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The test for protection

4.1 The Executive considers that a number of reforms are needed before any future trust deed should be capable of protection:

• Student loan debt should not be covered by the protection;
• The debtor should have made an informed choice;
• A trust deed should only be protected where reasonable;
• The trust deed should produce a minimum dividend;
• The trust deed should be no more than three years;
• It should be easier for a creditor to oppose protection; and
• Fees should be fixed.

4.2 The Executive also considers that in future the debtor should be able to cancel any trust deed that does not become protected (a 'cooling off' period).

Student loan debt

4.3 A student loan approved by the Student Awards Agency for Scotland (or its predecessors) is not like any other loan. It is available as of right, has a low interest rate, and is only due to be paid when incomes are high enough for repayment to be reasonable. In addition, the benefit of the loan applies during the whole working life of the former student. The Bill therefore provides that student loan debt will not be cancelled by a sequestration.

4.4 For the same reasons, student loan debt should not be cancelled by a protected trust deed. The debtor will not be protected for that debt. The effect of this will be that there will still be a student loan deduction from the earnings of any student or former student whose income is over the repayment threshold.

An informed choice

4.5 A frequent comment from debtors who have signed a trust deed is that they did not realise the consequences of signing. A trust deed is a form of bankruptcy, and bankruptcy is always a tough option. While people must take responsibility for their choices, they should be given the information that they need to make the choice that is right for them.

4.6 The Executive considers that there should now be a requirement for trustees to provide the same kind of information to all debtors considering the trust deed option. This will include information on the alternatives to a trust deed (such as DAS and sequestration), the intended 'cooling off' period, and the effect of a trust deed. Information on the effect of a trust deed should include at a minimum:

• Loss of property of all kinds;
• Possible homelessness;
• Possible payments from income;
• Risks to business interests and employment;
• Risks of losing any office;
• The duty to co-operate with the trustee;
• The trustee's duties to the creditors, with the risk of sequestration if the trust fails;
• Public disclosure of a protected trust deed; and
• Credit 'blacklisting'.

Reasonability test

4.7 The Executive considers that the existing problems with protected trust deeds are most acute with 'income only' deeds. The Executive is concerned that such deeds:

• Are most likely to be used to avoid debt by 'won't pays';
• Increase the risk that the debtor is a 'could pay', who would be better off in a DAS debt payment programme;
• Do not bring home even to 'can't pay' debtors the serious step they are taking in signing a trust deed.

4.8 The Executive also recognises that income only deeds could produce a relatively high payment to creditors, which is an important policy objective. Of course, the higher the potential payment the more likely it is that the debtor is a 'could pay' rather than a 'can't pay'.

4.9 There is a balance to be struck in respect of income payments between the interests of the debtor, the creditors, and the public. While the Executive considers that in most cases the public interest in reducing the scope for avoidance will outweigh the private interests of debtors and creditors, that will not be so in every case.

4.10 There are other issues where a balance needs to be struck. For example, the Accountant in Bankruptcy will in future need to consider whether a two to 15 year bankruptcy restriction is needed in sequestration cases. She should be able to take direct account of the public interest in protection when deciding whether or not to give the debtor protection in a trust deed.

4.11 The Executive considers at this time that a trust deed should not become protected unless the Accountant in Bankruptcy is satisfied that in all the circumstances it is reasonable to do so. Such a test will need to be administered and the Executive must also take into account other demands on the resources of the Accountant in Bankruptcy.

Dividend paid to creditors

4.12 A trust deed should not become protected unless the creditors can expect to be paid a dividend that justifies protection for the debtor. The Executive does not, however, consider that either the debtor or trustee should have to guarantee payment of any particular dividend. The expected dividend may not be paid for a good reason, such as a property not being sold for its estimated value due to later damage.

4.13 The trustee should be expected to obtain such evidence of value as is needed, and using their professional judgement to certify that to the best of their knowledge and belief, the trust estate will pay a dividend of whatever amount is appropriate. Indeed in some existing protected trust deeds the trustee does declare an anticipated dividend.

4.14 The Executive does not, however, consider it reasonable to rely only on trustee certification to determine whether the anticipated dividend is enough to justify protecting the deed. In most existing cases where an expected dividend is declared either no dividend is paid or the actual dividend is less than the expected one.

4.15 The Executive considers therefore that the application for protection should include such evidence as is needed to support the estimated dividend. That evidence should include:

• Independent evidence of the value of land and buildings,
• Redemption statements for any secured debts,
• Independent evidence of the value of any other significant assets,
• Evidence of debtor income, if any,
• The quote/estimate of the trustee's fees and outlays.

4.16 The Accountant in Bankruptcy will consider the trustee's certificate and the supporting evidence, and will refuse to protect the trust deed if not satisfied that there are reasonable grounds for holding that the expected dividend will be paid. The Accountant will be able to take into account the reliability, or otherwise, of previous certificates issued by the trustee who is party to the trust deed in question.

4.17 The next step in the protection process will be to consider whether or not the expected payment to the creditors is reasonable. The Executive intends that the trust deed will be protected only where the expected dividend equals or exceeds a minimum sum prescribed in regulations ("the payment threshold"). This will allow the prescribed sum to be varied as needed from time to time in order to ensure that the right balance is struck between the different interests involved.

