Financial remedies practitioners are well-accustomed to advising parties in straitened financial circumstances. Often the central question is how to stretch the available resources to ensure both parties have a roof over their heads. However, when one or both parties find themselves in serious financial difficulty, a less familiar issue may arise: the interplay between the Insolvency Act 1986 (IA 1986) and the Matrimonial Causes Act 1973 (MCA 1973).

In this article, the authors will comment on the recent case of Gudmundsson v Lin [2024] EWHC 1576 (Fam) to explain how bankruptcy proceedings can alter the computational landscape of a case and, at times, undermine the intentions of the Financial Remedies Court.

Overview

In essence, bankruptcy entails the bankrupt individual being divested of all of their property, following which it is distributed to creditors and the individual is released from their debts.

MCA 1973 s 25(2)(b) directs the court to have regard to the ‘financial needs, obligations and responsibilities of the spouses’ (emphasis added). These ‘obligations’ will naturally include a spouse’s obligations to their creditors, whether in their personal capacity or, if they hold a company which is not limited, as the company owner.

The key piece of legislation to consider when bankruptcy proceedings are in play is the IA 1986. An obligation to pay a lump sum or costs in family proceedings is a ‘provable debt’ in a bankruptcy (ss 322–332), which remains payable (even if it is payable on a fixed future date that has not yet passed). However, there is an order of priority in which bankruptcy creditors are paid (after the trustee in bankruptcy’s costs and expenses), and a financial remedy order constitutes an unsecured debt, which ranks the lowest for distribution amongst the forms of debt (secured creditors are paid first, then preferential creditors, and finally unsecured creditors).

The Court of Appeal held in Mullard v Mullard (1982) 3 FLR 330 that the financial remedies court does not have the power under the MCA 1973 to exercise a form of ‘bankruptcy jurisdiction’ by preferring the husband’s debts, i.e. creditors’ claims, above the wife’s claim. The court therefore held that it did not need to provide for the discharge of the husband’s debts out of his share of the former matrimonial home (FMH), and instead ordered that the husband transfer to the wife his interest in the FMH, so that she received the entirety of the value of the property. The Family Court is therefore perfectly entitled to make orders that provide for a party’s needs to be met (for example, by awarding a non-earning primary carer with the entire value of the FMH) prior to a bankruptcy petition being filed.

But what about after a bankruptcy order has been made? This was the issue explored by Peel J in Gudmundsson v Lin when faced with the thorny question of what to do when it only came to light that the husband had been made bankrupt after the final financial remedies order had been made.

Background

The litigation background was somewhat complicated. The parties were in protracted proceedings and the husband had been criticised for his opaque presentation of his assets. A clear computational picture never emerged, but the total assets were c.£2m. The final hearing took place in February 2019. Delivery of judgment was delayed until September 2019, but shortly before judgment was due to be delivered the husband drew the judge’s attention to several matters said to affect his financial position. Following two adjournments to allow for further evidence, on 4 March 2020, HHJ Meston QC made a final order which provided for the husband to transfer to the wife his half share in the FMH, leaving W with 79% of the total assets.

After judgment had been handed down, H told the court on 4 March 2020 that he had been made bankrupt. He provided no evidence at the time, but a copy of the bankruptcy order was obtained soon after, showing he had been made bankrupt on 26 February 2020 (six days before the financial remedies order). Following the bankruptcy order being sealed, the trustees in bankruptcy gathered together the husband’s creditors’ claims, which came to c.£2.574m.

The husband appealed against the financial remedies order on the basis that the capital division in the wife’s favour was unfair. Notably, his appeal did not mention the fact he had been made bankrupt. However, on 14 August 2024 Gwynneth Knowles J granted the husband permission to appeal in light of the bankruptcy order.

Bankruptcy judgment

In the meantime, the wife and the trustees in bankruptcy were engaged in proceedings in the Insolvency and Companies Court. In an order dated 15 April 2024, Deputy Insolvency and Companies Court Judge Frith:

• Dismissed the wife’s claim that she had a 100% beneficial interest in the FMH pursuant to principles set out by the CA in Hudson v Hathaway [2023] KB 345, i.e. that a party claiming a subsequent increase in her beneficial interest in the FMH as a result of a post-acquisition changed common intention must show detrimental reliance on that changed common intention.
• Recorded that the wife and the trustees in bankruptcy each owned 50% of the beneficial interest in the FMH.
• Found that on five occasions between the presentation of the bankruptcy petition and the making of the bankruptcy order, the husband had corresponded with HHJ Meston QC to ask him to postpone handing down the judgment but had not informed him about the bankruptcy petition. Had he done so, it is likely the judge would have endeavoured to hand down the judgment earlier, and make an order earlier, such that the wife would have received 100% of the FMH prior to the bankruptcy order.
• Concluded that there were ‘exceptional circumstances’ under the IA 1986 s 335A(3) whereby the interests of the creditors should not outweigh all other considerations, including the husband’s conduct in not informing the court and the wife of the bankruptcy petition, thereby depriving her of the opportunity to receive 100% of the FMH.
• Found that in light of the ‘exceptional circumstances’, the FMH should not be sold until August 2032, when the youngest child turns 18, with the wife then to receive her half share as found by the court.

The husband’s appeal against the financial remedies order

The appeal was heard by Peel J, who began his judgment by stating that although the husband no longer pursued his appeal, it remained necessary for the court to set aside the order of March 2020 and substitute a fresh decision to ensure that the final financial remedies order was on a ‘sound legal footing’. He found that the husband had deliberately acted so as to leave the wife and the court with no opportunity to prevent the bankruptcy taking its course.

