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Out-Law News 3 min. read

Banks can offset unpaid debt against PPI settlements

A landmark ruling by the Court of Session in Edinburgh provides banks with scope to reduce the amount of compensation they have agreed to pay customers to settle claims concerning the mis-selling of payment protection insurance (PPI) in order to recover debt owed by those customers.

The implications of the judgment for banks' PPI liabilities were highlighted by insolvency disputes expert Joanne Gillies of Pinsent Masons, the law firm behind Out-Law, after the Court of Session confirmed that the discharge of a trust deed for creditors can be reduced. This finding leaves open the possibility for sums subsequently found due to the debtor to be set off against amounts remaining owed to the creditor.

Gillies said the decision provides much needed clarity and will be welcome news for creditors and insolvency practitioners who discover liabilities previously owed to a debtor after they have discharged a trust deed, highlighting its particular relevance to creditors facing PPI claims from customers who have a history of insolvency.

"The Court of Session's decision highlights that although insolvent debtors with PPI claims may have been discharged, the underlying debt owed to the creditor is not extinguished and that following a reduction of the discharge, which the Court has suggested is permissible, the creditor may set-off their PPI claims liability against sums due to them", Gillies said.

"The decision is also noteworthy for insolvency practitioners who are appointed as trustees in respect of a trust deed. In ingathering the estate of a debtor, the Court has confirmed that failure by a trustee to ingather any existing PPI claims which would be treated as an asset of the estate will be considered a material error upon which any discharge may be reduced, even if the debtor was unaware of the existence of the PPI claim at the time of ingathering," she said.

The Court of Session ruling follows a 2018 ruling by the UK Supreme Court which determined that where a debtor's right to compensation only comes to light after a trust deed has been discharged, that right reverts to the debtor and the trustee’s right to it ends when the final distribution is made by the trustee and the trust deed comes to an end. However, the Supreme Court left open the possibility that a remedy may be found in the law of reduction and that a discharge might be reduced.

The case before the Court of Session concerned a dispute between the Royal Bank of Scotland (RBS) and customer Alison Donnelly. Pinsent Masons acted for RBS in the case. Between 1997 and 2003, Donnelly borrowed money from RBS.  Being unable to repay these sums, she entered into a protected trust deed and appointed an insolvency practitioner as trustee to administer her estate to pay off her debts. In December 2013, the trustee paid a first and final dividend of approximately 21 pence in the pound to RBS and granted Donnelly's discharge.

Subsequently, Donnelly raised a PPI claim against RBS through a claims management company, which both parties settled for approximately £11,000, of which RBS paid one instalment of approximately £1,000 only. Donnelly raised legal proceedings against RBS in respect of the unpaid balance. Following the Supreme Court's decision in 2018, the Inner House of the Court of Session decided that as Donnelly had been discharged in respect of the unpaid balance owed to RBS, this sum could not be set-off against the outstanding sum owed to her by the bank. Consequently RBS raised a new action seeking reduction of the trust deed's discharge.

In its latest ruling in the case, the Outer House of the Court of Session decided that the trustee's failure to ingather Donnelly's PPI claim as an asset of her estate was a material error, which was capable of founding an action of reduction, notwithstanding that Donnelly was unaware of the potential for raising the PPI claim during the trust deed process.

The court also found that the trustee's decision to grant the discharge did not involve any discretionary or qualitative judgement but was instead an administrative decision, challengeable on grounds including material error.

The court considered that it had discretion to reduce the discharge on the trust deed on the basis that reduction was an equitable remedy available to the court. In considering whether to exercise its discretion in this case, the court considered a range of issues beyond the relevant factual and legal position, including the consequences of a reduction for the parties. It decided that a grant of reduction would not be equitable in the unique circumstances of Donnelly's case, including the backdrop of a long-running litigation between parties. 

However, the court confirmed that "there is nothing inherently incompetent in seeking reduction of a debtor’s discharge in an insolvency process" provided that the discharge was given effect in a procedurally competent manner, was not prejudicial to the good faith of third parties, treated creditors with parity and was compliant with other rules relating to reduction and restitution.

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