Any creditor owed more than £5000 is eligible to petition for the bankruptcy of the person who owes them money. Over the past 10-20 years, this threat has been a powerful tool used when trying to persuade individuals to pay their debts. The main reason for this has been the significant increase in the value of homes and the subsequent equity which has been generated as a consequence. To have equity in a property gives an individual the sense that they own something of significant value which they would prefer not to lose. The threat of bankruptcy and the subsequent loss of the property was therefore a very powerful reason for debtors to make every effort to repay their debt.

Reducing House Prices have made going Bankrupt easier

Since the house price peak of October 2007, the value of property has fallen by up to 25%. As a result, equity in property has also been eroded. As the level of equity becomes smaller, it could be argued that the sense of loss if a property was to be taken away also diminishes. Where equity is reduced to virtually zero a trustee is actually unlikely to try to sell a property at all. Where the cost of sale is likely to be greater than any equity released what would be the point of taking this action in the first place? In these cases the Official Receiver (OR) will normally accept a minimal offer from the debtor to “buy back” the property’s title.

Update: After a change to the rules in January 2011 it now costs a minimum of £1000 to by back the beneficial interest in a property from the OR.

BMD Tip: After the implementation of the personal elements of the Enterprise Act of 2002 (implementation 2004), a trustee is able to hold on to the interest of a property for up to three years if they feel that there is a realistic possibility of subsequent increases in equity. However, in general, the current economic conditions are not predicting vast increases in property prices in the near future. As such, for many trustees, it is less costly to simply return the title of property for a reasonable nominal sum and discharge the bankrupt after 12 months.

Has Bankruptcy become a more acceptable solution?

Given that realising the payment of outstanding debt through the sale of a bankrupt’s property is less and less likely in today’s economic climate, one has to question whether the other downsides to bankruptcy are enough of a reason for the debtor to want to avoid the procedure. The fact is that most debtors I have spoken to are not concerned about the publicity surrounding bankruptcy. Of course in a few communities, to have your name advertised in the local paper as a bankrupt is embarrassing. However, for many living in urban areas, this is of no concern at all.

In addition, the reality is that most debtor’s jobs will not be effected by bankruptcy. There are of course a few individuals who many not be able to practise their profession if declared bankrupt. However, those largely included in this list are accountants, lawyers, some working in the financial services industry and company directors. Clearly if these types of individuals get into financial difficulty, the threat of bankruptcy would significantly affect them. However, the employment status of the vast majority of debtors would not be effected by bankruptcy.

It is perhaps ironic that in the middle of a difficult economic downturn where debt collection tools are most needed by creditors, once powerful tools such as the threat of bankruptcy have lost their sting. Given this situation, banks and other creditors will have to take a more pragmatic approach to debt collection. In my view this will involve working closer with debtors to find a compromise solution which may very well involve substantial amounts of debt being written off. If this cannot be done, more and more debtors may actually choose solutions such as bankruptcy over lengthy repayment plans which do not offer light at the end of the tunnel.