Pensions and bankruptcy – a longer wait

If you go bankrupt can the Trustee get at your pension? Well if you are over 55 (or even 52) then they might be able to. Or on the other hand they might not. An unsatisfactory state of affairs, brought about by two contradictory decisions of High Court judges – Raithatha v Williamson or Horton v Henry.

Fortunately Horton v Henry is going to the Court of Appeal. Unfortunately the date originally given  – 25/25 Jan 2016 – has not been effective, and the case has been relisted for 21/22 April 2016. So a bit longer to wait.

For more details of the cases see my earlier posts here and here.

Hope for the Pension – Horton v Henry

Horton v Henry [2014] EWHC 4209 Ch – Robert Englefield QC

Last autumn I ran a piece about pensions and bankruptcy – I’ll Be Having That-Pensions and Bankruptcy – which produced quite a lot of interest. The piece was based on the 2012 case of Raithatha v Williamson [2012] EWHC 909 Ch which had decided that although pensions were generally exempt from seizure by a Trustee in Bankruptcy an income payment order could be made under s310 Insolvency Act 1986 which required a bankrupt who was not yet drawing his pension but was aged 55 or over to request his pension provider to make him a 25% lump sum and then pay it over to the Trustee.

I pointed out that if you join this with the wholesale reform to pensions announced in the Budget in 2014, which will allow people to withdraw ALL of their pension pots subject only to tax penalties, then pensions will be fair game for all Trustees. Any protection that people thought they had from s11 Welfare Reform and Pensions Act 1999 would be lost.

It would appear that this was an unexpected and unintended result of the legislation, but the Treasury, on having this pointed out to them, indicated that they were proposing to leave things alone. They indicated that they considered the obligation on bankrupts to pay their debts outweighed any individual unfairness.

Things didn’t look good for the entrepreneurs and risk takers that are needed if an economy is to grow. But the courts seem to be coming to the rescue in the case named above.

The Facts

Michael Henry went bankrupt to the tune of perhaps £6.5m (the figure was never established ) on 18th December 2012. He had an SIPP pension worth perhaps £900,000 and three smaller annuity policies, but these did not form part of his estate and so were not available to pay his creditors because of the effect of s11 WRPA set out above.

He would have been discharged on 18th December 2013 but his Trustee applied on 17th December for an income payment order under s310 IA. After some revision the order sought was for an immediate lump sum of 25% of the value of the SIPP plus 36 monthly payments of drawdown, and the maximum lump sum of three times the annual amount of the annuities.

The Argument

The case was indistinguishable from Raithatha but as that was a decision of a (Deputy) High Court Judge it wasn’t binding on this (Deputy) High Court Judge and he could refuse to follow it if he thought it was wrong.

You start with s11(1) of the Welfare Reform and Pensions Act 1999 which provides:

Where a bankruptcy order is made against a person on a petition presented after the coming into force of this section, any rights of his under an approved pension arrangement are excluded from his estate.

The case turned on the wording of s310. The relevant parts are:

(1) The court may make an order (“an income payments order”) claiming for the bankrupt’s estate so much of the income of the bankrupt during the period for which the order is in force as may be specified in the order.

(2) The court shall not make an income payments order the effect of which would be to reduce the income of the bankrupt when taken together with any payments to which subsection (8) applies below what appears to the court to be necessary for meeting the reasonable domestic needs of the bankrupt and his family.

(3) An income payments order shall, in respect of any payment of income to which it is to apply, either –

(a) require the bankrupt to pay the trustee an amount equal to so much of that payment as is claimed by the order, or

(b) require the person making the payment to pay so much of it as is so claimed to the trustee, instead of to the bankrupt.

……..

(5) Sums received by the trustee underan income payments order form part of the bankrupt’s estate.

(6) An income payments order must specify the period during which it is to have effect; and that period –

(a) may end after the discharge of the bankrupt, but

(b) may not end after the period of three years beginning with the date on which the order is made.

(6A) An income payments order may (subject to subsection

(6) (b)) be varied on the application of the trustee or the bankrupt (whether before or after discharge).

(7) For the purposes of this section the income of the bankrupt comprises every payment in the nature of income which is from time to time made to him or to which he from time to time becomes entitled, including any payment in respect of the carrying on of any business or in respect of any office or employment and (despite anything in section 11 or 12 of the Welfare Reform and Pensions Act 1999) any payment under a pension scheme but excluding any payment to which subsection (8) applies.

(8) This subsection applies to –

(a) payments by way of guaranteed minimum pension

…

The key words are those underlined in para (7). It was not disputed that if Mr Henry had elected to receive a lump sum from his pension his Trustee would be entitled to claim an IPO from it. However, could he be made to elect for one? Without an election he had no entitlement to payment.

