The termination of a solvent business, corporate insolvency and personal bankruptcy Flashcards
When is Creditors’ voluntary liquidation
Employed when an LLP becomes insolvent and is unable to sustain is operations due to its financial obligations
How is Creditors’ voluntary liquidation initiated
The LLP must publish a notice announcing the resolution to wind up the LLP in the London Gazette, submit a copy to Companies House and hold a creditors’ meetings all within specified timeframes
Appointment of a liquidator - Creditors’ voluntary liquidation
Made either by the LLP’s members or by the creditors during the creditors’ meeting
Liquidator assumes control over the LLP and its assets to facilitate the winding up of the LLP’s affairs -
this involves collecting the LLP’s assets and using the proceeds from their sale to satisfy the claim of the creditors
Any remaining funds are then distributed among the remaining members of the LLP
Liquidator also has a responsibility to provide reports to both the
LLP’s members and creditors
Outlined in the Insolvency Act 1986
four tests for insolvency:
-The Cash Flow test: An inability to pay debts as they fall due (s 123(1)(e))
-The Balance sheet test: The company’s liabilities are greater than its assets (s 123(2))
-Failure to comply with a statutory demand for a debt of over £750 (s 123(1)(a))
-Failure to satisfy enforcement of a judgment debt (s 123(1)(b))
The most commonly used are the cash flow test and the balance sheet test.
The directors of a company must continually review the financial performance of a company and recognise when it is facing financial difficulties.
Faced with a company in financial difficulty, the directors have a number of options:
- Do nothing - the directors risk personal liability under IA 1986 and breach of directors’ duties under the Companies Act 2006.
- Do a deal - reaching either an informal or formal arrangement with the company’s creditors with a view to rescheduling debts.
- Appoint an administrator - this is a collective formal insolvency procedure (a procedure which considers the interests of all creditors)
- Request the appointment of a receiver - this is an enforcement procedure (where a creditor, or a small group of creditors, are acting to pursue their rights and recover their debt).
- Put the company into liquidation - this a collective insolvency procedure
What are Informal agreements with creditors
standstill agreements with a view to not enforcing rights for a period of time to rescue the company.
What are formal agreements with creditors
· Applying to court for a Pre-insolvency moratorium - this gives the company a temporary breathing space to rescue the company.
· Entering into a Company voluntary arrangement (CVA) – this is an arrangement agreed by the company’s creditors and members to achieve an agreement in respect of its debts. However, although there is no requirement for court approval, one disadvantage of CVAs is that they do not bind secured creditors.
· Entering into a Restructuring Plan – this is a court-sanctioned compromise between a company and its creditors and shareholders to restructure the company’s debts.
After liquidation, administration is the next most common insolvency procedure
Primary and secondary objectives
The primary objective of administration is to rescue the company.
However, if that is not possible, then its secondary objective is to achieve a better result for creditors than a liquidation.
What are administrators - insolvency
Administrators are qualified insolvency practitioners who may be appointed by the court or under the out of court procedure.
They are required to perform their functions in the interests of the company’s creditors as a whole and owe duties to both the court and to the creditors collectively.
One key benefit of administration is that during administration…
the company has the benefit of a full moratorium, during which time no order to wind up the company can be made, no proceedings may be brought against the company and no steps can be taken to enforce any security over the company’s property. This therefore gives the company some breathing space to attempt to resolve its financial issues.
Whilst administration is a collective procedure; in contrast, receivership is…
an individual enforcement procedure which benefits only the appointing creditor
Types of receivers - insolvency
Administrative receivers (note that this is now a rare procedure);
Fixed charge receivers;
Court-appointed receivers.
Fixed charge receivers are the most common type of receivership. Fixed charge receivers are appointed by the holders of a fixed charge pursuant to the terms of the security documentation. They are appointed to enforce the security and recover the debt that is owing to their appointor, often a bank. They owe their duties primarily and exclusively to the appointor, often a bank.
Liquidation
Liquidation is the process by which a company’s business is wound up and its assets transferred to creditors and (if there is a surplus of assets over liabilities) to its members.
Types of liquidation
- Compulsory liquidation
- Voluntary liquidation – which is further subdivided into:
· Members’ voluntary liquidation
· Creditors’ voluntary liquidation.
