Publication

"Use it or lose it": section 283A after Lewis v Metropolitan

Insolvency Intelligence 2010, 23(5), 74-76

Joseph Curl

This article analyses the implications of s.283A of the Insolvency Act 1986 (“IA1986”) in light of the recent decision of the Court of Appeal in Lewis v Metropolitan Property Realisations Ltd.[1]  Section 283A of the IA1986 is a comparatively recent provision introduced by s.261 of the Enterprise Act 2002.  It came into force on 5 December 2005 and has become known as the “use it or lose it” provision.  Putting the matter in the simplest terms for present purposes, if a trustee fails to take steps to “realise” his interest in the bankrupt’s home within three years of the bankruptcy order, then the trustee’s interest will automatically re-vest in the bankrupt.  Lewis was an attempt by a trustee in bankruptcy to test the limits of s.283A of the IA 1986.  The Court of Appeal applied a narrow interpretation of the word “realise” and the bankrupt emerged victorious.  This article looks at the Court of Appeal’s decision and considers whether any alternative strategies are available to a trustee who does not want to expose the bankrupt's home to the open market immediately.

Why was “use it or lose it” considered necessary? 

The reason for the introduction of “use it or lose it” was to prevent trustees in bankruptcy from holding on to their share of a bankrupt’s domestic property for a protracted period without attempting to sell it.  Following the sharp property downturn in the early 1990s and the advent of negative equity, there were a number of instances of trustees taking no steps to realise their interest until inspired to do so when values rose again.  Often these properties remained occupied by bankrupts (by now long discharged) and their families despite the shadow of the trustee’s interest looming over their homes.  Critics suggested that this uncertainty was incompatible with finality and prevented former bankrupts from moving on with their lives.

One stark reported example of this practice was Avis v Turner.[2]  In that case, Mr Avis had been made bankrupt in 1989 but his trustee took no steps to realise Mr Avis’s one-third interest in his former home until 2005.  The property had been occupied by Mrs Avis the entire time.  It goes without saying that the trustee’s one-third interest was worth considerably more in 2005 than had been the case in 1989.  The trustee succeeded (both at first instance and on appeal) in obtaining an order for sale.  Had “use it or lose it” applied, the trustee’s interest would have re-vested in Mr Avis in 1992 (ie three years after he was made bankrupt).  This was the sort of situation that s.283A of the IA 1986 was intended to prevent.

Lewis v Metropolitan: “use it or lose it” in practice 

If Lewis had to be summarised in a nutshell, it might be: “they thought they'd used it but they still lost it”.  The facts were unremarkable.  Mr Lewis had been made bankrupt on 12 July 2004.  The bankrupt and Mrs Lewis were the joint legal owners of a property that was worth about £1 million with charges of about £720,000.  Mrs Lewis claimed she was the sole owner in equity.  The trustees did not agree that Mr Lewis had no interest in the property but decided it was not worth fighting Mrs Lewis.

Metropolitan Property Realisations Ltd was the second biggest creditor in Mr Lewis’s bankruptcy.  Metropolitan was prepared to fund and conduct the fight against Mrs Lewis.  So on 11 July 2007 (one day before the three year deadline for “use it or lose it”), Metropolitan took an assignment of the trustee's interest in the property for £1.  The deal struck with the trustee was that if Metropolitan won, then it would hand over 25 per cent of the net realisations to the trustee.  As a creditor-friendly move by the trustee, the assignment made sense.  The creditors got to have a free punt on the claim against Mrs Lewis without jeopardising the limited funds in Mr Lewis’s bankruptcy estate.

Mr and Mrs Lewis responded by seeking a declaration that the trustee had not “realised” his interest within the three years provided by s.283A of the IA 1986.  Consequently, they argued, any interest Mr Lewis may have had must have re-vested in Mr Lewis.  At first instance, Proudman J found for Metropolitan.  The judge determined that:

“…a trustee who sells the estate’s interest for deferred contingent consideration ‘the interest within the meaning of s.283A(3)(a) of the Insolvency Act 1986. ”[3]

The Lewises appealed.  They argued that the judge had conflated the concepts of sale” and “realise”.  Mr and Mrs Lewis said that the trustee had done the former: he had sold his interest for deferred (and contingent) consideration.  However, the scheme of the act required that the trustee's interest be “realised”.  This had not been done, because “realise” meant to turn into money now, not later.

Mr and Mrs Lewis’s argument was accepted by the Court of Appeal.  Their Lordships considered that the whole point of s.283A of the IA1986 was to give certainty to bankrupts.  At the end of the three-year period, the trustee could realise his share at the then-current value.  If he chose not to, then it would re-vest in the bankrupt.  It was of considerable (and apparently decisive) importance to the Court of Appeal that the value of the realisation (and therefore the purchase price that the bankrupt or the spouse had to find) was to crystallise no later than three years after the commencement of the bankruptcy.

