Legal Professional Privilege and the ability of a Trustee in Bankruptcy to use privileged documents to challenge a transaction as a Transaction Defrauding Creditors

August 10, 2017

On 17th July 2017 the High Court in England and Wales handed down judgment in the case of Leeds and another v Lemos and others [2017] EWHC 1825 (Ch).

Mr Leeds and Mr Hellard were appointed as joint Trustees (“the Trustees”) in Bankruptcy in respect of the Bankruptcy estate of Mr Lemos (“the Bankrupt”) in April 2015. In January 2015 the Bankrupt’s sister obtained default judgment against him for circa $17.9 million. The Bankrupt subsequently petitioned for his own Bankruptcy and was adjudicated Bankrupt on 11th March 2015.

Prior to his bankruptcy, the Bankrupt and his wife jointly owned a property in London. In 1994, the Property was transferred into the joint names of a Bermudian trustee company (“the Property Trustees”) and a director of the Property Trustee Company. The Property Trustees claimed that they held the property on trust solely for the Bankrupt’s wife. The Bankrupt and his wife still lived in the property and it was thought to be worth approximately £16.5 million.

During the course of their investigations the Trustees had come into possession of documentation from the Bankrupt’s former solicitor. The Trustees were of the opinion that some of this documentation would be valuable evidence supporting an application setting aside the transfer of the Property on the basis that it represented a Transaction Defrauding Creditors pursuant to Section 423 of the Insolvency Act 1986 (“the Act”). The Bankrupt’s sister had in fact issued proceedings pursuant to Section 423, not the Trustees. The court was advised however that the Trustees had agreed with the Bankrupt’s sister that she would consent to them being substituted as the Claimant, or else joined as a co-claimant with her. Given the value of the property, any successful recovery under Section 423 would have resulted in a valuable asset being realised for the benefit of the Bankruptcy creditors, of which the sister was a majority creditor.

The Trustees wrote to the legal representatives for both the Bankrupt and his wife asking them for confirmation that they had no objection to the Trustees “deploying” some of the documents received from the former solicitors. Some of these documents had already been furnished to the Bankrupt’s sister. The Bankrupt’s solicitor and the wife’s solicitor objected on the basis that the documentation was privileged and further, that the parties did not agree to waive the privilege.

The Trustees sought Directions from the Court in relation to the extent of their ability, if any, to “deploy” any or all of the potentially privileged documentation that they held.

In defending the Trustees’ ability to release any privileged documents, the Bankrupt and his wife relied on the decision of the Court of Appeal in the case of Avonwick Holdings Limited and others v Shlosberg [2016] EWCA Civ 1138, handed down in November 2016. In the Avonwick case, the Court of Appeal dismissed a Trustee in Bankruptcy’s appeal and upheld the High Court’s decision whereby it was held that legal professional privilege contained within a document did not fall within the definition of “Property” as set out in Sections 436 and 313 of the Act and as such, did not vest in a Trustee and could not be waived. The Bankrupt and his wife argued that the Trustees should not be able to use information which they had in their possession so as to amount to a waiver of the Bankrupt’s privilege and/or the wife’s privilege. They also argued that the court had no power to compel the Bankrupt to waive his privilege under Section 333 of the Act.

The Trustees argued that the Avonwick case had been wrongly decided. They argued that if Trustees could not make use of privileged documents in proceedings without the consent of a bankrupt (and his wife if necessary), and further if the Court had no power to Order the Bankrupt to provide consent, then the decision from the Avonwick case would have “huge repercussions and serious implications upon the ability of trustees in bankruptcy to discharge their functions to recover the assets of the bankrupt’s estate…”. Specific examples of how investigations could be hindered were set out at Paragraph 24 of the judgment and included the inability of the Trustee to disclose details of any investigations to bankruptcy creditors which could look like the Trustee was in fact doing nothing!

The court in Avonwick had considered the decision of Crescent Farm (Sidcup) Sports Limited v Sterling Offices Limited [1972] Chancery 553 which had coined the principle known as the “Crescent Farm” principle.  This principle essentially said that a successor in title to an asset would acquire any privilege attached to that asset from its predecessor, which meant that in a Bankruptcy scenario, a Trustee in bankruptcy would stand in the Bankrupt’s shoes and would be entitled to assert the privilege of a predecessor in title.

The Leeds v Lemos judgment is a lengthy judgment however it provides very useful dicta on the various considerations and case law applied by the Court, particularly when determining whether the Avonwick case had been properly decided and whether the Crescent Farm principle should continue to apply in Bankruptcy cases.

In summary, the Court held the following:-

  1. That on a true reading of the Court of Appeal’s decision in the Avonwick case, the Crescent Farm principle no longer had an application in Bankruptcy cases;
  2. Even if the Court was wrong in coming to the above decision, it still could have held that the Crescent Farm principle had no application when dealing with documents that were going to be the subject of a claim under Section 423, because such a claim did not fall within the definition of “Property” set out in Section 436;
  3. Section 333 of the Act did not expressly require a bankrupt to waive a professional privilege for the benefit of a Trustee and as such, the Court could not give such a broad interpretation to the Section to compel a Bankrupt to provide such a waiver. The Court held that if it had been Parliament’s intention to provide such a specific provision in the Act, it would have already been included;
  4. The Court accepted that the Trustees were entitled to see the privileged information and use it for carrying out their Statutory Functions as set out in the Act. The Court however determined that bringing a claim under Section 423 of the Act did not fall within a category of the Trustees’ Statutory Functions. The Court held that simply because the Trustees had the power to bring the claim (my underlining) under Section 423, it did not mean that it was by extension, automatically one of the Trustees’ Statutory Functions;
  5. The Court concluded that “privilege is a fundamental human right and the court has no jurisdiction to direct a Bankrupt, still less a third party, to waive privilege in any documents”.

For many years, Trustees in Bankruptcy enjoyed the benefit of, and indeed applied, the Crescent Farm principle, allowing them to stand in the shoes of a Bankrupt when dealing with privileged documents. In this recent judgment, the Court has made it clear that a Trustee in Bankruptcy should no longer be automatically entitled to step into the shoes of a bankrupt to waive privilege, nor can such a waiver be compelled by the Court. This judgment creates a huge hurdle for insolvency practitioners wishing to use privileged documents to form the basis of evidence when issuing a Section 423 application (Article 367 of the Insolvency (NI) Order 1989), save only for in “exceptional circumstances”. Given that the Court made it clear that they found it hard to see what circumstances could fall within the exceptional circumstances category, Trustees in Bankruptcy may find their ability to use any such privileged information severely curtailed, with the Bankrupt’s human right of privilege outweighing the rights of creditors.

This article has been produced for general information purposes and further advice should be sought from a professional advisor. Please contact our Insolvency Team at Cleaver Fulton Rankin for further advice or information.