An Insolvent Deceased Estate

Introduction

 When somebody dies, it is often the case that at least one person is appointed as a personal representative (PR) of the deceased person’s estate, pursuant to a will or the intestacy rules. The PRs will generally instruct a solicitor to deal with probate issues and the administration of the estate. However, issues can occur when the estate is found to be insolvent, which is not always apparent at the start of the process.  PRs and creditors of an insolvent estate should seek legal advice to understand the issues, discuss available options and to protect their position.

The death of an individual does not release their estate from debts or liabilities incurred during their lifetime. Where a deceased person's estate is found to be, or is likely to become, insolvent (i.e. the liabilities or debts are higher in value than the assets), it must be administered for the benefit of the estate’s creditors until all debts, expenses and liabilities have been paid, unlike solvent estates which are administered for the benefit of the estate’s beneficiaries. If such debts, expenses and liabilities are not paid before any legacies, the PRs may be personally liable to pay the money back to the estate.

If the estate has more assets than liabilities, but not enough residuary estate to satisfy the legacies in a will, then the estate is not classed as legally insolvent. In these circumstances, the available funds are apportioned for part payment of each legacy.

There may be questions regarding the solvency of the estate, so it is important for PRs to seek legal advice first to ensure distributions are made properly (and to the correct entities). PRs who seek legal advice at an early stage will mitigate the risk of administering an insolvent estate improperly. Where PRs have already disposed of an insolvent estate’s property prior to an insolvency administration order, discussed below, those dispositions could be classed as void. In these circumstances, PRs are at risk of facing personal liability to reimburse the insolvent estate unless they were made with consent from the court or are subsequently ratified by the court under section 284 of the Insolvency Act 1986.

What happens when a deceased’s estate is insolvent?

Unless a bankruptcy petition (or application made online to the adjudicator) has already been presented before the person died, the insolvent estate must be administered in one of three ways:

1.    By the PRs
2.    Pursuant to an administration action, or
3.    Pursuant to an Insolvency Administration Order. 

Administration by the personal representative

Administration by PRs takes place out-of-court and out-of-bankruptcy. However, the PRs must comply with the law of bankruptcy when dealing with the assets of the estate in relation to the rights of secured and unsecured creditors, proof of debts, the valuation of future and contingent liabilities, the priority of debts and other payments. The PRs do not have to be qualified insolvency practitioners, but they will have to obtain a grant of probate or letters of administration in the usual way.

When the insolvent estate is distributed, the reasonable funeral, testamentary and administration expenses have priority over the preferential debts. Otherwise, the order for distribution is the same as in bankruptcy.

Administration action

An administration action is a claim brought by a creditor of the estate for the estate to be administered under the court’s direction. The claim may also be brought by the PRs against a creditor, but such claims are rare. The PRs must act in accordance with the court’s directions and in accordance with the Administration of Insolvent Estates of Deceased Persons Order 1986. If the court is satisfied that the estate is insolvent, the court may order that the administration of the estate be transferred to the bankruptcy court for the making of an insolvency administration order, which we address in further detail below.

Insolvency administration order (IAO)

An IAO may be made by a court following the presentation of an insolvency administration petition. An IAO is effectively the equivalent to the bankruptcy regime for a person who has died. Once an IAO has been made, the deceased estate is administered in the same way as the estate of a living bankrupt. 

It is important to note that an insolvency administration petition cannot be presented if proceedings have commenced in any court for administration of the deceased’s estate so early advice will help undertake the necessary checks before a petition is made.

An insolvency administration petition may be presented to the court by:

1.    A creditor of the deceased to ensure the administration of the insolvent estate is dealt with properly under the bankruptcy regime in the interests of all creditors of the estate
2.    The PRs
3.    A supervisor or any person who is bound by an approved voluntary arrangement, or
4.    The official petitioner or another ‘specified person’. 

The insolvency administration petition should be served on the PRs (and on such other people as the court may direct). Where the insolvency administration petition is presented by a creditor, the court may make an insolvency administration order if it is satisfied that there is a reasonable probability that the estate will be insolvent and:

•    The debt which is the subject of the petition is payable at the date of the petition but has not been paid nor secured nor compounded for, or
•    The debt has no reasonable prospect of being able to be paid when it falls due.

The bankruptcy of the deceased commences with the day on which the insolvency administration order is made and the estate vests in the trustee on appointment. However, a key point to note is that the petition and the insolvency administration order are deemed to have been made on the date of death for the purposes of the Insolvency Act 1986. A consequence of this is that any previous dispositions of the estate by the PRs are void unless approved by the court. 

Once an insolvency administration order has been made, the administration of the insolvent estate in bankruptcy continues until the administration is complete, or the order is annulled. The order may be annulled at any time if it appears to the court that either:

•    The order ought not to have been made in the first place; or
•    The debts have been paid or secured to the satisfaction of the court. 

The PRs must provide the official receiver with a statement of the affairs of the deceased after an insolvency administration order has been made. They must also deliver up the insolvent estate and all books, papers and records in their possession and control.

The official receiver and/or any subsequently appointed trustee in bankruptcy, can make or authorise asset disposals or payments from the deceased’s insolvent estate. As referred to above, all dispositions of property made by the PRs after the deceased’s death will be void, unless they are approved by the court. 

IAOs and joint tenancies

A key benefit of an IAO is that it allows an appointed trustee to apply to the court to reverse the usual rule, in circumstances where the deceased jointly owned/held property on joint tenancy basis. The usual rule is that on death, an interest held by a co-owner under a joint tenancy passes to the other co-owner(s) by survivorship, and so the value of the deceased co-owner’s share falls outside the deceased’s estate. Where a deceased’s primary asset is their share in a jointly owned property held under a joint tenancy, such an automatic transfer can cause significant detriment to the deceased’s creditors.

However, if the deceased’s estate is insolvent, the value of that interest may be recoverable by the appointed trustee of the deceased’s estate as if the deceased had been made bankrupt immediately prior to their death. The claim is a personal one only against the surviving co-owner(s), brought by the trustee for the benefit of insolvency estate’s creditors, seeking an order that the surviving co-owner of the deceased property pays to the trustee an amount not exceeding the value lost by the estate.  This will, in turn, allow for a portion of, if not all of the deceased estate’s liabilities to be paid.

Seeking early legal advice will prevent mistakes and distributions being made improperly and ensure the correct process is followed.