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Insolvency Law

Expert guidance on all aspects of corporate and personal insolvency

04 AUG 2011

Belmont Park Investments Pty Ltd v. (1) BNY Corporate Trustee Services Ltd (2) Lehman Brothers Special Financing Inc [2011] UKSC 38


  1. On the surface, Dante's The Divine Comedy describes his travels through Hell, Purgatory, and Heaven. Readers may well feel that they have travelled a similar journey having read and digested the Supreme Court judgments in Belmont Park Investments PTY Ltd v. (1) BNY Corporate Trustee Services Ltd (2) Lehman Brothers Special Financing [2011] UKSC 38.[1]
  2. The court considered the nature and operation of the anti-deprivation principle on the effect of the security arrangements in a complex series of credit swap transactions under which, in effect, investors gave credit protection to Lehman Brothers by reference to the performance of a basket of underlying obligations. This synthetic debt repackaged note issuance programme was called the ‘Dante Programme'.
  3. This brief case note scratches the surface of the decision, and seeks to highlight the key points.

Factual Background

  • 4. The complex facts were summarised in the lead judgment of Lord Collins[2] as follows:-
  • 4.1. Lehman Brothers set up an SPV (the Issuer) in a suitable jurisdiction (in the representative example, Saphir Finance plc, incorporated in the Republic of Ireland).
  • 4.2. Investors (the Noteholders) subscribed for Notes issued by the Issuer. The Notes were floating rate medium-term Notes (with a 7-year maturity) with a margin of 1.3% over Australian dollar denominated 3 month bills.
  • 4.3. The Issuer used the subscription moneys to purchase government bonds or other secure investments (in the representative, triple-A rated floating rate Rabo Australia Ltd Notes guaranteed by Rabobank Nederland) (the Collateral).
  • 4.4. The Collateral was vested in a Trustee (in the present case BNY Corporate Trustee Services Ltd) (the Trustee).
  • 4.5. LBSF entered into a credit default swap agreement with the Issuer under which LBSF would pay the Issuer the amounts due by the Issuer to the Noteholders in exchange for the payment by the Issuer to LBSF of sums equal to the interest received on the Collateral.
  • 4.6. The amount by which the sum payable under the swap agreement by LBSF exceeded the yield on the Collateral represented what has been described as the premium for credit protection insurance provided by the Noteholders.
  • 4.7. The amount payable by LBSF to the Issuer on the maturity of the Notes (or on early redemption or termination) was the initial principal amount subscribed by the Noteholders less amounts (if any) calculated by reference to the Credit Events occurring during a specified period by reference to one or more reference entities. In return, LBSF would receive the proceeds of the Collateral.
  • 4.8. The payment due from LBSF at maturity of the swap agreement (and also the outstanding principal amount of the Notes) could be reduced (in extreme circumstances to zero) during the term of the swap agreement (and the Notes) if Credit Events occurred and were notified in accordance with the terms of the swap agreement.
  • 4.9. Credit protection or insurance was a misnomer because there was no requirement for LBSF to have any direct exposure to the reference portfolio (substantially the same 260 reference entities in the two tranches before the court on the appeal): it was expressly provided that the swap did not constitute a contract of insurance and that payments would be due in the event of Credit Events without proof of economic loss to LBSF.
  • 4.10. There was in effect an ‘excess' because the notified Credit Events would lead to a reduction only if they exceeded a stated ‘subordination amount'. In the representative example before the court A$70m was the amount of the issue, the subordination amount was A$126m, and the Offering Circular indicated that the Notes would be reduced to zero when the cumulative losses on the reference portfolio reached A$196m.
  • 4.11. If Credit Events did not occur the Noteholders were due to receive the full amount of the Notes, and LBSF was to put the Issuer in funds to redeem the Notes.
  • 4.12. If Credit Events occurred, the amounts payable by LBSF and the principal amount due on the Notes were to be reduced from time to time as and when such Credit Events occurred and were notified.