What will the appointment of a liquidator do
terminates the management powers of the company’s directors, and these powers are transferred to the liquidator together with their fiduciary duties, meaning that liquidators must act in good faith, avoid conflicts of interest and not make a secret profit.
The liquidator’s function is to realise the company’s assets for cash, determine the identity of the company’s creditors and the amount owed to each of them and then pay a dividend to the creditors on a proportionate basis relative to the size of their determined claims (creditors of the same rank are said to rank “pari passu”).
Following liquidation, the company’s life is generally brought to an end automatically by dissolution.
Can solvent companies be wound up or liquidated
Solvent companies may also be wound up and this is not uncommon. Companies may be wound up simply because the business opportunity has come to an end, due to internal disputes, or where the members wish to move on to new ventures.
Statutory order of priority
In order to make a payment to creditors (known as a dividend), a liquidator will (and an administrator may) be required to distribute the assets of the company to its creditors in a specified order of priority in payment in accordance with complex rules.
The company’s assets subject to any fixed charge will be realised first and applied in steps 1 and 2:
-Liquidator’s fees and expenses of preserving and realising assets subject to fixed charges.
-Amount due to fixed charge creditor out of the proceeds of selling assets subject to the fixed charge.
-The assets subject to the floating charge (which in this example will be all other assets of the company since we are assuming there is a qualifying floating charge, which is a floating charge over all assets of the company) will then be realised and applied as follows:
-Other costs and expenses of the liquidation.
Preferential creditors (the first tier and then the secondary tier).
-Creation of the prescribed part fund (if available) for unsecured creditors.
Amount due to creditors with floating charges.
-Unsecured/trade creditors (including payment of the prescribed part).
Interest owed to unsecured creditors.
Shareholders.
The two formal insolvency procedures for insolvent individuals
-Bankruptcy is a collective insolvency procedure enabling an orderly collection, sale and distribution of an insolvent individuals’ assets for the benefit of all the bankrupt’s creditors. It is similar to liquidation of a company in many respects.
-Individual voluntary arrangements (‘IVAs’).
An IVA is often an alternative to bankruptcy and is also a collective procedure. It has many similarities to a company CVA.
The key statute governing bankruptcy and IVAs is the Insolvency Act 1986 (IA86), together with the Insolvency Rules 2016.
The directors need to be extremely careful in how they act, since they may be held to be personally liable to compensate the company and its creditors if found guilty of one of the following:
· Fraudulent trading
· Wrongful trading
A claim for fraudulent trading under can be brought by a liquidator or an administrator against:
· any person
· who is knowingly party to the carrying on of any business of the company
· with intent to defraud creditors or for any fraudulent purpose.
When a company becomes insolvent, the directors need to be extremely careful in how they act, since they may be held to be personally liable to compensate the company and its creditors if found guilty of one of the following:
Fraudulent trading
· Wrongful trading
The first element in this topic examined fraudulent trading. A claim for fraudulent trading under can be brought by a liquidator or an administrator against:
any person
· who is knowingly party to the carrying on of any business of the company
· with intent to defraud creditors or for any fraudulent purpose.
Sections 213 (in liquidation) and 246ZA (in administration) IA 1986 impose a civil liability to contribute to the funds available to the general body of unsecured creditors suffering loss caused by the carrying on of the company’s business with intent to defraud. Note that there is also a corresponding criminal claim for fraudulent trading under s 993 CA 2006.
Claims for fraudulent trading are rare. The reason for this is that actual dishonesty must be proven for a claim for fraudulent trading to succeed, so in practice, a very high standard of proof is required to succeed.
A civil claim for wrongful trading can be brought against…
any person who was at the relevant time a director by a liquidator under s 214 or an administrator under s 246ZB IA 1986. There are no criminal provisions for wrongful trading, in contrast to fraudulent trading which is both a civil and a criminal wrong.
How does the court establish wrongful trading?
the court must be satisfied that at some time before the commencement of the winding up or insolvent administration, the director knew or ought to have concluded that there was no reasonable prospect that the company would avoid going into insolvent liquidation (or insolvent administration).
A director may be able to escape liability if they can satisfy the court that, after they first knew or ought to have concluded that there was no reasonable prospect of the company avoiding an insolvent administration or liquidation, they took “every step with a view to minimising the potential loss to the company’s creditors”.
The court applies the reasonably diligent person test
