Re MF Global UK Ltd

The court determined the interaction between distributions from the client money pool (CMP) under CASS 7 and 7A and clients' personal contractual claims in the special administration of MF Global UK Limited. It held that distributions from the CMP reduce the amount for which a client may prove in respect of any parallel contractual claim, whether those distributions occur before or after submission of proof. The court further held that beneficiaries may bring a personal claim for loss caused by a breach of the client money trust (a shortfall claim) to the extent the shortfall results from the firm's default. Finally, the court held that such equitable compensation is not limited to the client’s contractual claim: clients whose client money entitlement exceeded their contractual claim (the Decreased Clients) may prove for the excess shortfall.

This was an application by the joint administrators of MF Global UK Limited under paragraph 63 of Schedule B1 to the Insolvency Act 1986 (as applied by regulation 15 of the Investment Bank Special Administration Regulations 2011) seeking directions on several issues arising from a shortfall in the client money pool (CMP) after MF Global UK entered special administration on 31 October 2011.

The principal issues were:

• whether distributions from the CMP reduce the amount for which a client may prove in respect of a parallel contractual claim;
• whether a client may prove for a personal claim for the shortfall in the CMP attributable to the firm's breach of trust; and
• if such a shortfall claim is provable, what limits apply to its quantum.

Background: MFG UK acted as an investment bank and was subject to the client money rules (CASS 7 and 7A). On a primary pooling event (PPE) client money held in client money accounts is pooled and distributed rateably according to client money entitlements, which are valued using market values at the PPE. The administrators estimated a substantial shortfall in the CMP. Representative respondents were joined: Attestor (clients whose open positions decreased in liquidation value) and Solid (clients whose open positions increased).

Issues framed by the court: (i) whether an actual or anticipated CMP distribution reduces the amount provable in respect of a contractual (parallel) claim; (ii) whether a shortfall claim for breach of trust is a provable debt; and (iii) the measure or limit of any such shortfall claim.

Reasoning and outcome: The court emphasised that CASS 7 and 7A create a single client money trust whose underlying purpose is to protect clients' contractual rights. The occurrence of a PPE and the pooling of client money do not sever the connection between distributions from the CMP and contractual liabilities. Accordingly the court held that distributions from the CMP do reduce the amount for which a client may prove in respect of a parallel contractual claim, regardless of whether the distribution occurs before or after the submission of proof. On the second issue, the court held that a client may have a personal claim for equitable compensation for loss caused by the firm’s breach of the client money trust, but that the rule against double proof prevents proving both a contractual claim and the same loss twice where they are in substance the same liability. On the third issue the court rejected the administrators' submission that equitable compensation for breach of the CASS trust is limited to the contractual claim; it held that beneficiaries may prove in respect of the excess shortfall (where client money entitlement exceeds the contractual claim) to the extent the shortfall resulted from the firm's default.

The judgment addressed interplay with authorities such as Lehman (client money entitlement and PPE valuation), the rule against double proof (Barclays v TOSG), and principles on equitable compensation (Target Holdings v Redferns), and applied those doctrines to the CASS regime and the facts before the court.

The court disposed of the application by directing that: (1) distributions from the client money pool reduce a client's contractual claim and hence the amount for which the client may prove, whether such distributions occur before or after submission of proof; (2) a client may have a personal claim (equitable compensation) for any shortfall in client money caused by the firm's breach of the CASS trust, but the rule against double proof bars proof of essentially the same liability twice; and (3) beneficiaries whose client money entitlement exceeds their contractual claim may prove for the excess shortfall to the extent it results from the firm's default. The decision rests on the nature and purpose of the CASS 7/7A client money trust, the effect of a primary pooling event and the application of insolvency proof principles and equitable compensation doctrine.