Insolvency

Definition

Insolvency simply means the inability to pay debts as they fall due.

A company is deemed unable to pay its debts in accordance with the Insolvency Act 1986 if:

• it is proved to the satisfaction of the court that the company is unable to pay its debts as they fall due. This is known as cash flow insolvency.
• if it is proved to the satisfaction of the court that the value of the company's assets is less than the amount of its liabilities, taking into account its contingent and prospective liabilities. This is known as balance sheet insolvency.

Consequences of insolvency

If a company is insolvent it has three general courses of action it can take to either wind up the business or rescue it:

• voluntary liquidation 
• compulsory liquidation 
• administration 

Application of assets in a liquidation

When a company is liquidated the debts of the company must be repaid in the following order:

• fixed charge-holders.
• expenses of liquidation.
• preferential creditors
  • wages or salaries due in the four months preceding the commencement of winding up (maximum £800 per employee)
  • all accrued holiday pay.
• floating charge-holders.
• unsecured creditors - rank equally amongst themselves. The Enterprise Act 2002 introduced into the Insolvency Act 1986 a ring-fencing mechanism where part of assets which are subject to a floating charge are available to unsecured creditors. The amount ring-fenced is 50% of the first £10,000, plus 20% of the rest up to a maximum ring-fenced fund of £600,000.
• post-liquidation interest.
• members: declared but unpaid dividends.
• members: return of capital (in accordance with class rights).
• any surplus to be distributed to members.

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Tags:	insolvency;compulsory liquidation;administration