If you owe money to banks or other creditors they have the right to seek the repayment of these debts in accordance with the terms and conditions under which the funds were borrowed or the liability was incurred in the first place. If however the debtor cannot or will not comply with the agreed repayment schedule then creditors can avail of a wide variety of means to compel the delinquent debtor to repay them the monies they are owed. These include getting a County Court Judgment (CCJ) against the debtor and following this up with action by bailiffs which might include the seizure of goods or other assets.
Creditors could also seek to register a charge on the debtor’s property and thus transform an unsecured debt such as an outstanding and overdue credit card bill into a secured liability. In due course such a creditor could seek to enforce such security by seeking to have the property sold so that the debt can be repaid.
Bankruptcy and my House
The debt solution of last resort as it is sometimes called is bankruptcy. Bankruptcy can occur in two principal ways. When a creditor seeks to obtain a bankruptcy order against a debtor from the court, this is called a creditor’s petition. When the debtor seeks to obtain a bankruptcy order against him or herself, this is called a debtor’s petition. If made bankrupt by order of the court, the debtor will find that the official receiver or a trustee appointed by the official receiver will take control of any assets which the bankrupt debtor has and seek to realize any value in such assets for the benefit of creditors. Any surplus income that the debtor has will also have to be contributed for the benefit of creditors but such compulsory payments are nowadays limited to a maximum term of three years.
IVA and my House
A debt solution which may be less severe on the debtor than bankruptcy is an Individual Voluntary Arrangement or an IVA. Much has been written about the pros and cons of IVAs so this short article is simply going to look at the treatment of the debtor’s home when he or she enters an IVA. For a start, under the legislation, all IVA proposals must contain the debtor’s Statement of Affairs. In it all of the debtor’s assets and liabilities must be disclosed and it must also incorporate an Income and Expenditure Statement relating to the debtor’s household. The main asset that a debtor may have is a share in the ownership of the family home. Such a property may be mortgaged and it may or may not have equity in it, depending on whether or not the current realisable value of the property is more or less than the outstanding mortgage debt. The debtor will have equity when the amount required to redeem or to pay off the balance of the mortgage. The monthly mortgage payment is often the largest item of expenditure on a family’s Income and Expenditure Statement.
When a debtor offers a proposal to creditors for an IVA, he or she must disclose a lot of information about their assets including such a property. It has long been standard practice for creditors to require some part of the equity in the property to be realized and contributed to the IVA. The debtor may already have anticipated this requirement and addressed any such equity in their property in the IVA proposal, stating how they propose to realize the equity and how much of that equity they are prepared to contribute to the IVA. One of the benefits of an IVA is that the debtor does not usually lose their home which they will almost certainly do in Bankruptcy.
When a property owning debtor has not addressed such equity in their IVA proposal, the usual approach taken by creditors is to modify the IVA proposal requiring them to do so. The modification generally spells out how this is to be done and how much of the equity is to be contributed. Such a modification usually requires the supervisor to obtain at least one independent valuation (and often two valuations) of the debtor’s property in the fourth or fifth year of the IVA. The debtor is further required to obtain at least one offer of re-mortgage and to contribute at least 75% (and sometimes up to 100%) of their equity to the IVA.
Every IVA is different from every other one and there can be significant variation in how different creditors require equity to be addressed. A number of issues may arise when the time comes for the fourth year modification, as it is frequently described, to be implemented. The property may be in negative or zero equity. The equity may be so small that that the cost of realization wipes it out. Even if there is some equity in the property, the debtor may find it impossible to obtain a re-mortgage for various reasons such as the credit crunch, a poor credit rating or mortgage lenders putting a cap on the loan to value (LTV) ratio. In addition, even when there is equity available in theory, it may be impossible to realize it in practice. It may also be that ‘high street’ lenders will not offer a re-mortgage at all and only the so-called sub-prime lenders are willing to do so but only at adverse interest rates, with the consequent long term effect on the borrower’s finances.
What can the debtor do, given that failure to contribute an equity lump sum would depress the dividend payable to creditors significantly? The usual solution is for the debtor to offer a variation proposal to creditors. Such a variation can simply request the removal of the equity modification, allowing the debtor to successfully complete the IVA without making any equity contribution. If creditors were to accept such a variation, they might receive a dividend similar to that originally proposed but less than that required by the creditor modification. Alternatively, the debtor may offer a variation proposal offering to extend the term of the proposal for up to one additional year and to make additional monthly income based contributions in lieu of any equity in the property. While extending the arrangement by up to one year may not be attractive for the debtor or indeed for the creditors, it is certainly preferable to re-mortgaging at adverse rates. Creditors of course retain the right to reject or modify any variation proposals put forward by the debtor but extending the term to address equity is frequently acceptable to them.
The insolvency practitioner (IP) supervising the IVA will advise the debtor on the options available regarding addressing equity and creditors are generally sympathetic to debtors who are genuinely attempting to address their financial affairs.