LW Chapter 18: Insolvency and Administration

Chapter Summary
Introduction
If a company finds itself in financial difficulty, the two main options available to it are:

• Administration.
This aims to rescue the company so that it may continue trading as a going concern.

• Liquidation.
This winds up the company, thus bringing its life to an end.

1. Liquidation

Liquidation is the dissolution or 'winding up' of a company.

This means that the company must be dissolved and its affairs 'wound up’ or brought
to an end.

The assets are realised, debts are paid out of the proceeds, and any surplus amounts
are returned to members.

Liquidation leads on to dissolution of the company. It is sometimes referred to as

winding up.
 1.1 Parties in a liquidation

The following parties are likely to be involved in a liquidation.

Creditors
If a creditor has sufficient grounds they may apply to the court for the compulsory
winding up of the company.

Creditors may also be closely involved in a voluntary winding up, if the company is
insolvent when the members decide to wind the company up. (Creditors’ voluntary
winding up)

Members

The members always commence a voluntary winding up.

This can lead to two different types of members' winding up:

• Members' voluntary winding up (if the company is solvent)

• Creditors' voluntary winding up (if the company is insolvent)

The liquidator

Once the decision to liquidate has been taken, the company goes under the control
of a liquidator who must be a qualified and authorised insolvency practitioner.

The liquidator is in the charge of voluntary winding up.

 2. Voluntary liquidation

There are two types of voluntary liquidation:

A members' voluntary winding up, where the company is solvent and the
members merely decide to 'kill it off.

A creditors' voluntary winding up, where the company is insolvent and the
members resolve to wind up in consultation with creditors.

Therefore, the solvency of the company determines whether a voluntary

liquidation is a members’ or creditors’ voluntary liquidation.

Function Members’ voluntary Creditors’ voluntary

Appointment of By members Nominated by members,

liquidator subject to approval by
creditors

Approval for liquidator's General meeting of Liquidation committee

actions Members

Liquidation committee None Up to five representatives

of creditors
 2.1 Members' voluntary liquidation

Members' voluntary liquidation commence as soon as the members pass the

necessary resolution.

A signed copy of the resolution must be delivered to the Registrar within 15 days.

Ordinary resolution:
This is rare, but if the articles specify liquidation at a certain point, only an ordinary
resolution is required.

Special resolution:
A company may resolve to be wound up by special resolution

2.1.1 Declaration of solvency

A voluntary winding up is a members' voluntary winding up only if the directors

make and deliver to the Registrar a declaration of solvency.

This is a statutory declaration that the directors have made full enquiry into the
affairs of the company and are of the opinion that it will be able to pay its debts,
within a specified period not exceeding 12 months.

(a) The declaration is made by all the directors or, if there are more than two
directors, by a majority of them.

(b) The declaration includes a statement of the company's assets and liabilities
as at the latest practicable date before the declaration is made.

(c) The declaration must be made not more than five weeks before the
resolution to wind up is passed; and delivered to the Registrar within 15 days
after the meeting.
It is a criminal offence punishable by fine or imprisonment for a director to make a
declaration of solvency without having reasonable grounds for it.

2.1.2 No role for creditors

In a members' voluntary winding up the creditors play no part since the

assumption is that their debts will be paid in full.

2.1.3 Annual General Meeting of the contributories

In members’ voluntary liquidation, the liquidator must hold an annual general

meeting of the contributories within three months of the anniversary of the
commencement of the liquidation.

2.2 Creditors' voluntary liquidation

When there is no declaration of solvency there is a creditors’ voluntary winding

up.

Commencement
To commence a creditors' voluntary winding up the directors convene a general
meeting of members to pass a special resolution (private companies may pass a
written resolution with a 75% majority), nominate a liquidator, and establish a
liquidation committee.

Role of creditors
Creditor approval for the choice of liquidator is then sought.
 3. Compulsory liquidation

There are seven statutory reasons for the compulsory liquidation of a company,
which can all be found in the Insolvency Act 1986.

1. Company is unable to pay its debts.

2. It is just and equitable to wind up the company.

3. The company has not received a trading certificate within its first 12 months of
incorporation.

4. Company has not started trading within the first 12 months.

5. Company has suspended its business for 12 months.

6. The company has passed a special resolution to be wound up by the court

The official receiver is in the charge of a compulsory liquidation.

 Company unable to pay its debts

A creditor who petitions on the grounds of the company's insolvency must prove that
the company is unable to pay its debts.

There are three permitted ways to do that.

Where a creditor is owed more than The creditor can serve the company at its
£750 registered office a written demand for
payment.

If the company fails to pay the debt or

to offer security for it within 21 days
then compulsory liquidation can proceed
unless the company denies it owes the
money on reasonable grounds.

