Arbitrate Before You Litigate! Re: UK Insolvency Cases
Over the last seven months there has been a spate of cases dealing with the relationship between arbitration law and insolvency law.
Winding-up petitions and arbitration clauses
Where a winding-up petition has been presented on the basis of a contractual debt and the contract contains an arbitration clause, the Court should exercise its discretion to dismiss the winding-up petition (Salford Estates (No 2) Ltd v Altomart Limited). The debtor only has to show that the debt is not admitted in order to have the petition dismissed. The debtor does not have to show the debt claimed is bona fide disputed on substantial grounds. The reasoning is if contracting parties have previously agreed terms as to what happens in the event of a dispute, the Court will be slow to interfere with those terms or cast any view on the merits of the supposed dispute.
Hopelessly insolvent vs primacy of arbitration
What if the debtor is clearly insolvent? Here is a potential conflict. It may be in the best interests of the body of creditors that the winding-up petition is allowed to proceed and the Court does have an inherent jurisdiction pursuant to the Insolvency Act 1986 to wind-up a company if it is proved to the Court that the company is unable to pay its debts – excluding the debt subject to arbitration – or it is just and equitable to do so. The Court of Appeal in Salford Estates considered that it had to exercise such inherent jurisdiction consistently with the legislative policy embodied in the Arbitration Act 1996 and, as such, the inherent jurisdiction should not trump the contractual agreement to arbitrate, save in “very exceptional circumstances”. However, the Court of Appeal could not envisage any circumstances where “very exceptional circumstances” would apply. Note that, on the evidence before the Court, the debtor was not insolvent (although no evidence of the balance sheet test of insolvency was submitted), so the Court found it unnecessary to deal with this issue. So, it would seem that in the absence of a third party creditor being able to be substituted as petitioner, the arbitration clause will stand and the petition will be stayed or dismissed.
No point trying to get around it! Impact on proofs of debt and insolvency
An arbitration clause has wider effect in insolvency than simply where a winding-up petition has been presented. In the case of Philpott v Lycee Francais the company was in creditors’ voluntary liquidation. The mandatory stay on legal proceedings under section 9 Arbitration Act 1996 trumped the taking of an account of mutual dealings under rule 4.90 Insolvency Rules 1986 and the parties were required to submit their dispute to arbitration. The liquidators had wished to apply to Court for directions, as a cheaper alternative to arbitration.
Whether it is economical to pursue arbitration will depend on the facts of each case. However, the Court in Philpott commented that it did not consider arbitration proceedings would be any more expensive or time consuming than an appeal against any rejection of the proof of debt.
Creditors and office holders should be aware that the Court will now generally uphold the primacy of arbitration clauses and so underlying contractual documentation should be checked as soon as possible.