PERSONAL INSOLVENCY LAW AND THE CHALLENGES OF A DYNAMIC, ENTERPRISE-DRIVEN ECONOMY

• Citation: (2008) 20 SAcLJ 438
• Published date: 01 December 2008
• Date: 01 December 2008

Many jurisdictions across the globe are reviewing their personal insolvency law regimes. The worldwide “credit crunch” will accelerate this process. As part of this exercise, there is a natural desire to use personal insolvency law reform to encourage entrepreneurs to undertake risky commercial ventures without fear of excessively draconian consequences. In considering reforms designed to promote that goal, it is standard practice to undertake comparative law investigations. There are, however, inherent dangers here in adopting mechanistic solutions developed in other jurisdictions, because the cultural background may differ. “Legal transplants” do not always work. The potential impact of change must be carefully investigated in each local jurisdiction by making use of empirical evidence. The potential downside of liberalising bankruptcy law should also be borne in mind in that it could encourage irresponsible attitudes towards credit. Most bankrupts these days in Western countries are consumer debtors rather than failed traders. Bearing in mind these caveats, this article reviews the process of transition in personal insolvency law in English law and considers what lessons may be drawn by other jurisdictions from this pattern of evolution.

I. Introduction

1 The purpose of this article is to offer insights to any enterprise-driven jurisdiction (including Singapore), operating a bankruptcy model originally based upon English law, which might be considering revision of its regime of personal insolvency law. This particular regulatory regime has undergone considerable modification in the UK over the past 30 years and valuable comparative insights may be

garnered from that evolution. That English law experience may record successes worth emulating, but inevitably there have been disappointments. Recent reforms introduced in other Commonwealth jurisdictions may also offer constructive insights.

2 There is no doubt that having an effective bankruptcy law model can aid enterprise; in general terms, this is because fear of the consequences of bankruptcy can deter-risk taking.2 Our brief review of historical developments will seek to illustrate that assertion. In particular, it can aid enterprise because many individuals still operate in business in the UK using the unincorporated sole trader model; bankruptcy is the inevitable consequence of business failure in such instances. Directors of companies may, therefore, find themselves facing bankruptcy if their company becomes insolvent and they have guaranteed its debts. Business failure in such instances may be due to the inadequacies of the individual entrepreneur concerned, or it may be caused by macro-economic failure in the system, such as was experienced by many Asian jurisdictions in 1997—1998. Personal insolvency law should be sufficiently responsive to deal in an appropriate fashion with both such cases.3 Having supported our primary assertion, we need to enter a note of caution. The precise way in which that facilitation of enterprise occurs is sometimes misunderstood, particularly when the enterprise-focused reform of personal insolvency law collides with other policy objectives.

II. Historical overview

3 The history of the reform of personal insolvency law in England has been one of an almost continuous tradition of liberalisation in the treatment of debtors.4 With one or two hitches along the way, we have moved from a state of affairs where debtors were imprisoned, to a situation where debtors could reasonably expect to lose virtually all of their assets, to a modern scenario where many assets may be preserved and the bankrupt’s future economic prospects not irreparably damaged. During the course of that evolutionary process, the social stigma associated with bankruptcy has been reduced, but not completely

eliminated. Undoubtedly, one reason for this liberalisation has been the perceived need to assist traders who incur debt.

4 Ironically, the introduction of the first English law bankruptcy regime in Tudor times5 was meant to be an aid for trade creditors who were concerned with the growing problem of debtors in default. The problem was becoming more vexed because of the growth of the economy; the downside of such development is market default producing unpaid debt. The Tudor law moved the focus away from restraining the individual debtor in person towards a policy based upon the control of the bankrupt’s assets with a view to realisation. Quickly, however, reforms were developed that offered comfort to bankrupts, particularly those debtors who could be classified as “traders”.6 This use of the trader concept was to become a characteristic of English bankruptcy law for several centuries thereafter. Thus, discharge from the status of bankruptcy was made available for the first time in 1705 largely in response to the difficulties caused to commercial men operating in testing wartime conditions.7 The discriminatory treatment of non-traders, having been progressively eroded by court decisions which extended the trader concept to its maximum potential, was finally ended in 1861.8 Prior to that date, personal insolvents, who could not be fitted into the trader category, continued to face the risk of imprisonment for debt. This discrimination was officially justified because non-traders were not seen as contributing directly to the economy.

