The Supreme Court has handed down its highly anticipated judgment in the joint Nortel Networks/Lehman Brothers appeal.  The administrators of Nortel and Lehman Brothers entities had appealed against the Court of Appeal’s decision that Financial Support Directions (FSDs) issued by the Pensions Regulator (“the Regulator”) after the appointment of administrators attracted priority status as an administration expense.  Rejecting the decision of the lower courts, the Supreme Court ruled that an FSD issued during the course of an administration will rank as a provable debt rather than an expense, meaning that FSDs will rank alongside pre-insolvency debts owed to other unsecured creditors and behind the administrators’ own remuneration.   

Why does it matter?

This decision will have significant consequences for professionals in both the pension and insolvency industries, as well as the beneficiaries of insolvent pension schemes and general creditors.

The appeal had its roots in the collapse of banking giant Lehman Brothers and telecommunications firm Nortel Networks.  The insolvencies left pension fund deficits of approximately £120m and £2.1bn respectively.  The Pensions Regulator has two key powers available under the Pensions Act 2004 to deal with situations where there is a deficit in a defined benefit occupational pension scheme.  One is issuing a Financial Support Direction (FSD), which requires the recipient to ensure that reasonable financial support is put in place for the scheme.  This involves a financial proposal being submitted by the recipient (usually a company associated with the employer) and approved by the Regulator.  If no proposal is submitted, or agreement cannot be reached, the Regulator can issue a more draconian Contribution Notice (CN), which requires the recipient company to pay a specified sum of money into the scheme within a certain period of time. 

Following the administrations of Lehman Brothers and Nortel Networks, the Regulator carried out investigations into the deficits in both pension schemes, which resulted in the issuing of determination notices to the effect that FSDs should be issued to associated companies in each case.

The question as to whether FSDs rank as an expense, a provable unsecured claim, or an unprovable debt has been the subject of much controversy.  It was submitted in the proceedings that the liability could either rank as an administration expense, a provable debt, or an unprovable debt (falling into the so-called “black hole”).

What did the Supreme Court decide?

The Supreme Court favoured a wide interpretation of the terms “liability” and “provable debt” in the Insolvency Rules 1986, concluding that FSDs should properly rank as a provable unsecured debt.  It reached this decision on the basis that the liability under an FSD is based on an obligation incurred prior to the administration, therefore falling within rule 13.12(1)(b).  The fact that the liability did not crystallise until the Regulator issued the FSD after the administrators’ appointment did not prevent it from being a provable debt, namely as an obligation giving rise to a contingent liability.  The incurrence of the obligation as a provable debt under this test will occur where, as a result of previous legal duties or relationships, there is a real prospect of the relevant liability being incurred post-appointment and, in the case of a statutory regime, it is consistent with the regime to reach this conclusion.  What this means in practice and how such debts are to be valued for proving purposes, remains to be seen. 

The Court also confirmed that had it decided that the liability was not a provable debt, it would still not have come down in favour of the liability being an expense.  An unprovable statutory liability which could have arisen pre- or post-appointment will only be payable as an expense where the nature of the liability suggests that Parliament must reasonably have intended that to be the case.  Moreover, as a general principle the Court confirmed it has no power to ‘upgrade’ an unprovable debt to the status of a provable debt in the ordinary course.

Comment

This decision will be welcomed by insolvency practitioners and general creditors alike.  It is also being hailed as a victory by the Regulator, although the decision could be said to blunt the Regulator’s teeth somewhat as any FSD or CN issued after the appointment of administrators will not attract priority status and will simply rank as an unsecured debt.  This means that the Pension Protection Fund (“the PPF”) will need to step in and cover the cost.  The Supreme Court appears to have been strongly influenced by general policy considerations and the perceived unfairness of the priority of a liability being determined solely on the basis of the date on which the relevant FSD was issued. 

This decision suggests that other statutory liabilities (for example, in respect of health and safety and environmental law) will in most cases rank as provable debts.  The difficulty will be in determining in each case whether an obligation has in fact been incurred pre-appointment within the  meaning of rule 13.12(1)(b) under the relevant statutory provisions. 

It is also interesting to note Lord Neuberger's comments that liability for rates on occupied properties falling due during an administration or liquidation are payable as an expense by reason of the fact that there is rateable occupation.  He also suggests that principle applies to council tax liabilities in the same way as it applies to non-domestic rates.

The Pensions Regulator, whose job it is to limit calls on the PPF, had insisted after the Court of Appeal’s decision that it would be highly unlikely to insist upon payment in an amount that would leave the administrators unable to meet their own costs and other creditors without any return at all, as its statutory duty to act reasonably required careful consideration as to the position of other creditors and the needs and resources of the administration.  Nevertheless, practitioners will no longer need to rely on the goodwill of the Regulator in this regard and will be able to accept appointments confident in the knowledge that there is now a clearer statement of the law on FSDs and other administration expenses.  One hopes that further clarity will be provided in the case of rent as an administration expense when the Game appeal comes before the Court of Appeal and it is asked to consider the correctness of the Goldacre/Luminar authorities.