Have you ever wondered what happens to the funds raised by Insolvency Practitioners once they step in as Administrators or Liquidators? It’s a bit of a mystery for those outside the insolvency profession, and it can lead to misunderstandings and frustration for stakeholders who find themselves at the back of the line for distributions.
Let’s make sense of this process by imagining it as a waterfall, with money cascading down through a series of rock pools. In each pool, some lucky stakeholders can scoop out enough funds to settle their debts before the remaining money flows down to the next pool.
Let’s take a closer look at the order of these pools and who fits where in the pecking order, without drowning in jargon!
- Secured Creditors with a Fixed ChargeThese creditors are usually banks or lenders who safeguard themselves against defaults by holding a Debenture over all assets or a Fixed Charge over specific assets like property, intellectual property, goodwill, and book debts.They get paid first, but only from the proceeds of selling the specific assets they hold charges on.The reason they’re given priority is that it’s part of the agreement made with the borrower, and without this security, they might not lend money at all. Please note that ongoing interest charges on the debt continue to accumulate until fully repaid.
- The IPs Fees and ExpensesIt’s essential to remember that the IPs appointed to handle a company’s financial troubles are professionals who have to be paid for their work. However, their costs are controlled, scrutinised, and approved.They often write off a significant portion of their costs to manage the insolvency process.
- Preferential CreditorsPreferential creditors include employee claims, including arrears of pay (up to £800) and outstanding holiday pay.This is a matter of public policy and fairness, ensuring that employees are prioritised when it comes to recovering their owed wages and benefits. The Redundancy Payments Service also protects certain employee claims if there aren’t enough funds in the insolvency case to cover them fully.
- Secondary Preferential CreditorsHMRC moved up the priority ladder in December 2020, gaining secondary preferential status. Only specific HMRC debts, such as VAT, PAYE Income Tax, Employee National Insurance contributions, student loan repayments, and Construction Industry Scheme deductions, are included in this category.
- The Prescribed Part for Unsecured CreditorsPublic policy dictates that unsecured creditors shouldn’t be left empty-handed if there are funds remaining after satisfying Preferential and Secondary Preferential claims, but before satisfying Floating Charge claims.A nominal amount linked to asset realisations and capped at a maximum of £800k is set aside for unsecured creditors.
- Secured Creditors with a Floating ChargeSome assets, like a borrower’s stock and work in progess, are subject to a Floating Charge because their value keeps changing.If the debt owed to a lender isn’t fully covered by selling assets with a Fixed Charge, the lender can recover further funds from the assets covered by the Floating Charge – if there is enough money to do so.
- Unsecured CreditorsThis category includes suppliers, service providers, landlords, and others who interact with the insolvent company without any protection. As they are well down the line in terms of priority, they are at the highest risk of not recovering their debts, especially in small businesses.
- ShareholdersThose who hold equity in the company are at the bottom of the priority list when it comes to receiving funds in an insolvency. In 99.9% of Creditors Voluntary Liquidations, they receive nothing.
If you have any concerns about your repayment prospects or need advice on navigating insolvency for your business, don’t hesitate to reach out for help.
Certainly! Continuing from where we left off:
Navigating through insolvency can be challenging, especially for small company directors. However, with the right guidance and understanding of the insolvency priority waterfall, you can make informed decisions to protect your interests.
Here are a few more essential points to consider:
Transparency and Communication Throughout the insolvency process, open communication is vital. As a director, it’s essential to keep lines of communication open with the Insolvency Practitioner. They will keep you informed about the progress, decisions, and any potential impact on your position as a stakeholder.
Taking Proactive Measures If you suspect that your company might be heading towards insolvency, taking proactive measures can significantly influence the outcome. Seeking professional advice early can help you explore alternatives to insolvency, such as restructuring or refinancing, which might save your business and protect your position as a director.
Avoiding Wrongful Trading As a director, you have legal obligations to act in the best interests of your company and its creditors. If your company is facing financial difficulties, you must be cautious not to engage in wrongful trading. Wrongful trading occurs when a director continues to operate the business, incurring more debts, when there is no reasonable prospect of avoiding insolvency. This could lead to personal liability for the additional debts incurred during this period.