I am going to enter into an IVA. What’s the downside?

The advantages of an IVA (Individual Voluntary Arrangement) from the debtor’s point of view are obvious. Click onto any of the websites that offer Debt Management or Personal Insolvency Services and you will see statements such as: “Write off up to 75% of your debt”; “Be debt free in five years”; “…make one single, affordable payment each month…”; “Protection from further action by your creditors”, and so on.

With the exception of the first, all of these statements are perfectly true. Given the current stance of institutional lenders, any promises of writing off up to 75% of debt will be pretty much imposssible to deliver. However an IVA is an extremely effective process for an individual to obtain relief from an unbearable burden of debt and significant levels of debt forgiveness can be achieved. But there can be disadvantages, depending upon individual circumstances.

So, what are the downsides?

Firstly, we have to consider what an IVA actually is. It’s a type of contract between you and your creditors. As the term suggests it is an agreement between the parties to the effect that in exchange for whatever you are offering, the creditors will take no further action against you.

The first hurdle to overcome in an IVA is to have it approved. Normally an Insolvency Practitioner (IP), and it is only an IP who is legally able to act as the Nominee and Supervisor in an IVA, would not allow you to put forward a proposal that he did not believe the creditors would accept. In fact, as part of the process, he is obliged to prepare a report on the merits of the IVA and whether he believes that a meeting of creditors should be held to consider it. He cannot however guarantee creditor approval.

Under the present legislation, for an IVA to be binding on creditors it has to be approved by a majority of 75% in value of the creditors who actually vote. If that majority is achieved and some of the creditors are associates of yours, (such as relatives, employers, employees, business partners, co-directors etc.), then any votes they have cast have to be disregarded for a second count and if more than 50% of the remaining creditors approve the IVA it is binding on all creditors.

In proposing an IVA it is a prerequisite that you offer the best deal you can afford to your creditors and that in any event what you are proposing will put them in a better position than if you were made bankrupt.

Also under the present legislation the creditors are entitled to propose modifications (additional conditions) to the proposal. You must agree to these modifications before they are voted upon. If you do not agree then they cannot be voted upon. However your failure to agree may result in those who propose the modifications voting for a rejection of the IVA. You may therefore feel that you are being pushed into a corner to accept the modifications if you want to avoid bankruptcy. The IP instructed will normally advise on the merits of the modifications. Most institutional creditors approach IVAs in a sensible way and would not normally suggest modifications that are unworkable, but the simple advice must be for you to ensure that you do not agree to anything that is not achievable, since this will inevitably lead to failure of the IVA at a later stage, and your subsequent bankruptcy.

Most consumer debt IVAs are proposed to include monthly contributions into a fund for the benefit of creditors, over a five year period, since it is often not cost effective to consider shorter periods. Five years is a long time and a lot can happen. There is no way anyone can be certain as to what their personal circumstances will be over that length of time. Events could occur that mean you cannot continue making payments.

In that case, the IVA fails and you will be made bankrupt. How cruel would that be if you had already complied with all of your obligations for three years or more? Fortunately it is often possible to propose a variation to creditors in such circumstances and you should always ensure that the proposal contains a clause to this effect, since if it does not then a variation cannot be proposed. In any event the same 75% majority in value of those who vote applies in the approval of variations.

In bankruptcy the bankrupt is usually discharged automatically after twelve months and often before that. There are exceptions, but if the debtor has never been made bankrupt before and he cooperates with the Official Receiver and his Trustee, the discharge will occur within that time scale. Despite the early discharge from bankruptcy, if the bankrupt has income, which is surplus to his requirements for a reasonable standard of living, he can be required to make payments from his income for a period of up to three years from the date of the bankruptcy order. An IVA would therefore be more onerous than bankruptcy in this respect.

Then there’s Aunt Sally , your wealthy 92 year-old maiden aunt, who thinks you are the most wonderful human being to have walked the planet. If she were to die during the term of an IVA, that big inheritance would have to go into the fund for the benefit of creditors, to the extent that it is required to pay costs, the creditors’ claims in full and interest. The same would be true in bankruptcy, but the Trustee’s claim against the inheritance would exist only if Aunt Sally died before the date of discharge, i.e. within one year of the bankruptcy order at the most.

If you own a property it will invariably need to be included in the IVA for the benefit of creditors. If the situation is not addressed in the proposal, creditors often propose a modification to the effect that at the end of the fourth year, the property is to be valued and, based upon that valuation, your interest is to be realised and paid into the fund. This can be achieved by an open market sale , a sale to a connected party, or by a remortgage. Whichever way is chosen, there is a risk that in a rising market a greater amount will need to be realised. Again it is not possible to foresee what will happen to property prices over a four year period.

It is true that the property would also have to be realised in bankruptcy. However if the property is your main residence, then the Trustee must have taken steps to realise it within three years of the date the property vested in him (came under his control). The date of vesting is usually a few weeks after the date of the bankruptcy order. If the Trustee does nothing in that three year period, which is admittedly unlikely, then the property reverts back to you and the Trustee no longer has any claim against it.

For many people an IVA will be the best solution for debt problems. In fact, for members of some professions being made bankrupt will result in the loss of their livelihood. However, before embarking upon any course of action it is of paramount importance to know what the downside could be. The above are but a few examples of the man-traps that may exist. The list is not all embracing and individual circumstances may mean that none of the above apply, or others do. The important thing is to make sure you tell your IP everything. Only then will he be in a position to advise you on the potential pitfalls and only then will you be able to consider all of the necessary factors before making your decision on which route to follow.