Shift in burden of proof in considering whether to assign a claim

Out-Law Legal Update | 15 Aug 2018 | 2:22 pm | 2 min. read

LEGAL UPDATE: The High Court has provided guidance to officeholders on the principles that they should apply when deciding whether or not to assign a claim. The decision overrules previous authorities which placed the burden of deciding whether a claim has merit to justify being assigned at the feet of an officeholder. In contrast an officeholder should assign a claim unless it is clear that the claim has no merit. More focus should be placed on realising assets for the benefit of creditors rather than officeholders satisfying themselves that third parties will not be inconvenienced by a claim being assigned.

Pennyfeathers Ltd entered into a conditional fee arrangement (CFA) and priorities agreement with Fieldfisher LLP whom it instructed to bring a successful claim against two of its former directors for breach of various fiduciary duties. Pennyfeathers disputed Fieldfisher's fees causing Fieldfisher to obtain an administration order against Pennyfeathers in respect of its unpaid fees.

Mr Ballinger, of Ballinger Law Ltd, offered to act for Pennyfeathers in a claim against Fieldfisher for negligently advising Pennyfeathers to enter into an unsuitable CFA. Alternatively Ballinger offered to purchase the claim from the administrators for £10,000. The administrators rejected Ballinger's offer on the basis that it would not make a material difference to the unsecured creditors.  Subsequently a company wholly owned by Ballinger, LF2 Ltd, acquired an interest as a creditor of Pennyfeathers. LF2 then applied for an order under paragraph 74 of schedule B1 Insolvency Act 1986 (IA86) for the administrators to assign the claim against Fieldfisher to LF2.

The application was initially heard on 13 April 2018. The first judge dismissed LF2's application, deciding that the legal principles to be applied were: 

  1. that officeholders are under a positive duty not to assign a cause of action that is without merit;
  2. the court should not direct the assignment of a claim which is frivolous or vexatious, which includes a claim with no real prospect of success; and
  3. the applicant bears the burden of proving that the claim does have prospects of success.

LF2 appealed. On appeal, the High Court ruled that the first judge had applied the wrong legal principles. Relying on the 1996 Australian decision in Citicorp Australia v Official Trustee in Bankruptcy, the appeal judge ruled that an administrator ought to be ready to investigate whether a claim should be preserved and pursued. He noted that the power to assign a cause of action is contained within the Insolvency Act but that the Act does not require administrators to satisfy themselves as to the arguability of the action. Insolvency practitioners should only refuse to assign a claim if they are certain that it has no prospects of success. The appeal judge said that the burden of proof is not on the assignee to prove that the claim has a prospect of success as the first judge said, but instead the burden of proof is on the person who believes that the claim has no prospects of success to evidence their case.

The appeal judge also said that the more appropriate forum for a discussion as to whether a claim was frivolous and vexatious was at a hearing between the assignee of the claim and the third party that the purported claim was against. He said that the focus of the submissions made to the court should be on the administrators realising the potential assets of the company for the benefit of the creditors. In the present case, the submissions concentrated on protecting the third party from the possibility of being harassed by litigation.

The appeal judge dismissed the appeal. For the appeal to succeed LF2 would have had to satisfy the court that the administrators had acted in a way which unfairly harmed their interests as required under para 74 Schedule B1 IA86 and this was not one of their grounds of appeal.

Whilst the appeal did not succeed the judgment provides a helpful framework for insolvency practitioners who are considering assigning a claim. The decision will be welcomed as it reduces the burden on insolvency practitioners in considering the merits of potential claims. It is likely to result in more claims being auctioned for assignment.

Ross Cooper is a restructuring expert at Pinsent Masons, the law firm behind Out-Law.com