Canada: Insolvency Litigation Briefing - June 2016

Gowling WLG's dedicated insolvency litigation team bring you their regular update on the cases and issues affecting the insolvency and fraud investigation industry.

Administrators can agree fees incurred during the administration - even when the administration has come to an end

The Court of Appeal has confirmed that liquidators cannot require expenses that have already been agreed by administrators - in this case legal fees - to be assessed by the court. Furthermore the administrators can approve fees incurred during administration - even when approval is sought after the administrators have been discharged.

Background

In Hosking & McKay (as joint liquidators of Hellas Telecommunications (Luxembourg) II SCA (In Liquidation) v Slaughter & May (a firm) the Company (Hellas) entered into administration in November 2009.

During the administration the business of the Company was sold and one of the terms of sale provided that €10 million would be placed in an account (the Account) to be used to pay the costs and expenses of the entire administration and any liquidation. The Account was held on trust to meet those costs - with any remaining balance, after those costs had been discharged, being returned to the buyer.

The Administrators agreed the fees of their solicitors incurred during the administration and paid them out of the Account. The Administrators were subsequently discharged and joint liquidators were appointed on 5 December 2011 (the Liquidators).

In January 2012 the Administrators approved their solicitors' final invoice. The Liquidators subsequently sought permission to ask the Companies Court to assess the costs agreed between the Administrators and their legal advisors, either under Rule 7.34 (as was) of the Insolvency Rules 1986 ("IR") or under the inherent jurisdiction of the Companies Court.

The Registrar held that the Administrators could agree and pay the fees of the solicitors engaged by them (even if the approval was given after the Administrators had been discharged) and the Companies Court had no power to order an assessment of them. The Liquidators appealed to the High Court.

The High Court dismissed the first part of the appeal - the Companies Court had no power to assess costs that had already been agreed and paid in the administration. However, the High Court held that the Administrators did not have authority to agree fees incurred by the solicitors once they had ceased to hold office.

The Liquidators and the solicitors appealed.

Court of Appeal Decision

The Court of Appeal agreed there was no basis on which the Liquidators could seek a detailed assessment of the legal fees that had been agreed. IR 7.34(1) provided for costs to be assessed if not agreed - though it expressly applied to liquidation and bankruptcy - not administration.

If a creditors committee had been appointed, that committee could have required a detailed assessment of the fees under the IR 7.34(2) and Civil Procedure Rule (CPR) 47. This is the only time that there could have been an obligation on the Administrators to initiate an assessment.

No creditors committee had been convened in this case and there was, therefore, no obligation on the Administrators to seek detailed assessment of the legal fees in question.

Furthermore, once an administration had concluded, administrators had a statutory charge under IA 86, schedule B1, paragraph 99. Administrators could apply to the court to enforce this charge if liquidators disagreed with fees they had already agreed. The liquidators would then be directed to pay the fees by the court.

Administrators could, therefore, agree administration fees and expenses after the administration had concluded and liquidators would have to pay those fees. If they, or creditors, disputed the fees, misfeasance proceedings could be initiated against the administrators by the liquidator and/or a challenge made by the creditors under IA 86, schedule B1, paragraph 74.

In this case the Administrators had in fact retained the Account and there was, therefore, no need for the Administrators to enforce their statutory charge - they made payment direct to the solicitors.

Comment

It should be noted that IR 7.34 has now been replaced by IR 7.34A, which is wide enough to include administrators. 7.34A now refers to 'office-holder' rather than the 'responsible insolvency practitioner'.

In any event, the judgment makes it clear that an administrator who no longer holds office can still agree expenses incurred during the administration and in that regard it makes no difference if IR 7.34 or 7.34A is applicable.

Bankrupt retains legal professional privilege in his documents

The Chancery Court has held that a bankrupt's right to legal professional privilege was retained in respect of documents that had been delivered up to his trustees in bankruptcy.