  • 4.13. Consequently the performance of the Notes was linked to the performance of the obligations of the reference entities. In effect, LBSF was speculating that sufficient Credit Events would occur for it to be required to pay less than the Noteholders had invested and to net a substantial part of the Collateral; and the Noteholders were speculating that the credit reference portfolio was safe and that any Credit Events within it would not ‘burn through' the net amount of the subordination amount.
  • 4.14. The Collateral was charged by the Issuer in favour of the Trustee to secure its obligations to LBSF under the swap agreement and to the Noteholders under the terms and conditions of the Notes.
  • 4.15. The claims of LBSF and the Noteholders were limited to the Collateral and they had no right of recourse against the Issuer.
  • 4.16. The respective priorities of LBSF under the swap agreement and the Noteholders were described as ‘Swap Counterparty Priority' and ‘Noteholder Priority'.
  • 4.17. The respective priorities of LBSF and the Noteholders depended on whether there had been an Event of Default under the swap agreement, which included the institution by LBSF (or LBHI as LBSF's ‘Credit Support Provider' under the swap agreement) of proceedings in insolvency or bankruptcy (such as filing for Chapter 11 protection).
  • 4.18. If there were no such Event of Default, then LBSF would have priority in relation to the Collateral, but if there were an Event of Default in respect of which LBSF (or LBHI) was the ‘Defaulting Party', the Noteholders would have priority over LBSF.
  • 5. On 15September 2008, LBHI, LBSF's parent filed for Chapter11 protection under the US Bankruptcy Code, and on 3October 2008, LBSF filed for Chapter11 protection. Later in 2008 or in March/April2009, following directions by the Noteholders, the Trustee caused the Issuer to terminate the swap agreement. The swap termination notices served in respect of the Notes relied on the event of default constituted by LBSF's Chapter 11 filing and reserved all rights, claims and defences in relation to all other Events of Default. On 6May 2009, the Trustee issued Condition 10 notices declaring the Notes to be due and payable at their Early Redemption Amount. LBSF's position was that the effect of the provisions for a change in priority on default was unlawfully to deprive LBSF of property to which it is entitled in its bankruptcy, because they purported to modify the priority which was enjoyed over Collateral by LBSF in favour of the Noteholders after an insolvency event; and changed the allocation of Unwind Costs in favour of the Noteholders to exclude payment to LBSF.
  • 6. The Belmont parties, as Noteholders, issued proceedings for orders designed to procure the realisation of the Collateral held by the Trustee in respect of each of the series of Notes held by them respectively and the application of the Collateral and its proceeds in favour of the Noteholders in priority to any claim of LBSF as Swap Counterparty in accordance with the contractual provisions. LBSF was subsequently joined as a party.
  • 7. LBSF's position was that the effect of the provisions for a change in priority on default was unlawfully to deprive LBSF of property to which it is entitled in its bankruptcy, because they purported to modify the priority which was enjoyed over Collateral by LBSF in favour of the Noteholders after an insolvency event; and changed the allocation of Unwind Costs in favour of the Noteholders to exclude payment to LBSF.

The earlier decisions

  • 8. At first instance, MorrittC found that the contractual provisions were effective as a matter of English law and, in particular, did not offend the anti-deprivation rule; alternatively, if the provisions were capable of offending the anti-deprivation rule, the rule was not engaged because an alternative Event of Default (the Chapter 11 filing by LBHI) had occurred prior to the Chapter 11 filing by LBSF, and consequently the Chapter 11 filing did not deprive LBSF of any property; see Perpetual Trustee Co Ltd v. BNY Corporate Trustee Services Ltd [2009] EWHC 1912 (Ch), [2009] BPIR 1093, [2009] 2 BCLC 400.
  • 9. The Court of Appeal (Lord Neuberger MR, Longmore and Patten LJJ upheld that decision (although Patten LJ and Neuberger MR disagreed as to the precise reasons); see Perpetual Trustee Co Ltd and Another v BNY Corporate Trustee Services Ltd and Another [2009] EWCA Civ 1160, [2010] Ch 347, [2010] BPIR 174.[3]

