Distraint - Asset Seizure
Distress or distraint, a common law remedy strengthened by statute, is the seizure of assets in order to obtain payment of monies owed. It is a remedy most commonly used in the UK by landlords and HM Revenue & Customs. In past years its popularity as a remedy has waned, however, since the beginning of 2009 there are been a marked increase, perhaps as a direct result of creditors being more conscious of the level of their debts following the change in the economic climate, in the instances of distraint, particularly landlord-led distraint, being levied on companies in financial difficulties. The levying of distress, albeit an effective recovery tool for creditors, can be problematic for both secured creditors and insolvency practitioners in administrations for a variety of reasons.
Distraint prior to administration - issues for the insolvency practitioner
When considering taking on new appointment, a proposed administrator should make enquiries to ascertain whether any person has levied distress against the insolvent company or its property. This is particularly relevant in company or director-led appointments as statute demands that a Notice of Intention to Appoint Administrators by Company or Director is served on “any person who, to the knowledge of the person giving the notice, has distrained against the company or its property;”. Failure to serve notice on a known distrainor could lead to the insolvency practitioner’s subsequent appointment as administrator being treated as invalid.
The existence of a distrainor prior to the company being subject to an administration moratorium, whether interim or final, could also impact on the likelihood of the purposes of the administration being achieved which will impact on the ability of a proposed administrator to consent to being appointed as administrator.
Distraint prior to administration – effect on a secured creditor
Where a landlord or HM Revenue & Customs has validly levied distress prior to a company being placed into administration (or prior to there being an interim moratorium in place) the distraint has the effect of elevating the distrainor to “fixed charge creditor status” in respect of the assets it has levied distraint over. Where these assets are subject to a prior fixed charge in favour of a secured financier this is less of a concern for the financier as the distrainor will rank behind the financier in respect of distributions from the distrained fixed charge assets. If, however, the distrained assets are of the type typically treated as floating charge assets, the secured financier will find itself ranking behind the distrainor in respect of any distributions from those distrained assets which may mean that the protection afforded by the financier’s security is not as wide as it had initially anticipated it to be.
The effect of distraint on the purposes of the administration
Where the purposes of an administration are anticipated to be achieved by trading the business and/or selling the business a distrainor could prevent the administrator from achieving that purpose either by refusing to allow the distrained assets to be used by the administrator or not agreeing to include those distrained assets as part of any sale by the administrator. If a proposed purchaser is aware of the levying of distress this could impact on the amount it is willing to pay for those assets or the sale of the assets could be held up whilst that proposed purchaser satisfies himself as to the assets he is acquiring. It may be that in order to achieve a sale or allow the company in administration to be traded, a ransom payment has to be made to the distrainor by the administrator which may again impact on the achievability of the purposes of the administration.
Dealing with Distraint – the way forward
Whilst distraint is clearly not an issue that can be ignored there may be ways to reduce the effect it has on an administration. Crucially distraint cannot be levied whilst a company is subject to a moratorium, either interim or final. Financiers should therefore be vigilant for signs of threatened distraint and consider taking enforcement steps at that time rather than after distraint has been levied. Alternatively financiers may consider advancing further funds to the company to enable it to pay its creditors and therefore avoid the threat of distress being levied. Financiers should also put any distrainor on notice as soon as they become aware that distress has been levied, or is threatened to be levied on third party assets, i.e. assets owned by the financier.
Finally, in July 2007 the Tribunal, Courts and Enforcement Act 2007 received Royal Assent. Part 3 of this act, which is yet to come into force, intends to abolish the remedy of distress for rent and replace it with a streamlined procedure known as Commercial Rent Arrears Recovery (CRAR). Whilst CRAR has not yet come into force, the key proposals indicate that it is likely to limit the ability of a landlord to seize assets without notice and is also likely to have a minimum threshold of rent arrears which must be due before CRAR can be utilised. The jury is still out as to how much the implementation of CRAR will impact on the administration process but it’s anticipated that any impact will be favourable.