Informal sector should be preserved

September 9th marked Day 1 of the new personal insolvency regime.

The day was long-awaited by many, but in particular by those who have been in debt-related distress for years. The build-up of individuals in arrears has accelerated and all the evidence would point to a deluge availing of the new schemes on offer.

That may yet prove to be the case but nobody is expecting the deluge to materialize this side of 2014.

One reason is that there is still not a critical mass of Personal Insolvency Practitioners (PIPs), the new class of professionals required to represent debtor clients in search of a solution.

But a bigger reason is that many distressed debtors are likely to adopt a wait and see approach over the coming months. Few individuals will likely wish to be among the very first to avail of the new schemes.

It is true that since the bust the devastating experience of many has lessened the stigma of insolvency and bankruptcy to some extent, but this has by no means disappeared. And while the keeping of a register of those availing of Debt settlement Arrangements and Personal Insolvency Arrangements is necessary, it also acts as a powerful disincentive to those looking for a formal arrangement.

The new formal arrangements on offer have the benefit of being finite with a life of five or six years. They are also binding on the creditors (of course they are binding on the debtor as well).

Informal arrangements, on the other hand, potentially go on forever and that is why there is likely to be a relative aversion on the part of debtors. But until the passing of the Personal Insolvency Act, there was no other way of dealing with the over-indebted. The informal debt management business operated for years, effectively unregulated.

Then came some high profile adverse publicity in the sector, most notably the Dunne and Maxwell case, a firm that was closed by the Central Bank in early 2012. This seemed to cast the debt management sector as a whole into the outer darkness.

But for those superior practitioners who wished for regulation, the Central Bank appeared to hear their plea when it published a consultation paper on the requirements and standards for debt management firms.

But their happiness would have been short-lived because if the Insolvency Service of Ireland (ISI) set the bar high for the new class of PIPs, the Central Bank arguably set the bar higher for debt management practitioners relative to the complexity of the business.

First, the Consultation Paper proposes a minimum competency of qualification as ‘Qualified Financial Adviser’ (QFA). It also proposes professional indemnity insurance to cover at least equivalent of ‘the total value of all the debts of consumers related to the services of the debt management firm’ – something considered entirely unrealistic by practitioners.

But the major change to the old debt management regime is that debt management firms may no longer handle client funds. In other words, debtor clients now must pay their creditors directly rather than pay the debt management firm which in turn routes funds to the creditors.

While this is understandable in the wake of cases such as Dunne and Maxwell, it is the strong view of practitioners that this effectively will lead to a breakdown in debtor discipline, according to Ryan Stewart of Frost Debt Solutions. “You can’t handle client funds or make payments. You can’t see whether the client has paid or not until the creditors come knocking on your door and you have to chase the client. You can’t investigate.”

The demise of debt management firms would be a retrograde step, if for no other reason than the fact that the new personal insolvency regime excludes thousands who are seriously indebted but fail to qualify for the new schemes, according to Stewart.

For example, an individual might have a number of investment properties in negative equity while at the same time have a private residence totally unencumbered. That individual does not qualify for a Personal Insolvency Arrangement.

The new personal insolvency legislation is a big step in the right direction but if it is effectively exclude a large number of distressed debtors then there must be alternative routes left open to those individuals and they should have the option of being able to avail of the option of regulated, independent advisors.