67/10    24 June 2010

The OFT has today recommended far-reaching reforms of the corporate insolvency regulatory regime to build trust in the market and ensure that it works in the best interests of creditors and the wider economy.

Each year, Insolvency Practitioners (IPs) in the UK realise about £5 billion worth of assets and earn approximately £1 billion in fees from corporate insolvency procedures.

An OFT market study published today found that while the market often works well, it may not work in the best interests of all creditors in over a third of administrations and creditors' voluntary liquidations (CVLs), procedures which together account for 75 per cent of income earned by IPs.

The OFT found that secured creditors such as banks, who in effect appoint IPs, have a strong incentive to control fees and direct the activities of IPs in the 63 per cent of cases where there are insufficient funds for secured creditors to recover all their debts.

In the other 37 per cent of cases, secured creditors are paid in full, and their interest in IP fees and actions ceases. In these cases, the OFT found that the remaining, unsecured creditors - such as HMRC, small businesses and customers - are often unable to exert influence on the IP whose actions are then mainly constrained only by regulation and ethics.

The OFT found evidence that IPs charge around nine per cent more, like-for-like, when it is the unsecured creditor who pays, rather than the secured creditor. The OFT's assessment of the market suggests there may be further problems such as overly long liquidation proceedings and insufficient oversight of the use of pre-packaged administrations. While the OFT has received numerous complaints, it has not been possible to quantify how widespread or damaging such practices may be.

To address the concerns, increase trust in the system, and deter IPs from sharp practices, the OFT recommends fundamental changes to the regulatory system, which is currently unable to effectively protect the interests of small creditors. These include:

• an industry-funded independent complaints handling body with broad powers to review IP fees and actions, impose fines, and return overcharged fees to creditors
• reform of the regulatory system by repositioning the Insolvency Service (IS) as the dedicated oversight regulator of the Recognised Professional Bodies (RPBs) and withdrawing its role as a direct regulator of IPs 
• providing objectives for the regulatory regime against which its performance can be measured 
• streamlining the currently inefficient way in which the regulatory regime makes decisions.

In today's report, the OFT also suggests changes to the regulations to increase transparency and enhance the ability of unsecured creditors to oversee IP fees and actions.

Clive Maxwell, OFT Senior Director of Services said:

'Smooth entry and exit of firms is an important feature of a competitive economy, and while we have found that the corporate insolvency market works well in supporting this outcome in the majority of cases, unsecured creditors are insufficiently represented and protected. Our recommendations, if enacted, would benefit both the wider economy and good insolvency practitioners, without imposing burdens on the taxpayer.'

The OFT has offered to assist the Department for Business, Innovation and Skills, and the Insolvency Service in taking forward its recommendations.

Download the OFT's final report (pdf 1.4Mb) 

NOTES

1. The OFT's Market Study into corporate insolvency was launched in November 2009 following concerns raised within Government, the Insolvency Service and the industry itself, and reports by the World Bank which showed the costs of closing a business in the UK were higher than other countries with similar or even better recovery rates. The final report and accompanying documents are available on the market study page.
2. Administration is an insolvency procedure which has as one of its aims the rescue of businesses in financial distress. While a company is in administration, the IP is responsible for running the company in place of the directors. Creditors' voluntary liquidation (CVL) is a procedure in which an IP is appointed to 'wind up' the affairs of a company that is unable to repay its debts. 
3. OFT market studies are carried out under section 5 of the Enterprise Act 2002 (EA02) which allows a market-wide consideration of both competition and consumer issues. 
4. Market studies involve an analysis of a particular market with the aim of identifying and addressing any aspects of market failure from competition issues to consumer detriment and the effect of government regulations. Possible results of market studies include; enforcement action by the OFT; a reference of the market to the Competition Commission; recommendations for changes in laws and regulations; recommendations to regulators, self-regulatory bodies and others to consider changes to their rules; campaigns to promote consumer education and awareness; a clean bill of health.