Friday, March 22, 2013

Breaching the Warp Core – PPI – The Final Frontier

Ohhh Kaaay!  Here goes for the article I have been putting off writing.  As you will see from the title, we are boldly going where nobody else has dared to go, and commenting on the whole PPI mess.  However, in a cowardly piece of self-protection, I have to start out with a wide disclaimer that these are just our thoughts and you’d be daft to rely on them.  Obviously you should seek your own advice that is specific to the particular cases you are dealing with.
As we understand it, the current position is that the regulators and R3 are trying to agree a combined notice about how PPI claims should be treated.  The main difficulties arise in IVAs, so most of this article is about them.  The senior counsel that the regulators have instructed appear to disagree and we understand that further counsel’s opinion is being sought.  This article should be seen a bit like our articles about Paymex, in that these are ideas that we can put out earlier than the regulators because we are not constrained by the framework that they have to work within.
We suspect that, because of the doubt about how PPI claims should be treated, any “advice” issued by the regulators in due course is likely to start by saying that you will have to treat each case on its own merits and you should seek your own legal advice anyway.  We don’t blame them, as it is a minefield and we have had to include a similar disclaimer, but it does rather cast doubt on how useful the advice is in the first place!
The points below are mainly drawn from past client queries, but include some of our current thinking.  Please note that some of it is contradictory, as our opinion has changed over time.  The real purpose of this article is to make you aware of some of the complexities, rather than to provide technically correct advice.  We have suggested some pragmatic, broad-brush solutions that could be considered at the end, but we are not convinced that anyone in the profession is really going to pursue them.
1              Is PPI an asset in bankruptcy?  All of the sources we can find agree that it is.  That means that the original right to the PPI is an asset, so it vests automatically in the bankruptcy estate without any need for assignment or transfer.  The trustee can claim it direct from the financial institution, and the debtor is not entitled to it. It survives as an asset in the bankruptcy even after the debtor’s discharge so that the debtor is never in a position to recover it.  The biggest problem with this is likely to be bankrupts, and former bankrupts, pursuing the PPI themselves, either with or without a claims company and the trustee not finding out until too late and the money has been recovered and spent by the bankrupt.
2              Is PPI an asset in R3 terms IVAs? Probably!  The R3 standard terms for IVAs (V2, as that is the version that is likely to apply to nearly all of the cases you are currently dealing with) include an all asset clause that should catch it.  Paragraph 26 says: “Property other than Excluded Assets belonging to or vested in the Debtor at the date of commencement of the Arrangement which would form part of the Debtor’s estate in a bankruptcy shall be subject to the Arrangement and be an asset thereof.”  There may be conflicting terms in the proposals that could create doubt over that interpretation, and the impact of modifications would also be a factor, but under the original R3 terms you should be able to treat the PPI reclaims as assets.
3              Is PPI an asset under the IVA Protocol standard terms? Possibly, but possibly not! The Protocol and the related standard terms don’t have a simple statement like the R3 terms and instead our logic for including PPI comes from the interaction of two definitions at the start of the Protocol standard terms:    excluded assets” are those assets that are excluded from a debtor’s estate in bankruptcy and any other assets identified in the proposal as being excluded from the arrangement; and “after acquired assets means any  asset, windfall or inheritance with a value of more than £500, other than excluded assets that you acquire or receive between the date the arrangement starts and the date it ends or is completed, if this asset could have been an asset of the arrangement had it belonged to or been vested in you at the start of the arrangement.  We argue that unless the proposals specifically exclude PPI it would be included. We consider that if there was a term in the proposals purporting to exclude other assets at that time it could only refer to known and disclosed assets, so that something unknown like PPI could not have been specifically excluded.  Furthermore, we consider that if that opinion is wrong and it was excluded, then the realised claim would be caught again by the definition of after acquired assets.  This is quite a controversial point, as others are of the opinion that a specific proposal term could exclude PPI if the proposals are worded to only include certain assets in the arrangement and that if it has once been excluded, it cannot subsequently be caught as an after-acquired asset or windfall because it is not after-acquired.