The Supreme Court decision

  • 10. Briefly, the Supreme Court upheld the applicability of the principle, which had stood for nearly 200 years.
  • 11. On the application of the principle, LordCollins held that since the contractual provisions were part of a complex commercial transaction entered into in good faith, the collateral was in substance provided by the noteholders and there was no suggestion that the flip provisions were deliberately intended to evade insolvency law, they did not offend the anti-deprivation rule. LordMance took the view that LBSF could not be regarded as having been deprived of any property.
  • 12. On the timing of the deprivation, although the point did not arise given the earlier conclusions, LordCollins stated that he would have upheld the decision that the principle was not engaged because LBHI's earlier bankruptcy rather than LBSF's bankruptcy constituted the relevant event of default which triggered the operation of the flip. LordMance, though sceptical of this argument, preferred not to express a view.

The majority; Lord Collins

  • 13. Lord Collins initially compared the anti-deprivation rule and the rule that it is contrary to public policy to contract out of pari passu distribution, both being sub-rules of the general principle that parties cannot contract out of the insolvency legislation. Whilst overlapping, they were aimed at different mischiefs. The anti-deprivation rule was aimed at attempts to withdraw an asset on bankruptcy or liquidation or administration, thereby reducing the value of the insolvent estate to the detriment of creditors. The pari passu rule reflected the principle that statutory provisions for pro rata distribution might not be excluded by a contract which gave one creditor more than its proper share. However, the distinction between the two sub-rules was by no means clear-cut.
  • 14. Highlighting that what is now described as the anti-deprivation principle dated from the eighteenth century, although the expression ‘deprivation' had been in use only since the decision of Neuberger J in Money Markets International Stockbrokers Ltd v London Stock Exchange Ltd [2002] 1 WLR 1150, [2001] BPIR 1044, Lord Collins referred to the classic statements of the principle as including:-

‘... the law is too clearly settled to admit of a shadow of doubt that no person possessed of property can reserve that property to himself until he shall become bankrupt, and then provide that, in the event of his becoming bankrupt, it shall pass to another and not to his creditors.' (Whitmore v Mason (1861) 2 J & H 204, at 212, per Sir William Page Wood V-C)

‘... a simple stipulation that, upon a man's becoming bankrupt, that which was his property up to the date of the bankruptcy should go over to someone else and be taken away from his creditors, is void as being a violation of the policy of the bankrupt law.' (Ex parte Jay; Re Harrison (1880) 14 Ch D 19, at 25, per James LJ)

