April 2012

The rising cost of bankruptcy

The rising cost of bankruptcy

A change in the administration of bankruptcy creates process price increases that will deny a remedy to those debtors most in need, warns Alan McIntosh 

Previously I raised my concerns that the Accountant in Bankruptcy’s (AIB) policy of working towards full cost recovery, would eventually lead to morally bankrupt law reforms, with the poorest having to pay more. On the 20th of April, as anticipated, the Scottish Government laid before the Scottish Parliament the Bankruptcy Fees Etc (Scotland) Regulations 2012. These regulations introduce a number of price changes, which include hiking up of the cost of applying for bankruptcy by 100% from £100 to £200.

I have since raised my concerns with Fergus Ewing, the Minister responsible that these changes would result in Scotland’s low income, low asset bankrupts (LILA) paying more than double what those south of the border have to pay in order to access the nearest equivalent remedy, a Debt Relief Order (DRO) (£90). The Minister has responded by claiming the comparison is not appropriate and has defended the increases by reference to the rising costs of administering bankruptcies, due to falling numbers of those applying. He has also pointed to the £700 cost of going bankrupt elsewhere in the UK and referred to the Accountant in Bankruptcy’s policy of working towards full cost recovery.

There are indeed differences between LILA in Scotland and DROs in England, but there are also differences between sequestration in Scotland and the similar procedure elsewhere in the UK: so, if it’s not appropriate to compare one type of procedure with another, then surely this should apply in all cases? The Scottish Government did carry out a review into Low Income, Low Asset bankruptcies in 2009, however and that showed the difference between those using LILA and DROs may not be that different. The average debt in a LILA bankruptcy it found was £17,160, only slightly above the £15,000 cap for debtor wishing to apply for a DRO (and approximately 38% had less than £10,000). It also found that 99% were unemployed, meaning the majority would either have no income of their own or be fully dependent on means tested benefits and likely to have less than £50 disposable income per month (another criteria for a DRO).

In addition to this LILA bankrupts cannot own heritable property, so few would have any non essential assets above £300 and therefore would satisfy another criteria specified for DROs.What about the rising costs of administering bankruptcies because of falling numbers? Well in the last year sequestrations in Scotland have fallen by less than 4%, however, protected trust deeds have increased by 1,214 (15%) and this would have resulted in an increase of over £300,000 in additional funds for the AIB. In their 2009 report, Drowning in Debt, Citizen Advice Scotland carried out a study of these debtors who they had as clients. They found that although the average level of debt was relatively low, with an average of £13,563 per person, the effects of it were disproportionate when compared to that on debtors with higher earnings. They found despite low income clients having good budgeting skills they often went without essentials to manage their debts, due to a lack of income. This was particularly the case for women, who in the Scottish Government’s 2009 report made up 64% of all LILA applications.

They also found that they suffered higher levels of “debt stress and that although 86% would consider bankruptcy, 80% would struggle to pay the £100 application fee and would either be forced to borrow or struggle to save the money. It is, therefore, worrying that when they have called for the bankruptcy application fee for LILAs to be cancelled, the Scottish Government’s new regulations double it.But is all this necessary? In 2010/11 the Accountant in Bankruptcy received £3.2 million of public funding. For the coming financial year, this was cut by 37% to £2 million, leaving a shortfall of £1.2 million.

However, the new regulations propose a number of other price increases, including a new supervision fee that will need to be paid by trustees in protected trust deeds. Based on the number of Protected Trust Deeds in 2011/12 this could mean an additional income of £450,000 for the AIB, with the hope of more as significant numbers of trust deeds run for four or five years.In addition to this, of the 11,023 sequestrations awarded last year, 58% were not low income low asset bankruptcies, so even if no price change was made for these bankruptcies, the £100 increase could generate another £640,000 of additional funding for the AIB. This would mean £1.09 million of extra funding without increasing the application fees for low income low asset bankruptcies: add those in and you have £1.4 million – vastly exceeding the shortfall created by the 37% cuts in funding.

None of these calculations include the additional fee increases proposed by the regulations, which include a new 25% fee on all realisations for bankruptcies where the AIB is trustee, where previously there was none; or increases in the percentage that can be charged by the AIB for realising assets. It doesn’t even include the hourly rate increase for their staff, which will rise from £39 per hour to £100. These price increases will deny a remedy to those debtors most in need and who have no other remedy such as a Debt Payment Programme under the Debt Arrangement Scheme.

