With bankruptcy showing continued growth - up 51% in quarter 1 2006 compared to quarter 2 2005 - according to the latest DTI insolvency statistics it can be a real issue for people facing a marriage split and trying to sort out the finances.

When a marriage breaks down, the assets of each party form the pot of matrimonial assets that are divided between them, as part of the financial settlement. But what if one party is bankrupt?

The effect of bankruptcy
In bankruptcy, almost all of the assets of the bankrupt person are no longer his - they are owned instead by the Trustee in Bankruptcy. This is likely to have serious implications for the bankrupt's spouse, as the pot of matrimonial assets is potentially made much smaller by the bankruptcy.

For instance, if the matrimonial home were jointly owned by the bankrupt and his spouse, the house cannot be transferred into the spouse's sole name without the Trustee in Bankruptcy's consent. This is likely only to be given if the spouse can buy out the bankrupt's share at a reasonable market value - something that may not always be possible.

Similarly the bankrupt is unlikely to be able to pay any lump sum or maintenance to the spouse, as the bankrupt's savings and much of his income will be the Trustee's instead, to be used to discharge his debts.

The effects of bankruptcy can be so serious that some people choose to make themselves bankrupt in order to frustrate or delay their spouse's claims in relation to the financial settlement. So what can be done?

Act quickly - apply to the Courts
The best thing is to sort out as much as possible before the bankruptcy starts. Bankruptcy is often threatened before any action is taken. A prompt application to the family court may allow appropriate orders for financial settlement to be made before a bankruptcy takes effect. There remains a chance that the Trustee in Bankruptcy could try to have parts of the financial settlement set aside, but nonetheless having the financial settlement finalised before any bankruptcy will minimise the effects the bankruptcy has.

Even if the bankruptcy is already in effect, the bankrupt's spouse may be able to apply to the Court to annul the bankruptcy if the bankrupt is not in fact insolvent. Or in some circumstances the family court may still order the bankrupt to pay a lump sum or maintenance, if for example the bankrupt has a significant income despite being insolvent.

Claim against pension rights
The bankrupt's pensions do not vest in the Trustee in Bankruptcy, so a financial settlement may minimise the effects of bankruptcy by focusing on sharing or splitting the pensions. The power of the family court to make pension sharing orders in relation to a bankrupt's pensions is unlikely to be affected by bankruptcy.

In some cases, bankruptcy can even work in the other spouse's favour. Until recently, a person owed money as part of a divorce settlement could apply to make their former spouse bankrupt, but could not have that debt proved in that bankruptcy. But in 2005, the law changed to allow such a debt, plus an award of costs in family proceedings, to be paid by the bankrupt as part of his bankruptcy; and the bankrupt is not released from these debts once he is discharged from bankruptcy, meaning that he still owes them even after his period of bankruptcy has ended.

In conclusion, as the law relating to bankruptcy has evolved, bankruptcy has become less and less onerous to the bankrupt person, and it is likely to be viewed more favourably as an option by more and more people experiencing financial difficulties, including those involved in the breakdown of their marriage. But bankruptcy can still have serious implications for the financial settlement on divorce, and legal advice should always be sought in circumstances where the bankruptcy of one of the parties is a real or possible risk.

Article written by John Barklam, divorce and family specialist with Woolley & Co solicitors. Tel: 01905 421564. Email john.barklam@divorce-lawfirm.co.uk.

May 2006