People search for “company bankruptcy”, and we know what they mean. But a limited company does not go bankrupt. Bankruptcy is a procedure for individuals. A company becomes insolvent, and may then enter liquidation, administration, a company voluntary arrangement or another formal procedure.
The distinction is not pedantry. The procedures, the thresholds, the paperwork and the consequences for you personally are all different, and advice written about personal bankruptcy will mislead you if your problem is a company. This guide explains what actually happens when a limited company in England and Wales becomes insolvent, and what it means for the people running it.
What Happens When a Limited Company in England and Wales Becomes Insolvent?
A company is insolvent when it cannot pay its debts as they fall due, or when the value of its liabilities exceeds its assets, taking into account contingent and prospective liabilities. Those are the two main tests in section 123 of the Insolvency Act 1986, and a company can meet one without meeting the other. The same section also treats a company as unable to pay its debts if, for three weeks, it fails to pay, secure or settle a statutory demand for more than £750, or if, in England and Wales, enforcement of a court judgment against it is returned unsatisfied in whole or in part. No court “declares” a company bankrupt. What usually follows insolvency is a formal procedure, most often liquidation or administration.
In liquidation, the company’s assets are sold off to repay creditors. The company generally stops trading and, once the liquidation is complete, it is dissolved and removed from the Companies House register. During administration, an appointed administrator seeks to rescue the company, restructure its debts, or sell the business to pay creditors.
For company directors, this is the point at which the job changes. You are not personally liable for the company’s debts merely because you are a director, and that remains true in most cases. Your duties stay owed to the company. What changes is whose interests you must weigh: once the company is insolvent, bordering on insolvency, or insolvent liquidation or administration is probable, you must consider the interests of creditors as a whole.
Insolvency does not automatically mean you must cease trading that day. There is no rule to that effect. What you must do is protect the company’s assets, avoid worsening the position of creditors, and stop incurring liabilities you have no reasonable basis to think can be met. Whether continuing to trade is appropriate depends on the facts: whether there is still a realistic route out, whether trading on is likely to increase the deficiency, and what you are doing about it. That assessment is urgent and it should be made with professional advice, not alone.
Understanding Your Options When a Limited Company is Insolvent
When your limited company is insolvent, understanding the available options is what turns a crisis into a decision. These options primarily revolve around resolving the company’s insolvency and addressing its debts. Here’s an overview:
1. Liquidation: This is often the route taken when a company can no longer continue its operations. The process involves appointing a liquidator to sell the company’s assets and distribute the proceeds to creditors. There are three types of liquidation: compulsory (ordered by the court, usually on a creditor’s petition), creditors’ voluntary (usually proposed by the directors, and started by a shareholders’ resolution), and members’ voluntary (for solvent companies).
2. Administration: If there’s a viable business to save, entering into administration might be the best option. An administrator takes control of the company and must aim to rescue the company as a going concern, unless the administrator thinks that is not reasonably practicable, or that the second aim would give creditors as a whole a better result. That second aim is a better result for creditors as a whole than would be likely if the company were wound up without first being in administration, and it is often met by selling the business. Only if the administrator thinks neither aim is reasonably practicable may they realise property to pay secured or preferential creditors, and even then they must not unnecessarily harm the creditors as a whole. This process provides a degree of protection from creditors.
3. Company Voluntary Arrangement (CVA): A CVA is an agreement between the company and its creditors to pay debts over time. It is a flexible tool that can allow continued trading while the company repays what it can afford. A CVA takes effect only once creditors approve it by the required majority. Three-quarters or more in value of the creditors responding must vote in favour. The proposal is not approved if more than half of the total value of the unconnected creditors, meaning all those whose claims are admitted for voting, whether or not they voted, vote against it. Once approved, it binds every creditor entitled to vote, including those who voted against or did not vote. It cannot remove a secured creditor’s right to enforce its security, or change the priority of preferential debts, without that creditor’s consent. A proposal alone gives no protection from creditor action. That protection comes from administration or a moratorium.
4. Refinancing or Restructuring: Sometimes, restructuring the company’s debt or refinancing can provide a solution. This might involve negotiating new terms with creditors or securing new funding sources.