The message is clear: the Scottish Government will not pay for bankruptcy to be a social safety net for Scotland’s poorest. Instead many will be forced to continue borrowing from pay day loan companies and other sharks to manage their debts.Even the Lib/Con Coalition in Westminster is not proposing this. Fergus Ewing should consider withdrawing these regulations, even if just to amend them to allow the current application fee for a LILA bankruptcy to be frozen. He has often spoken of his experiences as a solicitor and as a member of parliament assisting debtors with debt and insolvency problems and of the difficulties they face. He is strongly placed to understand the implications of such excessive price hikes.

It is likely a moratorium on such fee increases would only be necessary for a short period: the current Bankruptcy Law Reform is looking at creating more bankruptcy products, from no income to high value bankruptcies, which when introduced could allow more targeted fees. That way we could have the policies that people expect from a social democratic Government whose members often claim is left of centre. It also means we would no longer have a one size fits all application fees for bankruptcy and debtors would be treated fairly not equally.

Credit Unions: are they a special case in personal insolvency?

Credit Unions: are they a special case in personal insolvency?

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One of the most controversial issues in the Scottish Government’s consultation on bankruptcy law reform is the issue of extending the type of debts that should be excluded from bankruptcies and protected trust deeds.

Two specific examples are suggested: debts owed to credit unions and child maintenance arrears.

The problem with excluding debts, however, is it dilutes the protections that personal insolvency offers and can be a slippery slope.

However, is there a case for extending the list?

Child Maintenance Arrears

There are clearly strongly moral reasons why child maintenance arrears should be excluded: others may suffer as a result and there are possibly few more deserving cases than innocent children who are the dependents of their parents.

However, life is rarely simple and often child maintenance isn’t paid because estranged parents are raising other families or relationships have broken down to the extent that access to children is being denied and maintenance is not paid.

Also it doesn’t take long for arrears to accrue to the extent where they cannot be repaid.

There is also no evidence from England, where they are excluded, to suggest giving them special status improves recovery rates.

It is also has to be borne in mind that other children in new families can also suffer where there are no effective methods of relief.

Credit Unions

In relation to Credit Unions, however, there may be a stronger case for special treatment. Other than a few large industrial and city wide credit unions, the vast majority of these organisations are small and particularly vulnerable to debts owed to them being included in insolvencies.

Few debtors will actually become personally insolvent because of a credit union debt and the amounts loaned are normally small. In actual fact, many debtors may prefer not to include credit union debts, feeling a strong responsibility to the other members, who may be neighbours or work colleagues.

Another reason for credit unions to be given special treatment is that, unlike other creditors, they are restricted in how much interest they can charge (which is effectively limited to 2% per month, although in reality most charge 1%). They are, therefore, restricted in what they can do, unlike other consumer creditors, who can just increase interest rates when they suffer significant losses due to insolvencies.

For example, if a Credit union suffers a bad debt of £7,000 they would have to lend £350,000 at 2% within a year to recover the loss.  For many small community and workplace based credit unions this is just not feasible.

However, other involuntary creditors, such as HMRC or local authorities can make similar arguments, especially when they use the summary warrant procedure to constitute debts and can only charge a 10% surcharge on the debt, instead of charging the judicial rate of interest at 8% per annum.

That is the slippery slope of excluding debts.

There are other arguments in favour of excluding credit unions, however. They could continue to offer small amounts of credit to debtors during their insolvencies for small emergencies, such as broken washing machines etc. This would remove the risk of debtors failing to make contributions to their bankruptcies and protected trust deeds.

They could also provide a vehicle for debtors to continue having modest savings, although this would possibly require legislative change, but most trustees do permit allowances in debtor’s financial statements for costs that have to be set aside; so logically should we not encourage debtors to set these aside for the purposes intended?

Education

The Accountant in Bankruptcy office is also keen to incorporate some form of education for debtors in Scotland’s debt relief and management remedies and generally support for this principle is supported across the board.

Credit unions could play a pivotal role in this education, by not just making any education a classroom exercise at the end of an insolvency, but by encouraging good practice, such as saving with and borrowing from socially responsible lenders during the operation of the bankruptcy or protected trust deed.

Arguably there is a case for allowing credit unions to have priority during a debt payment plan under the debt arrangement scheme if this approach is taken as most debtors in an 8 year DAS will require some form of credit during that programme.

Alternatives

Even if we don’t accept credit unions deserve to be excluded from bankruptcies and protected trust deeds, this does not mean we cannot give them some form of special treatment.