At [25], Peel J found that although the judge was able to make a financial remedy order notwithstanding the bankruptcy order, he had no power to order a disposition of any of the husband’s assets, including his interest in the FMH:

• By IA 1986 s 283, all the husband’s assets fell into the bankruptcy estate, including his interest in the FMH.
• By IA 1986 s 306, the bankruptcy estate vests in the trustee in bankruptcy.
• In such circumstances, the authorities are clear that it is not open to the court to make orders disposing of assets formerly belonging to the husband, and now vesting in the trustee in bankruptcy; see for example Re Holliday (A Bankrupt) [1981] Ch 405, McGladdery v McGladdery [1999] 2 FLR 1102, and Ram v Ram (No 2) [2005] 2 FLR 63.
• Specifically, a property adjustment order cannot be made against a bankrupt: Ram v Ram (supra). However, if a property adjustment order has already been made but not implemented before the bankruptcy order, it is still binding on the trustee in bankruptcy as long as the decree absolute/final divorce order has been made to make the order enforceable.
• A lump sum order can be made as it does not constitute an order disposing of the property of the bankrupt. A lump sum order is provable in the bankruptcy, and in fact, survives the bankruptcy (although the court has a discretion to release a party from lump sum obligations post-bankruptcy under IA 1986 s 281(5) in certain circumstances).
• However, a lump sum order will ordinarily only be made when the court has a clear idea of the likely residue of the estate once the bankrupt is discharged: Hellyer v Hellyer [1996] 2 FLR 579.
• If the court is satisfied the bankrupt will have a surplus upon discharge, there is no reason in principle why a lump sum order cannot be made which bites against the surplus, but the court must be cautious when estimating the likely available resources in the future.

As such, at [26], Peel J found the part of the order providing for a transfer of the husband’s interest in the FMH to the wife ought not to have been made and could not take effect, as the asset in fact vested in the trustees.

Conclusions

Having set out the findings Peel J concluded as follows at [35]:

• The husband’s appeal must be allowed to rectify the erroneous property adjustment order; the husband had no interest in the FMH to transfer by the date of the order, as the interest vested in the trustee.
• The husband’s 50% interest in the FMH would be largely swallowed up by the trustees’ costs of c.£657,000, and any surplus would be paid pari passu to the creditors.
• In the improbable event that there was any surplus after payment of (i) the trustees’ costs; and (ii) the creditors’ debts, then such surplus should be paid to the wife. That would reflect the intentions of HHJ Meston QC, who provided for the wife to receive the entirety of the FMH.
• That would be the just outcome, given the husband’s conduct in concealing the fact of his bankruptcy from the wife and depriving her of the opportunity to secure for herself the entirety of the FMH.

The husband’s appeal was allowed and paragraph 1 of the order, providing for the husband’s interest in the FMH to be transferred to the wife, was discharged.

Peel J also noted that the trustees had lodged an appeal against the delayed order for sale of the FMH seeking an order that the property be sold forthwith. He therefore provided that should the trustees’ appeal succeed, and the FMH have to be sold forthwith, the outcome which he had provided for should be the same as if the FMH was sold in 2032.

In practice

The consequence of the husband’s bankruptcy was that the court had no choice but to set aside the order of HHJ Meston QC. As a result, the wife was left with far less than was anticipated by the divorce court. Had the court been able to make its order prior to the presentation of the bankruptcy petition, the wife’s position would have been more secure. This underscores the importance of being alive to the possibility of bankruptcy proceedings which can (and often do) significantly alter the scope what the Financial Remedies Court can order.

It is clear, therefore, that concerns about bankruptcy should be considered at the earliest opportunity in financial remedy proceedings. If your client is the party who is not the potential subject of bankruptcy proceedings, it is very likely that time will be of the essence, and the following should be considered:

1. Whether the proceedings can be expedited (for example, by using the First Appointment as an FDR Appointment, or by narrowing the issues by agreement early with a view to a shorter and therefore quicker listing or by use of NCDR);
2. Whether the potential bankruptcy (and the circumstances leading to it) needs to be pleaded as ‘conduct’ of the insolvent party, pursuant to MCA 1973 s 25(2)(g);
3. Whether assets held by the solvent party were transferred from the insolvent party, and are therefore vulnerable to a potential claim by the trustee in bankruptcy under IA 1986 s 423 if the transaction took place to defraud creditors (noting that such a claim is not subject to the same time limits as a claim under MCA 1973 s 37); and
4. Whether the potentially insolvent party will offer an undertaking not to voluntarily institute bankruptcy proceedings without the other party’s agreement.

Gudmundsson v Lin also highlighted the value of obtaining advice from a bankruptcy practitioner on the remedies that can obtained within the bankruptcy civil proceedings; in that case, the wife was able to secure the right to live in the property for another eight years, until the youngest child turned 18 in August 2032 (an arrangement akin to one that can be made under Schedule 1 of the Children Act 1989). Although this remedy was obtained, at least in part, as a result of the husband’s exceptional dishonesty, it provides an indication of the remedies that are available to a judge within bankruptcy proceedings. It is therefore important to obtain legal advice from a bankruptcy practitioner regarding the potential to challenge a bankruptcy order in the civil courts.

Concluding thoughts

Gudmundsson v Lin is a clear demonstration of the potential for bankruptcy proceedings to significantly shrink the ‘matrimonial pot’ and thereby deprive the financially weaker spouse of what may have been a very valuable resource. Had the wife and the judge been made aware of the husband’s impending bankruptcy, the financial remedy order may have been made before the bankruptcy order such that the wife would have received 100% of the husband’s interest in the FMH. Once the husband had been made bankrupt, however, there was far less available for the wife to receive. As such, the case highlights the importance both of the duty of candour and of acting quickly where bankruptcy proceedings are on the horizon.