4              If it is not an asset and not a windfall, does that mean it is lost to the IVA?  Possibly not.  We think you could use something like the logic used in the late-90’s in Rod Kilvert’s pensions case. In that case ((Kilvert v Flackett) [1998] B.P.I.R . 721), a pension lump sum that a trustee in bankruptcy could not otherwise have claimed was available to be considered within the bankrupt’s income, effectively allowing a lot of it to be claimed by the trustee as surplus income (though not as much as he could have had if the whole lump sum had vested). If PPI is neither an asset nor a windfall, then you may have to include the refund in the debtor’s income and expenditure for the year and claim it as surplus, which would probably allow him to keep some of it.  The problem with this is that it would then lead to a similar question as that seen in the recent case of Raithatha (as Trustee in Bankruptcy of Michael Roy Williamson) v Williamson, where it was decided that a bankrupt could be required to take his pension so that the income would be available for the bankruptcy estate.  We see a similar situation arising with PPI, in that a debtor may have a claim but if it is not an asset and not a windfall, they may want to defer claiming it until after the IVA is closed to avoid any claim against it as income.  Could a supervisor force him to claim it to benefit creditors?  We will not answer that one!!
5              If PPI is an asset in an IVA, can the supervisor claim it direct? Possibly?  Unlike the position in bankruptcy where property is an asset and vests in the bankruptcy without assignment or transfer, our feeling is that the concept of proposal and acceptance in an IVA could imply an element of assignment.  In other words, the assets start out belonging to the debtor and he proposes to make some (or all in the case of the R3 standard terms) available for creditors.  Only when the creditors approve the arrangement, potentially with modifications, do the assets fall into the arrangement and we don’t know if the court would agree with the idea of them simply vesting on approval, or if they would require the debtor to take some specific action to make them vest.  I suspect that there will be plenty of you reading this who will disagree with that view, but we did say that this was a guide and not a definitive set of rules.
6              If the debtor has to claim PPI, who should pay any related fees? In our opinion the costs of any recovery should be paid out of the realisation, with only the net realisation being due into the arrangement.  Otherwise you could potentially have a situation where the debtor is incurring new debt to a claims agency that they cannot repay if the financial institution makes direct repayment into the IVA (or worse still, offsets the reclaim against its own creditor balance, but see below for more on that).
7              Can PPI be claimed in an IVA after closure if it was identified before the case was closed?  Probably yes.  We keep hearing of debtors not receiving their certificates of completion and cases not being closed because of uncertainty around PPI.  We think that this is unfair and could be incorrect.  Both the R3 and Protocol standard terms include provision for the supervisor to complete his administration after closure and we feel that it should be possible to use those terms to release the debtor and close the IVA to start the process of repairing the debtor’s record while still pursuing the remaining PPI claim.  If he has completed his obligations, it seems unfair to keep the arrangement open and withhold his completion certificate when there is nothing that he can do to progress recoveries. However, the current delays may be caused by the fact that both the Protocol and R3 standard terms state that completion certificate confirms the Proposal has been fully implemented and the debtor is released from all debts that are subject to the arrangement.  The question is whether releasing the debtor from all the debts subject to the arrangement prevents a supervisor pursuing PPI and applying it to those debts.  It could be argued that there are no longer any debts due to be paid to creditors because the issued certificate acts as confirmation that the creditors have been paid in full and in line with the Proposal and its terms.  Our argument, subject to the usual disclaimer, is that it should be possible to release the debtor but retain the obligation to settle the debts in the arrangement, in the same way that a bankruptcy estate continues after the debtor is released from the debts.  Accordingly, it should be possible for a supervisor to pursue PPI and apply it to the original IVA debts without affecting the end of the debtor’s obligations under the IVA and allowing his completion certificate to be issued.  That would become more certain if the right to the PPI claim is definitely an asset or has clearly been assigned to the supervisor.
8              Can PPI be claimed in respect of closed cases where the IVA completed successfully?  We think so.  If the PPI vests (see points about this above), then logically it remains vested as it does in bankruptcy.  We think that could allow the former supervisor to use the standard terms to revisit the case (without reopening the arrangement) and reclaim the monies. The problem though is that it is likely to generate resentment amongst debtors, with the resultant bad publicity for the profession.  It would also mean persuading the financial institutions against whom the claim is being made that they will be discharging their obligations by paying the monies over to the former supervisor and not the debtor.  Fortunately they are likely to be creditors of the arrangement in any event.
In most cases this could result in additional realisations as trust monies, which could be distributed in the same shares as the original IVA distributions, subject to some agreement on fees.  Hopefully the profession could agree some sort of global agreement with the main creditor voters to allow the supervisor a reasonable fee from the net realisation after the costs of recovery.  There would, of course, be cases where the recovery might not be economical, and others where the recovery results in a surplus being available to return money to the debtor, requiring the debtor to have a say in the remuneration decision in those cases, but we think that can be dealt with in the relatively small number of affected cases.
