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Bankruptcy and Ancillary Relief Proceedings

Gareth Miller outlines the effect of bankruptcy in general and considers the impact of bankruptcy on ancillary relief.

Bankruptcy and Ancillary Relief Proceedings

Gareth Miller
LLM (Wales), LLM, PhD (Cantab) Solicitor
Emeritus Professor, Norwich Law School

The bankruptcy of one party to a marriage will almost invariably have serious implications for the other spouse. This is particularly so if the marriage has also broken down and the non-bankrupt spouse is seeking a divorce and ancillary relief. This article will first outline the effect of bankruptcy in general and then consider the impact of bankruptcy on ancillary relief.

The effect of bankruptcy in general

Property
The general principle is that a bankrupt's estate vests in his trustee in bankruptcy immediately on the latter's appointment or in the case of the official receiver, on his becoming trustee [1]. A bankrupt's estate comprises all property belonging to or vested in him at the commencement of the bankruptcy except certain excluded property. Excluded property comprises (a) items of equipment which the bankrupt needs in his employment or business, and (b) clothing, and items of household equipment needed to satisfy the basic domestic needs of himself and his family [2]. However, where the trustee considers the realisable value of any such property exceeds the cost of a reasonable replacement for that property he may claim that property for the estate but must purchase for the bankrupt a reasonable replacement [3].

The estate may be increased by "after-acquired property" i.e. property subsequently acquired by the bankrupt before his discharge, provided it is claimed by the trustee by notice in writing under s.307 of the Insolvency Act 1986. Certain tenancies may also be claimed by the trustee under s.308A. It must also be borne in mind that the trustee may seek to recover property disposed of by the bankrupt in a transaction at an undervalue in the period before the commencement of his bankruptcy [4].

Although a trustee in bankruptcy will usually seek to realise the bankrupt's estate for the benefit of creditors as soon as practicable, it may not be possible or prudent for him to seek an immediate sale of a dwelling-house in which the bankrupt had an interest because, for example, it has a negative equity. Under a provision introduced by the Enterprise Act 2002 such an interest will re-vest in the bankrupt if it has not been realised within the period of three years from the beginning of the bankruptcy unless the trustee has applied for an order for sale or possession of the dwelling-house or obtained a charge over the property under s.313 [5]. This applies only if at the date of the bankruptcy the dwelling-house was the sole or principal residence of the bankrupt, or his spouse or former spouse.

Income
The bankrupt's income does not vest automatically in the trustee, but can be reached by an income payments order under s. 310 of the Insolvency Act 1986 or an income payments agreement under s. 310A of that Act.

Creditors
Bankruptcy provides a means of protection for the bankrupt against further claims during the period of the bankruptcy. Generally, creditors cannot thereafter enforce their debts against the bankrupt except within the bankruptcy process [6]. There are exceptions to this, and the possibility of enforcement against his income may be important in relation to some forms of ancillary relief. A bankrupt will generally obtain an automatic discharge from bankruptcy one year from the commencement of the bankruptcy [7]. On his discharge the bankrupt is released from his bankruptcy debts and able to make a fresh start. However, there are also exceptions to this, and, significantly, these include a debt which arises under any order made in family proceedings or under a maintenance calculation made under the Child Support Act 1991 [8].

During bankruptcy the bankrupt is subject to certain restrictions, prohibitions and disqualifications though these have been reduced in number and scope by the Enterprise Act 2002. These include provisions relating to the obtaining of credit and entering into business transactions [9]. Their impact has, of course, also been lessened by the period of bankruptcy being reduced from three years to one year, but the period during which they can have effect may be extended by a bankruptcy restrictions order.

Ancillary relief

Periodical payments
Even though a person becomes bankrupt an order for periodical payments can be made against him and an existing order may continue in effect. However, while the bankrupt retains his income against which an order for periodical payments can be enforced, this is subject to any income payments order which may be made against him under s.310 of the Insolvency Act 1986. The amount of any income payments order will be binding on a court making an order for periodical payments in favour of the bankrupt's spouse [10]. If an order for periodical payments has already been made then the bankrupt may need to apply for a downward variation of that order in the light of a subsequent income payments order made by the bankruptcy court. The bankruptcy court must not make an income payments order which has the effect of reducing the income of the bankrupt below what appears to the court to be necessary for meeting the reasonable domestic needs of the bankrupt and his family.

Lump sum payments
An order for payment of a lump sum may be made against a spouse even though he is bankrupt though enforcement may be difficult. Prior to April 1, 2005 an order for payment of a lump sum did not give rise to a debt provable in the bankruptcy of the person against whom it was made though it could form the basis of a petition for bankruptcy against the husband [11]. With effect from that date the terms of rule 12.3 of the Insolvency Rules 1986 have been altered so as to permit such a debt and an award of costs in family proceedings to be proved in bankruptcy [12]. In so far as a lump sum remains unpaid on the husband's discharge from bankruptcy it is not released [13].

