Insolvency and rent arrears - Alexa Walker explains the effects of tenant insolvency
Posted on 12/02/21
Alexa Walker, a Senior Legal Editor at Shelter, explains the effect on rent arrears and possession proceedings when a tenant becomes bankrupt or subject to a debt relief order.
Bankruptcy and Debt Relief Orders (DROs) can be a way for people with unmanageable debts to get back on their feet. This article looks at the key points advisers need to consider when helping people with rent arrears who have applied for, or are considering, bankruptcy or a DRO.
In brief, where a DRO or bankruptcy order has been made:
- the landlord can issue a claim for possession or enforce a possession order
- the court cannot make an order for the payment of arrears that were included in the bankruptcy or DRO
- payments towards arrears can be made informally with permission from the Insolvency Service
Bankruptcy: key information
A person can become bankrupt if either:
- they have applied to make themselves bankrupt, or
- a creditor has petitioned and more than £5000 is owed
Once the bankruptcy order is made, the bankrupt person’s estate vests in the trustee. The trustee who acts on behalf of the Insolvency Service is the Official Receiver. They are required by law to investigate the affairs of the individual, including looking for evidence of recklessness or fraud. The Official Receiver can use the person’s property and money towards the costs of the bankruptcy and distribute the remaining proceeds to creditors.
Under s283(2) of the Insolvency Act some items are exempt from being claimed by the Official Receiver as trustee, including:
- items used for employment or business such as books, tools and vehicles
- provisions for satisfying basic domestic needs, such as clothing, bedding and furniture
There is no limit on the number or sum of the debts that can be included in bankruptcy. For an individual’s application to be approved, they must be insolvent (meaning their assets do not exceed their debts).
Bankruptcy normally lasts for 12 months, unless the Official Receiver applies to court to extend it. Discharge from bankruptcy ends the liability for all debts that were included in it, apart from those obtained by fraud.
Rent arrears, and other debts arising from tenancy agreements, are included in bankruptcy.
Debt relief orders: key information
Where a person has a DRO they cannot be made to pay towards any debts included in it during the moratorium period of the order. A DRO moratorium lasts for 12 months from the date it is approved by the Insolvency Service. At the end of the period those debts are written off, except for debts obtained by fraud.
As with bankruptcy, DRO applications fall under the jurisdiction of the Official Receiver. The rules are very similar to bankruptcy, but there is no estate or trustee. Instead, the applicant goes through their situation in detail with an approved debt adviser, called an Authorised Intermediary. The Intermediary is required to assess the applicant’s circumstances and provide all the relevant information to the Insolvency Service.
A DRO can be made where the applicant’s:
- debts do not exceed £20,000
- income after essential expenditure does not exceed £50 per month
- assets (apart from exempt assets) do not exceed £1000 in total
Rent arrears must be included in the £20,000 financial limit.
Possession proceedings on rent arrears grounds
Rent arrears are included in bankruptcy and are a qualifying debt in a DRO. Even so, applying for bankruptcy or a DRO is rarely a complete solution for tenants with rent arrears.
The Court of Appeal examined the interaction between insolvency law and the landlord’s right to possession in Sharples v Places for People Homes Ltd and Godfrey v A2 Dominion Homes Ltd  EWCA Civ 813.
The result was a surprise to some practitioners – the inclusion of rent arrears in bankruptcy or a DRO did not prevent a landlord from gaining possession of the property.
The two appeals, heard together, involved tenants with rent arrears. Both tenants faced a possession claim brought on ground 8, schedule 2 Housing Act 1988. Ground 8 is made out where the amount of rent arrears exceeds a defined threshold both at the date of service of the notice, and on the day of the hearing. Where rent is payable monthly the threshold is two months’ worth of rent. In Godfrey, the tenant had applied for a DRO and was in the moratorium period. In Sharples, the tenant had applied for bankruptcy which had not yet been discharged.
During a DRO moratorium, s251G(2) Insolvency Act 1986 prevents a creditor ‘to whom a specified qualifying debt is owed’ from:
- having a remedy in respect of the debt, or
- commencing any action or other legal proceedings against the debtor for the debt.
For bankruptcy this is extended by s285(3) of the act to include a ‘remedy against the property or person of the bankrupt’. The wording has broadly the same effect as for DROs.
This means that creditors are normally prevented from pursuing repayment of a debt. In bankruptcy, there is a right to claim against the bankruptcy estate, if any.
The Court of Appeal held that in a possession case, whilst the landlord had no right to recover the money owed, the existence of the bankruptcy or DRO did not interfere with their right to a possession order. In a ground 8 case, the threshold for mandatory possession could be met despite the right to recover the arrears having been extinguished by bankruptcy.