The Court of Appeal reasoned that if Metropolitan’s approach was permitted, then this would reintroduce the kind of speculation that s.283A of the IA1986 was designed to stop.  A strongly purposive interpretation of the new provision was made.  The Court of Appeal held that s.283A of the IA 1986 achieved:

“a reasonable degree of certainty for the bankrupt and the co-owner in that by the end of the third year (or the end of the litigation commenced within 3 years) they will by and large know whether the property has to be sold, how much the trustee will get out of the property, that the trustee will no longer be a co-owner, and that the opportunity to make money out of a rising market will not remain with the trustee (giving him an incentive to hang on for some considerable time) but will enure to the benefit of the bankrupt, the co-owner or some other assignee.”[4]  

Lewis shows the court identifying a need to favour the spouse over the creditors in these circumstances.  In a telling dicta, Laws L.J. commented:

“Nor are we convinced by Mr Briggs’s [Counsel for Metropolitan] arguments that the section [283A of the IA 1986] is not intended to prevent the trustee from doing the best deal that he can for the benefit of the creditors. It actually seems designed to do just that, in that it tilts a balance back towards the bankrupt or his family. On any footing it imposes restraints which will work against the creditors. The real question is how far the restraints go in that direction, not whether they exist or not.”[5]  

So there we have it: Court of Appeal authority that a comparatively recent amendment to the insolvency regime is actually designed to prevent the trustee from doing the best deal that he can for the benefit of the creditors. This is stark indeed for insolvency practitioners.

Strategies for the trustee after Lewis v Metropolitan 

According to the Court of Appeal, to “realise” means to get in the full cash consideration now (or at least within the three years provided for by s.283A of the IA1986) and not at some future time.  Without more, the implication of this would seem to be that the property has to be exposed to the market within these three years.  However, there may be alternative strategies available to trustees in bankruptcy who do not wish to market the property straight away.  These strategies were suggested by part of the judgment of the Court of Appeal itself in Lewis.  The Court of Appeal held that:

“This certainty regime is not perfect, and the regime is not totally internally consistent, at least in theory. On any footing the trustee can sell the beneficial interest for cash to someone, who would then be able to sit and wait for property values to rise, and provide a source of an unknown and unpredictable future request for a sale or application for an order for sale. That possibility compromises the desire for certainty that otherwise seems to underpin the section. It might be thought to be as undesirable that such a person should sit and wait as for the trustee to do so…However, that is not a particularly likely scenario. There is no market in beneficial interests in matrimonial homes…If one is looking at out and out acquisitions, it is unlikely in practice that an unconnected third party would come in and occupy the same position as the trustee. So this compromise of the certainty objective is more apparent than real.”[6]

This passage indicates that the Court of Appeal recognises that the certainty objective behind s.283A of the IA 1986 may (at least in principle) be circumvented.  Such circumvention is not defeated by the statutory provision in any theoretical sense.  Instead, the impediment for the trustee is a practical one: there is simply no market in beneficial interests in family homes so the position is regarded by the Court of Appeal as unlikely to arise in practice.  But could the trustee create such a market, or at least find a third party purchaser?  The first and most straightforward way of doing this would simply be for the trustee to “realise” his interest in the bankrupt's home by offering to sell it to one or more of the creditors for an agreed sum.  Possible practical objections to this might be disputes between creditors as to how the trustee's interest should be valued when selling to a purchaser other than the bankrupt or the bankrupt's spouse.  As the Court of Appeal noted, there is no third-party market in beneficial interests in family homes which means establishing market value could be a source of controversy.  It is also possible that multiple creditors might want to purchase the trustee’s share of the bankrupt's home and argue about who the purchaser should be.  A creditor might consider that the purchaser-creditor was getting an unduly favourable deal.  Where there are multiple interested creditors, a second more complex strategy suggests itself.  What if the bankrupt’s creditors under the trustee’s leadership banded together to create the very third party purchaser that the Court of Appeal in Lewis considered unlikely to exist?  On the face of it, there appears to be no reason why the creditors (including the trustee as a creditor for his fees) should not form a company to purchase the trustee’s interest in the bankrupt's home for £1.  Shares in this vehicle could be allotted to the creditors pro-rata according to the interest of each of them in the bankruptcy.  Such a company could then retain the property for as long as it liked and cause a sale at the point when it considered market conditions to be most favourable.  Any controversy between the creditors as to when this was would be resolved by ordinary principles of corporate decision making.  Finally, it may well be the case that the only really interested party is the trustee hoping to recover his fees.  Could the trustee sell the beneficial interest to himself with a view to recovering his fees in years to come?  Purchasing assets from the estate would require approval by the creditors but as long as this difficulty can be overcome it is difficult to see a principled objection.

Lewis was an important decision because it was the first real test by a trustee of the limits of s.283A of the IA 1986.  That attempt by the trustee to retain the benefit of a rising market beyond the three-year “use it or lose it” deadline failed.  The further suggestions in this article offer alternative possible strategies for trustees.  Whether or not these strategies will prove successful is uncertain.  Although it is difficult to detect any principled objection to them on the fact of s.283A of the IA1986, this was probably also the considered view of the trustee and his advisers in Lewis itself.  The trustee failed only because of a narrow and restrictive (and not necessarily correct) interpretation of the word “realise” and the generally purposive approach of the Court of Appeal.  It appears that the industry would benefit from a particularly bullish insolvency practitioner who would like to attempt one or more of these untested manoeuvres for the first time: volunteers are invited!