High priority of banks and tax authorities in bankruptcies proves outdated
It’s a given that in bankruptcy cases in the Netherlands, banks and the Dutch Tax and Customs Administration are prioritised as creditors. But not only is this outdated – there’s also another way to go about it, as revealed the PhD research conducted by Assistant Professor Ruben van Uden.
In bankruptcy cases, there is often not enough money to pay all creditors in full and the tax authorities and banks are often given priority. This means other creditors lose out, right down to the handyman and meal delivery service.
Van Uden decided to investigate how this prioritisation became standard practice. Why should the Dutch Tax and Customs Administration and the bank always come first? Are there situations when specific groups of citizens should be prioritised – even if only partially? For instance, without their knowledge, someone may have had to deal with a bankrupt company. In that case, the company caused damage to the individual concerned and the individual is entitled to claim compensation. Were there previously no deliberations on these kinds of issues in the political arena in The Hague and among legal academics?
Van Uden scoured legislative history and legal history in his search for answers. That led to remarkable findings, a search of the National Archives of the Netherlands and his PhD thesis (written in Dutch) entitled ‘Voorrang bij verhaal. Rechtvaardigingen en verklaringen’, which tranlates roughly as ‘Prioritising recourse. Justifications and explanations’.
Legal possibilities
It is clear why the tax authorities and banks are put first in bankruptcy cases. For the Dutch Tax and Customs Administration, it is about the public interest. Banks provide credit but also want to be covered against the risk of not receiving their money back in the event of bankruptcy. Pledge and mortgage enable this. Yet Van Uden discovered that, in theory, the law may offer much more space to prioritise other creditors rather than just banks or the Dutch Tax and Customs Administration.
Unintentional creditor
As Van Uden explains, you could also reason that banks' pledge and mortgage rights to reduce their credit risk have a negative impact on another specific group of creditors. Van Uden refers to this group as ‘non-adjusting creditors’ such as unwitting creditors. They may have unwittingly become creditors because they should have received compensation from the bankrupt company, for example. It is unfair when – as is usually the case – the estate does not yield enough money to pay all creditors and the bank takes precedence because it can cover the credit risk with pledge and mortgage. This is something that non-adjusting creditors cannot do, and they suffer loss of wealth as a result.
Priority rules in recourse in the event of bankruptcy are a political hornet's nest
From a legal economics perspective, this ultimately disadvantages the public interest as well. Van Uden continues: ‘On this point, there is room to achieve a more economically efficient outcome by making changes to the prioritisation rules. This could be achieved by introducing partial priority positions above the rank of the security holders.'
Advisories ignored
Van Uden's research also revealed that the option to introduce a different prioritisation has been brought to the attention of Dutch politicians and the Ministry of Finance in the past. Despite debate, research, opinions and committees both in the political arena in The Hague and among legal scholars such as Meijers, it was put on the back burner.
‘Politicians and the government invariably avoided the debate on the tax authorities’ prioritisation and an alternative priority ranking,’ Van Uden says. 'The priority rules in recourse in the event of bankruptcy are actually a political hornet's nest. That is why there have been no substantial changes in this area of law since the 1950s. After all, the government's treasury is at stake, through the tax authorities.'
Abolishing priority
All things considered, Van Uden concludes that no convincing justification can be found to maintain the ingrained order of priority – precisely because it cannot be justified from a legal economics perspective. Van Uden concludes that politicians should reconsider the current prioritisation. In his view, the Dutch Tax and Customs Administration in particular should be further down the pecking order, but banks should too. He adds: ‘I advocate abolishing the high priority given to the Dutch Tax and Customs Administration over other creditors. Not only in general – also over the banks that have provided credit secured by pledge and mortgage.’
Yet this is not an advantage that should fall on the banks. Van Uden argues that this advantage should fall into the estate and therefore benefit other creditors who have regularly been at the bottom of the pile until now.
Different ranking
Van Uden concludes his thesis by providing recommendations for a revision of the prioritisation rules. For instance, he recommends that the political arena in The Hague gives non-adjusting creditors partial priority over banks and other lenders. In practical terms, this could be achieved by introducing the obligation to allocate part of the proceeds realised by the latter to this group of creditors. Van Uden says, ‘their loss of wealth would then be tackled more effectively.’
Jan-Willem Oomen
Foto Floriane Vita via Unsplash