The Trustee argued that s 331(1) of the Insolvency Act obliged the bankrupt to co-operate with the Trustee in getting in his estate:

The bankrupt shall

a) give to the trustee such information as to his affairs

b) attend on the trustee at such times, and

c) do all such other things

as the trustee may for the purpose of carrying out his functions under this Group of Parts reasonably require.

As sums received under IPOs are part of the bankrupt’s estate (s310(5)) the Trustee was entitled to require the bankrupt to give the necessary election so that an order could be made.

The Judge however pointed out that this was a circular argument. The Trustee was only entitled to gather in the bankrupt’s estate. If sums under an uncrystallised pension were not part of the estate the bankrupt had no obligation to help to collect them.

He also referred to the case of Barclays Bank v Holmes (2000) where Neuberger J (as he then was) said:

… it appears to me that, when using the word ‘entitlement’ in section 67(2), the legislature had in mind a case where the right to payment had arisen, in other words, to take the normal case, it covers a pension in payment. As a matter of ordinary language that is what ‘entitlement’ means …

This was in relation to a different Act but was very persuasive. Much the same thing was said in a number of commentaries and guidance notes.

And the judge also pointed out that the SIPP pension scheme in particular contained a very large number of options and choices in relation to payments, annuities, flexible drawdown and so on, and that the value of the scheme’s benefits varied constantly and could not be known with any certainty until crystallisation occurred.

The Decision

The Judge declined to follow Raithatha. He said:

32. I entirely accept Mr Passfield’s submission that I should be most wary of differing from another decision of a judge at first instance. He was right to remind me that I should only come to a different conclusion if I were persuaded that the earlier decision was wrongly decided. I have most anxiously considered the decision in Raithatha but I have, albeit with considerable reluctance, come to a different conclusion. Mr Henry is not entitled to payment under his pensions “merely by asking for payment”. There is a considerable variety of options open to him. It would only be after he had made elections that any payment would be due to him. Only then would he become entitled to any payment. I do not consider that there is any power in the court under section 310 or in the trustee to require Mr Henry to elect in any particular way.

He therefore dismissed the application. There are accordingly two contrary decisions from High Court judges on this point, and District Judges and Registrars can follow either until the CA gets a chance to decide the matter. As Horton v Henry  was an argument about some £300,000 it may well be taken there by the Trustee, possibly with some financial support from elsewhere.

And the Consequences?

Confusion all round. But some hope that the new pension reforms from April 2015, only a couple of months away will not mean that by going bankrupt a debtor loses not only all his estate, but all his pension too. We shall see.

I’ll Be Having That – Pensions and Bankruptcy

Here’s a scenario. It is September 2015. Basil is 59. After many years of running a successful company things seem to have gone wrong. As a last effort  he poured thousands of pounds of his own money into the business to try to turn things round but eventually couldn’t afford to pay any more and the business had to close, owing debts to suppliers, the bank and his landlord. The company went into liquidation, he lost his job and income. Worse still, his bank and landlord had received personal guarantees from Basil  for the monies owed to them, and when he couldn’t pay, as he had exhausted his funds in trying to save the business, he was made bankrupt. The house where he lived with his wife Barbara would most likely be repossessed by their mortgagees, as they could no longer afford to pay the last of the mortgage, and if they managed to avoid this it would probably be seized and sold by his Trustee in Bankruptcy under  s335A Insolvency Act 1986, unless Barbara could buy out his interest by scraping together the money from her own savings and money raised from their family and friends. Things were not looking good.

But there was a future. Basil would be discharged from bankruptcy after 12 months, and although Basil’s health had been ruined by the strain of the last few years, and he was unlikely to work again he had built up a good personal pension pot of £500,000 during the golden years of his business and they could look forward to a comfortable retirement, even if it wasn’t as comfortable as they had expected a few years before.

However, a few months before the bankruptcy was over Basil received an application from the Trustee for an Income Payment Order under s310 IA 86. This asked for an order for him to pay over his “surplus income” to the Trustee. Basil laughed – his only income was state benefits and there was no “surplus”. However, he looked at the application again and was horrified to find that the application contained a request for

1. An order for Basil, or the Trustee in Basil’s name, to make an application to his pension scheme  for an immediate payment of the whole of his pension fund, as he was now entitled to under the pension ref0rms introduced in the Finance Act 2014
2. The money to be paid over to the Trustee and applied
   1. in payment of the income tax due, amounting to some £154,887, and
   2. the balance of £345,123 in discharge of the bankruptcy debts and costs.

