6) Collecting debts and dealing with insolvency

Question 1

Doubtful debt

Answer 1

Is a debt that is unlikely to be paid and will have to be provided for in the accounts.

Question 2

Irrecoverable debt

Answer 2

Is a debt that will definitely not be paid and will have to be written off in the accounts to the statement of profit or loss as an expense to the business.

Question 3

In which stage is the debt when it is considered irrecoverable?

When it happens? What can the organisation do?

Answer 3

An irrecoverable debt is the final stage in the credit control process.

It occurs when the organization gives up trying to recover the debt and decides to minimize its losses by writing it off through the statement of profit or loss.

Question 4

When is not worthy to try to collect an irrecoverable debt?

Answer 4

This can happen when:

1) The debt is relatively small when compared with the cost of recovery.
2) The customer looks like they are becoming insolvent (unable to pay debts).
3) The customer is insolvent (a bankrupt individual or company in liquidation)

Question 5

What happens with the costs trying to collect irrecoverable debts?

Answer 5

As the debt recovery process moves to the stage where debt collection agencies, solicitors or court action are involved, the costs start to mount up.

Question 6

When an organisation is likely to recover a debt?

Answer 6

An organisation is only likely to recover a debt – even through court action – if the customer has the money or other realisable assets to enable the debt to be repaid.

Question 7

What is a contrac in salest?

Does it have to be formal?

Answer 7

A contract is the legal agreement which should support all sales transactions.

This does not mean that there has to be a formal written document relating to every invoice – a contract can be oral (word of mouth), but there does have to be an agreement.

Question 8

Is there a contract of sale?: What does it involves?

Answer 8

1) An offer for sale and an acceptance of the offer
2) Value changing hands both ways
3) The realisation by seller and buyer that the agreement has legal consequences and could end up in court if the agreement is broken.

Question 9

Is there a contract of sale?: What happens if there is not?

Answer 9

If the customer can show that there is no contract, the organisation has no hope of being able to recover the money.

Question 10

What happens when a customer doesn’t pay a debt?

What remedies are available for breach of contract?

Which one is the normal remedy in credit control?

Answer 10

Legal action can be taken against a customer when a contract is in existence because non-payment is a breach of contract – the customer is not carrying out an agreed part of the bargain.

There are a number of remedies available for breach of contract in a wide variety of situations. The remedy chosen will depend on the type of contract.

In credit control in an organisation, the remedy of action for the price (taking legal action in the courts for recovery of an unpaid debt) is the normal remedy for breach of contract.

Question 11

Which third parties can be used for collecting debt?

Answer 11

1) Debt collection agencies

2) Solicitors

Question 12

What are the Debt collection agencies?

How are they normally paid?

Answer 12

Are commercial organisations that collect debts on behalf of clients.

They are normally paid by taking a percentage of the amount collected.

Question 13

What should be considered when using solicitors?

When should be used?

Answer 13

When employing a solicitor for this purpose it is important to use a firm that specialises in debt collection.

They should only be used when there is a reasonable chance of the customer being able to repay the debt.

Question 14

What kind of professional should be hired to take legal action?

What service will this professional provide?

Answer 14

In order to take advice about getting money back from a customer who may be insolvent, or taking a customer to court, the person or business owed the money (the “creditor”) will need to hire a licensed insolvency practitioner, normally from the accountancy profession, that will provide advice and if necessary represent the creditor in court.

Question 15

How can a “debtor” (customer) be taken to court:

Answer 15

There are two ways in which a “debtor” (customer) may be taken to court:

1) To enforce repayment of the debt
2) To bring about the bankruptcy (of an individual) or liquidation (of a limited company)

Question 16

What is it assumed when enforcing repayment of the debt?

Answer 16

To enforce repayment of the debt it is assumed that the customer is solvent and can repay debts when they are due.

Question 17

What is it assumed when bringing about the bankrupcy or liquidation?

What kind of action is it?

Answer 17

To bring about the bankruptcy (of an individual) or liquidation (of a limited company) it is assumed that the debtor (customer) is insolvent and is unable to repay debts when they are due and hoping that some money will be realised from the customer’s assets;

This is the last action.

Question 18

Which one is the most common form of court action taken as part of the credit control process?

Answer 18

Action for the price, to enforce repayment of the debt

Question 19

Which courts are used for the actions for the recovery of debts?

Which court takes the cases first?

Answer 19

The courts used for the actions for the recovery of debts are the Civil Courts (as opposed to the Criminal Courts which deal with criminal offences).

Civil cases are first taken to the County Court. If they are not settled here, they may be referred to the High Court.

Question 20

Which “tracks” offers The County Court for pursuing claims of differing amounts?

Answer 20

The County Court deals with claims (“civil” claims) by people owed money and offers three “tracks” for pursuing claims of differing amounts:

1) Small Claims Track
2) Fast Track
3) Multi-Track

Question 21

When can be used the Small Claims Track?

Answer 21

When the claim for recovery of debt is £10,000 or less, you do not have to use a solicitor or barrister.