9              Can PPI be claimed in respect of IVAs closed by failure?  Probably not, as many modifications over the years have resulted in any trust being terminated on the failure or termination of the arrangement.  You really would need to check each case on its own terms, but it is likely that the trust terminates.  If bankruptcy followed, then the PPI is caught by the bankruptcy, even post-discharge, as above.  In such circumstances there is no further action required by the supervisor. If the debtor was not made bankrupt, they could pursue the PPI claim and it will be up to creditors whether they now petition to prevent this happening. There will be a small number of cases with surviving trusts, but these will vary between those where only realised assets are caught and those where any bound assets remain available.  If the trust only binds realised assets then this is effectively the same as the position for a terminating trust.  If all assets are caught then the Supervisor could probably use the standard terms to pursue the outstanding claims subject to the agreement of fees as above.
10           Can those repaying PPI offset it against their own balance first? There are arguments kicking around on both sides, but no conclusions that we can see! I’m afraid that you probably won’t get a clear conclusion from us either because our opinion is just that, an opinion. We think that because IVAs are a collective process then any sort of post approval preference, such as allowing the refund to be offset against just that creditor’s liability in priority, has to be wrong. However, that is just our opinion, even though we think it is the line that we would encourage you to take with creditors. Your duty is to the body of creditors as a whole and you should therefore oppose any attempt by one creditor to gain special treatment.  However, many post-2007 arrangements were approved with a specific modification that purports to allow creditors to offset PPI claims against their own debt first. If IPs had resisted those modifications at the time this would not be a problem. Our argument at the time, which nobody was brave enough to run with, was that you could simply delete the modification.   Our argument was that you were not rejecting the modification because it was not a valid modification at all. This is because it sought to circumvent the underlying parity principle of the IVA.  Anyway, everyone ignored us, probably correctly, so a lot of arrangements have offset as an approved term.  Now that it has been incorporated in the arrangement it makes it a lot more difficult to argue that a creditor cannot use it.  I would still try, pointing out that the original term was contrary to the principles and therefore unfair. It might help to mention going to the FSA and/or BBA under their Treating Customers Fairly rules, to seek a formal ruling. I think that the bank would back off faced with that. I have certainly heard of cases where the bank has paid out when challenged on the validity of the modification.
11           Would you be criticised by a regulator for not actively trawling through IVA files to look at creditors where there might be a PPI claim to be made? Possibly.  The regulators’ main attention at the moment appears to be on untangling the legal implications, which is understandable if you have managed to read this far.  Once they have an agreed legal position to start from, we think that they are first likely to look at those cases where PPI claims are being made and the firm is charging a fee, either through a related company taking commissions or by increasing realisations so that they can draw more fees under existing approvals. However, in time they may start to look at those IPs who have not even checked. Your main duty is to the creditors and ignoring a potential realisation is likely to attract criticism. Having said that, you could always put the decision into the creditors hands by putting it forward as a variation (you’ll need the debtor’s approval for the variation as well remember, just like any modification or variation). You could propose a variation allowing you to charge, say £100 for looking for a claim and a % of any realisation if a claim was justified. You might have to use an MoJ licenced claims chaser, although you may be able to get the debtor to put in the claim himself, avoiding the cost of a third party claims firm but making the passage of cash a bit more risky (are you sure the debtor would hand over the cash easily?).  Alternatively, there are several claims companies that would do the looking and claiming for you, generally for a flat fee per case plus a (high)% of any realisation, paying you the surplus. If unconnected to your firm, this would be a category 1 expense and therefore would not require approval as a variation, so you could just do it and inform the creditors in subsequent reports.  Given all of the potential alternatives, we think it is probably worth at least exploring them, but document your reasoning to avoid criticism if the regulators look at both those who are pursuing claims and those who are not.
12           Can you be paid commissions by claims firms? The ethical code says “During an insolvency appointment, accepting referral fees or commissions represents a significant threat to objectivity. Such fees or commissions should not therefore be accepted other than where to do so is for the benefit of the insolvent estate”.  It goes on to say “If such fees or commissions are accepted they should only be accepted for the benefit of the estate; not for the benefit of the Insolvency Practitioner or the practice.”  and “Further, where such fees or commissions are accepted an Insolvency Practitioner should consider making disclosure to creditors.”  Therefore, if a claims firm offers to pay a commission any such money should be paid into the IVA.  We are aware of at least one claims firm that offers to repay 40% of any fees they receive for identifying claims as a commission.  We would expect that any IP who accepted such an arrangement and retained the money rather than paying it direct into the estate could expect to receive the most extreme regulatory sanction.