In view of the difficulties of enforcement arising from the fact that a bankrupt's property will have vested in his trustee, there appear to be two situations in which a lump sum order is likely to be made against a bankrupt. First, a lump sum payment may be ordered on the basis that payment will be made out of income [14]. Secondly an order may be considered appropriate if the court considers that there is likely to be a surplus at the termination of the bankruptcy [15].

Orders for the transfer or settlement of property
Once the bankrupt's estate has vested in his trustee in bankruptcy, then no order for the transfer or settlement of property in that estate can be made. It has now been clearly established in Mountney v Treharne [16] that, despite earlier doubts, a transfer of property order becomes effective once it has been made and the decree of divorce made absolute even though the title to the property concerned has not been formally transferred to the other spouse. In any subsequent bankruptcy the trustee will take the property subject to the transferee spouse's equitable interest. However, this does not prevent the trustee in bankruptcy from attacking the transfer or settlement under s.339 of the Insolvency Act 1986. The position appears to be the same in relation to orders for the settlement of property.

Even though property has not vested in the trustee, once a bankruptcy order has been made then any disposition of property made by the bankrupt between the presentation of the petition and the vesting of the property in his trustee will be void except to the extent that it is or was made with the consent of the bankruptcy court, or is or was ratified by that court [17]. While ratification may be sought under s.284 the circumstances in which such an order will be made seem very limited [18].

Orders for the variation of ante- or post-nuptial settlements
Where the court makes an order under s.24(1)(c) or (d) of the Matrimonial Causes Act 1973 varying, extinguishing, or reducing the interest of a spouse under an ante- or post-nuptial settlement this has immediate effect provided the decree of divorce has been made absolute. If that spouse subsequently becomes bankrupt, the order will be effective against his trustee in bankruptcy even if all necessary formalities have not been completed [19].

Pension sharing orders
Pension rights under approved pension schemes no longer form part of the bankrupt's estate which vests in his trustee in bankruptcy. This may also apply to pension rights under unapproved schemes in certain prescribed circumstances [20]. This means that in the most cases the power of the court to make pension sharing orders in relation to the future pension of a spouse who becomes bankrupt is unlikely to be affected.

Annulment of bankruptcy petition

A significant number of petitions for bankruptcy are presented by debtors rather than by their creditors. In some cases this may be done to frustrate or delay an application for ancillary relief by the bankrupt's spouse. In such circumstances it may be appropriate for the bankrupt's spouse to seek annulment of the bankruptcy petition under s.282 of the Insolvency Act 1986. An annulment is likely to be granted where it is found that the bankrupt is not in fact insolvent, but an annulment will not be granted if he is in fact unable to pay his debts even though his sole or principal motive was to frustrate his wife's claim to ancillary relief [21].

Conclusion

The Enterprise Act 2002 sought to alleviate the impact of bankruptcy in the interests of encouraging a fresh start for the enterprising bankrupt. However, despite the shorter period of bankruptcy that now applies, the vesting of the bankrupt's estate in his trustee may continue to have serious consequences for the bankrupt's spouse.

For a more detailed account of the matters covered in this article see the author's book, The Family, Creditors and Insolvency, (2004) published by Oxford University Press.

Notes

[1] Insolvency Act 1986, s.306. References are to the Insolvency Act 1986 unless otherwise indicated.
[2] s.283(1)(2).
[3] s.308, Re Rayatt [1998] 2 FLR 264 and Pike v Cork Gully [1997] BPIR 723.
[4] s.339.
[5] s.283A. It will also not apply if the trustee and the bankrupt reach an agreement releasing the property.
[6] s.285. The rights of a secured creditor to enforce its security are not generally affected.
[7] s.279(1) as substituted by Enterprise Act 2002, s.265.
[8] s.281.
[9] See s.360(1)(a)(b).
[10] Albert v Albert [1996] BPIR 232.
[11] Russell v Russell [1998] 1 FLR 936.
[12] Insolvency (Amendment) Rules 2005, No.527.
[13] s.281(5).
[14] See Re G (Children Act 1989, Schedule 1) [1996] 2 FLR 171.
[15] Re Mordant [1996] 1 FLR 334; Hellyer v Hellyer [1996] 2 FLR 579.
[16] [2002] EWCA Civ 1174.
[17] s.284.
[18] Re Flint [1993] 1 WLR 319, Treharne v Forrester [2003] EWHC 2784 (Ch).
[19] See Harper v O'Reilly [1997] 2 FLR 816.
[20] Welfare Reform and Pensions Act 1999, ss.11 and 12. This applies in relation to bankruptcy petitions presented on or after May 29, 2000.
[21] See Couvaras v Wolf [2002] 2 FLR 107; F v F (S Intervening)(Financial Provision: Bankruptcy: Reviewable Disposition) [2002] EWHC 2814 (Fam), [2003] 1 FLR 911.