Sections 15-16: Excessive pension contributions made by persons who have become bankrupt
Section 11 ensures that if someone becomes bankrupt, their tax-approved pensions are protected. Under section 12, rights under non-approved pensions may also be protected. However, it is possible that people could put large amounts of their assets into pensions in order to keep them out of the reach of creditors. So sections 15 and 16 (and paragraphs 67-72 of Schedule 12) provide a power to recover excessive contributions from a pension so that they can be used for the benefit of creditors. These measures were added to the Bill as amendments at Commons Report stage (Hansard vol. 331 col. 701), and at Lords Committee stage (Hansard vol. 604 col. 951).
Section 15 amends the Insolvency Act 1986 by replacing sections 342A to 342C;
Section 16 makes parallel provision for Scotland, by replacing sections 36A to 36C of the Bankruptcy (Scotland) Act 1985.
References below are to the new sections 342A to 342C.
Application for a court order (new section 342A)
Where an individual has been made bankrupt and the trustee in bankruptcy has reason to believe that excessive contributions have been made to a protected pension, he can apply to the court for an order to recover the excessive contributions (subsection (1)).
The test the court has to consider is whether the making of contributions has unfairly prejudiced creditors (subsection (2)). Contributions that have unfairly prejudiced creditors are termed “excessive contributions”. Subsection (6) provides that the court must consider two matters in particular when considering whether contributions are excessive:
whether the making of any of the contributions was for the purpose of putting assets beyond the reach of creditors;
whether the total amount of contributions was excessive in the light of the bankrupt’s circumstances when the contributions were made.
If the court is satisfied that excessive contributions have been made, subsection (2) provides that the court may make an order to restore the position to what it would have been if the excessive contributions had not been made.
Court orders (new sections 342B and 342C)
Section 342B gives more details about the nature of an order made under subsection (2) of section 342A. Subsection (1) says that the order may include provision:
requiring the pension scheme to pay an amount to the trustee in bankruptcy;
reducing any pension benefits that the individual and his family are entitled to; and
for recovery of costs incurred by the scheme in supplying information for the purposes of the application and in complying with the order.
Subsection (3) clarifies that an order to restore the rights of someone other than the bankrupt to what they would have been had the excessive contributions not been made, does not apply to rights that person has as a result of a pension sharing order or agreement (but see sections 342D to 342F inserted by paragraph 71 of Schedule 12).
Subsection (4) limits the amount which the pension scheme can be required to pay to the trustee in bankruptcy to the lesser of:
the amount of the excessive contributions; or
the current value of the bankrupt’s pension rights under the scheme.
Subsections (5) and (6) provide that, where an order is made for the pension scheme to pay an amount to the trustee in bankruptcy, the order must provide for a corresponding reduction in the bankrupt’s rights under the scheme.
An order under section 342A is binding on the trustees or managers of the pension scheme concerned, and overrides the scheme’s rules so far as is necessary (section 342B(7)).
Section 342C provides supplementary details and clarification. In particular:
Subsection (1) of section 342C requires the trustees or managers of the pension scheme to give the trustee in bankruptcy information about the bankrupt’s pension arrangements for the purposes of making an application to the court.
Subsection (2) provides that any other provisions or enactments which prevent assignment of pension rights, do not apply to a court making an order under section 342A.
Subsections (4) and (5) provide for regulations and guidance concerning the calculation of the value of an individual’s rights under the pension scheme and the calculation of the reduction in the scheme’s liabilities in respect of that person.
Pension sharing and bankruptcy
Paragraph 69 of Schedule 12 inserts new sections 36D to 36F into the Bankruptcy (Scotland) Act 1985. Paragraph 69 provides for situations where both pension sharing and bankruptcy are involved: where in the run-up to a person’s bankruptcy, his pension rights were the subject of a pension sharing order or agreement.
These circumstances may arise where a couple divorce and share the pension, and subsequently the scheme member becomes bankrupt. If a court rules that his pension rights are based on excessive contributions, the pension share awarded to his former spouse, or a portion of it, may in limited circumstances be available to his permanent trustee in bankruptcy.
The term “excessive contributions” is properly used only in relation to the bankrupt. Once pension rights are transferred to the former spouse it is no longer correct to use the term “excessive contributions”. Instead the legislation refers to rights which are the fruits of “the unfair contributions”, that is, contributions that have unfairly prejudiced the bankrupt’s creditors.
Scottish insolvency law provides that, subject to certain time limits, financial settlements made by the bankrupt, including divorce settlements, can be reopened. The permanent trustee can apply to the court to seek recovery of property or funds if these are a gratuitous alienation or an unfair preference (sections 34 and 36 respectively of the Bankruptcy (Scotland) Act 1985).
Gratuitous alienations mean transfers of assets at undervalue that unfairly attempt to deprive creditors.
Unfair preferences are transactions that give preference to one creditor over another.