Changes could be made to the way claims are settled in personal insolvencies. Currently many involuntary and socially responsible lenders are disadvantaged with the current scheme of division, where dividends are paid to ordinary creditors on the basis of what is owed at the time of the insolvency, including interest.

This means the pay day lenders that might charge say 3000% APR and front load interest onto loans, proportionately  can claim more in relation to what they loaned than a credit union or a local authority can.

This could be avoided by introducing a system where dividends are initially paid on the original debt, with interest having a deferred ranking. This would mean our bankruptcy system would still treat all creditors equally but also more fairly. It would also mean we don’t reward predatory lending and would remove the requirement for trustees to challenge extortionate credit agreements, which rarely occurs anyway.

Conclusion

There is no clear answer to the question of what debts should be excluded and what should be included. Many creditors have strong cases, but the argument for excluding credit unions is particularly strong, especially in a society where we see the growing scourge of payday lenders.

They also have a strong case as institutions we would wish to encourage Debtors to use.

They are also arguably part of the solution for dealing with the recurring issue of over indebtedness amongst some of the poorest in Society and could help prevent Debtors repeatedly becoming insolvent.

Maybe it’s time to make one last exception.

Bankruptcy Consultation Cancelled

Bankruptcy Consultation Cancelled

A consultation on the reform of bankruptcy law appears to have broken down as reforms opposed by consultees appear to be proceeding regardless. Alan Mcintosh untangles the mess.

Anger has broken out amongst money advisers over the Scottish Governments Bankruptcy Law Reform. Within a day of the first of a number of industry consultations, many advisers have been left furious and angry at what appears to be the contempt the Accountant in Bankruptcy (AIB) is treating the process and those participating in it.

One of the key issues is should the AIB be able to provide advice.

The day after a consultation event organised by Money Advice Scotland, where the proposal was unanimously rejected by the members present, the Accountant in Bankruptcy advertised it was seeking two advisers to be seconded to a pilot project beginning next year.

The Accountant in Bankruptcy has no legal powers to deliver such a service and no bill is presently in front of parliament proposing they have such powers. Even the consultation proposing they should have such power is not complete. Yet despite it being expected that opposition to it will be overwhelming, the AIB appear to have decided the proposal will go ahead.

The issue is an old one and first arose with the passage of the Bankruptcy (Scotland) Act 1993. The then conservative government rejected the idea as there was a conflict of interest. Since then the idea has repeatedly re emerged and has lead to accusations of empire building by the AIB. More recently in the current consultation, the proposal was made with the assurance that the project will be ring fenced in acknowledgement of the conflict of interest.

The AIB claim they regularly receive calls from debtors asking for help or arriving at their office and need to be able to assist them by delivering advice. The Scottish Government, however, already funds the National Debt Line and either North Ayrshire Council or Irvine Citizen Advice Bureau could easily, with funding, serve the AIBs office.

Why then the need for a duplicate service?

In launching the Bankruptcy Law Reform consultation, Rosemary Winter Scott, the Accountant in Bankruptcy called for “vision and ambition” in redrafting Scotland’s bankruptcy laws, but also worryingly indicated this was a good time for the reforms with the majority government. It’s clear now what she meant with such comments: legislation will be driven through parliament and Government dominated committees will be expected to rubber stamp provisions.

Many like me fear the AIB’s vision of rebalancing Scotland’s bankruptcy law is gradually about eroding independent debt advice and replacing it with more pro-creditor advice. This is an erosion of the principles that advice should be non-judgemental and always in the best interest of the client.

What is shocking in relation to the Accountant in Bankruptcy actions, however, is the cynicism of what they have done. No mention was made of the pilot project at the Money Advice Scotland consultation the day before, despite the attendance of a senior AIB staff member. Instead it was only after the extent of feeling became clear it was announced, possibly to instil a sense of defeatism in people or to entice others fearing job cuts.

Equally disturbing is that the announcement was made through Money Advice Scotland, who knowing the strength of its own member’s feelings, circulated the advertisement seeking advisers to apply. This raises questions about the influence the AIB now have, now they control significant portions of their funding and The Chief Executive is a non executive member of the AIB’s Board.

The decision to announce this project is in bad taste and signals contempt towards the consultation process and those involved in it. If this matter is already decided, what others are?

Rosemary Winter Scott said she wanted vision and ambition during this reform, but already it appears cynicism and distrust is creeping in.

You have to wonder if there is any point continuing with the consultation.