Cashing out: Henry Hood discusses the impact of bankruptcy issues on divorce cases

There have been two recent cases which have shed light on the impact and influence of bankruptcy issues in divorce situations. The first is Ian Robert (Trustee and Bankruptcy of Mr Elichaoff deceased) v Sarah Jane Ducanson Woodall [2016] EWHC 538 (Ch). This involved consideration of whether a consent order was void under s 284 of the Insolvency Act 1986 (IA 1986) and (more alarmingly) whether applications for financial provision under the Matrimonial Causes Act 1973 (MCA) vested in, and could be pursued by, the Trustee in Bankruptcy. This judgment was handed down on 15 March 2016. A week later, the second case Mr Mark Sands (as Trustee in Bankruptcy of Mr Tarlochan Singh) v Mr Tarlochan Singh & Others [2016] EWHC 636 (Ch), [2016] All ER (D) 209 (Mar) revisited (along with other matters) the issue of whether a sealed financial order and a consequential deed of trust dealing in the former matrimonial home could be set aside on the basis that it was either a transaction at an undervalue for the purposes of s 339 of IA 1986.

Ian Robert case

The timeline in the Ian Robert case is important and was as follows:

– 31 January 2009: Mr Elichaoff (H) is served with a statutory demand.

– 17 March 2009: Petition for bankruptcy was issued against H based upon the said statutory demand. The petition was opposed.

– 5 June 2009: The terms of a final financial order by consent were agreed between H and his wife Ms Woodall (W) (the judgment is silent as to when the marriage broke down or when divorce of financial processes were served). The terms provided for:

• Periodical payments of £24,000 per annum to be paid by H to W.
• H to pay to W child maintenance in the same amount.
• Provision that H repay W the sum of £1.4m on or before 1/12/2012.
• Full clean break either way.

– 7 July 2009: H made bankrupt pursuant to the 9 March petition.

– 16 July 2009: The financial order was approved by the court, nine days after the bankruptcy.

– At some point thereafter, not specified in the judgment, H died.

Section 284 of IA 1986 provides that where a person is adjudged bankrupt, any disposition made during the period beginning with the date of the presentation of the petition (in this case 9 March 2009) and ending with the vesting of the bankrupt’s estate in a trustee in bankruptcy will be void unless subject to the court’s earlier approval or subsequent ratification. Accordingly, to the extent that the order was, or resulted in, a disposition of property, it was void. Were the terms laid out above dispositions of property?

The court first found that a negotiated agreement alone did not amount to a disposition of property because it remained subject to the court’s discretion. However, once approved (and therefore Xydhias compliant), the order had the effect of vesting the beneficial ownership of whatever asset was its subject. As such, it was a disposition of property and will be potentially void pursuant to s 284 if made (as this one was) at the relevant time.

On looking at the terms laid out above, the court had no difficulty in finding that the provisions for spousal and child maintenance were such dispositions and therefore void. Equally, the provision for payment (or in this case repayment) of £1.4m was a relevant disposition and would also be void, (and in that event the obligation to make repayment would remain extant and not removed by the bankruptcy process). Accordingly, each of the dispositions in the order were potentially void, had that been the only issue, the consent order comprising them would have been set aside.

The next, and entirely novel, claim by the trustee was that if the consent order should be set aside (as above), the mutual clean breaks fell away and H’s claims under MCA 2005 for (inter alia) a lump sum therefore remained in existence and available to be pursued by the trustee. The trustee’s reasoning began that, as a matter of general law, causes of action vest in a trustee in bankruptcy upon appointment, unless the claims are of an entirely personal nature. The argument continued that claims for financial provision are not entirely personal because they may include sums which will be paid to creditors, (and that would presumably always be the case where the trustee was (as here) interested in the outcome). On that basis, and in the absence of any authority on this point, the trustee contended that claims for financial provision which were unresolved at the commencement of the bankruptcy constituted part of the bankrupt’s estate and should therefore vest. This construction gives rise at least to the possibility that a trustee could take over and pursue divorce financial litigation proceedings.

