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Home | Blog | What types of Insolvency Procedures can be Applied to a Limited Company or a Partnership?

What types of Insolvency Procedures can be Applied to a Limited Company or a Partnership?

April 14, 2021
Claire Middlebrook

Insolvency describes a situation when a company (or individual) can’t pay what they owe on time, or when the value of their assets is less than the money they owe.

The law (mainly the Insolvency Act 1986) sets out formal legal processes for insolvent companies. Not every business with a debt problem ends up needing a formal solution.

An Insolvency Practitioner (IP) is appointed to perform a specific role in formal insolvency procedures. There are different types of insolvency procedure for businesses, including: company voluntary arrangements (CVAs), administration, liquidation and receivership. Which route is taken depends on a combination of factors.

IPs sort out difficult situations for organisations including sole traders, businesses, partnerships, limited liability partnerships and limited companies. They offer guidance to try and rescue a business. If that’s not possible, they may be appointed to handle a formal insolvency.

The work of an IP involves dealing with often-competing interests, but their main duty is to look after creditors’ interests. In some cases, the IP will give advice to a company in financial difficulty before a formal process begins. On other occasions it is possible that a company’s bank might ask the IP to conduct a review of its viability.

The principle in insolvency procedures is that any funds available should be distributed fairly between creditors.

Whilst we assist businesses to navigate their challenges, sometimes a business needs a formal insolvency process to deal with its indebtedness. There a number of different insolvency processes and each one has a different role in the rescue and insolvency landscape.

Types of formal insolvency procedures

Company Voluntary Arrangement

A Company Voluntary Arrangement (“CVA”) is used to facilitate a rescue of a business which may have suffered an event and would have otherwise been viable. It is a formal insolvency procedure. Directors remain in control of the business whilst it is subject to the CVA, with a Licensed Insolvency Practitioner overseeing the process, firstly as Nominee and then, following the approval of the CVA, as Supervisor. It is dependent upon 75% of creditors voting in favour of the proposals for the CVA and secured and preferential creditors’ rights remain unless they consent to any changes. Once approved, creditors are bound by the terms of the CVA, which usually lasts over a period of three to five years, and allows the company to make contributions into the CVA for the benefit of creditors from its ongoing trading.

Administration

If the directors are seeking to rescue the business as a going concern and a CVA is not appropriate, then an Administration can be used instead. An Administration can be instigated by the company or its directors, a secured lender or bank or via a Court order. An Administrator is appointed to manage the business, assets and property of the company and the directors lose control of the business whilst the company is in Administration. Whilst the process can be used to rescue the company as a going concern, it is more often used to maximise realisations for the benefit of the creditors. A sale of the business can also be achieved via a “pre-pack” sale, where a purchaser agrees the sale prior to the appointment of Administrators, with the sale completing following the Administrators being appointed.

The Administration also comes with a moratorium, which prevents creditors from continuing with any enforcement or legal action.

Liquidation

A Liquidation is the more appropriate option where there is no likelihood of rescuing the business or where the business has come to the end of its lifecycle.

Where the company is solvent, the shareholders can place the company into a Members’ Voluntary Liquidation (“MVL”), where a Liquidator is appointed to distribute the remaining assets to the shareholders in a tax-efficient manner.

Where the company is insolvent and unable to pay all of its debts and there is no chance of rescuing the business, then the directors can choose to place the company into a Creditors’ Voluntary Liquidation. The members will need to resolve to the company being wound up and appoint a Liquidator, but the creditors will then have the final say in who is appointed Liquidator. Once the company is in Liquidation, the Liquidator will seek to realise any assets for the benefit of creditors. Once the Liquidator has finalised the position, the company will then move to dissolution.

The final type of Liquidation is a Compulsory Liquidation, which is initiated through the Court through the presentation of a winding-up petition. The Court will then grant a Winding Up Order and the Official Receiver is appointed as the Liquidator. A Licensed Insolvency Practitioner may be subsequently appointed as Liquidator if the creditors seek an appointment or if the OR decides to appoint a Liquidator.

Bankruptcy

This can only apply to individuals (including sole traders and individual members of a partnership). Bankruptcy petitions may be presented to the court by the individual, by creditors who are owed £750 or more, or by the supervisor of an individual voluntary arrangement. A bankruptcy order is made by the court.

In common parlance, insolvency and Bankruptcy are often used interchangeably. However, there is a thin line of difference between these two words.

Insolvency is a financial situation, where an entity or an individual is unable to meet the financial obligations due to excess of liabilities over assets, whereas, Bankruptcy is a legal procedure where the court of law passes orders with respect to insolvency of an individual or entity and consequently passes orders for its resolution.

Thus, an individual or an entity can be insolvent without being bankrupt and insolvency can lead to bankruptcy if the insolvent individual or entity is unable to overcome the financial catastrophe. If you are the director of a company or a partner of an insolvent limited liability partnership, you are not necessarily personally liable for debts incurred during the operation of the enterprise. However, you may also be held personally liable for those debts and a creditor may seek to petition the court to bankrupt you along with the company.

Seek early advice from our expert advisors to explore your best positive outcome.

Previous What happens to an Overdrawn Director’s Loan Account in Liquidation? Next What does an Insolvency Practitioner do?

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