The rights of privilege in bankruptcy cases (Re Lemos; Leeds and another v Lemos and others)

Paul Marsh, partner at Hillyer McKeown LLP, outlines a recent insolvency case, explaining the conflict at its core—whether documents that might have been subject to legal privilege could be used by trustees in bankruptcy. While this case has proved illuminating, he believes the lesson for practitioners is that the Crescent Farm principle, which would have previously been relied upon in such a case, does not apply and practitioners must take care in the future.

Original news

Re Lemos; Leeds and another (in their capacity as the joint trustees in bankruptcy of the estate of Lemos) v Lemos and others [2017] EWHC 1825 (Ch), [2017] All ER (D) 157 (Jul)

The Chancery Division dismissed, for the most part, an application by the trustees in the bankruptcy (trustees) of the first respondent for directions concerning the use of documents held by solicitors who had acted for the first respondent in other proceeding, and for an order, pursuant to section 366(1) of the Insolvency Act 1986 (IA 1986), requiring them to deliver up any further documents in their possession relating to his affairs.

What was the background to the decision?

The first respondent in the case had been made bankrupt in 2015, but was discharged in 2017.

The applicant trustees sought directions as to whether documents that had been obtained from the former solicitors of the first respondent could be used by the trustees. They obtained those documents in the discharge of their functions and the documents may have been subject to legal professional privilege. The trustees sought directions as to whether those documents could therefore be used as evidence in proceedings under IA 1986, s 423, relating to alleged transactions to defraud creditors, which were brought by the sister of the first respondent as a major creditor in his bankruptcy. The documents were likely to have been very useful in the recovery of valuable assets for the benefit of creditors. The trustees had written to the first and second respondents requesting the use of these documents, but this was rejected by the solicitors acting on behalf of the first and second respondents.

The trustees also sought an order, pursuant to IA 1986, ss 333 and 336, to compel the first respondent to waive his privilege in the documents so they could be used by the trustees in the discharge of their functions.

What were the legal issues the court had to decide?

The court had to consider the extent to which legal professional privilege enjoyed by a bankrupt passed to his or her trustee, and the extent to which the trustee could waive that privilege without the consent of the bankrupt or third parties who shared the benefit of the privilege. There were questions as to whether there was a distinction between the ability of a trustee to waive privilege, depending upon the nature of the privilege. For example, to assist with the statutory duties of collecting in assets, or whether those powers were restricted when used for an ancillary purpose, even if that purpose was beneficial to the bankruptcy estate.

Such issues required the court to consider decisions made in a number of previous cases, including Re Konigsberg [1989] 1 WLR 1257, which had been favourable to trustees in a bankruptcy by extending the benefit of privilege held by the bankrupt to the trustee. The court also considered the applicability or otherwise of the Crescent Farm principle (named after the principle formulated in Crescent Farm (Sidcup) Sports Ltd v Sterling Offices Ltd [1971] 3 All ER 1192), even though said principle related to the voluntary passing of property, rather than the involuntary passing of property under the insolvency regime. But it was established in that case that privilege held in relation to property would automatically pass to a successor in title to the property, and thus was notable.

The court was also asked to consider the decision of Mr Justice Arnold in Avonwick Holdings Ltd v Shlosberg [2016] EWHC 1001 (Ch), [2016] All ER (D) 76 (May) and the subsequent appeal of that decision ([2016] EWCA Civ 1138, [2016] All ER (D) 141 (Nov)). In that case, the court at first instance, and later affirmed in the Court of Appeal, found that the trustee did not enjoy the bankrupt’s privilege in relation to documents that related to liabilities. The question of whether the trustee enjoyed privilege in documents that related to assets that vested in him was almost accepted by default. It was a point conceded by counsel for the bankrupt at first instance and not argued before the Court of Appeal. It was noteworthy, however, that whilst accepting the concession at first instance, Mr Justice Arnold did not feel entirely comfortable in doing so feeling that it went against the fundamental rights of an individual to privilege.

For further reading on both the first instance and appeal decisions in Avonwick, see News Analyses: Trustees in bankruptcy and privilege—a spanner in the works? and Preserving a bankrupt’s rights of privilege (Avonwick Holdings Ltd v Shlosberg).

