Why the date of death matters for creditors of insolvent estates

30 September 2021

Death does not release an individual from their debts and liabilities, nor does it allow transactions made to loved ones to escape challenge. This is so regardless of whether the transactions were made with the intention to defraud creditors.

Insolvency administration orders (IAOs)

IAOs essentially apply a modified bankruptcy regime to a deceased’s insolvent estate. A petition for an IAO can be sought by creditors (where the debt would have been sufficient to support a bankruptcy petition) as well as personal representatives (PRs) where the estate is clearly insolvent. A trustee in bankruptcy operating under an IAO has statutory powers over and above those available to PRs. IAOs are often overlooked but should be borne in mind by creditors and PRs alike when dealing with a potentially insolvent estate: they open up a useful toolbox of powers to claw back assets, without having to demonstrate the deceased’s intentions to defraud, which may be difficult to establish.   

Two key provisions of the Insolvency Act 1986 (“the Act”) give trustees in bankruptcy the ability to reach backwards or forwards up to 5 years from the date of death to potentially recover assets for creditors provided an IAO is in place, namely:

  1. Section 341 of the Act (as modified by Article 27, Part II, Schedule 1, DPO 1986): permits setting aside transactions at an undervalue in order to recover sums and potentially increase the value of the estate; and
  1. Section 421A of the Act: permits reclaiming the value of the deceased’s interest in any property which they jointly owned prior to death which passed by survivorship to any surviving co-owners.

Importantly, after an IAO has been made, only the official receiver/ trustee in bankruptcy can make transfers from the deceased's estate. All dispositions of property made by the PR after the debtor's death are void, unless they are approved by the court. This provision has the effect of helping to ring-fence the estate whilst the trustee in bankruptcy considers what options may be appropriate to recover any assets and may be of reassurance to any creditors who have concerns over the integrity/conduct of the PR (who may have been appointed by the deceased under their will).

Obtaining the necessary information about assets

An important benefit of obtaining an IAO is that the official receiver / trustee in bankruptcy can at any time summon the following individuals to appear before the court: spouse/civil partner of the deceased, any person known or believed to have the estate’s property in their possession or be indebted to the estate or any person who appears able to give information about the deceased’s dealings, affairs or property. The court can even compel them to submit a witness statement verified by a statement of truth relating to the deceased’s dealings, affairs or property which can be a helpful source of information for the trustee in bankruptcy and creditors.

Transactions at an undervalue (TUV)

Creditors may feel particularly disgruntled if they are aware that questionable transactions were made prior to the deceased’s death, reducing funds available to meet legitimate debts. Article 27 of The Administration of Insolvent Estates of Deceased Persons Order 1986 (amending section 341 of the Act) extends the relevant time for a TUV claim to be 5 years from the date of death, rather than from the date of presentation of the petition for the IAO. This is a useful provision for trustees in bankruptcy to be aware of as it considerably extends the timeframe for capturing potential TUVs. Comparatively, if the estate was not insolvent, PRs would only be able to seek to set aside transactions which took place within 2 years of the date of death. Trustees in bankruptcy can therefore usefully treat TUVs of a deceased bankrupt in the same way as if they were still alive.

Joint tenancies

Section 421A was introduced in 2000 in order to effectively reverse the Court of Appeal’s decision in Re Palmer deceased (a debtor) [1994] 3 WLR 420, which controversially permitted the deceased’s debtor’s interest in a jointly owned property to remain with the surviving spouse, rather than forming part of the estate against which there were several unsatisfied creditors which may have otherwise been paid if the debtor had continued living.

Usually where a property is held under a beneficial joint tenancy (as opposed to a tenancy in common) and one co-owner dies, their interest in the property automatically passes to the surviving co-owner(s) and does not form part of the estate. However, where an IAO is in place, the trustee in bankruptcy can seek under section 412A to recover the value of the deceased’s interest in the property and use it to pay creditors. There are three requirements:

  1. The estate must be subject to an IAO;
  2. The petition for a section 421A order must have been commenced within 5 years from the date of death; and
  3. Immediately before the debtor’s death they must have been beneficially entitled to an interest in a property as joint tenant.

The 5 year time limit seeks to balance the interests of creditors against the surviving co-owner(s). It permits trustees in bankruptcy a significant period of time to claw back potentially valuable interests in property whilst at the same time providing the surviving co-owner with a degree of certainty that after 5 years they will no longer be susceptible to pay back the deceased debtor’s interest.

The court has discretion as to whether to order the surviving co-owner(s) to pay the trustee in bankruptcy an amount not exceeding the value of the debtor’s interest in the property and will take into account all of the circumstances, including the interests of the surviving co-owner(s). However, crucially, unless the circumstances are exceptional (often relating to the ill-health of the surviving co-owner), the court must assume that the interests of the deceased’s creditors outweigh all other considerations, even if this leaves the surviving co-owner without a home (section 421A(3)). This is a powerful tool, putting creditors at the forefront.

Caution to PRs

PRs of an estate should consider applying for an IAO if they think further assets may be made available by administering the estate under the bankruptcy regime. If they do not, they risk facing personal liability to creditors for any fees they have taken from the estate with interest, from the date of death, and compensating the estate for any payments they permitted to be paid out to a creditor or beneficiary which are not otherwise in accordance with insolvency legislation. It is therefore prudent for PRs to withhold making distributions until they have clarity as to the solvency of the estate because the making of an IAO dates back to the date of death and therefore could expose them to significant personal liability.

Comment

Time is not relevant if the purpose of a transaction at an undervalue is clearly to put assets beyond the reach of creditors or to prejudice their interests, as section 423 permits transactions which seek to defraud creditors to be pursued without limitation and without needing to establish insolvency. However, establishing the deceased’s intentions behind transactions may require significant investigation (and costs) and therefore section 339 is a powerful alternative provision especially given its extended scope to catch transactions up to 5 years prior to the date of death. Meanwhile section 421A may be an effective provision to obtain funds for creditors given that properties are often individuals’ most valuable assets. There is a risk that the surviving joint tenant may not have the resources available however the property may then be sold in order to release the funds to be paid to the estate.

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