In addition, the permanent trustee can apply to a court to recover for the bankrupt’s estate any capital sum or property transferred to the bankrupt’s former spouse by an order made under section 8(2) of the Family Law (Scotland) Act 1985. This provision is contained in section 35 of the Bankruptcy (Scotland) Act 1985. (Paragraph 68 of Schedule 12 extends the provisions in section 35(1) of the Bankruptcy (Scotland) Act 1985 to include pension sharing orders.)
The policy linkages between pension sharing and bankruptcy build on the existing legislation. The pension sharing order or agreement will only be able to be unpicked if:
it can be shown to a court that the pension sharing order or agreement had the effect of defeating creditors (e.g. it was a gratuitous alienation or an unfair preference); and
the pension rights transferred to the former spouse could not have been made without including the fruits of unfair contributions; and
even when the unfair contributions are treated as being used in the first instance to produce the bankrupt’s share of the pension, some of the former spouse’s share of the pension is derived from the unfair contributions.
If all of these conditions are satisfied, there will be a balance of unfair contributions contained in the former spouse’s pension share and an application can be made to the court to unpick the pension sharing order or agreement.
In practice, on an application by the permanent trustee under section 36A(1), the court will examine the contribution history of the bankrupt and will come to a view about the value of the excessive contributions. Because of pension sharing, the value of the bankrupt’s remaining pension rights may not be sufficient to enable the full amount of the excessive contributions to be recovered from his remaining pension rights. In such a case, the permanent trustee might look to the former spouse’s pension share, and make an application to the court under sections 36D(1)-(3) for an order for recovery. The court would be able to exercise the powers available to it in respect of gratuitous alienations, unfair preferences, and orders for the payment of a capital sum on divorce, to the extent that any amount transferred by those means represents unfair contributions.
If the court finds in favour of the permanent trustee, it will be able to order that that part of the former spouse’s pension share should be passed to the permanent trustee.
The new section 36D sets out the conditions the court has to consider in determining whether the pension share awarded to the former spouse is recoverable as unfair contributions under these provisions.
Subsections (1), (2) and (3) of the new section 36D define pension sharing transactions for the purposes of sections 34, 35 and 36 of the Bankruptcy (Scotland) Act and require that these sections shall only have effect to the extent of that part of the pension share that is recoverable.
By virtue of subsections (4) to (9), the court must consider how much of the pension share is derived from unfair contributions. (“Unfair contributions” are defined as contributions made to the bankrupt’s pension that unfairly prejudiced his creditors.) These subsections then prescribe how the court is to decide what is actually recoverable.
Firstly, if the part of the bankrupt’s pension not derived from unfair contributions was sufficient to fund the share that passed to the former spouse, then no recovery can be made from the former spouse’s share. But if any of the share assigned to the former spouse could not have been made other than from the fruits of unfair contributions, that amount is recoverable by the bankrupt’s permanent trustee.
Section 36E sets out conditions to be met for these purposes by orders under sections 34, 35 or 36.
Subsection (1) defines the term “recovery order” as meaning a decree granted under section 34(4) of the Bankruptcy (Scotland) Act 1985, an order made under section 35(2) of that Act or a decree granted under section 36(5) of that Act.
Subsection (2) details the matters which a court may include in a recovery order. For example the order may require the pension scheme to pay an amount to the permanent trustee. The matters listed are additional to those which can generally be included in an order remedying an unfair preference etc.
Subsection (4) limits the amount which a pension scheme can be required to pay to the permanent trustee to the smallest of:
the amount of the former spouse’s pension share which represents unfair contributions and is recoverable;
so much (if any) of the unfair contributions as is not recoverable out of the bankrupt’s share by way of an order under section 36A of the Bankruptcy (Scotland) Act 1985 requiring the person responsible for the pension arrangement to pay an amount to the permanent trustee; and
the value of the former spouse’s pension share.
Subsections (5) and (6) provide that where an order is made for the pension scheme to pay an amount to the permanent trustee, the order must provide for a corresponding reduction in the former spouse’s rights under the scheme.
Subsection (7) provides that an order or decree under section 34, 35 or 36 is binding on the trustees or managers of the pension scheme concerned, and override the scheme rules so far as is necessary.
Section 36F contains additional requirements in respect of the making of recovery orders.
Subsection (1) requires the trustees or managers of the scheme to provide the permanent trustee with information about the former spouse’s pension arrangement, and if appropriate, the bankrupt’s pension arrangement, for the purposes of making an application for a recovery order.
Subsection (2) provides that provisions or enactments which prevent assignation of pension rights, do not apply to a court making a recovery order.
Subsections (3) and (4) provide for regulations and guidance concerning the calculation of the value of the former spouse’s pension share and the calculation of any subsequent reduction in scheme liabilities in respect of the former spouse’s pension share.
Paragraph 71 of Schedule 12 inserts sections 342D-F into the Insolvency Act 1986. These sections apply to England and Wales, and make parallel provision to the requirements that apply to Scotland (contained in paragraph 69).
