4.3 Insolvency: Options and Procedures

Choosing a procedure

FLK1 Business Law and Practice expects you to match the person, the purpose, and the procedure. A company (or LLP) uses corporate tools: a company voluntary arrangement (CVA), administration, fixed-asset receivership, members' voluntary liquidation (MVL), creditors' voluntary liquidation (CVL), or compulsory liquidation. An individual (including a sole trader or a partner who is personally liable) uses an individual voluntary arrangement (IVA) or bankruptcy. Partnerships can be wound up as unincorporated associations; the partners' personal estates are a separate personal-insolvency question. Do not put a company into bankruptcy or an individual into administration.

A company is insolvent if it cannot pay its debts as they fall due (cash-flow) or if liabilities exceed assets (balance-sheet) (IA 1986 s.123). Directors who continue to trade past the point where insolvent liquidation or administration cannot reasonably be avoided move from s.172 creditor-regard into wrongful trading. That is why the first advice is often: stop preferring connected creditors, take every step to minimise loss, and choose a procedure that fits the facts.

CVA and IVA

A CVA is a proposal under IA 1986 Part I for a composition or scheme between a company and its creditors, supervised by an insolvency practitioner who first acts as nominee and then as supervisor. Members vote (simple majority of those voting is the usual member threshold). Creditors approve by a decision procedure. Approval requires 75% or more by value of creditors voting in favour. The arrangement is not approved if more than half by value of the unconnected creditors voting vote against it. A CVA binds all unsecured creditors who were entitled to vote, including dissenters. It cannot strip preferential creditors of their statutory priority without their consent, and HMRC's published practice is to reject a proposal that tries to do so. A CVA can be challenged within 28 days for unfair prejudice or material irregularity. It does not, by itself, impose the same wide moratorium as administration (unless a moratorium is obtained under the separate Part A1 procedure).

An IVA is the personal equivalent under IA 1986 Part VIII. The debtor makes a proposal with a nominee; creditors approve by 75% or more by value of those voting (again with an unconnected-creditor safeguard). An approved IVA binds dissenting unsecured creditors. It is the standard alternative to bankruptcy for a sole trader who has a viable income and wants to keep the business alive. Breach of the IVA can lead to bankruptcy.

Bankruptcy

Bankruptcy is a court (or adjudicator) process against an individual. A creditor's petition requires a debt at or above the statutory bankruptcy level (the current figure is supplied in the question if you must apply a number; functioning knowledge is that there is a minimum and that a statutory demand is the usual precursor). The debtor may also present an online application. Once a bankruptcy order is made, the Official Receiver becomes trustee unless an insolvency practitioner is appointed. The bankrupt's estate vests in the trustee. The bankrupt must make full disclosure, may be subject to an income payments agreement or order, and faces restrictions (obtaining credit above a small statutory amount without disclosure; acting as a company director without leave). Discharge is usually after 12 months, but assets that vested still remain with the trustee. The family home has special timing and charging-order rules. Bankruptcy is the wrong tool if the client is a company.

Administration

Administration (IA 1986 Schedule B1) is a collective, court-supervised (or out-of-court) process. The administrator is an officer of the court and an agent of the company. Paragraph 3 sets a hierarchical purpose. The administrator must perform the functions with the objective of (a) rescuing the company as a going concern; if that is not reasonably practicable, (b) achieving a better result for the company's creditors as a whole than would be likely on a winding up without first being in administration; and only if (a) and (b) are not reasonably practicable, and the administrator does not unnecessarily harm the interests of the creditors as a whole, (c) realising property in order to make a distribution to one or more secured or preferential creditors. Rescue of the company (the legal entity) is not the same as rescue of the business; a pre-pack sale of the business to a new buyer can still be a paragraph 3(b) administration.

Appointment routes: the court on an administration application; a qualifying floating charge holder (QFCH) out of court (para 14); or the company or its directors out of court (para 22), after giving notice to any QFCH. The appointment triggers a statutory moratorium: no winding-up resolution or order (with limited public-interest exceptions), no enforcement of security without the administrator's consent or the court's permission, no landlord forfeiture, and no other legal process. That breathing space is the reason administration is chosen over an immediate CVL when there is a business to sell or a CVA to propose. Administration lasts 12 months unless extended by consent or the court. It often exits into a CVA, a CVL, or dissolution.

Fixed-asset receivership

A fixed-charge receiver (often called an LPA receiver when appointed over land under the Law of Property Act 1925 s.101 or the charge instrument) is appointed by the charge-holder over the specific asset charged, not over the company as a whole. It is not a collective insolvency procedure. There is no company-wide moratorium. The receiver's primary duty is to the appointing charge-holder: to take control of the charged property and to realise or manage it to pay that debt. Other creditors keep their rights against the rest of the company's property. Distinguish this sharply from an administrative receiver, who is appointed under a floating charge over the whole or substantially the whole of the undertaking. IA 1986 s.72A largely prohibits new administrative-receiver appointments, subject to capital-market and other listed exceptions. If the question says "the bank has a fixed charge over the factory and appoints a receiver of that factory," you are in fixed-asset receivership, not administration.

Voluntary and compulsory liquidation

An MVL is a solvent winding up. The directors make a statutory declaration of solvency: they have formed the opinion that the company will be able to pay its debts in full, with interest, within a period not exceeding 12 months. Members then pass a special resolution to wind up and appoint a liquidator. If the declaration is false and the company is insolvent, the directors risk criminal liability and the process should convert to a CVL.

A CVL is an insolvent voluntary winding up. Members pass a special resolution that the company cannot by reason of its liabilities continue its business and that it is advisable to wind up. Creditors are asked to nominate a liquidator; the creditors' nomination prevails. The liquidator realises assets, agrees claims, and distributes in the statutory order. Directors lose their management powers.

Compulsory liquidation begins with a winding-up petition, most often by an unpaid creditor after an unsatisfied statutory demand or judgment. For a company, the unpaid-debt gateway in s.123 is a comparatively low statutory figure (the question will give it if you must apply it). The petition is advertised. If the court makes a winding-up order, the Official Receiver becomes liquidator unless an IP is appointed. Compulsory liquidation brings investigation powers and is the usual route when the creditor does not trust the directors to convene a CVL, or when a public-interest winding up is sought.

Once a company is in insolvent liquidation, s.214 wrongful trading and s.213 fraudulent trading become live. Wrongful trading (and the administration counterpart in s.246ZB) applies where a director knew, or ought to have concluded, that there was no reasonable prospect of avoiding insolvent liquidation or administration, and then failed to take every step with a view to minimising potential loss to creditors. The court may order the director to contribute to the company's assets. The s.174 dual standard supplies the "ought to have concluded" test. Fraudulent trading requires actual intent to defraud creditors or a fraudulent purpose. It supports a civil contribution order (s.213) and a criminal offence (CA 2006 s.993). Fraudulent trading is harder to prove and is reserved for dishonest continuation — for example ordering goods on credit with no intention of paying.