In the present case, counsel for the bankrupt argued that the concession made in Avonwick was wrong and that there was no distinction between documents relating to assets and liabilities as far as privilege was concerned. In the event that the court found that a bankrupt’s privilege could not be automatically waived by the trustee, it was asked to consider a secondary question of whether the bankrupt could be compelled to waive privilege pursuant to the provisions of IA 1986, ss 333 and 336. By doing so, the trustees argued that the bankrupt had an inherent duty to cooperate with the trustees in performance with the statutory function and, as such, if it was expedient to the estate that privilege be waived, the court should compel it in the absence of a bankrupt doing so voluntarily.

What did the judge decide and why?

HHJ Hodge QC preferred the submissions of the bankrupt. He placed great store in the principle that privilege was a fundamental right, which could be overridden by statute, but only if the applicable legislation did so expressly. He relied upon the decision of the Master of the Rolls in Avonwick, who in turn relied upon a number of House of Lords authorities, which stated the point. The judge noted that:

I am satisfied, on a true reading and analysis of the Court of Appeal's decision in Avonwick, that the Crescent Farm principle has no application in bankruptcy even in relation to assets, as well as to liability, documents. I am satisfied that there should be no distinction between the two classes of documents.

and

Mr Justice Arnold in Avonwick, it seems to me, did not actually decide whether privilege passed with assets to a trustee in bankruptcy. He may have been prepared to accept that it did, on the basis of the Crescent Farm principle. But in my judgment, insofar as he did take that view, it is inconsistent with the Court of Appeal's later reasoning and observations because it does not attach sufficient importance to the need to protect legal professional privilege, and the effect of the application of the Crescent Farm principle to an involuntary transfer of assets to a trustee in bankruptcy is, as the Master of the Rolls recognised, to amount to an abrogation of the right of privilege.

The judge therefore accepted that the trustees should have access to documents in which the bankrupt enjoyed privilege to enable the trustees’ statutory functions to be undertaken. However, this did not extend to the ability to waive the bankrupt’s privilege, as the judge pointed out:

There can be no dispute that the trustees are entitled to see the privileged information and to use it for the purpose of carrying out their statutory functions, provided, as the Court of Appeal has held in Avonwick, that they do not waive legal professional privilege without the bankrupt's consent.

Given these comments, it was perhaps unsurprising that when the court considered the secondary question—namely compelling a bankrupt to waive privilege—it took a similar line and found that the failure of Parliament to expressly allow the court to compel the waiver of privilege meant that there was no inherent power within IA 1986, ss 333 or 336 that allowed the court to do so.

To what extent is the judgment helpful in clarifying the law in this area?

The judgment has clarified matters, but not in a way that assists insolvency practitioners. Before this case, the view was that the Crescent Farm principle applied and that a trustee was entitled to use privilege as he or she wanted to, and in a way that was consistent with the rights enjoyed by the bankrupt prior to the vesting of the estate.

The position now, however, is that there is no distinction between privilege relating to asset and liability documents—a trustee has the right to see privileged information where necessary to enable the performance of the statutory function, but is restricted in how that privilege can be waived without the bankrupt’s consent. Previously, there had been little if any authority on the ability to compel waiver by a bankrupt, such applications were not deemed necessary in the light of the Crescent Farm principle. However, the court has made a clear decision that there is no express authority in the IA 1986 to allow the court to compel a bankrupt to waive privilege.

What are the practical lessons that those advising can take away from the case?​ What steps should insolvency practitioners take when dealing with privileged documents?

The practical lesson that practitioners should learn from this case is that care should be taken when dealing with documents in which the bankrupt continues to enjoy privilege. While a trustee has the right to see privileged documents, which are fundamentally important to the statutory function, and to use them in proceedings against the bankrupt, the trustee cannot waive privilege without the bankrupt’s consent, nor compel waiver by court order.

Interviewed by Giverny Tattersfield

The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.

Further Reading

If you are a LexisPSL Subscriber, click the link below for further information:

Basic principles—the delivery-up of information and property to the insolvency office-holder

Inquiry into a bankrupt’s dealings and property (including by way of private examination) under section 366 of the Insolvency Act 1986

What assets vest in the trustee in bankruptcy and what steps does the official receiver or trustee in bankruptcy need to take?

Not a subscriber? Find out more about how LexisPSL can help you and click here for a free trial of LexisPSL Restructuring and Insolvency. First published on LexisPSL Restructuring and Insolvency

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