4.18 The Executive has considered what the right level of the payment threshold is, and has identified three options:

• 20 pence in the pound;
• 25 pence in the pound; and
• 30 pence in the pound.

4.19 Protected trust deeds are significantly better for debtors than sequestration. The payment threshold should therefore not be less than the average dividend paid in a sequestration. In the year to April 2005 that average was 18.4 pence in the pound. The Executive therefore considers that the lowest appropriate payment threshold is 20 pence in the pound. There are, however, arguments in favour of a higher payment threshold.

4.20 A protected trust deed is an alternative to sequestration. The 1985 Act sets out the debtor's right to composition, which is another alternative to sequestration. The debtor can be discharged from the sequestration if security is available for a minimum payment of 25 pence in the pound. ¹³ A protected trust deed is better for the debtor in that he or she is not sequestrated at all. There is therefore an argument that the payment threshold for protection should be fixed at 25 pence, as the protection threshold should not be lower than the composition threshold.

4.21 Given that protected trust deeds are better for debtors than either sequestration or composition, and that the Bill reforms will make sequestration a tougher option in some ways ¹⁴, there is a persuasive argument that this advantage should be reflected in a payment threshold at the high end of the range that the Executive is considering, and that being so the appropriate payment is 30 pence in the pound.

4.22 The Executive considers that in an integrated and effective debt management system there will be a clear distinction between the different 'tools'. For that reason it considers that a high threshold is more appropriate than a low one, and for that reason proposes an initial payment threshold of 30 pence in the pound. The Executive welcomes views on that proposal.

Maximum three year period

4.23 There is at present no legal limit on the length of time in which a debtor is subject to a trust deed, and the Executive is not persuaded that there should be. A trust, unless protected or cancelled, is a private arrangement between the debtor, the trustee and the creditors.

4.24 A protected trust deed is a public arrangement and different, because:

• Of the impact on non-acceding creditors; and
• The debtor should know when they will be able to re-start after their insolvency.

4.25 It is considered good practice by insolvency practitioners to contract in the trust deed for the debtor to be discharged after three years, provided the debtor co-operates. However, the Executive considers that good practice should be consolidated by prescribing that a trust deed is only capable of being protected if the debtor can expect to be discharged on or before the third anniversary of the trust.

Creditor objections

4.26 Few creditors object to the protection of trust deeds. This is not thought to be because they actively agree, but rather because of inertia or a degree of fatalism about the outcome. The Executive considers that creditors with a view should be encouraged to express it. It is intended therefore that each creditor will receive:

• The information they need to make an informed choice;
• A form to return if they object to protection; and
• A pre-paid return envelope.

4.27 Creditors as well as debtors should be able to make an informed choice about protection of a trust deed. The Executive considers that there should be a uniform standard of information provided to creditors, similar to that which is to be provided to debtors. That information should include:

• A copy of the trust deed;
• A copy of the statement of affairs, including the expected dividend;
• Copies of any valuations to be sent to the Accountant in Bankruptcy (see paragraph 4.13); and
• An explanation of the effect of protection, and of the right to object.

Fixed fees

4.28 In some protected trust deeds the costs of administering the trust are much the same as the sum gathered in by the trustee, and either no or a small dividend is paid. It is not clear that debtors or creditors understand either the likely amount of the costs, or how they will arise.

4.29 The greatest part of the administration costs is usually the trustee's fees and outlays. It is thought that fees are calculated on an open ended 'time and line' basis: that is, the fee depends on the hours charged. The Executive considers that this charging method fails to give those affected a clear idea of the likely costs, and encourages neither consistency of practice nor economical management of the estate.

4.30 The Executive considers therefore that the trustee should quote or estimate a fixed fee for the work involved in the administration of the estate. The quote or estimate provided by the trustee should contain two elements:

• All work up to the decision on whether or not to protect the trust deed; and
• All work to conclusion of the administration of the estate.

4.31 The Executive considers that it is reasonable to expect that the trustee should give a fixed quote for the first phase of work up to the decision on protection.

4.32 While still practicable, it will be more difficult for a trustee acting reasonably to give a firm quote covering the three years of work after protection. The trustee should therefore be able to estimate the cost of their fees and outlays either as a fixed sum, or as a percentage of the net amount of assets realised for the creditors during the administration of the estate.

4.33 As the figure for the second phase of work will be an estimate, the trustee will be entitled to be paid any fees and outlays reasonably due that exceed the estimate. The Executive expects that the Accountant in Bankruptcy would consider an audit of the estate should there be any cause for concern.

4.34 The Executive considers that there should be a cap on the percentage of the estate that should be taken up by fees and outlays, which are in effect the costs of administration. However, the Executive welcomes views on what figure represents a reasonable maximum percentage.

Cooling off period

4.35 Under current law there is little to prevent a trust deed becoming protected. As that will change, the Executive considers that debtors should have the right to cancel a trust deed in a 6 week 'cooling off' period. That period will begin on the day the Accountant intimates that protection has been refused.

4.36 The debtor who cancels a trust will be put back in the same position as if the trust had never been signed, with one exception. The trustee will have carried out work with no benefit to the creditors, and is reasonably entitled to be paid the sum due under the fixed quote for the first phase of the work. The debtor will therefore remain due to pay the sum quoted.

4.37 The debtor who cancels a trust deed will if necessary be able to apply for protection under a DAS debt payment programme, or if they are apparently insolvent apply for debt relief through sequestration.

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