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Legislating alternatives to bankruptcy in Ireland

John Breslin
The Irish Parliament passed the Personal Insolvency Act 2012 (the Act) in December 2012, as part of its commitment to reform key areas of Irish law in the context of troika funding. It is being implemented over the course of 2013, and is not yet fully in force. The Act represents a major reform of personal insolvency law, creating new processes as an alternative to bankruptcy. The suitability of any of the new processes in a given situation will depend on the level of the debt, and whether it is secured or unsecured. The Act also makes fundamental changes to bankruptcy law in Ireland. It has significant implications for banks holding or purchasing distressed assets.

Highlights

The highlights of the Act are as follows:

  • It provides three new possible alternatives to bankruptcy, leading to the debtor having a clean slate at the end of the process;
  • It reduces from 12 years to three years the basic period for obtaining a discharge from bankruptcy;
  • It potentially impacts on the interests of secured creditors in certain limited circumstances;
  • It establishes an official body (the Insolvency Service of Ireland, the ISI) together with a number of specialist circuit court judges to administer the new arrangements;
  • It provides for the licensing of intermediaries to liaise between the debtor and the ISI in respect of the three new procedures: some of these are referred to as Personal Insolvency Practitioners (PIPs);
  • The new procedures overtake the existing unwieldy (and seldom used) scheme under the Bankruptcy Act 1988 for a bankrupt entering into a composition with creditors.

New procedures

An individual who is insolvent may apply for one of three forms of procedure to resolve their debts:

Debt relief notice (DRN)

A debtor with unsecured debts of €20,000 ($27,000) or less who has limited income and assets may apply for a DRN. This procedure is intended for the resolution of consumer debt at the lowest end of the scale, and is targeted at credit card and other small-ticket retail debt. Certain debts such as revenue debts, and local taxes, are excluded unless the creditor agrees. Other debts are excluded altogether (such as court fines and family law payments). When the DRN is issued, the debtor is immune from suit in respect of the debts in question. The procedure allows for discharge of the debtor three years after the DRN issues. Equally, the debtor can obtain full discharge before that date by tendering not less than one half of the debt to the ISI. The rights of secured creditors are not affected by this process.

Debt settlement arrangement (DSA)

A debtor with unsecured debts of no limit may apply for a DSA with a view to satisfying (whether in full or in part) those debts over a five year period (extendable in certain circumstances to six). This arrangement involves the debtor dealing with a PIP. The applicant must swear a statement of affairs and confirm that they have not been able to agree to a consensual work-out with creditors. The process is started by furnishing the statement of affairs to the PIP. A court application is then made for a protective certificate. If the court is satisfied that the debtor meets the relevant criteria it will issue the protective certificate. This provides immunity from suit and other debt enforcement action for 70 days (extendable by a further 40 days). The PIP prepares the terms of the DSA for comment by creditors.

A DSA may comprise a lump sum payment to creditors, periodic payments, and the sale and transfer of assets or proceeds to creditors. To be effective, the DSA must be approved by a majority of 65% in value of unsecured creditors actually voting at the meeting. It must also be approved by the court. Subject to meeting the DSA payment terms, the debtor will normally be discharged from his debts after five years. During this period the debtor is immune from suit in respect of the relevant debts. The rights of secured creditors are not affected by this process.

Personal insolvency arrangement (PIA)

The PIA is available for an individual with debts of which the secured portion is in an amount of up to €3 million. The €3 million limit will not apply provided all of the individual's secured creditors consent in writing. At least one security must be over property in Ireland.

As with a DSA, the debtor must swear a financial statement and confirm that they have cooperated with creditors (and, in particular, with any formal mortgage arrears process) but have been unable to reach a consensual work out. As with a DSA, the debtor commences the process by applying to the ISI, through a PIP, for a protective certificate to be issued by the court. In the meantime, the PIP formulates the terms of the arrangement for approval by creditors. The standout feature of the PIA is that the arrangement may cram down secured debt to the level of the market value of the secured property. At least 65% in value of secured creditors must vote in favour of the arrangement. It follows, therefore, that where there is a single secured creditor, it can veto the arrangement. All secured creditors, irrespective of their ranking amongst themselves, will normally rank equally. Judgment creditors are treated in the same way as secured creditors. Otherwise the rights of secured creditors are potentially affected by this process.

A PIA will last five years, but may be extended by a further year. If the debtor performs all of their obligations under the PIA, they will stand discharged from those debts at the end of the period. During the PIA the debtor is immune from suit or enforcement in respect of those debts.

