Failure to pay debts: The consequences

By Tichawana Nyahuma
When a company fails to pay its debts, those who are owed the money — the creditors — have three options. They can apply to court for an order placing the company under either judicial management, a scheme of arrangement or liquidation.
The first two options are preferred when it is believed that there is a reasonable chance that the company will recover.
The third option is favoured when it is crystal clear that the company is, for all intents and purposes, in the intensive care unit from which it is unlikely to be discharged.
In this article, I wish to focus my legal lenses on the processes involved when the debtor failing to pay the debts is not a company, but a person.
Basically, there are two options available to the creditors. These are civil imprisonment or sequestration of the debtor’s estate.
The latter option is also available to the debtor himself because he is also free to apply to court for the voluntary sequestration of his own estate.
Technically, sequestration is the equivalent of liquidation. Sequestration applies to a debtor who is a natural person whereas, liquidation or winding up is used when referring to a company.
The only difference between the two is that at the end of the day, a company that would have been liquidated would, so to speak, be dead, but a person whose estate would have been sequestrated will still be alive but his property and financial affairs will be placed in the hands of the Master of the High Court and then later, a trustee.
Civil imprisonment is a process that may be adopted by a creditor after the Sheriff of the High Court or the Messenger of Court, as the case may be, has failed to find sufficient assets, whether movable or immovable, belonging to the debtor to satisfy the amount claimed in the judgment.
The objective or intention is to try to jolt the debtor into paying up despite the negative report from the Sheriff or the Messenger indicating that the debtor does not have enough assets to satisfy the amount owed.
At this juncture, it is essential to stress that according to the Constitution, “no person may be imprisoned merely on the grounds of inability to fulfil a contractual obligation”.
Note the use of the expression “inability to fulfil . . .” That should not be misconstrued or confused with “failure to fulfil” because to “fail” is not the same thing as being “unable”. Being “unable” implies a willingness to pay but is unfortunately coupled with incapacity to pay whereas “failure” to pay denotes a conscious deliberateness not to pay when the person concerned has the ability or capacity to pay.
A debtor who fails or refuses to pay a judgment debt is liable to imprisonment for 90 days or any lesser period at the discretion of the court.
However, before the court can order the incarceration of the debtor, it will conduct an enquiry on the means or capacity of the debtor to determine if, indeed, he is unable to pay or is failing to settle his debts.
To lay it bare, the court will seek to find answers to two questions: ls the debtor able but failing or refusing to pay? Is the debtor willing but unable to pay?
During that enquiry, the burden will be on the creditor to prove the debtor’s capacity to pay. There is a time-honoured principle of law that says that he who alleges must prove.
Therefore, if the creditor says that the debtor has the capacity to settle the debt, then it will be up to him to prove that assertion. The creditor would have to place sufficient facts and evidence on the means of the debtor before the court.
Inversely, the debtor is not obliged to prove that he has no capacity to pay. Once the court is satisfied that the debtor has the capacity but is merely failing or refusing to pay, then he will be sent to jail.
The costs of the time spent in prison by the debtor will be for the creditor’s account and not the State. As soon as the debtor settles the amount owed, he will be entitled to his immediate release.
But what if, upon seeing the adverse judgment on the horizon, the debtor sells off or hides his assets in an effort to frustrate the creditor on the day of reckoning? Better still, what if the debtor is genuinely unable to pay and cannot, therefore, be jailed? Will that be the end of the road for the creditor?
Certainly not.
However, I wish to first pinpoint that disposing or hiding of one’s assets in a bid to avoid a judgment is what the law calls an act of insolvency.
The Insolvency Act lists several other misdemeanours that are referred to as acts of insolvency and these are:
1. Notice to a creditor that the debtor would like to be released from the debt (offer of settlement).
If a debtor notifies the creditor in writing acknowledging the amount owed and offers to pay the creditor a lesser amount (an offer of settlement) and requests the creditor to write off the balance, that would be an act of insolvency and the creditor can use it to sequestrate the debtor.