In Mikhail Shlosberg v Avonwick Holdings Ltd & others,  the court was required to consider a bankrupt's right to legal professional privilege in circumstances where the solicitors acting for the bankrupt's trustees in bankruptcy were also acting for other parties in ongoing litigation involving the bankrupt.

Background

The bankrupt (B) had borrowed money from the creditor (C) through his investment company (W) - backed by a personal guarantee from B. W then lent the money to a third party who subsequently failed to repay the loan as agreed.  B was then unable to repay C, despite settlement agreements having been reached between W and the third party.

C brought proceedings and secured a judgment against W, and against B personally. Neither party paid; W subsequently went into liquidation and C successfully petitioned for B to be made bankrupt. The trustees in bankruptcy appointed solicitors (S) who in fact had already been appointed by C - it is common in the insolvency field for creditors and office holders to retain the same legal advisors (a fact accepted by all parties).

S received a large number of documents from B's former advisors, some of which S believed showed that the settlement agreements reached between W and the third party stripped W of assets, such that C was prevented from satisfying his judgment debt. C commenced proceedings against B and the third party for conspiracy.

B applied to the court for an order that S should cease acting for his trustees in bankruptcy and should also cease acting for C. B argued that S did not have adequate safeguards in place to protect his privilege. S argued that that benefit of the privilege had vested in the trustees.

There was one category of documents in respect of which B conceded the trustees enjoyed the benefit of his privilege. These related to a judgment sum awarded to him which had now vested in his trustees (being an asset that could be used in distributing to creditors).

B disputed that privilege had vested in his trustees in respect of the remaining categories of document. S argued that it had because:

  • The title in the documents that recorded the privileged information had passed to the trustees and therefore the privilege in the documents had also passed to the trustees;
  • The privilege itself was property and formed part of B's estate - either as an interest arising out of or in relation to the property (s.436(1) IA 1986 or as an exercisable power over or relating to property under s.283;
  • The privilege related to B's obligation to pay the judgement debt and formed part of B's estate.

Decision

The court held the trustees in bankruptcy did not acquire the benefit of B's privilege in relation to the disputed documents. In summary:

  • The right to exercise privilege cannot depend on ownership of the paper on which the privileged information is recorded. What matters is the right to control the dissemination and use of the privileged information recorded on the paper - the client holds that right.
  • Whether the trustee acquires ownership of the bankrupt's privileged information does not depend upon the status of the documents as possessions, it depends on the trustees acquiring property to which the information protected by legal professional privilege relates.
  • There is a strong analogy between the right of privacy and the right of privilege. Both are personal rights protected by the European Convention on Human Rights.
  • Privilege is not an 'interest' within the meaning of section 486(1) IA, its only effect is to enable the beneficiary of the privilege to resist compulsory disclosure of information in proceedings. It is not a marketable right, it has no commercial value and it cannot be realised or distributed to creditors.
  • Privilege is a right in respect of the information which arises out of the confidential relationship between the client and the lawyer, it has nothing to do with the status of the documents as possessions.
  • It is not an exercisable power over or relating to property under s.283 (4) IA. In the context of disclosure in proceedings privilege is not a power which would assist the trustee to realise the value of the documents recording the privileged information, or to distribute proceeds among creditors.
  • A judgment against the bankrupt was not 'property' or 'an obligation' within S 486(1) IA. A judgment against a bankrupt is a liability and as a result the creditors among whom the trustee in bankruptcy must distribute the proceeds of the bankrupt's estate will include the judgment creditor. A judgment debt cannot be realised for the benefit of creditors.

Comment

The Judgment makes it clear that privilege in a bankrupt's documents will not automatically be vested in the bankrupt's trustees in bankruptcy. It will depend on the nature of the information recorded in the documents.

If the privileged information relates to property which is realisable or marketable the trustees will be able to claim the benefit of the bankrupt's privilege. If it does not relate to 'property' this judgment suggests they will not.

The decision is being appealed to the Court of Appeal and we will update you as and when any appeal is heard.

