Debt Recovery

However efficiently a business is run, the issue of debtors will be an inevitable problem for many.

Any business that supplies goods or services without securing payment in advance will need to ensure extremely tight credit control procedures, so as to recover prompt payment and keep debtors to a minimum. This article looks at practical options and solutions for businesses to limit the problem of bad debt occurring and also, where it does, recovering that debt.

The foundations for avoiding or minimising debtors can be laid by "knowing your client". Many businesses will have established clients, with the result that they are likely to have sufficient knowledge of their client, their business and their financial strength, to trust that invoices will be met. However, clients circumstances can often change and businesses will, as they grow, have new customers. In such circumstances, credit ratings, for example, through Equifax, can often be a useful indicator as to a client's credit worthiness and ability to pay.

Where a business does not make any inquiries as to a client's credit worthiness and ability to pay, there are still a number of steps that a business can take before providing goods or services, with a view to limiting its exposure to debtors. The following steps can usefully be taken:

1. to require a payment on account prior to the goods/services being provided; and/or

2. to rely on standard terms and conditions of business, which can include provisions which make it unattractive to the clients to allow the invoice to allow unpaid beyond normal payment terms. Whilst the issue of suitable terms and conditions is a substantial subject on its own, which merits detailed consideration in a separate article, two particular terms and conditions merit mention in the context of debt recovery, namely:

(i) making provision for interest to be paid on overdue invoices; and
(ii) providing for title in any goods supplied to remain with the business and not pass to the client until full payment of the invoice (know as a retention of title clause).

In terms of providing for interest to be payable on overdue invoices, terms and conditions can provide for a contractual rate. Such a rate is often linked to the base rate of any high street bank and is often expressed as a percentage over and above that rate - e.g. that interest will be paid at 3% above the base rate from time to time of ABC Bank Plc.

However, even if terms and conditions do not provide for a contractual rate, there is now statutory protection to businesses with the Late Payment of Commercial Debts (Interest) Act 1998. In basic terms, this legislation gives businesses a statutory right to claim interest from other businesses for late payment of a commercial debt.

Furthermore, in August 2002, that legislation was amended so that all business owners can also claim reasonable debt recovery costs if they have to pursue such recovery.

The website www.payontime.co.uk provides useful guidance regarding this legislation and is also a useful source of advice as to better payment practice.

The retention of title clause can be a saving grace in circumstances where goods have been supplied, only for the client to then go into liquidation. A properly drafted clause may give the business power to identify and remove from the debtor's premises the goods supplied. Again, this is a complex issue and one which merits detailed analysis in a separate article.

Once goods/services have been supplied, the key to avoiding bad debt, or identifying and dealing with bad debt, is to have tight credit control. One must ensure goods/services have been provided satisfactorily and that payment is requested within the payment terms. It is often very important, in terms of any future action, to be able to show a document trail confirming (1) satisfactory performance of the contract and (2) requests for payment and (3) any promises of payment. Such a document trail is often extremely helpful to counter the common occurrence when a debtor is chased for payment and threatened with court action, which is for the debtor to then complain that the contract was not performed properly.

The sooner an outstanding invoice is chased for payment, the sooner any potential problem with payment becomes apparent. If the problem of non-payment remains, then further action should be considered and taken as soon as possible. There are a number of options in terms of further action, as summarised below, although this article concentrates on the two most commonly used options, which are court action and the service of a statutory demand under the Insolvency Act 1986. Options of action can be categorised as follows:

1. court action;
2. service of a Statutory Demand;
3. mediation/arbitration;
4. indirect action - e.g. complaint to any trade association that the debtor is a member of.


Court Action
Action can be brought in the High Court or the County Court. Whilst the County Court has unlimited jurisdiction, so that a claim of any size can be issued there, if the claim has a value in excess of £50,000, then if the claim is disputed, it is likely to be transferred to the High Court. In the circumstances, any claim of less than £50,000 is usually brought in the County Court and any claim in excess of £50,000 in the High Court.

Any claim of £5,000 or under should be brought in the County Court, where it will be dealt with under the small claims jurisdiction. This jurisdiction is designed for litigants in person, so that companies and individuals can represent themselves without incurring legal costs. Whilst there is nothing to prevent a party having legal representation, even if that party is successful, then, as a general rule, none of that party's legal costs will be recoverable from the other party. That is a persuasive provision for parties not to be represented.

If there is no dispute that the debt is due (no defence is produced), then the claimant can enter judgement. That then gives rise to a range of enforcement options. It is possible for a claimant to use more than one method of enforcement, either at the same time or one after another. There are the following enforcement options:

1. Execution against the debtors goods. This involves requesting the court bailiff to seize any property owned by the debtor, so as to cover the judgement debt and the costs of the bailiff selling that property at public auction.