Stay on proceedings in the Insolvency Act
There is an automatic stay on most legal proceedings in the Insolvency Act. This does not apply to possession proceedings but if there is a money claim element, that element will be automatically stayed. Sections 285(1) and 251G(3) of the Act give the court the power to stay cases but this is unlikely to be useful in possession proceedings. In Godfrey and Sharples at paragraph 95 the Court of Appeal commented that that this power should not normally be exercised in proceedings for possession of property.
Proceedings on breach of tenancy
Many standard tenancy agreements have an insolvency clause making bankruptcy, and in some cases a DRO, a breach of the tenancy. Enforcement of this type of clause is rare. Where there are no arrears, the landlord is not directly notified of the insolvency. Where there are arrears, the landlord can issue a possession claim on grounds of rent arrears.
Tactics for dealing with arrears included in insolvency
A local authority or housing association may have a policy of writing off arrears that have been included in insolvency. This means not asking for payment or issuing a claim based on those arrears. Social landlords can be asked for a copy of their policy on insolvency and rent arrears.
Problems can arise where landlords do require payment of arrears included in insolvency. A poor payment record or high arrears could mean the court is more likely to make an outright possession order if a suspended order cannot contain terms for payment of the debt. Moreover, if the tenant applies to suspend a warrant and payment of the arrears cannot form part of the order, the application is more likely to be dismissed.
Although normally no payments can be made towards debts included in insolvency, where this is needed to avoid possession action it can be an option. The Insolvency Service has given tenants some flexibility to repay arrears on an informal basis, to avoid the issue of a claim or enforcement of an existing possession order. Tenants can offer to pay:
- up to £50 a month where subject to a DRO (the level of disposable income allowed)
- a reasonable amount when bankrupt (at the discretion of the Official Receiver)
When asking the Official Receiver to allow payments to be made, there is a good argument that a bankrupt tenant who loses their tenancy is less likely to be able to pay towards the bankruptcy debts and costs. This is confirmed at chapter 35 of the Insolvency Service internal guidance manual. Debt advisers report bankrupt tenants paying up to £100 per month towards arrears with the agreement of the Official Receiver.
Timing is important. The best option is for the tenant to try to make an arrangement to repay arrears at the allowable level (or below) before applying for bankruptcy or a DRO. That means it is:
- more likely that the payments can continue if the tenant is bankrupt
- less likely that the landlord will issue a claim for possession
It may be worth reminding a landlord who insists on bringing proceedings that in evicting an insolvent tenant, they will not be able to recover the rent arrears debt.
As long as the tenant is in the property, the landlord can coerce them into paying the arrears by threatening eviction. Once evicted, there is no incentive for the tenant to pay.
Risks where possession proceedings have been brought
If the bankruptcy order or DRO has been made by the time of the court hearing, the judge has no power to order repayment of arrears. Advisers have reported concerns that this is likely to affect the outcome. The judge might be more likely to make an outright order, or allow an eviction to go ahead, especially if the circumstances of the case are not sympathetic. If a suspended possession order is made it could include payment of the current rent, as well as costs.
Under sections 85(3) Housing Act 1985 and 9(3) Housing Act 1988, the court is bound to impose conditions as to payment of the arrears “unless it considers that to do so would cause exceptional hardship to the tenant or would otherwise be unreasonable”. The judgment in Sharples and Godfrey confirms a suspended possession order can be made on payment of current rent along with arrears that have fallen due since the bankruptcy or DRO, and costs.
Tactically, it is better to have the possession (or warrant suspension) hearing before a bankruptcy order or DRO is made. Advisers can explain to the judge (in writing if necessary) that their client intends to apply for bankruptcy or a DRO, and an order for less than £50 per month towards the arrears could still be paid if this happens.
Another option is to make an application to court to vary an existing suspended order to one on current rent only. This application can be made after a DRO or bankruptcy. However, there are risks - the judge could make an order for outright possession, instead of varying the order to rent only.
Developments in insolvency and rent arrears
The Insolvency Service published a consultation on 12 January 2021 to increase the eligibility thresholds for DRO applicants. If approved, the changes include increasing the surplus income of eligible debtors to up to £100 per month. This change would allow tenants to apply for a DRO and still make payments of £100 towards arrears.
On 4 May 2021 the Debt Respite Scheme (Breathing Space Moratorium and Mental Health Crises Moratorium) (England and Wales) Regulations 2020/1311 come in to force. Under this new regime eligible debtors can have a break in payments for up to 60 days. This includes a break in paying rent arrears, including those which are subject to a court order. Breathing Space and its impact on rent arrears and possession proceedings will be covered in a future article for Housing Matters.