  • 15. Aainst this background, and the provisions of the Insolvency Act1986, Lord Collins conducted an analysis of the nearly 200 year history of the rule, looking at the development of the rule to see what its nature and limits were and dividing the cases into those where the anti-deprivation rule applied and those where the principle was not infringed. Thus, the following limits of the rule were identified:
  • 15.1. A deliberate intention to evade insolvency laws was required, although such intention need not be subjective. Thus a commercially sensible transaction entered into in good faith should not be held to infringe the anti-deprivation rule.
  • 15.2. The anti-deprivation rule did not apply if the deprivation took place for reasons other than bankruptcy.
  • 15.3. The distinction between an interest determinable on bankruptcy (the so-called ‘flawed asset'), which was outside the anti-deprivation rule, and an absolute interest defeasible on bankruptcy by a condition subsequent, which fell foul of the rule, was too well established to be dislodged otherwise than by legislation. However, not every proprietary right expressed to determine or change on bankruptcy was valid, still less a deprivation which had been provided for in the transaction from the outset. Thus a provision for forfeiture of a lease on winding up did not contravene the principle since it was merely a qualification of the lessee's estate. Similarly, licences of intellectual property expressed to determine (or to be determinable on notice) on bankruptcy of the licensee were valid, as were interests under protective trusts granted by the settlor to a beneficiary until the beneficiary's bankruptcy.
  • 15.4. The source of the assets was an important element in determining whether there had been a fraud on the bankruptcy laws. However, there was no general exception to the anti-deprivation rule based simply on the source of the assets.
  • 16. However, there were issues on which no concluded view was expressed. LordCollins stated that the same principles applied where the provision operated on insolvency (as opposed to bankruptcy or liquidation) although the point did not arise on the appeal.
  • 17. Similarly, as regards executory contracts, it was a very common provision in commercial contracts that performance might be withheld in the case of the other party's bankruptcy or liquidation. Noting the recent decisions of Briggs J in Lomas v JFB Firth Rixson Inc [2010] EWHC 3372 (Ch), [2011] BPIR 788[4] and the Court of Appeal in Folgate London Market Ltd v Chaucer Insurance plc [2011] EWCA Civ 328 (on appeal from Mayhew v King and Milbank Trucks Ltd [2010] EWHC 1121 (Ch), [2010] BPIR 1155), LordCollins again commented that as the point did not arise on the appeal, and was a live issue in other proceedings, it was best not to express a view on the important and difficult question of the extent to which payment obligations in executory contracts were affected by the anti-deprivation rule, except to say that accrued property rights such as debts must be at least capable of being caught by the rule.
  • 18. In determining that MorrittC and the Court of Appeal were right to find that the key provisions were valid and enforceable, Lord Collins concluded:
  • 18.1. The court could not discard 200 years of authority, and to attempt to re-write the case-law in the light of modern statutory developments. The anti-deprivation rule was too well established to be discarded despite the detailed provisions set out in modern insolvency legislation, all of which must be taken to have been enacted against the background of the rule.
  • 18.2. Commercial sense and absence of intention to evade insolvency laws have been highly relevant factors in the application of the anti-deprivation rule. Party autonomy was at the heart of English commercial law and it was desirable that, so far as possible, the courts gave effect to contractual terms which parties have agreed, especially in the case of complex financial instruments, such as those involved in this appeal. Therefore, except in the case of a blatant attempt to deprive a party of property in the event of liquidation (such as Folgate London Market Ltd v Chaucer Insurance plc), the modern tendency was to uphold commercially justifiable contractual provisions which have been said to offend the anti-deprivation rule.
  • 18.3. The policy behind the anti-deprivation rule was clear, that the parties could not, on bankruptcy, deprive the bankrupt of property which would otherwise be available for creditors. It was possible to give that policy a common sense application which prevented its application to bona fide commercial transactions which did not have as their predominant purpose, or one of their main purposes, the deprivation of the property of one of the parties on bankruptcy.
  • 18.4. Except in the case of well-established categories such as leases and licences, it was the substance rather than the form which should be determinant. If the principle was essentially directed to intentional or inevitable evasion of the principle that the debtor's property is part of the insolvent estate, and was to be applied in a commercially sensitive manner, taking into account the policy of party autonomy and the upholding of proper commercial bargains.
  • 19. This was a complex commercial transaction entered into in good faith. Although, as a matter of law, the security was provided by the Issuer out of funds raised from the Noteholders, the substance of the matter is that the security was provided by the Noteholders and subject to a potential change in priorities. There was never any suggestion that the provisions were deliberately intended to evade insolvency law.