Common features

There are certain features common to all three arrangements:

  • The debtor must act in good faith, cooperate with the PIP, ISI and creditors and disclose his assets and liabilities with candour. There are provisions enabling claw-back where there has been a lack of candour;
  • Claims are still maintainable against sureties and co-obligors (save to the extent that they are also subject to processes under the Act);
  • The debtor must be domiciled in Ireland, or within the preceding year have been ordinarily resident or have had a place of business in Ireland;
  • There are provisions for the unwinding of transactions at undervalue, preferences and excessive pension contributions;
  • Provision is made to allow the debtor a minimum reasonable standard of living and with regard to the DSA and PIA the PIP is obliged to take reasonable steps if possible to frame
  • arrangements to preserve the debtor's family home. A DSA and a PIA cannot be structured to force the debtor to sell assets reasonably required for the debtor's employment, business or vocation.
  • Creditors have a right of appeal against protective certificates although it is anticipated that the circumstances in which an appeal will succeed will be very limited. A creditor aggrieved by a protective certificate has to show that it will suffer irreparable loss, which would not otherwise occur, and that no other creditor would be unfairly prejudiced by granting the appeal. These appear to be challenging criteria to meet.
  • A debtor is obliged to inform the PIP if their financial circumstances materially improve. If they improve, the PIP can apply to have the terms of the PIA varied.
  • As regards a DSA and PIA which involve the payment of monies to creditors, the priority of preferential payments is ensured.
  • The ISI performs an administrative and an investigatory role to verify that the relevant debtors are eligible to apply for the particular relief sought.

The unfairly prejudicial criterion

As regards a DSA and PIA, the court may set the arrangement aside where it is unfairly prejudicial to a particular creditor or group of creditors. This is a company law concept. It is difficult to prove. A court is likely only to set aside the arrangement where it has egregiously inequitable features. The court does, however, have discretion to set an arrangement aside where there has been a procedural defect. Given the complexities of the legislation, this might be a more likely basis upon which creditors will apply to have an arrangement set aside.

International implications

The Act will have significant implications for operators in the secondary debt markets who intend to purchase portfolios of loans issued by Irish banks. Although the Act is highly significant in domestic terms, it will introduce subtleties into a legal analysis of the enforceability of security in loan portfolios, and particularly in mortgage portfolios.

The intention behind the legislation was to provide an alternative to bankruptcy. It was also designed to give debtors a bargaining chip to force creditors to agree to informal work-outs. Therefore, there is likely to be increased engagement by defaulting debtors with their creditors if they qualify for one of the statutory arrangements. In many circumstances the outcome of a DSA and PIA may be strategically structured as a slight improvement to the expected return on a bankruptcy. This may well, therefore, present in practical terms an additional layer of process for the owner of the debt.

The marketability of portfolios of debt which comprise small-ticket consumer loans will be adversely affected by the Act. In theory, all debtors who qualify for the DRN process will effectively be in a position to renounce their obligations.

Although the cramming-down of secured debt is a new departure in terms of Irish law, the Act is unlikely to have much impact where the debtor has one secured creditor who opposes the PIA, or a number of secured creditors none of whom have an interest in becoming subject to a PIA. Those secured creditors will be in a position to block the PIA. Experience teaches that a lot of consumer secured debt is taken out with a single lender. There are, however, a significant number of instances where consumers are multi-banked, in which case the potential for a divergence of interests may in theory be greater. In circumstances, however, where property values in Ireland currently show signs of improving, it is difficult to see any basis for secured creditors breaking ranks and voting in favour of a PIA.

The other point to note is that the Irish Parliament has legislated to remove the impediment – inadvertently contained in conveyancing reform legislation – which halted a large number of repossession actions where the right to enforce the security had not accrued as of the date of the

conveyancing reform legislation. However, there is a quid pro quo for removing this. In any repossession proceedings, the court can adjourn the matter to allow the debtor to explore whether he or she might apply for a DSA or a PIA. Equally, though, the Central Bank of Ireland has made a number of changes to the code of conduct for dealing with mortgage arrears, which will see that process being capable of being conducted more expeditiously.

In terms of international co-operation in the bankruptcy field, Ireland missed a valuable opportunity to pass a law adopting the UNCITRAL Model Law. The standing of the common law doctrine of international co-operation is now in tatters after the recent privy council decision in Rubin v Eurofinance. (Although this is a privy council decision, as with all UK court decisions, it could be of persuasive authority in an Irish court.) This topic will be the subject of a further Irish bulletin.

Finally, even in the light of the reform of bankruptcy law reducing the discharge period from 12 to three years, Ireland has a stricter regime than other EU jurisdictions (notably its closest neighbour – the UK). Accordingly, the Act is not expected to result in an influx of bankruptcy tourists.

John Breslin

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