Around 2011 I was approached by a debtor who was recently retrenched and needed to get (free) legal advice. The debtor was massively over-indebted and had no assets at all. I proceeded to consider the three tools available to over-indebted people: administration orders, debt review and sequestration. None of them helped at all and I suddenly realised as I was sitting in the consultation that I was the last hope for this person. As I watched the hope dying in his eyes it made me wonder how it was still possible that a country such as South Africa which is ostensibly pro-poor and pro-consumer could have no solution at all to this problem?
Since then I have brooded about what (legal) way there was to get a debtor out of this situation and I think I have finally found a way. However, before I consider the solution it is necessary to understand how we got here…
THE BIRTH OF CONSUMER LAW
After South Africa got its interim constitution in 1994, South African consumer law started evolving from its previously under-developed state. One of the first (and most dramatic) changes occurred when the Constitutional Court ruled in 1995 that it was ‘unconstitutional’ to imprison a debtor for failing to pay their debts. Since then new legislation like the National Credit Act (which protects debtors from creditors), the Consumer Protection Act (which protects consumers from suppliers) and the Protection of Personal Information Act (which will protect the personal information of data subjects) has been enacted. While this gradual realisation of consumer rights has been hugely positive, there remains a huge gap in consumer rights in South Africa – the veritable elephant in the room – the law of insolvency.
Administration Orders (AO) are orders granted in the Magistrates Court. In essence AO’s require the debtor to pay a monthly payment and this money is then divided up proportionately between the creditors. On the positive side, while a debtor is under an AO the affected creditors are unable to pursue the debtor to recover the full amount. On the negative side an AO often results in significantly higher cost to the debtor as he pays for collection commission as well as interest, which in turn makes his debts far more expensive than they would have been. In addition, AOs can only be granted where the amount of the debt is below R50 000, which obviously results in AO’s being unavailable to many debtors.
However the most striking thing about an AO is that it cannot be granted where the debtor has no income as there would be no income to distribute.
Originally the National Credit Act (NCA) was intended to repeal Administration Orders and replace AOs with Debt Review, but in the final instance the NCA stopped short of scrapping AOs. Even though AOs were not actually repealed, there was great (and justifiable) outrage relating to the manner in which people who were under AOs tended to be completely unable to resurrect their financial position. In several cases the legal fees and interest in AOs actually exceeded the principal debt. Essentially this meant that the debtor was caught in a never-ending spiral of debt which ultimately eroded the one of the most precious commodities of the debtor – hope.
To combat this the NCA introduced section 104 which prevents creditors from recovering more than double the unpaid debt. This was ground-breaking as ALL costs and fees (even legal fees) were included in this section. I remember being in a briefing in 2007 by the National Credit Regulator with various American legal experts who had assumed this was a drafting error and could quite literally could not believe their ears.
In the same briefing we were told that (in contrast to AOs) debt review would only cost R50.00 and so would avoid the obvious social ills that resulted from AOs adding collection commission and interest to the never-ending debt. I suggested that this was vastly impractical as the debt counsellors would have to be paid a reasonable wage for their services and the money must come from somewhere, but the suggestion was dismissed.
I take no pleasure in saying that this prediction has become true. Rather than having the amorphous “aid” countries such as Norway support debt counselling on a countrywide basis (this was genuinely suggested as realistic solution) the debtor ultimately has to pay his way through the debt counselling process and these payments are not considered to be ‘costs or fees’ covered by section 104 as they are paid to the debt counsellor and the National Payment Agency, not the creditor or his attorney.
However the biggest problem with the NCA is that it retained the most basic flaw that was also present in Administration Orders – it had no solution to a situation where the debtor had no income at all. In theory this situation should have been solved by the Insolvency Act.
THE INSOLVENCY ACT
You may recall that it was possible to imprison a debtor for unpaid debts until 1995. This background is very helpful when considering the Insolvency Act 24 of 1936 as it highlights one of the biggest myths regarding insolvency law – that the law exists to protect the debtor. Back in 1936 a debtor that was unable to pay their debts was seen as a criminal who could be justly imprisoned and the real reason for the Insolvency Act was to protect the creditor from ‘asset stripping’ – in other words prevent a situation where the first creditor can recover his debts from the available assets while subsequent creditors received nothing at all. Instead all creditors were now required to prove the debt and would receive a proportionate (pro rata) amount from the insolvent’s estate. There was some protection for the debtor in that they could be rehabilitated into society after a while, but in the meantime they were essentially treated as children.