2. Charging order against any land owned by the debtor, or in which the debtor has an interest. This amounts to a registered charge against title to the debtors land. The claimant can then apply to the court to enforce that charge by seeking an order for the sale of that property.

3. A third party debt order. This is relevant in circumstances where it is known that a third party owes money to the debtor. In such circumstances, the claimant can ask the court to order that the third party pays the debt to them, as opposed to repaying the debt to the debtor. A classic example would be where the claimant knows that the debtor has money sitting in a bank account. The claimant could apply for a third party debt order to require the bank to pay that money to them as opposed to debtor.

4. An order to obtain information from a judgement debtor. This used to be known as an "oral examination". What this involves is a requirement for the debtor to attend court, so that questions can be put to the debtor about their financial position (assets/liabilities) and ability to pay. This procedure may elicit information which makes it easier for the claimant to then decide on the most appropriate of the above enforcement options.

5. If the debtor is an individual, then one further method of enforcement is available, namely, an attachment of earnings order. Subject to a minimum level of the debtors earning being protected, the court can make an order that a certain amount of the debtor's wages must be deducted by the employer and paid over to the claimant.


Statutory Demand
A statutory demand can be presented against an individual or a company, although the procedure that is then followed if the debt is not paid is significantly different in dealing with an individual debtor or a company debtor.

A statutory demand is a standard and prescribed document, which requires no reference to the court for it to be issued. The form of demand is completed by the creditor, giving details of the debt claimed. The demand calls upon the debtor to pay the debt or come to an arrangement with the creditor as to payment, within 21 days of service of the demand. It is recommended practice to arrange for personal service of the demand on the debtor, so that there can be no doubt that the demand has come to the debtor's attention.

A statutory demand should not be used merely as a means of debt recovery. A demand is appropriate to use in circumstances where:
1. there is no dispute that the debt is due; and

2. it appears that the debtor is unable to pay.

Clearly, there will be cases where the debtor, when threatened with legal action, comes up for the first time with a suggested dispute to the debt. In such circumstances, the document trail I mentioned earlier, evidencing satisfactory performance of the contract and/promises of payment, can often prove invaluable. If the debtor produces a last minute and unexpected basis for disputing the debt, which it is felt has little or no merit, then the creditor may feel inclined to continue with the statutory demand. The onus is then on the debtor to take action, in applying to the court, to prevent further action being taken under that demand.

The further action available to a creditor presenting a statutory demand explains why a demand can be extremely effective in securing payment. If a debtor fails to comply with a statutory demand, then the creditor is entitled to present a bankruptcy petition (in the case of an individual debtor) or a winding up petition (in the case of a company debtor).

Given the draconian nature of this process, a statutory demand should not be used where it is known or believed that there is any dispute that the debt is due. If there is a genuine dispute, then court proceedings should be brought, so that the dispute can be resolved in that forum. If, instead, a statutory demand is served, then the individual debtor can apply to the court for that demand to be set aside: A company debtor can apply to the court for an injunction to prevent a winding up petition being issued or proceeded with. In either case, if the debtor is successful, the creditor can expect an order against them for the costs of that application.

This article would not be complete without mention of the possibility and potential importance of the parties considering some form of alternative dispute resolution ('ADR'), such as a referral of any dispute to mediation or arbitration. Clearly, such a process is only relevant in circumstances where the debt is disputed. Furthermore, given the likely costs involved, ADR would not be relevant for claims within the small claims jurisdiction, or indeed many low value claims (as a general rule of thumb, those with a value of £15,000 or less).

However, the importance of the parties considering mediation, in cases where the date is disputed, should not be overlooked. In recent times the courts have made it clear that if parties embark on court action and ignore the possibility of mediation, then the party ignoring such a possibility may well be penalised in costs. In other words, if a claimant pursued a claim ignoring the defendant's suggestion of mediation then even if the claimant is ultimately successful at trial, the court could disallow part or all of the claimant's costs of the action and, in extreme cases, could order the claimant to pay the defendant's costs.

Finally, what must not be forgotten is that any action to recover a bad debt is likely to be costly to any business, whether that be by way of a drain on management time dealing with the matter and/or by the expense of legal costs. In the circumstances, it will be easy to see the importance of businesses putting in place the procedures recommended above in seeking to avoid or limit instances of bad debt.

However, there will inevitably be cases where bad debt is impossible to avoid. In such cases, it is important that prompt action is taken to maximise the prospect of recovering the debt. As I have highlighted above, there are a number of options available to offer businesses suitable protection in seeking to ensure debt recovery.

Lee Ranford is a Partner specialising in commercial litigation, debt recovery and insolvency on behalf of the Commercial team at Russell-Cooke.
T: 020 8394 6476
E: Ranfordl@russell-cooke.co.uk

An abridged version of this article first appeared in South West London Business & Commerce (Spring 2004) and West London Business & Commerce (Spring 2004).