Income payments order made in respect of income drawn down under a pension

A decision of the Chancery Court has confirmed that an Income Payments Order (IPO), made pursuant to section 310 of the Insolvency Act 1986 (IA), could include income drawn down from a self-invested personal pension (SIPP) scheme.

Background

The purpose of an IPO under the IA is to allow surplus income to be used to meet the claims of creditors - including the costs and expenses of the bankruptcy. An IPO will require income received in a specified amount and for a specified period to form part of the bankrupt's estate. S310 of the IA provides that a bankrupt's income includes any payment in respect of "the carrying on of any business or in respect of any office or employment and... any payment under a pension scheme" (subject to certain defined exclusions - not applicable in this case).

In Lloyd Edwards Hinton (Trustee in Bankruptcy) v John Wotherspoon (2016) the trustee in bankruptcy (the Trustee) applied for an IPO against a bankrupt, Mr Wotherspoon. Mr Wotherspoon was in receipt of a capped drawdown SIPP scheme (the Capped Drawdown) and in deciding whether to make an IPO, one of the questions the court had to determine was whether Mr Wotherspoon was entitled to an income from that Capped Drawdown.

The court confirmed that Parliament did not intend pension funds to become available to creditors in a bankruptcy, unless other statutory provisions require otherwise. S310 of the IA is an example of statute providing otherwise, as long as income from the pension is made to or the bankrupt becomes entitled to payment. There is a 'Policy' to ensure that pension funds are ring fenced to remain available to provide a retirement income for life or to be inherited upon death unless and until income is paid out or the bankrupt is entitled to be paid that income. Once the bankrupt is in receipt of that income - or is entitled to it - the income can be treated just like any other income.

The Registrar recognised there had been two earlier conflicting decisions at first instance - both regarding the application of S310 IA to pension funds.

In the first, Raithatha v Williamson (2012), the court had held that the bankrupt was entitled to payment in the nature of income even though he was yet to make an election. A lump sum payment was income not capital; parliament could not have intended to create a technical distinction between those who had made an election and those who had not; and the court has the power to elect either a lump sum payment or periodical payments to be made under the IPO.

In the second case (Horton v Henry (2014) - see further our insolvency litigation briefing from January 2015) - the court decided that where a bankrupt still had options available it would only be after an election has been made that S310 IA could be applied. The Registrar specifically referred to the fact that as a result of this decision the Insolvency Service guidance is that IPO calculations should not include an undrawn pension fund - only the lump sum / income which a bankrupt has elected to draw. This case has been to the Court of Appeal and the transcript of the judgment is awaited.

Decision

The Registrar said the latter decision was "plainly right" and it was this decision he would follow. In relation to the funds in Capped Drawdown he held as follows:-

  • There is a distinction between cases where the sum payable is unknown and those where it has become liquidated;
  • Section 310 IA will only apply when the sum is liquidated;
  • A bankrupt is not entitled to a payment if there are elections still to be made; and
  • Those elections cannot be made by the court because it does not have the power to order how a fund will be crystalised.

If an election has not been made, the mere existence of a drawdown fund - whether invested or in cash - is not enough to establish an entitlement. The bankrupt still has to decide whether to purchase an annuity, take a lump sum, drawdown income or leave the fund untouched. The court does not have the power to order the bankrupt to choose or to choose itself and the trustee cannot choose either. There is no entitlement until a decision - an election - has been made.

In this case the bankrupt had made an election and, as a result, the funds in Capped Drawdown could be included in the IPO calculations.

Comment

This decision, along with Horton v Henry, supports the position that a bankrupt's pension can only be included in an IPO if the bankrupt has made an election and the pension is in 'payment'. It remains to be seen what the position will be following the Court of Appeal decision.

We do, though, now have two first instance decisions that confirm pension funds cannot be included in an IPO unless the bankrupt has elected to receive payment, but there still remains a first instance decision to the contrary. Court of Appeal authority on the point will be very helpful.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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