The minority; Lord Mance

  • 20. LordMance identified the main issue as whether the loss by LBSF of its priority in the event of the operation of the ‘flip' between the positions where there had not been and where there had been an Event of Default with LBSF the Defaulting Party was invalidated by the principle preventing a person from being deprived of his, her or its property upon insolvency. He summarised LBSF's case as being that, prior to its insolvency, it had property in the form of a present, future or contingent interest in the collateral, securing a prior claim to Unwind Costs due to it on termination, that it was deprived of the claim and/or collateral upon or by reason of its insolvency, and that such a deprivation was invalid as contrary to the policy of the insolvency legislation.
  • 21. Lord Mance was satisfied that there were two principles in this area:
  • 21.1. The principle applied in British Eagle International Airlines Ltd v Cie Nationale Air France [1975] 1 WLR 758 which precluded a bankrupt from agreeing to distribute his, her or its property other than pari passu in bankruptcy (although it did not preclude creditors from agreeing inter se on the distribution between themselves of their pari passu shares; see Re Maxwell Communications Corpn plc [1993] 1 WLR 1402).
  • 21.2. The other concurrent principle, whereby dispositions of property on bankruptcy might be invalidated as being in fraud or an evasion of the bankruptcy laws.

He commented that British Eagle addressed what happened in bankruptcy, whereas the anti-deprivation principle addressed what happened on bankruptcy, and that if contracting out of the statutory rule requiring pari passu distribution in bankruptcy was impermissible, it would be surprising if there were no concurrent principle capable of invalidating certain dispositions which, by removing property from the bankrupt on bankruptcy, had the same ultimate effect.

  • 22. He also specifically noted the challenge to the former principle by The Premier League as interveners (closely related to pending proceedings brought against it by Her Majesty's Revenue and Customs as regards the application of the so-called ‘football creditors' rule' operating on the insolvency of Premier League and Football League clubs). However, in view of the pending proceedings, he said nothing about those particular issues regarding the scope of the principle or its application to direct payment clauses, especially as it was the latter principle that was in issue on the appeal.
  • 23. Lord Mance stated that the more difficult question concerned the character of transaction and the state of mind which would attract the operation of the anti-deprivation principle. His view was that the court had to make an objective assessment of the purpose and effect of the relevant transaction or provision in bankruptcy, when considering whether it amounted to an illegitimate evasion of the bankruptcy law or had a legitimate commercial basis in other considerations. An objective approach was also consistent with authorities which showed that what mattered was whether the deprivation was triggered by bankruptcy, and that, if it were, it was irrelevant that there were also events other than bankruptcy, which if they had occurred would have triggered deprivation, but which did not in fact occur.
  • 24. He noted that where the property interest arose out of or in close connection with the relevant contract providing for its determination on bankruptcy, it may be easier to suggest a real commercial or other basis for the deprivation provision, and correspondingly more difficult to invoke the anti-deprivation principle. The existence of a contractual scheme, which was said to create the relevant property interest, but at the same time included provisions providing for its illegitimate deprivation on bankruptcy, raises several questions:
  • 24.1. how far did the scheme confer any property interest on the subsequently bankrupt party?
  • 24.2. how far did it deprive him of any such property on bankruptcy?
  • 24.3. insofar as it did deprive him of any such property on bankruptcy, did this amount to an illegitimate evasion of the anti-deprivation principle?
  • 25. On analysis, the collateral was acquired by the Noteholders and given to BNY as trustee expressly to await events. What events occurred determined who acquired priority. As it happened, the relevant event was one of default, with LBSF the Defaulting Party, and priority fell accordingly to be given to the Noteholders. Prior to the occurrence of an event determining which form of priority was to apply, LBSF could be said to enjoy either. This was a conclusion which was equally applicable to the question whether LBSF could be regarded as having been deprived of property in the form of a contractual right to priority. It followed that the occurrence of an event determining that Noteholder Priority applied did not deprive LBSF of any previous property in the form of Swap Counterparty Priority. The event prevented LBSF from acquiring Swap Counterparty Priority, rather than deprived it of such Priority. Even were it right to regard LBSF as having enjoyed property in the form of Swap Counterparty Priority ‘unless' an event of default occurred with LBSF being the defaulting party, the case would fall within the category of interests limited to last until a certain event, rather than that of interests forfeitable upon a certain event. Thus, LBSF had no property of which it was deprived.