Where a creditor obtains judgement Compulsory liquidation can proceed if

against the company for debt, and the creditor is unable to obtain payment
attempts to enforce the judgement because no assets of the company
have been found and seized.

Where a creditor satisfies the court The creditor may show this in one of two
that, taking into account the ways:
contingent and prospective liabilities
of the company, it is unable to pay its
debts. By proof that the company is not able to
pay its debts as they fall due - the
commercial insolvency test

By proof that "the company's assets are

less than its liabilities - the balance
sheet test.
 The Just and equitable ground

A member who is dissatisfied with the directors or controlling shareholders over

the management of the company may petition the court for the company to be
wound up on the just and equitable ground.

For such a petition to be successful, the member must show that no other remedy is
available.

(a) The only or main object of the company cannot be or can no longer be achieved.

(b) The company was formed for an illegal or fraudulent purpose or there is a
complete deadlock in the management of its affairs.

(c) Where the trust and confidence between directors and shareholders in a small
company have been broken down.

In just and equitable cases, it is usually the company itself, the members or
directors that decide the company should be wound up.
 Effects of an order for compulsory liquidation

The effects of an order for compulsory liquidation are:

• The official receiver becomes liquidator

• The liquidation is deemed to have commenced at the time when the petition
was first presented.

• Any disposition of the company's property and any transfer of its shares
subsequent to the commencement of liquidation is void unless the court orders
otherwise.

• Any legal proceedings in progress against the company are halted. Any seizure
of the company's assets after commencement of liquidation is void.

• The employees of the company are automatically dismissed unless the

liquidator retains them to carry on the business. The liquidator assumes the
powers of management previously held by the directors.

• Any floating charge crystallises. The creditor will be paid in accordance with the
priority of charges and funds available from the assets.
 Order of payments on liquidation

Order Explanation

1. Costs These include the costs of selling the assets, the

liquidator's remuneration and all costs incidental to the
liquidation procedure.

2. Debts secured by Fixed chargeholders have preference over other creditors.

fixed charges

The charged asset is sold and the fixed charge holder is

repaid what they are owed.

3. Preferential debts Preferential debts include:

and fixed
charges Employees' wages (subject to a statutory maximum)

Accrued holiday pay

Contributions to an occupational pension fund

4. HMRC Under Crown Preference, HMRC ranks above floating

charge holders in respect of priority taxes (VAT, PAYE, and
national insurance contributions.

5. Debts secured by Subject to the 'prescribed part' (see below)

floating charges

6. Debts owed to A proportion of assets (known as the 'prescribed part')

unsecured is "ring-fenced' for unsecured creditors. This proportion
ordinary (which is subject to a statutory maximum) is calculated as
creditors 50% of the first £10,000 of realisations of debts secured
by floating charge and 20% of the floating charge
realisations thereafter (subject to a prescribed
maximum).

7. Deferred debts These include dividends declared but not paid and
interest accrued on debts since liquidation.

8. Members Any surplus (unlikely in compulsory and creditors'

voluntary liquidations) is distributed to members according
to their rights under the articles or the terms of issue of their
shares.
 Administration

Purpose
Administration involves the appointment of an insolvency practitioner, known as an
administrator, to manage the affairs, business, and property of a company.

Administration is often used as an alternative to putting a company into liquidation,

e.g. to:

• rescue a company in financial difficulty with the aim of allowing it to continue as a

going concern

• achieve a better result for the creditors than would be likely if the company were to
be wound up

• realise property to pay one or more secured or preferential creditors.

Appointment without a court order

It is possible to appoint an administrator without reference to the court.

There are three sets of people who might be able to do this.

1. Floating chargeholders

2. Directors

3. Company
Appointment with a court order

There are four sets of parties that may apply to the court for an administration
order:

(a) The company (that is, a majority of the members by (ordinary) resolution)

(b) The directors of the company

(c) One or more creditors of the company

(d) Another court following non-payment of a fine imposed on the company (just like
any other creditor)

Administrator's powers

An administrator of a company may do anything necessarily expedient for the

management of the affairs, business, and property of the company.

Administrators have the same powers as those granted to directors and the
following specific powers to:

• Remove or appoint a director

• Call a meeting of members or creditors

• Apply to court for directions regarding the carrying out of their functions

• Make payments to secured or preferential creditors

• With the permission of the court, make payments to unsecured creditors

 End of administration

The administration period ends when:

• The administration has been successful

• Twelve months have elapsed from the date of the appointment of administrator

• The administrator or a creditor applies to the court to end the appointment

• An improper motive of the applicant for applying for the administration is discovered