5 Disputes about who should administer insolvent estates raged throughout the 19th century but these debates were ended in 1883 with a classic British compromise brokered by Joseph Chamberlain9 under which the control of the estate was vested partly in public hands (via the Official Receiver)10 and partly in private hands (through the agency of a trustee in bankruptcy). Although trustees were to some extent answerable to creditors, they did enjoy professional independence and the protection of being accorded the status of officers of the court. That compromise has persisted in spite of pressures from the private sector to eliminate the public input altogether. The compromise was necessary

because it would have been disruptive for trade creditors to find their time expended in realising insolvent estates. They lacked the skill and the motivation to be engaged in this form of activity. The 1883 Bankruptcy Act was, therefore, an important milestone in the growth of a new profession, that of the insolvency practitioner.11

6 For the first 70 odd years of the 20th century, a period of stability ensued. The foundation stone was the Bankruptcy Act 1914, which, apart from some minor modifications in 1926, had stood the test of time. The 1914 Act had been based upon Chamberlain’s legislation of 1883. Problems with this structure then began to emerge. Most notable amongst these was the large rump of bankrupts who had failed to seek their discharge.12 This was a social embarrassment. There was also the problem of the increasing lack of utility of the Deeds of Arrangement Act 1914. Deeds of arrangement were developed as a model in the 19th century and were intended to offer a viable alternative to bankruptcy. Unfortunately, the statistics showed that their impact was minimal.13 Although there were some difficulties with the system, the general feeling was that the bankruptcy system worked, a consensus reflected by the Blagden Committee14 in the late 1950s.

7 The first of the residual concerns about the fitness for purpose of modern bankruptcy law was addressed by the introduction of an automatic discharge facility for bankrupts by the Insolvency Act 1976 (see ss 7 and 8). All first-time bankrupts would prima facie be granted a discharge from bankruptcy after five years, whether they applied or not. The 1976 Act did nothing about the deeds of arrangement issue. We concede that these reforms were not closely related to any desire to promote enterprise; rather they can be regarded as a social tidying up exercise. But they also are closely linked to the idea of the consumer society and the social problems that it can create.

8 Shortly after this legislation was enacted, the Government set up the Cork Committee to undertake a fundamental review of insolvency

law and practice in English law. That review, headed by the leading practitioner Sir Kenneth Cork, produced its final Herculean prognosis on the state of UK insolvency law in 1982.15 That report was then used as the basis of major reforms introduced in the Insolvency Act 1985 and quickly consolidated in the Insolvency Act 1986. The starting point for these reforms was the premise that English law was too strict on personal insolvents — the humiliation associated with public examination was offered up as an exemplar. On a more sophisticated level, there was the explicit recognition that bankrupts were sometimes the victims of over-generous credit provision, a facility on which the modern economy depended.16 This is an important observation that has come to dominate personal insolvency law reform for the past 25 years; bankrupts aid enterprise because they incur credit and the economy depends increasingly upon credit-based consumption. Armed with this philosophy, the policymakers went about liberalising the law — public examinations became the exception rather than the norm, automatic discharge periods were reduced to three years, bankrupts and their families were given greater protection with regard to continued occupancy of the family home. A less draconian regime was introduced for bankrupts owing less than £20,000 — summary administration was made available in such instances (see the now repealed Insolvency Act 1986 s 275). There was also an acknowledgment that there needed to be a change in emphasis away from “selling up” the bankrupt to a strategy based upon constructive use of future income and adoption of models that avoided bankruptcy altogether. Thus, the income payments order was revitalised,17 and, more importantly, the individual voluntary...