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costly crumbs for unsecured creditors

17 February 2009

Even though the cost of distributing them may be disproportionate, in cases where net property realised is more than £10,000, meagre crumbs should still be paid to unsecured creditors. This is because insolvency practitioners must look at the benefits to creditors as a whole, not to individual creditors. In the case of International Sections Ltd, the court held that it was wrong to deprive the unsecured creditors of the relatively tiny sums left in the prescribed part pot as the amount was still significant having regard to the benefit to the creditors as a body.

Under section 176A(2) of the Insolvency Act 1986 the prescribed part is ring fenced for the unsecured creditors. However, if an insolvent companys net property is worth less than the prescribed minimum of £10,000 and the relevant office holder considers that the cost of distributing sums to the unsecured creditors would be disproportionate to the benefits, then section 176A(2) is automatically disapplied. If net property is £10,000 or more, however, the liquidator must ask the court to disapply section 176A(2).

The liquidators in International Sections Ltd realised net property of £18,655. There were 66 known unsecured creditors collectively owed a total of £230,613 but the prescribed part only amounted to £6,731. The estimated cost of agreeing the unsecured claims and distributing this sum was put at £3,332. The cost would come out of the prescribed part which would further reduce it to £3,409. The liquidators therefore asked the court for an order disapplying section 176A(2) on the basis that it would be disproportionate to distribute the funds.

The court refused the order. Judge Purle QC observed that the court may well take the view that even though the cost of making the distribution was disproportionate, the unsecured creditors should still receive "the remaining crumbs". The correct approach, said the judge, was to look at the benefits to creditors as a whole and the court should not be too ready to disapply section 176A(2) just because the individual dividends would be small. So, even though in this case the bulk of the unsecured creditors would receive, at most, the princely sum of £14.80, the court refused the order.

The judge drew a contrast with the smaller insolvencies where it is for the office holder to make a commercial judgment to disapply section 176A(2). In cases over the £10,000 threshold, the court is the final arbiter and as well as being satisfied that the cost of the distribution would be disproportionate to the benefits, the court must also decide, in exercising its discretion, whether it would be right to disapply the section. In this instance it was not right and the judge held that disapplying section 176A(2) should be the exception, not the rule.

As mentioned above, the estimated costs of agreeing the unsecured claims and distributing sums are deducted from the prescribed part for distribution, but what precisely are these "costs"? Rule 12.2(2) of the Insolvency Rules 1986 refers to the "costs associated with the prescribed part". In contrast, section 12.2(1) speaks of "fees, costs, charges and other expenses" so it could be argued that only disbursements should be deducted from the prescribed part before making a distribution. The judge took the opportunity to clarify this point. The prescribed part creditors, he said, should not be able to benefit from the work of a liquidator without bearing the expense of the liquidators work. The word costs is shorthand for the more general expression "fees, costs, charges and other expenses" used in Rule 12.2(1).

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