That this was not the result owes much more to the fact that H had died, rather than any reasoned rejection of the principle. As a general rule (s1(1)) Law Reform (Miscellaneous Provisions) Act 1934) causes of action against, or vested in, a person will survive their death. Equally, in Barder v Caluori [1988] AC 20, [1987] 2 All ER 440, Lord Brandon confirmed that there was no general rule that divorce proceedings end when one of the parties dies. However, in Harb v King Fahd Bin Abdul Aziz [2005] EWCA Civ 1324, [2005] All ER (D) 110 (Nov) the Court of Appeal, with some hesitation, found that an application under s 27 of MCA 2005 (neglect to maintain) depended upon joint lives. The slightly tortuous reasoning it adopted was that the right of application (under s 27) is expressly granted to “either party to a marriage” and was to be brought against “the other party to the marriage” and that this combination of sub clauses suggested that Parliament’s intention was that this provision could only be sought if both parties were alive. Did the same apply to s 23 and s 24 of MCA 2005? That was the question which the registrar in Robertv Woodall had to decide.

Argument

The trustee argued that neither provision contained the words “either party to a marriage” or “the other party to a marriage”, and that there was therefore a clear distinction with s 27, which implied a different Parliamentary intent. He also submitted that s 23 and s 24 create causes of action rather than personal rights of application, and can therefore survive death and form part of the bankrupt’s estate.

The court disagreed. It found that s 23 and s 24 of MCA 2005 were governed by s 21(1) to state that these provisions are for the purpose of “adjusting the financial position of the parties to a marriage and any children of the family in connection with proceedings for divorce, nullity of marriage or judicial separation”, and was clearly intended to assist (living) parties to the marriage. Neither provision could be pursued after one of their deaths, and, in arriving at this conclusion as to parliament’s intention, the registrar took reassurance from the existence of the Inheritance Act that would then come into play and take their place. If ss 23 and 24 could not be pursued by the parties beyond joint lives, there was therefore nothing capable of being invested in the trustee after the bankrupt’s death. Working backwards, if there was nothing that the trustee could now pursue, there was no point in setting aside the consent order on account of it containing reviewable dispositions.

The judgment is far from categoric on how the issue would have been decided in the absence of H’s death, and in particular there was no resolution as to whether financial claims were, or were not, entirely personal to the bankrupt, and therefore if they would or would not vest in the trustee on the making of a bankruptcy order (to recap—if they were personal they would not and if they were not, they would). Is it really possible that we might see a trustee taking over a claim for a financial order following a divorce? The mind rather boggles at the application of the sharing and need principles in those circumstances. The only indication that we not likely to face this was the registrar’s observation that if a trustee in bankruptcy were able to take advantage of s 23 and s 24, it would presumably also both require and entitle him (or her) to apply for a decree to give effect to them. This he was prepared to recognise as an absurdity.

Sands v Singh and others

Following the case of Sands v Singh and others which was handed down on 22 March, the mood in trustee in bankruptcy circles has been quite upbeat. Alongside disappointment that the judgment in Hill v Haines [2007] EWCA Civ 1284, [2007] All ER (D) 56 (Dec) still made it difficult to set aside divorce settlements entered into before a bankruptcy, there is a greater recognition and emphasis that it was not impossible, and there were various situations where it might be worth a try.

Hill v Haines had considered whether the bankruptcy court had the power to set aside a property adjustment order on the basis that it was a transaction undertaken at an undervalue, and therefore contrary to s 339 of IA 1986. The case had involved a property jointly owned by husband and wife, both of whom were thought to have been extravagant and to have lived beyond their means. The relevant timeline was that they separated in March 2003, with the wife’s petition and financial proceedings beginning two months later. In December 2004 a property adjustment order was made requiring H to transfer his interest in the property within 14 days, or within seven days of decree absolute (DA), whichever was the later, and DA followed on 21 February 2005, meaning that the order for the transfer became effective on 28 February 2005. At the end of March 2005 a bankruptcy order was made against H on his own petition. By that stage, the transfer of the property had not been effected, and this did not happen until September 2005. On 13 April 2006 the trustee in bankruptcy applied for a declaration that the transfer of the beneficial interest of the bankrupt husband was a transaction at an undervalue, and was therefore void as against the trustee.

Section 339 of IA 1986 provides that a person enters a transaction at an undervalue if he makes a gift to that person, or otherwise enters into a transaction with that person on terms that provide for him to receive no consideration (sub-s (3)(a)) or at significantly less than the value of the consideration provided by the individual (sub-s (3)(c)).

