have been in receipt of benefits only for the last six months or A money adviser has assessed the debtor's income and expenditure using the common financial tool (the "CFT") and the debtor has no surplus to pay a debtor's contribution; Ø The debtor must owe a total debt of at least £1,500 but not more than £25,000; Ø The debtor must not own a single asset worth over £1,000 (excluding a vehicle which does not exceed £3,000 and is reasonably required by the debtor); Ø the debtor must not own any land and the total value of the debtor's assets do not exceed £2,000; Ø The debtor must have taken money advice from a qualified money adviser or insolvency practitioner; Ø The debtor must have a "Certificate for Sequestration" signed by an authorised person; Ø The debtor must be living in Scotland or have lived in Scotland sometime during the last year; and Ø The debtor must pay the application fee of £50 - (application fees are waived if the debtor is in receipt of a qualifying benefit); Ø o Factors or prior processes which preclude resort to a MAP: Ø The debtor must not have been made bankrupt in the last five years; Ø The debtor must not have been made bankruptcy through the Mi The non-MAP or normal sequestration - Correct Answers: · The non-MAP or normal sequestration. If the debtor's assets and liabilities are above the maximum threshold for MAP, it may apply for sequestration under section 2(8). The criteria that must be met differ from those of a debtor's application to the AiB for MAP (and to which the minimal asset criteria (in s 2(2) apply). The standard criteria that a debtor must satisfy in order to apply to the AiB for sequestration include the following:- (1) The debtor owes at least £3,000 as at the date of the presentation of the application (s 2(8)(a); (2) The debtor has not been subject to a sequestration during the previous five years (s 2(8)(b)); (3) The debtor has obtained the requisite advice from a money adviser; (4) The debtor has given a statement of undertaking, including an undertaking to pay to the trustee the amount determined by the common financial tool; and (5) One or more of the following circumstances also applies: (a) The debtor is apparently insolvent (s 2(8)(e)(i)); (b) The debtor has been granted a certificate for sequestration by a money adviser, within 30 days of the application, certifying that the Debtor is unable to pay its debts as they fall due (s 2(8)(e)(iii)), or NB: the critical criteria to obtain a certificate for sequestration is that a debtor can demonstrate it is "unable to pay debts as they become due": s 9(3) or (c) The debtor has conveyed its estate to a trust under a voluntary trust deed for the benefit of its creditors but which has not become a protected trust deed (s 2(8)(e)(ii));. The office and role of the AiB - Correct Answers: The Accountant in Bankruptcy ("the AIB") is an official who guarantees a degree of oversight of sequestrations. The AiB's role encompasses the following: · The AiB has became the default trustee for certain types of small asset sequestrations. (This is cheaper and quicker than paying private trustees out of the public purse); · The AiB has had the power to determine (administratively) certain applications by debtors for their sequestration - which was hitherto the exclusive preserve of the courts; · The AiB The supervision of trustees in sequestration as well as trustees administering voluntary trust deeds; · The AIB maintains the Register of Insolvencies; · The AiB oversees and maintains the professional standards of insolvency practitioners; and The AiB also prepares an annual report and reports suspected offences to the Lord Advocate Questions for reflection - Correct Answers: 1. What are the several types of insolvency procedures a debtor can choose to initiate? What are the advantages and disadvantages of each? 2. What is or are the kind (or kinds) of insolvency procedure(s) open to a creditor in respect of a debtor unable to pay its debts? 3. Discuss the key requirements to be satisfied for a sequestration by petition. 4. What are the key effects of a court-controlled sequestration? 5. What other debt-management schemes are available to a debtor, short of seeking some form of insolvency? 6. What is a trust deed, how does it become protected and what are the advantages of a protected trust deed? 7. What are the duties of a trustee in sequestration? What are the duties of a debtor?