The problem with IVAs

Large numbers of people have need for a formal insolvency process

We have all read about the huge level of consumer debt in this country – the most recent headline was that the aggregate level of such debt now exceeds the country's gross domestic product.

With growing levels of debt, and particularly unsecured debt, it is not surprising that large numbers of people are encountering financial difficulties and have need for a formal insolvency process - 107,000 in 2006.

Over the last three years there has been a huge increase in the number of people entering formal individual voluntary arrangements (IVAs) despite the fact that in pure financial terms the old-fashioned bankruptcy option is often easier both in terms of the amount which debtors have to pay and the length of time for which they have to pay it. It is clear that, despite the considerable softening of the bankruptcy regime by the present government, people are still put off by the stigma of bankruptcy. In my experience many also wish to do the best they possibly can (within reason) for their creditors. The IVA process can also make it easier to keep a house.

However, all is not well in the IVA market place. Just as a number of "IVA factories" have been set up to process the demand for IVAs, the consumer lending institutions have begun to show considerable antipathy to the process. This is reflected by a significant decrease in the number of IVAs during the second quarter of 2007 – down 15% on the previous quarter and below the level of the previous year. The insolvency profession and many debtors are aggrieved that IVA proposals, which seem to them to be in the best interest of all concerned, are being turned down by the lending institutions.

Why are the lenders voting against IVAs? The main reason appears to be their view that the costs being charged by insolvency advisers and practitioners are excessive. They are seeking to limit costs to a proportion of amounts paid in to the arrangement by the debtor. The level being proposed by the institutions is such that many in the insolvency profession feel that IVAs will only be available for people on high incomes who can afford to make monthly payments of £500 or more. This would rule out the large majority of IVAs which have in the past been approved.

From the insolvency practitioner's point of view there are ever increasing regulatory and professional demands which drive up costs, whilst creditors understandably want to see costs reduced.

Another feature which some lenders are insisting on is the so-called hurdle rate: specifying that the IVA will only succeed if a minimum return to creditors is achieved. Whilst one can understand creditors' desires in this regard, from the debtors' point of view they could find themselves after 3 or 4 years of an IVA being unable to maintain contributions due to a change in circumstances, and having then to go bankrupt as a result.

Such is the level of concern that a Forum has been set up involving the British Bankers Association, insolvency professionals and advisers, the government's Insolvency Service and some lay representatives. The aim of the Forum is to come up with a protocol which would apply to IVAs generally so that everyone knows where they stand. The heat has recently been turned up by one representative of a number of major consumer lenders unilaterally issuing guidance as to what they will require for a "compliant" proposal. This has not been well received by many in the insolvency profession.

Where is all this going? The fact is that the number of IVAs has declined and I suspect that the decline will be shown to have continued when the third quarter statistics are published. Everyone involved appears to subscribe to the view that IVAs are a useful alternative to bankruptcy but at present it is rather hard to see how it can be economic, at least for smaller scale consumer debtors, for the insolvency profession to provide them whilst at the same time fitting in with the wishes of creditors.

Whilst it may be that the lending institutions want more debtors to follow debt management plans rather than go for an IVA, such plans give the debtor less certainty because they are not a legally binding arrangement on creditors. They are therefore unattractive to many debtors and proper advice from the insolvency profession is often that the debtor is much better off going bankrupt if an IVA proposal is not going to be accepted. So, expect bankruptcy numbers to rise.