Discretion

As we know, the Court of Appeal found that a claim for ancillary relief is a real claim depending for its quantification on the exercise of the court’s discretion. When that discretion is exercised, the claim is turned into an interest in assets or an entitlement to money in the form of financial provision. In a final order, it (the discretion) has been extinguished or satisfied in the same process. This constitutes consideration. Accordingly, the Court of Appeal concluded that s 339(3)(a) did not apply because consideration for the transfer existed (the extinguishing of further claims by W), and s 339(3)(c) did not apply because the value of that consideration was not less than the value of the interest in the house that was being transferred by the husband.

As noted above, Hill v Haines was perceived as an almost insuperable roadblock to a trustee in bankruptcy seeking to interfere with an existing financial order. For that reason, the years that followed witnessed attempts to challenge a property adjustment order on other bases. An example was Re Jones (a bankrupt) [2008] 2 FLR 1969 in which the trustee suggested that a property adjustment order was a preference (as opposed to a transaction at an undervalue) contrary to s 340 of IA 1986, as the effect was to put the wife in a better position to other creditors. This attempt failed.

Challenge

However Hill v Haines has never been a blanket embargo on attempts to set aside a property adjustment order, and it left open the possibility of challenging such an order in circumstances where the usual contract vitiating factors (fraud, misrepresentation or mistake) applied. Hill v Haines also established that if collusion could be established which was designed to affect the creditors adversely, then the transfer could be set aside. It is also the case, and here we hark back to the much earlier case of re Kumar (a bankrupt)  [1993] 2 FLR 382, [1993] 2 All ER 700, that a trustee in bankruptcy might succeed in setting aside a transaction if consideration in a matrimonial case could be considered insufficient. The most obvious example of this is if order made is not one that a court could be expected, in normal circumstances, to have made.

Sands v Singh serves to give these factors a rather higher profile.

The facts in Sands v Singh relevant for our purposes were as follows.

In 2006, Mr Singh (H) bought property (P) with a substantial orrowing from Northern Rock for hich it was security. H married r Kaur (W) in February 2008 and sed P as the matrimonial home for themselves and their daughters. In August 2010, W left the property with the two children and issued a divorce petition. This triggered correspondence between solicitors instructed by H and W concerning P and other financial issues. These exchanges resulted in an agreement that H would hold P (which was in H’s sole name) on trust for the two children. A consent order and trust deed to the same effect were prepared and both were signed. The consent order (which contained H’s undertaking to place his beneficial interest in the property into the relevant trust) was made in January 2011. The trust deed was duly completed, and in February 2011 W moved back into the property and a DA was subsequently granted.

In September 2011, H was made bankrupt and his trustee in bankruptcy issued an application challenging (inter alia) the trust deed and the consent order on the basis that these constituted transactions defrauding creditors (s 423 of IA) or a transaction at an undervalue against s 339. It was, in particular, contended that the trust deed and consent order were the products of collusion between H and W.

The court followed Hill v Haines in its confirmation that the relinquishing of a claim for a financial order constituted “consideration” within the meaning of s 339, and that an order disposing of such a claim would not be open to challenge under that section. It also confirmed that the value of the claim for a financial order would generally be taken to be value of the money and property required to be paid and/or transferred under the order. The focus of the case was on the vitiating factors, in particular collusion. This was definitely, and with some reason, suspected, but the evidence fell short of the direct evidence that the court said would be required, and the cases where such direct evidence would exist must be fairly rare. However, the court confirmed Kumar in making clear that conduct falling short of actual collusion could have the same effect, and particularly where it could be shown that the consideration being given was significantly less than the value of the interests in property being received, the paradigm examples being where a result is arrived at which the court would never be expected to have made in usual circumstances, or which it would never have approved it had known the full facts. In such circumstances, s 339 could still be engaged to establish a transaction at an undervalue such that it can be set aside.

Comment

Following Sands v Singh, the recommendation has gone out to trustees to review divorce settlements which appear to be at the extreme ends of reasonableness. They accept that it remains difficult for a trustee to set aside a financial order made before the bankruptcy. However, it is likely that they will now be more on the lookout for orders that seem to fall outside what might be the usual financial order parameters, even if there is no prospect of direct evidence of collusion.

This article was originally published in New Law Journal and can be found, behind a paywall, here.

Henry Hood

Hunters incorporating May, May & Merrimans