Bankruptcy and pensions

What is bankruptcy?

It is a legal process of ‘last resort’ for someone who cannot pay their debts. It is the process to pay the individuals creditors.

Although the process and principles are similar different legislation applies in England, Wales, Northern Ireland, and Scotland.

Bankruptcy can be initiated by the individual or by one of their creditors. In Scotland the Accountant in Bankruptcy can also declare an individual bankrupt.

Who administrates the bankrupt’s estate?

The bankrupt’s estate will administered by a trustee, who could be an official receiver, a licensed insolvency practitioner or the Accountant in Bankruptcy in Scotland. They are responsible for establishing what assets the individual has and paying their creditors. For ease we will refer to them as trustee in bankruptcy in the rest of the article.

When does a bankruptcy end?

Normally the bankruptcy will be discharged after 12 months but this is dependent on the individual co-operating with the trustee in bankruptcy. The bankruptcy can be extended if they do not. Income contributions, which are the payments made from surplus income after reasonable living expenses, can be used to pay off some or all of the bankruptcy debts. These can last for up to 3 years, except for in Scotland when they can last 4 years.  

How does it affect pensions?

There have been a number of court cases, see below, and legislation that provides protection for pension benefits.

The Welfare Reform and Pensions Act 1999 protects pension benefits from the trustee in bankruptcy as they do not form part of their estate but only whilst they are held within the pension scheme.

Once benefits are in payment, the income is outside of the pension and is included in the individual’s estate for bankruptcy. This means that the trustee in bankruptcy can apply to the court to use some of that income to pay creditors. This would be done via an income payments order (IPO) or if they are in Scotland a debtor contribution order (DCO).

It is important to remember that the individual must have enough money to support themselves and their family. So, unless there is excess income it is unlikely that trustee in bankruptcy would apply for an IPO/DCO if there was not sufficient income available.

An IPO/DCO must be applied for before the bankruptcy has been discharged and cannot last for more than 3 and 4 years respectively.

Another important aspect is the trustee in bankruptcy cannot force the bankrupt to take their pension benefits. The trustee in bankruptcy must use the individual’s estate to pay off their creditors in full or as fully as is possible. So, if the individual has sufficient funds, including benefits held in a pension they can access immediately, the trustee in bankruptcy can apply for bankruptcy if the individual refuses to access the pension benefits.

Can a bankrupt pay contributions into a pension?

Yes. The trustee in bankruptcy, as part of the bankruptcy process, will be aware of any ongoing pension contribution and would have to agree that they continue, rather than stop or be reduced and the money used to pay creditors.

Can the trustee in bankruptcy reclaim ‘excessive contributions’?

It is possible that an individual will try to use the protections afforded to a pension to shelter money from their creditors. If the trustee in bankruptcy believes that has happened and they believe they have sufficient evidence to prove this, they can apply to the court for a ‘restoration order’. If the court agrees it would mean the scheme has to pay any excessive contributions to the trustee in bankruptcy.

Court cases 

• Horton v Henry (Court of Appeal) - Sackers (opens in a new window)
• Hinton v Wotherspoon (High Court) (opens in a new window)