Ten questions when a client enters an insolvency process
By Steven Wood, Practice Support Specialist (Insolvency)
Members may occasionally find themselves with an insolvent client and being asked to produce information by the insolvency practitioner (IP) appointed. Steven Wood, Practice Support Specialist (Insolvency), looks at some of the questions members regularly ask when such a situation arises.
The question of rights of access to books and records and payment for providing information can be a thorny issue. The recent case of GP Cars (Herts) Limited, concerned an application brought by an IP under section 236 of the Insolvency Act 1986 against the company's former solicitors for delivery up of their books and records relating to the company. However, many of the principles set out, in this case, apply to accountants also.
1. Do I need my client's instructions?
No, the IP essentially steps into your client's shoes. You do not need to take your client's instructions on whether information should be provided to the IP.
2. What are my obligations under law?
The legislation is different depending on the insolvency process.
Corporate insolvency (Liquidation, Receivership, Administration)
The relevant sections of the Insolvency Act 1986 which deal with an IP's entitlement are 234 and 236.
Section 234 requires that "Where any person has in his possession or control any property, books, papers or records which the company appears to be entitled, the court may require that person…to pay, deliver, surrender or transfer the property, books, papers or records to the office holder."
Section 236 is more wide-ranging than section 234 and may require "any person …capable of giving information concerning the promotion, formation, business, dealings, affairs or property of the company" to appear before the court and "to submit…an account of his dealings with the company or to produce any books, papers or other records in his possession or under his control relating to the company or the matters referred to in paragraph (c)…"
Sequestration (personal bankruptcy)
The relevant sections of the Bankruptcy (Scotland) Act 2016 which deal with an IP's entitlement are sections 108(3), 118 and 119.
Section 108(3) states that "The trustee is entitled to have access to, and to make a copy of, any document relating to the assets or the business or financial affairs of the debtor - (a) sent by or on behalf of the debtor to a third party, and (b) in the third party's hands".
Sections 118 and 119 give the trustee the ability to request (or seek an order from the Sheriff to compel) the private or public examination of any person who the trustee believes can provide information relating to the debtor's assets, the debtor's dealings with them or the debtor's conduct in relation to the debtor's business or financial affairs.
3. That's all very well, but what does it mean in practice?
The normal ownership distinction between client and firm records apply. The IP is entitled to access and take control of client records. Whilst the legislation may reference court involvement, ICAS would expect a member to co-operate with the requests of an IP for delivery of client records without the need for the IP to obtain a court order.
In relation to the firm's own records (such as working papers), ICAS would again expect a member to co-operate with an IP without the need for court involvement. IPs are given powers to go to court to compel disclosure of information in order to help with their investigations into the pre-insolvency affairs of the company or individual, in order that they can discharge their statutory duties.
Where a request is made for production of the firm's books, papers or other records then the request should be specific as to the information required (as opposed to just requesting an account of all dealings with the insolvent company). It is also expected that the IP should be able to demonstrate reasonable grounds for the request being made, for example, the information/documents are required to discharge statutory functions.
4. What about client confidentiality?
One of the fundamental principles within the Code of Ethics is confidentiality. The Code of Ethics provides that disclosure of confidential information may be may where required by law. This would include where an IP has obtained an order of the court under section 234 or section 236.
In certain circumstances, an accountant may also disclose confidential information to third parties even when not obliged to do so by law or regulations if such disclosure is in the public interest and is not contrary to laws or regulations. Where an IP has made a request on reasonable grounds then we would consider that it is in the public interest to provide that information without the IP being required to obtain a court order which would likely result in unnecessary additional costs being incurred in the insolvency process.
Any information supplied should only be given after full consideration of client privilege, material prejudice to ongoing or prospective legal actions and GDPR requirements. It may be appropriate for legal advice to be obtained prior to providing information from the firm's own records.
5. Can I charge the costs incurred in providing the relevant information?
In short, no. This was clarified once again by the court in the recent case of GP (Herts) Limited. The court is unlikely to award costs to you unless there are exceptional circumstances and unreasonable conduct on the part of the IP. There is no general principle or presumption that the IP should pay costs and the court will factor in that compliance is a public duty. The recent case backs up the Harvest Finance Ltd decision from 2014.
