When a company gets into financial difficulty, everyone owed money by that company (known as creditors) are likely to suffer. This is particularly the case for unsecured creditors, who fall last in line to be paid when a company doesn’t have enough money to pay everyone. For more information see: Who gets paid first in insolvency? This can have a knock-on effect, as those creditors might not be able to pay their own creditors if their cashflow dries up, and this can lead to more insolvent companies.
A creditor who extends credit to a customer should keep a very close eye on the business of the customer, as well as a firm grip on their debt collection procedures, to avoid losses as far as possible in the event of a customer’s insolvency. Some careful planning before extending credit can go a long way to putting you further up the priority list as a creditor of a company that later becomes insolvent.
Here our Insolvency Solicitors explain what the priority order is on a formal insolvency, and the practical issues to be considered by creditors. We also look at ways in which a creditor might bump themselves up this order with some prior planning. We discuss whether it is possible to take a claim against a company in insolvency, when it is appropriate to take insolvency proceedings against a company that owes you money, and we look at how to communicate with a company in insolvency in order to ensure you are not left behind should a customer go into liquidation.
What is the priority order for payment of creditors of a company in a formal insolvency situation?
A formal insolvency situation will commonly be either a liquidation (or winding up), an administration or receivership. There are other procedures such as a company voluntary arrangement or a scheme of arrangement, but these treat creditors in a different way. If you want more information on these, then please contact us.
Whatever the insolvency process, the position of creditors remains largely the same. In very simple terms creditors will usually be paid out in the following priority order, and what is received will depend on how much money comes in from the assets of the company:
- secured creditors
- the costs and expenses of the formal insolvency process
- preferential creditors – which are some employment costs, and now some tax such as PAYE, NIC and VAT
- a ‘prescribed part’ set aside for unsecured creditors up to a certain financial limit
- amounts owed to floating charge holders
- unsecured debts – which will rank ‘pari passu’, or equally between the unsecured creditors
- statutory interest on all debts
- postponed liabilities – ie unprovable debts
- any surplus is then returned to shareholders
Who are secured creditors?
A secured creditor is a creditor that has provided credit which has been secured by an asset or assets owned by the company. For example, a bank could be a secured creditor providing an overdraft with security over premises owned by a company.
Depending on what you are providing, it is worth trying to obtain security before you supply if possible. Any security must be properly registered and validly documented, and might fall below other secured creditors in date order. However, taking security will still place you above unsecured creditors and increase your likelihood of a return.
Another way of retaining security is to incorporate a valid ‘Retention of Title’ clause (ROT) into your supply contract. A well drafted ROT clause may prove to be the difference between recovery of your goods in full, or standing in line with other unsecured creditors for little or no recovery at all.
If you wish to explore this option, it’s vital you take early legal advice to ensure your security will be valid when you need to call on it. Contact one of our commercial team to discuss your options.
Costs and expenses of the insolvency process
This is the costs incurred in bringing in an insolvency practitioner to collect assets and deal with the company.
Some creditors who would otherwise be unsecured have some limited preferential status. This includes some outstanding amounts owed to employees, and some tax payments. If you are an employee of an insolvent company and are concerned to ensure you get full pay, speak to one of our specialists about maximising your claim.
Floating charge holders
This is a form of security taken over assets that are not fixed, such as a charge over a company bank account. It’s often the case that a major funding provider, such as a bank, will take a fixed and floating charge to secure funding.
If a creditor has not taken any form of security then they will inevitably be unsecured creditors. All unsecured creditors rank equally. This is the case even if one has a judgement against the company and one doesn’t. Once secured and floating and preferential creditors and all costs are paid, the remaining pot of money is divided between the unsecured creditors equally.
Depending on the company and the number of creditors, it is unfortunately often the case that unsecured creditors will only receive a small amount, if anything, against their debt. It’s important that creditors minimise this as far as possible through careful planning. For some helpful tips on how to do this see: Top tips for creditors of an insolvent company.
An insolvency practitioner taking on the role of liquidator or administrator should be informed by the directors of all the creditors of the company. They may ask you to provide a proof of debt, or alternatively they may admit your debt from information they already have. They are entitled to reject your proof of debt too. At Harper James we have years of experience in liaising with insolvency practitioners on behalf of creditors to ensure they are fully entitled to all that they believe they should be. If you would like help with your claim as a creditor, speak to us as soon as possible once you are aware of the insolvency of a customer or other contact, and we can help guide you through the process.
Creditors are entitled to updates and information from the insolvency practitioner appointed, and may be able to form a creditors committee to ensure that the insolvency is overseen. How this works will depend on the form of insolvency the company is involved with.
Taking insolvency proceedings as a creditor
If you are owed money and are unable to recover this through your usual debt recovery methods, then it is possible for you, as a creditor, to take formal insolvency proceedings against a debtor company. This might involve putting a company into compulsory liquidation, or administration.
Note that even if you are the creditor that puts a company into insolvency, this does not place you higher up the priority order for repayment (although you are entitled to the costs of the process back). However, this is often a necessary tactic used by creditors who are continuously ignored by a company that owes them money. It has the advantage that the insolvency practitioner will investigate the conduct of the directors of the company. If you are owed money and are unable to recover it through your usual channels, speak to one of our team about the options open to you.
We can help
If you are a creditor of a company who you suspect is insolvent, or you have been notified is in formal insolvency, we can help. In addition, if you would like some advice on how to protect yourself as a creditor before providing credit or supplies to a customer, then speak with one of our insolvency solicitors today.