13           What about associated claims management firms?  Several IVA providers have associated claims management companies that they may wish to instruct to deal with PPI claims.  Any such instruction should be on normal commercial terms and should represent value for money when compared to unconnected alternative providers.  SIP 9 says, “Where services are provided from within the practice or by a party with whom the practice, or an individual within the practice, has a business or personal relationship, an office holder should take particular care to ensure that the best value and service is being provided. An office holder should also have regard to relationships where the practice is held out to be part of a national or international association.”.  Furthermore, you will need approval for any fees and the SIP also says, “Payments that could reasonably be perceived as presenting a threat to the office holder’s objectivity by virtue of a professional or personal relationship should not be made unless approved in the same manner as an office holder’s remuneration or category 2 disbursements.”.  So, as well as making sure that the instruction represents good value, you will either need a specific resolution approving the fees, or you need to disclose details of the fee structure and relationship in your category 2 disclosure so that your category 2 approval covers it.  We think it is probably best to use a separate resolution in IVAs, as many creditors routinely reject category 2 disbursements and you will need to differentiate this payment and seek approval outside their normal policy.
14           If you get PPI monies and interest is added gross, how do you account for income tax?  We have not really got a clue, but when discussing the issue with a client we came up with the following suggestions that might be worth considering:  1) If the debtor is on the self-assessment system, tell him the interest and tell him to account for it, offering to reimburse the relevant tax element as an expense of the arrangement when he provides you with a copy of the self-assessment return and HMRC determination; 2) If the debtor is not self-employed, find out the details for his tax office and employer’s reference number and any personal PAYE reference number or NI Number, then contact the local tax office in writing to explain this situation, disclose the interest received and your calculation of the tax due, and ask for it to be dealt with between you and the local tax office so that the debtor’s tax code and PAYE generally remain unaffected; 3) Write to HMRC separately at national level, explaining the situation, providing details of the interest and tax due and asking them to waive it as de minimis (which will only work if it is low enough); and 4) deduct basic rate tax and send it to HMRC, telling them and debtor about the details of what you received and how you calculated the tax and telling the debtor that they may be able to reclaim it if they are below the tax limits, as they could for bank account interest deducted at source.  If you suspect that they may be a higher rate taxpayer explain that they may need to account to HMRC, probably through their self-assessment return.

So what can be done about all of this? 
We have started by shutting the stable door after the horse has escaped, lived to a ripe old age and been converted to burgers, by changing our standard proposals for use with both sets of standard terms so that they now specifically catch PPI and set out how it can be recovered.  No doubt further fine-tuning will be required in due course as legal advice and case law filters through, but we have at least tried to start doing something.
We think that some sort of industry-wide agreement is needed on the treatment of PPI in IVAs, with some fairly sweeping and robust decisions needed to unlock the growing number of arrangements that are being held up by all of the uncertainty.  We think that something like the original protocol process, where stakeholders came together and discussed a pragmatic solution is likely to be the way forward.  Our proposals, which we would be happy for the profession to use as a starting point, are as follows.  Note that they include some hints as to the sort of areas that the stakeholders will need to discuss, so the bits in brackets with question marks are not typos.  We would hope that some sensible negotiation could arrive at a suitable compromise (e.g. debtors agree to statutory interest in exchange for allowing certificates of completion to be issued; and creditors agreeing not to offset claims in return for potential statutory interest):
1          PPI claims to be treated as assets of every arrangement. They remain bound by the arrangement notwithstanding any closure or release except where payment in full (with statutory interest?) has been achieved.
2          The cost of identifying and recovering PPI claims are to be paid out of the realisation, so that the debtor is not liable for unpaid costs and the IVA estate receives the net proceeds.
3          PPI claims to be paid into arrangements and not offset.
4          Debtors to be issued with completion certificates once they have completed their agreed payment obligations under their original proposals, as approved and modified, with PPI claims to be pursued afterwards if necessary under the arrangement trust.
5          Fees for identifying potential PPI claims and pursuing the recovery of claims to be authorised at the IP’s discretion as a category 1 disbursement up to set limits (say £100 per case for identifying claims and 33% claims fee??).
6          IPs to be allowed to charge fees on realisations in accordance with existing approval in open cases and on (say 15% of the net realisation??) across the board in closed cases.
7          All parties to acknowledge that legal action or formal approval at a variation meeting in a specific IVA is unlikely to be financially viable and therefore consent to this form of “protocol” approach. 
8          All parties agree that where the circumstances of a particular case don’t suit the above arrangements, a variation meeting of creditors can decide the way forward in that specific case, whether the arrangement is still open or not.
We think, in our simplistic, unrealistic way, that these small steps could free debtors up to get out of their IVAs and get on with life, while allowing creditors to share fairly in the proceeds of PPI claim and giving IPs a framework to resolve the issue without fear of legal or regulatory challenge.  Our fear is that if something is not done soon, debtors will suffer and any potential benefit could be wholly dissipated in costs.