  • 26. This is a difficult topic. Neuberger J's decision in Money Markets International was described as ‘magisterial' by Peter Prescott QC sitting as a deputy High Court judge in Fraser v Oystertec plc [2004] BPIR 486. Yet, in the Court of Appeal in this case, Lord Neuberger MR sought to distance himself from his own first instance judgment, hoping that the present one was more focussed. Part of the decision in Fraser v Oystertec was overruled. LordNeuberger MR also readily admitted that the judgment in this case in one respect did not leave the law in a clear state, and acknowledged that against the background of modern sophisticated transactions and documentation, the further scope of the rule would have to be developed on a case-by-case basis.
  • 27. The Supreme Court itself has adopted a technical approach, and yet the conclusions emphasise the fact-specific nature of the application of the principle. It is necessary to examine the nature of the transaction, the extent to which there was good faith on all sides and whether there was any intention or predominant purpose to deliberately evade insolvency principles. Yet, the court will do its best to uphold the party autonomy that is at the heart of English commercial law.
  • 28. After a few readings, it is still difficult to tell to what extent, if any, the principles expressed apply in relation to less sophisticated or complex transactions. Was Portsmouth FC's income entitlement from the Premier League a flawed asset, or one that in respect of which it had rights, or a contractual right which was divested; see Re Portsmouth City Football Club Ltd (In Administration) [2010] EWHC 2013 (Ch); [2010] BPIR 1123. To what extent do these principles apply, or are to be considered, when construing forfeiture clauses in personal pension schemes, which commonly provide that the pensioner's interest is terminable in the event of alienation, whether by bankruptcy or third-party enforcement; see Caboche v Ramsay [1997] BPIR 377, Re Scientific Investment Pension Plan Trust [1999] Ch 5, [1998] BPIR 410 and Fisher v Harrison [2003] EWCA Civ 1047, [2003] BPIR 1322. Or are such clauses involving personal pension schemes void because of the operation of the rule in Re Burroughs-Fowler [1916] 2 Ch 251 which provides that a man cannot create a protective trust of his own asset.
  • 29. And, of course, the Supreme Court specifically avoided the issue of direct payment clauses, such as commonly occur in building contracts allowing the Employer, upon an insolvency event, to by-pass the Contractor and make direct payment of future sums to the Sub-Contractor, and set-off the sums paid to the Sub-Contractor against future sums due to the Contractor. Also, it is not clear how the principle applies in the case of executory contracts, where the impact of the insolvency event prevents performance by the company of its contractual obligations to a counter-party: how does the principle apply to that counter-party's obligations to the company?
  • 30. However, one thing does seem clear. To date, it has always been the case that the anti-deprivation principle applied only to terminal cases, such as bankruptcy or liquidation. Here, the Supreme Court had no difficulty in considering that it was appropriate to consider whether the principle applied upon either LBHI, LBSF's parent, or LBSF filing for Chapter11 protection under the US Bankruptcy Code. It therefore seems to be the case that the anti-deprivation rule can be considered to apply in administration, as well as in liquidation, which was the conclusion reached also in Mayhew v King and Folgate London Market Ltd v Chaucer Insurance plc and was not challenged in the Supreme Court.

Paul French

29 July 2011

[1] ‘The contract documentation is of a purgatorial complexity fitting the programme's name'. Lord Mance, para [138].

[2] With whom Lord Phillips, Lord Hope, Lord Walker, Lady Hale and Lord Clarke agreed. Lord Mance agreed with the majority's conclusion but for different reasons.

[3] For an analysis of this decision, see Perpetually perplexing - the anti-deprivation rule in practice accessible at http://www.guildhallchambers.co.uk/uploads/docs/section9/4_Anti-Deprivation_PF.pdf.

[4] At the time of writing, the appeal from the decision of Briggs J is due to be heard in December 2011; see http://www.hmcourts-service.gov.uk/listing_calendar/getDetail.do?case_id=20110070.

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