Question 22

When should be used the Fast Track?

Answer 22

Applies to more serious cases, for claims between £10,000 and £25,000, which will normally only take one day in court to resolve.

Question 23

When should be used the Multi-Track?

Answer 23

It is for cases which will take more than one day to resolve, claims over £25,000 or complex cases under £25,000.

Question 24

The court system: what happens if you win?

What document is issued by the County Court?

What happens next?

Answer 24

If the court decision goes in favour of the person or business owed the money, a County Court Judgement will be issued against the customer.

The customer will either pay up, in which case the debt is repaid and all is well, or the customer will refuse to pay, either because he/she does not want to, or because he/she does not have sufficient assets to repay the debt.

Question 25

What orders are available for enforcement of the judgement?

Answer 25

1) Garnishee order
2) Warrant of execution
3) Warrant of delivery
4) Attachment of earnings
5) Charging order

Question 26

Garnishee order:

Answer 26

This is a court order that will be sent to a third party which has an account for the customer, requiring the money to be paid direct to the creditor.

This will only work if the money is in the account on that day.

Question 27

Warrant of execution

Answer 27

This order is a request for the court bailiffs to enter the customer’s home or business premises to seize belongings or assets to sell and pay off the debt.

The restrictions here are that the bailiffs are not allowed to break down the door or to seize essential living items or “tools of the trade”.

Question 28

Warrant of delivery

Answer 28

If the customer has goods which belong to the creditor, the payable can obtain a court order which will give the court bailiffs authority to obtain and collect the goods.

Question 29

Attachment of earnings

Answer 29

If the customer is working and earning, this order will require the customer’s employer to deduct a certain amount from the customer’s salary on a regular basis until the debt is repaid.

Question 30

Charging order

Answer 30

If the customer owns property, the creditor can apply to the court to “register a charge” on the property to show that the creditor has an interest in the money received from the eventual sale of the property.

Question 31

What is the solution with a “no hope” debt and “irrecoverable” debt?

What actions can be taken?

Answer 31

The solution in this case is to write the amount off as an irrecoverable debt in the payable’s accounts, where the amount can be set off through the statement of profit or loss against the tax liability of the organisation.

It is also possible to write off any VAT due on the debt through irrecoverable debt relief given by HMRC and reclaimable through the VAT Return if the conditions have been met.

Question 32

What are the conditions to reclaim the VAT due on the debt through irrecoverable debt relief?

Answer 32

1) The VAT must have already been accounted for and paid to HMRC
2) The debt must have been written off in the accounts
3) The debt must have remained unpaid six months after the due date of payment
4) The claim must be made within four years and six months of the amount being due

Question 33

Retention of Title (ROT) and debt recovery:

What allows?

What are the conditions?

Answer 33

The seller that has included a Retention of Title clause in the sales documentation can reclaim the goods from the buyer if the buyer will not or cannot pay, but only if:

1) The goods can be clearly identified
2) The goods have not been processed, improved or mixed in a manufacturing process

Question 34

What is insolvency?

Answer 34

Insolvency is being unable to pay debts as they fall due

Question 35

What is the insolvency process?

Answer 35

A payable – the “creditor” – such as a trading business, can take a receivable to court to prove that the trade receivable – the “debtor” – is insolvent.

Question 36

What is the result of the insolvency process?

Answer 36

The result of this is that the court will then arrange for the debtor’s assets to be sold off and all the payables repaid as far as is possible with the money realised by the sale.

Question 37

What are the laws that cover insolvency and all its complexities?

Answer 37

1) Insolvency Act 1986, which has been amended to some extent by further legislation, including:
2) Enterprise Act 2002
3) Deregulation Act 2015
4) Small Business, Enterprise and Employment Act 2015

Question 38

What are the stages of the insolvency process?

Answer 38

1) Ensure the debt is £5,000 or more.
2) Make a “statutory demand” to the “debtor” (the customer) on an official form for the amount owing.
3) If payment is not received within three weeks, send in a “creditors petition” to the court.
4) The court makes a bankruptcy order against the customer (the “debtor”)

Question 39

What happens when the court makes a bankruptcy order against the customer (the “debtor”)

Answer 39

The court appoints an official (the “trustee in bankruptcy”) who arranges the sale of the customer’s assets (except domestic items and tools of the trade) and distributes the money to the payables in an order of priority.

Question 40

What is the order of priority when distributing the money to the payables in a bankruptcy?

Answer 40

1) The costs of the bankruptcy proceedings
2) Preferential debts
3) Any floating charge holder
4) Unsecured payables such as trade payables

Question 41

Difference between administration and administrative receivers:

What is administration?

Answer 41

Is a state of affairs where an organisation which is running into solvency problems has an administrator appointed by the court to run its affairs.

Question 42

Difference between administration and administrative receivers:

What is an administrative receiver?

Answer 42

This situation involves a bank which has the security of a floating charge over the assets of a company to secure its overdraft. The security document enables the bank to appoint an administrative receiver to sell the secured assets of the company.