Basil was outraged. He understood that his pension was protected from bankruptcy, and besides, this was a terribly wasteful way of getting at the money, incurring tax as if it was all his income in the year of payment. So he sought advice, and was told to his horror that it was now the law. And a probable oversight by the powers that be.

The background

Prior to May 2000 personal pensions went to the Trustee like everything else and were lost to the bankrupt. Employers schemes were a bit different as the only entitlement was to the benefits, not the capital sum, and these were often protected by being a discretionary payment by the trustees.

This was felt to be unfair and s11 Welfare Reform and Pensions Act 1999 provided that rights under pensions schemes approved by HMRC were excluded from the bankrupt’s estate, and the Trustee couldn’t get at them.  All he could do was challenge excessive contributions, or include any income received from the scheme in an IPO.  Even unapproved schemes could be protected if the bankrupt persuaded the court that they were needed to satisfy the reasonable needs of the bankrupt and his family. In order for a scheme to be approved it had to fulfil various criteria, one of which was that the maximum lump sum that could be withdrawn was 25% of the total, and only from the age of at least 55 years. The Act did go on to prohibit any forfeiture of rights under personal pension schemes by reference to their bankruptcy s14. But on balance the pension looked pretty secure.

Trustees were initially resigned to the change, but as time went on there were rumblings that there might be a way round and in April 2012 the Bankruptcy Court ruled in Raithatha v Williamson [2012]EWHC909Ch  that an IPO could be made ordering the bankrupt , or the Trustee, to apply for a withdrawal of the 25% maximum sum and for it to be used to pay the debts. Mr Williamson appealed on a number of grounds, including an argument that he couldn’t be forced to exercise an option that he didn’t want to exercise, and that until he did so this wasn’t “income” and so couldn’t be subject to an IPO. It was also in breach of his rights under the ECHR to personal property. However, his appeal was compromised shortly before it was heard, and so the case stands, and is binding on DJs and Circuit Judges.

The case was in fact following on from a very similar case of Blight v Brewster [2012]EWHC165Ch although that case wasn’t referred to in the judgment in Williamson. The difference in Brewster was that the Defendant wasn’t bankrupt, he just had judgments entered against him. Again he was ordered to exercise an option and call down a 25% lump sum from Sun Life, so it could be used to pay his debts, and the Claimant was authorised to write on his behalf if he wouldn’t co-operate.  Although it can’t have helped his case that the judge clearly regarded him as a fraudster.

So up to 5th April 2015 25% of a personal pension is accessible to an IPO. However, as these benefits are normally only payable from the age of 55, and applications for IPOs have to be made before the bankruptcy is discharged, and can only run for 3 years, they really only affect debtors from 55 years upwards, who have not yet crystallised their pension by the purchase of an annuity or other long-term investment.

The Change

In the Budget speech Mr Osborne announced a wholesale reform of pensions legislation. Part of this was to allow the public to manage their own pensions, and to withdraw their funds and invest or use them as they thought best. This was a generally popular proposal, and most of the discussion has been on the tax implications, the risk of people wasting their money on cars and flashy holidays and the like.

Part of the reform includes changes being imposed on pension schemes by the government requiring them to allow people to withdraw funds in accordance with the new regime. These are terribly complicated, and I won’t trouble you with them now. But they will take effect from 6th April 2015, the start of the next tax year. My understanding (and I haven’t been able to find chapter and verse while writing this piece) is that the freedom will apply from the date that the pension can be taken, and in most cases this will remain at 55 years.

What has been overlooked is the effect that this will have on IPOs against pension pots. And there is clearly only one answer: Trustees will be able to apply for ALL of the vulnerable pot to be drawn down. The first 25% will remain tax-free, but the rest will be taxed at normal income tax rates – 20% 40% and 45% according to income.

All that they will have to overcome are the provisions in s 310 IA [link above] that:

(2) The court shall not make an income payments order the effect of which would be to reduce the income of the bankrupt when taken together with any payments to which subsection (8) applies below what appears to the court to be necessary for meeting the reasonable domestic needs of the bankrupt and his family

S(8) refers to guaranteed minimum pensions and protected rights under pension schemes. So the bankrupt must be left with enough to live on, but only just. And then only after taking account of pension payment which cannot be actually seized themselves.

The Outcome

It seems unlikely that this was intended. It hardly seems the best way to encourage entrepreneurs and the risk-takers needed if the economy is to grow as this government wants it to. And there has been no publicity apart from a few notes on insolvency websites. But there we are. You have been warned.