When I was first confronted with a set of circumstances where the debtor in question simply did not earn enough money to come up with a viable payment plan in terms of the NCA, I immediately turned to the possibility of the debtor applying to sequestrate his estate. In other words, the debtor would declare ‘bankruptcy’ in order to stave off his creditors and, after ten years, the debtor would be able to re-join society from a financial perspective. Of course it wouldn’t be pleasant (people frequently underestimate how unpleasant sequestration really is – not just for the debtor but also for the debtor’s spouse or live-in partner), but it would give the debtor back that one thing that was most precious to them – hope.
But it was not to be. Our law has a perverse sense of humour when it comes to debtors. In order to successfully apply to be sequestrated the debtor needs to have sufficient assets to cover the cost of the sequestration and show an ‘advantage to creditors’. In other words, you need to have sufficient money to be declared insolvent! Even worse it gets easier to apply for sequestration as your debt increases (provided your asset ratio increases in a proportionate basis) in that a person who has R10 million worth of liabilities and R1 million worth of assets is much more likely to get the protection of a sequestration order than the person who has R1 million worth of liabilities and R100 000 of assets even though the debt to asset ratio in both cases is 10%. The reason for this is that the sequestration costs are disproportionately bigger in the case of the debtor with the smaller liabilities / assets. To add insult to injury this requirement of an advantage to creditors does not apply to companies and so a massively over-indebted company can still be liquidated even if there is no advantage to creditors.
WHERE TO NOW?
And so where does this leave the debtor? The answer is that the debtor is “stuffed”. Really there is no way to put this nicely. Unless the debtor can find a way to leave the country he is doomed to continue within the vicious debt cycle – a debt cycle that is more expensive than for those who are not over-indebted. In essence this means – and it is fundamentally important to understand this – that the poor pay more for their credit than the rich.
I originally wrote this article in 2011 and I held off from publishing it until now as I felt the article itself lacked the one thing that I accused the government and the courts of failing to do – provide hope. However it seems as though I missed a potential avenue of hope in this scenario and I am indebted to Dr Hermie Coetzee who recently proposed a solution to this social ill. In her article ‘Is the Unequal Treatment of Debtors in Natural Person Insolvency Law Justifiable?: A South African Exposition’ Dr Coetzee argues that the inability for impoverished individuals to be declared insolvent is unconstitutional in that offends the Right to Equality as found in section 9 of the South African Constitution as well as the Equality Act. Essentially it is unfair (and thus against the Right to Equality) that a ‘rich’ person with big assets and even bigger liabilities can be declared insolvent while poor people cannot. In my view her argument is persuasive, all the more so as the Belgian Constitutional Court upheld this approach in April of 2003, giving her argument international support.
Where does this leave us now? What we (and by ‘we’ I mean all South African citizens) need is the perfect test case which can be used to challenge the concept of requiring an ‘advantage to creditors’ before you can be declared insolvent. In my view the ideal case would have the following characteristics:
- The debtor would be massively over-indebted (i.e. there is no advantage to creditors if the person is sequestrated – they would prefer for the debtor to be constantly circling the drain),
- The debtor is unemployed,
- The debtor would have no realistic opportunity to recover from the debt even if he/she were to become employed again,
- The debtor was completely truthful with the creditors at all times.
What I am hoping is that there would be enough of a groundswell of support from local and international aid organisations to fund the inevitable (and substantial) legal fees that would be required to challenge the ‘advantage to creditors’ rule in the Constitutional Court. If this challenge is successful, this would mean that those debtors who have been circling the drain for years would be able to be sequestrated and so resurrect their financial position over time. Surely this is better than the law condemning debtors to live in a debt spiral without the one thing that they must have.
Paul Esselaar is a consumer law attorney and is the owner of Esselaar Attorneys and a Director of Novation Consulting (Pty) Ltd a plain language legal compliance company.
1* The power to imprison a debtor for failing to pay their debts was declared unconstitutional in Coetzee v Government of the Republic of South Africa, Matiso and Others v Commanding Officer Port Elizabeth Prison and Others (CCT19/94 , CCT22/94)  ZACC 7; 1995 (10) BCLR 1382; 1995 (4) SA 631 (22 September 1995).