Seek Professional Advice: Corporate insolvency is complicated and the routes are not interchangeable, so take advice early. An insolvency practitioner such as ourselves can guide you through the options and their implications, helping you choose the most appropriate course of action for your specific situation. Remember, the chosen path can have significant consequences for the company’s future, creditors, and your position as a director, so careful consideration and expert guidance are paramount.
What Happens When a Company is Liquidated?
If a limited company in England and Wales is liquidated, the process involves closing down the business, selling off its assets, and paying back creditors as much as possible. Here are the key steps:
- Appointment of a Liquidator: In a voluntary liquidation, an authorised insolvency practitioner is appointed as liquidator. In a compulsory liquidation, the Official Receiver becomes liquidator first, and an insolvency practitioner may be appointed later.
- Stopping Business Operations: The company generally stops trading for its own purposes, although the liquidator may carry on the business so far as necessary for its beneficial winding up.
- Selling Assets: The liquidator sells the company’s assets to raise funds.
- Paying Creditors: The money from the sale is used to pay the company’s debts in a set order. Fixed-charge holders are paid from the assets they hold security over. Then come the costs of the liquidation, then preferential creditors (certain employee claims, then HMRC for VAT, PAYE, employee National Insurance, student loan deductions and Construction Industry Scheme deductions), then floating-charge holders. A ring-fenced share of the floating-charge money, the prescribed part, is usually set aside for unsecured creditors first. Unsecured creditors are paid next. If they are paid in full, interest on their debts at the official rate is paid before shareholders receive anything left.
- Investigation of Company Conduct: The liquidator checks the company’s past activities and the directors’ conduct.
- Dissolution of the Company: Once the assets have been realised, distributions made in the statutory order of priority and the liquidator’s work completed, the company is dissolved and removed from the Companies House register. In an insolvent liquidation creditors are rarely paid in full, and any shortfall remaining when the company is dissolved is not recoverable from the company.
During this process, directors need to cooperate with the liquidator and might face legal consequences if they’ve acted improperly. When the liquidation ends, the company is dissolved and no longer exists, although the court can restore it to the register in limited cases.
Does Insolvency Mean Going Out of Business?
Not always. An insolvent company can sometimes be rescued, and the earlier the position is confronted the more options remain open. Here are the routes most often used:
- Company Voluntary Arrangement (CVA): This is an agreement between the company and its creditors to pay back a portion of the debts over time. It allows the company to keep trading while making more manageable debt payments.
- Administration: A company can go into administration, where an appointed administrator takes over the management. The goal is to restructure the company’s debts, improve its financial health, and either sell the business or return control to the directors.
- Refinancing: Sometimes, securing new financing or restructuring existing debts can provide the company with the capital it needs to continue operating.
- Sale of the Business: In some cases, selling the business as a going concern is a viable option. This can mean selling the entire business or just parts of it to pay off debts and keep the company running.
Rescuing an insolvent company is complex and not always possible. It depends on how deep the deficiency is and whether the underlying business still works. Directors should seek advice from insolvency practitioners or financial advisors to explore the best course of action.
What Steps Should I Take if My Limited Company Is Insolvent?
If your limited company is insolvent, or you think it is close, there are immediate steps to take as a director:
- Review whether to keep trading: Insolvency does not automatically require you to stop trading, but it does require you to stop and think. Trading on can increase your exposure where it worsens the position of creditors, so take advice quickly and be careful about incurring new credit or taking customer deposits in the meantime.
- Seek Professional Advice: Consult with an insolvency practitioner, such as ourselves at AABRS® , at the earliest opportunity. We can provide expert guidance on your situation and the most appropriate course of action.
- Gather Financial Paperwork: Assemble all financial records, including bank statements, invoices, and accounts. This information is crucial for the insolvency practitioner to assess the company’s position accurately.
- Keep Detailed Records: From this point forward, maintain meticulous records of all decisions and actions taken. This is important for demonstrating responsible management during the insolvency process.
- Avoid Preferential Payments: Be cautious not to pay off certain creditors in preference to others. Such actions can be reversed during the insolvency process and can also have legal implications.
These steps are critical in managing the situation responsibly and mitigating potential negative consequences for yourself and the company. Acting promptly and with professional guidance can help navigate this challenging situation more effectively.
Professional support if your company is insolvent
If you have concerns that your company could already be insolvent, we are on hand to discuss any of the issues raised in this guide and answer your questions. Please get in touch today for a free, no-obligation consultation with a member of our specialist corporate insolvency team.