By Daniel Benson Kaaya
Insolvency is measured by two common tests, namely: cash flow and balance sheet insolvency. A cash flow test is concerned with the financial inability of an individual or a company to meet financial obligations when they fall due. On the other hand, balance sheet insolvency refers to a financial condition where liabilities exceed assets, considering both prospective and contingent liabilities. Distinctively, bankruptcy refers to a legal proceeding against a person or business that is unable to repay outstanding debts.
Traditionally, the remedy that creditors had against the debtor during insolvency was liquidation, such that the debtor had no other alternative other than quit. There were no other options such as reorganisation. The United Nations Commission on International Trade Law (UNICITRAL) (Legislative Guide on Insolvency Law) provides that an equilibrium between reorganisation or reconstruction and liquidation must be established. In this sense, the preceding regime wretchedly flopped at this.
The enactment of the Insolvency Act 2015, however, has brought credible modifications to the insolvency regime. The Act now accommodates standards set by the UNICITRAL Legislative Guide on Insolvency Law. In admiration of reorganisation, Iraj Hashi, a Professor of Economics, in his article, “The Economics of Bankruptcy, Reorganization and Liquidation: Lessons for East European Transitional Economies”, argues:
“With modern large-scale corporations, the exit process is, most often, characterised by a reorganisation of resources – their withdrawal from some, and flow into other, activities. In this sense, market economies can be characterised by an almost permanent flow of resources out of old, inefficient activities and into new ones. Only in a small number of cases, and generally rarely, is the exit of resources associated with financial distress, default on debt, insolvency and ultimately bankruptcy and the disappearance of the firm”.
Thus, it is evident that reorganisation, when a natural person or a company is under financial distress, is the best alternative compared to liquidation.
The introduction of reorganisation procedures for both natural persons and corporate entities is a demonstration of sociological jurisprudence. This is educated by the fact that with reorganisation, the objective is acutely different compared to liquidation. Instead of having to sell assets, the debtor negotiates with the creditors to reorganise finances, and to reschedule the payment of the debt.
This piece aims to summarise the alternative to bankruptcy procedures regarding natural persons as provided under Part IV of the Insolvency Act 2015. It will predominantly focus on defining each procedure, who can apply, conditions and/or requirements of application and effects of each procedure.
Natural persons have the following procedures as alternative to bankruptcy: The No-Asset Procedure, Summary Instalment Order, and Individual Voluntary Arrangement.
This is provided for in Part IV, Division 3, of the Insolvency Act. It is an alternative to bankruptcy provided for debtors who have no realisable assets. Realisable assets refer to assets or investments that can be sold quickly to provide money swiftly in honour of debts.
The process commences once a debtor applies to the Official Receiver for entry into NAP. The applicant needs to lodge two documents, namely; an application form in the prescribed form as per the insolvency regulations, and a statement setting out the debtor’s financial position. However, where a debtor’s application or statement of financial position is incomplete or incorrect, the Official Receiver may reject the application entirely.
The Official Receiver admits a debtor to the NAP if satisfied that the debtor has no realisable assets; has not previously been admitted to the NAP; has not been previously adjudged bankrupt; has a total debt that is not less than Sh100,000 and not more than Sh4,000,000 and; does not have the means to repay the debt.
The debtor is restricted from obtaining credit after the application is made which includes in the form of credit purchase transactions such as hire purchase. The credit prohibited is one that exceeds the amount of Sh10,000. If a debtor wishes to obtain credit in the circumstances mentioned, he must first inform the credit provider that the debtor has applied for entry into NAP. An infraction of the mentioned attracts a fine not exceeding Sh500,000 or imprisonment of six months, or both.
A debtor is considered admitted to the NAP once the Official Receiver sends the debtor a notice in the prescribed form. The admission is also made public. The consequence of admission is that creditors are barred from enforcing debts against debtors who have been admitted to the NAP. Section 351 (1) provides that a creditor of a debtor may not, after the debtor has been admitted to the NAP, begin or continue any step to recover or enforce a debt (a) that the debtor owes to the creditor at the time when the debtor applies for entry to the NAP; and (b) that would be provable in the debtor’s bankruptcy if the debtor were to be adjudged bankrupt.
However, certain debts remain enforceable. As per Section 351(2), despite subsection (1), the following debts remain enforceable: (a) amounts payable under a court order made under the Matrimonial Causes Act; (b) amounts payable under the Children Act, and; (c) amounts owed in respect of a loan to secure the education of a dependent child or step-child of the debtor. A debtor’s duties after entry into the NAP are provided in Section 352.
Summary Instalment Order (Part IV, Division 2)
Section 323 defines Summary Instalment Order (SIO) as an order from the Official Receiver directing the debtor to pay the debtors debts in full/instalment, or to the extent that the Official Receiver considers practicable in the particular circumstances of the case.
A supervisor oversees the procedure.