As mentioned above, we would expect IPs to make reasonable requests and not request information beyond that which would reasonably be required. So, for example, if they are specifically looking at the recovery of a director's loan account balance it might reasonably be expected that they would wish to see reconciliations or adjustment schedules between the company's books and records and the statutory accounts. It is unlikely to be reasonable to request the full working papers file be provided.
6. I'm owed money – can I exercise a lien over my client's books and records?
A lien effectively gives a creditor the right to retain the possession of an asset until an underlying debt or obligation is repaid and is explained in further detail within the ICAS help sheet Exercising a right of lien.
However, a lien over books, papers or other documents of an insolvent party is unenforceable to the extent that it would stop the IP having access to them. This is to ensure that the public interest of IPs fulfilling their investigative duties is given priority over private security rights.
Section 246 of IA86 states "….a lien or other right to retain possession of any of the books, papers or other records of the company is unenforceable to the extent that its enforcement would deny possession of any books, papers or other records to the office-holder".
Similarly, section 108(5) BSA 2016 states "The trustee may require delivery to the trustee of any title deed or other document of the debtor, even if a right of lien is claimed over it".
However firm papers remain the property of the firm and do not fall under lien provisions. To the extent that the IP takes possession of these, they should be returned as soon as they have fulfilled the purpose for which they were borrowed.
7. Should I continue with the work I was undertaking for my client?
No further work should be undertaken unless and until you have consulted with the appointed IP.
The IP may on occasion choose to instruct you under a new engagement to allow continuity and consequently minimise costs. For example, where the practice provided payroll services the IP may wish to instruct you to continue to process the payroll or issue P45s to employees.
There is no obligation to continue provision of services where requested by the IP and commercial considerations should be borne in mind. While the provision of services instructed by the IP will be an expense of the insolvency process, any amount outstanding from the client both from outstanding fees and WIP will be a claim in the insolvency process. So-called 'ransom payments' can be made by IPs in order to secure future services but there is no entitlement. Ultimately whether an IP is willing to make a discretionary payment will be a balance between the cost to the insolvent estate, the cost to the estate of alternative service provision and convenience. Where such a payment is made this will reduce the balance of the claim in the insolvency.
8. What about outstanding accounts or tax returns?
For companies, other than in a member's voluntary liquidation, ordinarily outstanding accounts and tax returns do not require to be completed or filed. Should the IP request work to be done then the comments above apply equally.
For partnerships or individuals, the situation is likely to be more complex and tends to be focussed on tax issues. The tax claim in the insolvency will be for HMRC to submit but they obviously require information to enable them to establish their claim. In the absence of returns, HMRC have the ability to issue determinations which ultimately could form part of the claim. Practically for an IP, the balance is therefore whether the costs involved in preparing the outstanding information compared to the degree of accuracy of determinations will be of benefit to creditors. If the outstanding returns are likely to be of consequence, then the IP may request these to be completed and the comments above in connection with continuing services apply.
The pre-insolvency period may also have a bearing on the post-insolvency tax affairs of the partners or individuals concerned. Should you intend to continue to act for the former partners or individual concerned (see below) then their individual tax position will also have a bearing on whether the outstanding returns may require to be completed. Where there are no compelling reasons for the outstanding returns to be completed for the insolvency process then discussions around further work and the costs of doing so will be for discussion with the individuals who will benefit from that work being undertaken.
9. Can I continue to act for the former partners, directors or other individuals associated with the insolvent?
There are no particular provisions which prevent this, although consideration should be given to ensure compliance with the Code of Ethics. Careful consideration should be given to whether any new threats may exist, or any previously identified threats have changed such that further evaluation of safeguards may be required.
10. I've been asked to help prepare a statement of affairs. Can I charge for this?
In some circumstances, you may be asked by a director to assist them to prepare a statement of affairs which has been requested by the IP. There are provisions within legislation which allow the costs of such assistance to be met as an expense of the insolvency. The extent of these costs must be reasonable and reflect the value of work undertaken. It is not permissible to attempt to make a recovery of any fees which may be outstanding, and which may not be recovered as a result of the insolvency through an increased charge for the statement of affairs work. The director must seek the prior approval from the IP for the incurring of costs.
It should be noted that while the costs may be met by the insolvent estate, the work is being carried out on the instruction of the former director. It would be normal for the letter of engagement to provide that the invoice for the work will be sent direct to the IP for payment.