2. Notice in writting stating inability to pay his/her debt.
This is the most common act of insolvency that is committed by people daily without realising it. This will render them subject to a successful sequestration order by a creditor. If one writes a letter to a creditor to say he/she cannot pay the debt, he/she also commits an act of insolvency and the creditor can use that document to sequestrate the defaulting debtor.
Note, however, that a verbal message by the debtor advising the creditor that the debtor cannot pay the debt cannot be used as the law insists that the notice ought to be in writing.
3. Debtor departs from his/her house or the country with the intention of evading payment.
This is also considered an act of insolvency and the debtor can also be successfully sequestrated. If one leaves the country with the intention of not paying one’s debt, it is an act of insolvency. Even so, one does not have to leave the country but as long as the debtor leaves his/her dwelling with the intention of not returning and paying his/her debt, it is regarded as an act of insolvency.
But where one goes overseas to work for example, it is not an act of insolvency in itself. One must have the intention of not paying one’s debts. The difficulty will arise on how to prove the intention aspect.
4. If judgment is granted against the debtor and he/she fails to pay the judgment amount or does not have sufficient assets to be sold to pay off the amount due.
This often occurs. A judgment granted against a debtor must be paid. If it is not paid, the creditor who obtained the judgment can apply for the sequestration of the debtor as the non-payment of the judgment amount is an act of insolvency in itself.
5. Selling/removing assets with the intention of benefiting one creditor over another or to avoid his/her assets being sold to pay any/all of his creditors.
Where a debtor removes or hides his assets so that creditors cannot attach them to be sold to pay his or her debts, this is regarded as an act of insolvency. The debtor must have the intent to prejudice his creditors or to benefit some over the others.
6. Paying (benefitting) one creditor over another
A debtor will be regarded as having committed an act of insolvency if he/she benefits one creditor over another or others. For example — if Mr Sequestrated sells his furniture to Mr Creditor for $10 000 because Mr Sequestrated owes Mr Creditor $10 000, and he does not pay his other creditors — he is committing an act of insolvency as he is allowing Mr Creditor to benefit above the other creditors. If the effect of the payment to a creditor or a sale of assets to a creditor benefits one above the others, it is an act of insolvency. One does not have to prove intent here.
7. Where a debtor has published a notice of surrender of his estate but does not proceed.
Notice of intention to surrender one’s estate must be published in the Government Gazette. If a person publishes such a notice but does not proceed with all the other steps that are required, this is an act of insolvency.
Once a person is found to have committed any act of insolvency, the way will be open to the creditor to cause the sequestration of the debtor’s estate.
But what are the consequences of a Sequestration Order on the debtor, now called the insolvent?
Needless to say, these are ghastly. Firstly, any civil proceedings against the debtor will cease or be discontinued. I might say, this is some sort of pyrrhic advantage for the debtor. However, criminal proceedings are not affected in any way.
Otherwise the real consequences of sequestration are as follows:
An insolvent is disqualified from practicing certain professions or careers. An insolvent may not, amongst others:
Be a director of a company, partner in a law or accounting firm and the like.
Partake in the management of a close corporation of which he is a member.
Be registered as a manufacturer or distributor of liquor.
Act as a trustee of a trust under certain circumstances and may be removed as trustee by the Master.
Be a member of Parliament or the Senate.
Be a board member of any voluntary organisation.
In addition, the spouse of an insolvent is not spared because the separate assets of both spouses will vest in the Master of the High Court and later the trustee.
Although the law provides a window through which the innocent spouse may prove that the property does not in fact belong to the insolvent, you can imagine the inconveniences and costs such a task will take meaning, therefore, that the sequestration of the husband amounts in effect, to the sequestration of the wife as well.
Otherwise before embarking on the sequestration process, it is always prudent to first conduct an in depth due diligence on the debtor to determine if, indeed, he has any hidden assets before applying for his insolvency as otherwise resources may be wasted on a wild goose chase.
After he is declared insolvent, the person may be released from that status if he is rehabilitated. However, that is a discussion for another day.