The Official Receiver may make a summary instalment order on the application of a debtor, or a creditor with the consent of the debtor. The requirements for applications made by debtors are provided in Section 325(2). The official receiver makes an order if he is satisfied that the debtor’s total assets do not exceed the amount prescribed in the insolvency regulations and that the debtor is unable to immediately pay the debts. He can also make additional orders incidental to the facilitation of the order.
The period of payment (Section 332) must not exceed three years but, in special circumstances, if acceptable to the supervisor, it can be five years. Section 333 provides that at any time, the debtor or creditor can apply to the official receiver to either vary or discharge SIO. The payment of instalment is in the manner prescribed in the insolvency regulations.
While the order is in effect, it prevents and stays all proceedings against debtor in respect of bankruptcy unless the official receiver approves or debtor is in default of the SIO.
Additionally, a debtor in respect of whom a SIO is, in effect, not allowed to obtain credit as provided in Section 342(1). Consequences of default by debtor to pay amount due under SIO is presumed, unless the contrary is proved (a) to have been able to pay the amount from the date of the order and (b) to have refused or neglected to pay it.
Individual Voluntary Arrangement
This is generally considered to refer to an agreement between a debtor and creditors to pay as proposed. It is done by presentation of a proposal – made by a debtor to the debtor’s creditors for a composition in satisfaction of the debtor’s debts or a scheme of arrangement of the debtor’s financial affairs. Comparatively, it offers the debtor more control of assets than bankruptcy.
An application to the Court for an interim order may be made if the debtor intends to make a proposal to creditors. The proposal must provide for a person to act as supervisor of the voluntary arrangement to which the proposal relates. Only an authorised insolvency practitioner is eligible to act as supervisor of a voluntary arrangement.
Section 304(5) and (6) provides that if a debtor is an undischarged bankrupt, he must first give notice to the Official Receiver of his proposal then make the application; further the application may not proceed if there is a pending bankruptcy application made by the debtor.
Among other satisfactions contemplated in Section 306(1), the court shall make an interim order if satisfied that it would facilitate the consideration and implementation of the debtor’s proposal. The order ceases to have effect at the end of fourteen days from the date on which the order was made.
When the interim order is made, the supervisor under the proposal becomes the provisional supervisor. As soon as practicable, after the making of an interim order and before the order ceases, the provisional supervisor is required to submit a report to the Court, stating whether, in his estimation, (a) the proposal has a reasonable prospect of being approved and implemented; (b) a meeting of the debtor’s creditors should be convened to consider the proposal, and; (c) such a meeting should be convened— indicating the date, time and place.
In order to expedite the submission of the above report, the debtor is required to submit a document setting out the terms of the proposal and a statement of the debtor’s financial affairs to the provisional supervisor as provided for in Section 307(2). If the court is satisfied with the report that a meeting of creditors must be convened to consider the proposal, the court will order as such. Further the Court shall make an order directing the period for which the interim order has effect to be extended, to enable the debtor’s proposal to be considered by the debtor’s creditors.
Section 308(1) provides that the Court may discharge the interim order if it is satisfied, on the application of the provisional supervisor, (a) that the debtor has failed to comply with the debtor’s obligations, or; (b) that for any other reason, it would be inappropriate for a meeting of the debtor’s creditors to be convened to consider the debtor’s proposal.
When it has been reported to court that a meeting of the debtor’s creditors should be convened, the provisional supervisor shall convene that meeting for the time, date and place proposed in the report, unless the court otherwise directs. Persons to be summoned to the meeting are every creditor of the debtor of whose claim and address the person convening the meeting is aware.
According to Section 310 (1), the main purpose of convening the creditors’ meeting is to decide whether to approve the debtor’s proposal (with or without modifications). Inter alia, a modification to the debtor’s proposal may be approved only with the debtor consent.
Report to court
As soon as practicable, after the conclusion of the meeting, the chairperson shall report the result of the meeting to the Court and give notice of the result of the meeting to all persons to whom the notice convening the meeting was sent. Section 310(11), contemplates a state where the proposal has been disapproved (either with or without modifications), there the Court shall discharge any interim order that has effect in relation to the debtor.
Among other circumstances of approval of the proposal contemplated in the Division, according to Section 311(2), the debtor’s proposal (including any modifications) is approved if it is supported by a majority (in number and value) of the creditors of each group of creditors present (either in person or by proxy) at the meeting of creditors.
The effect of approval of the proposal is that it takes effect as a voluntary arrangement. The provisional supervisor becomes the supervisor of the arrangement. On taking effect as a voluntary arrangement, the approved proposal binds every person concerned, whether present or represented at the meeting or not.
The decision of approval of the proposal may be challenged in court as provided in Section 314. The grounds for the challenge are contemplated to be that the approved proposal unfairly affects the interests of a creditor of the debtor, or that a material irregularity occurred at or in relation to the meeting. Section 315 provides for implementation and supervision of the voluntary arrangement.