By John Bell, chartered accountant and insolvency practitioner at Clarke Bell
Many companies today are reeling from recent economic factors. The pandemic has had a significant effect, compounded by the economic uncertainty caused by Brexit, along with other current events. Due to the heavy impact and persistence of these problems, it’s no surprise that many directors of struggling companies are thinking about winding up their businesses.
Though it might be clear for some that now is the right time to close a business, the best way to do so isn’t always so obvious. Liquidation is one of the most common methods of closing a company, often being the most cost-effective solution. However, liquidation is not a one-size-fits-all approach, and there are alternatives.
John Bell is director and founder of licensed insolvency practitioners Clarke Bell. Here he looks at company liquidations and the alternatives to ensure you can find the most cost-effective and practical method of closing your company.
What is company liquidation?
Liquidation is a formal process for closing a company. It is often a voluntary process, one used by directors looking to close their company for various reasons.
A Members’ Voluntary Liquidation (MVL) is often the ideal option for solvent companies – i.e. ones that have no debts / debts that can all be paid off. It ensures companies close in the most tax and cost-efficient way possible.
A Creditors’ Voluntary Liquidation (CVL) can be ideal for insolvent companies – i.e. ones that can’t pay off their debts. It allows directors to voluntarily liquidate their company, while upholding their obligations to creditors. However, if insolvent companies do not close via a CVL or take other action, they risk being forced into compulsory liquidation. This is the worst type of liquidation, stripping directors of any control and often ending in personal consequences for directors. As such, it should be avoided at all costs.
Though liquidation is a versatile option for closing a company, it isn’t always the best one. The situations of some companies aren’t right for any kind of liquidation, and so directors must seek out alternatives.
Three alternatives to company liquidation
While liquidation is often the best solution when closing a company down, it is not the only option available to directors. If liquidation doesn’t meet your business needs, for example if you have neither assets nor significant debts, you could consider these three alternatives:
A company strike-off, often referred to as a dissolution, is the most used alternative to liquidation. It is a voluntary process, where directors of solvent companies apply to Companies House to be removed from the register. Assuming a majority of directors agree with the strike-off, it can be initiated by filing a DS01 form. This can be done either online or with a paper form. If your company meets the criteria for a strike-off, the process can begin.
A company strike-off is the least expensive method of closing a company. A paper DS01 form will cost you £10, while an online application costs £8. For companies with too few assets to take advantage of the tax benefits provided by an MVL, a strike-off makes the most financial sense.
If you decide to close your company using a company strike-off, you must take care of your assets first. Assets and accounts still held in a struck-off company’s name will be transferred to the Crown. This is known as “bona vacantia” and can make an otherwise cost-effective process quite expensive.
If your company has any debts / is insolvent, it cannot use this process.
Company Voluntary Arrangement
If your company is struggling with debt, but you would prefer to continue operations than close, then a Company Voluntary Arrangement (CVA) could be the right solution. This option is available to companies with a viable business model that can trade positively and involves reaching a new agreement with creditors.
If the requisite proportion of company’s creditors agree on a CVA, the company can continue trading as usual while making monthly payments to creditors for an agreed-upon term. This prevents creditors from taking action against the company during this time, protecting it from a compulsory liquidation. A licensed insolvency practitioner will oversee repayments during this term ensuring the company in question keeps to the terms of the agreement.
Though a CVA could be an ideal solution for your company’s debt problems, it is difficult to gauge using other examples. Every business faces a different situation pertinent to them. The terms of your CVA will differ from another, depending entirely on your company’s finances. As such, you should carefully consider whether the terms of your CVA suit your situation or whether you would be better off pursuing another course of action.
A key problem for CVAs followed a decision taken in the budget in October 2018 that certain tax debts would be moved to preferential status (known as Crown Preference). This means that if a company wants to use the CVA process, their proposal would need to include the full payment of all employees’ National Insurance Contributions and VAT – before any unsecured creditors would receive anything. The only exception would be if HMRC voted to receive a reduced amount…which is unlikely.
So, what is the incentive for 75% of unsecured creditors to approve a proposal in which they will receive virtually nothing, because the Crown needs to be paid in full before they are?
And also, what is the incentive for the company directors when, by using the CVL or administration process, the company’s tax debts will be written off? And then, afterwards, they can start a new business.
As a result of this change, it is hard to see why a company with tax liabilities is going to want to place their company into a CVA instead of a CVL or administration. A CVA can still be advantageous in certain situations. However, these situations are relatively rare – as shown in the official insolvency statics for 2022: up to May there were 7,894 companies which went through the CVL process, compared to 49 which used the CVA process.
Administration is another alternative to liquidation that allows a company to continue trading in some form. This option is mostly concerned with rescuing a company and protecting it from creditors looking to recover their money. If it turns out that a company cannot be rescued, then the appointed insolvency practitioner will attempt to find a route other than liquidation to take. This might be an entirely new process, or they will liaise with existing creditors and organise repayments based on priority.
Administration is most often used to restructure a business or sell it. In many cases, a company entering administration will negotiate a sale beforehand, which is a process known as a pre-pack administration. This will result in the sale of the company and its assets to another company. Oftentimes, directors of a struggling company will use a pre-pack administration to create a new company with a viable business model then purchase some or all of the old one, transferring clients and employees in the process. While this can be an effective method of escaping debt, it tends to be viewed negatively by the public, and can result in legal issues if executed improperly.
Administration can be a suitable alternative for directors attempting to rescue a company with a viable core, or who want to find a better alternative than simply winding up. It can also be useful for companies that need more time to consider their options but want protection from creditors.
If you are considering administration, you should contact an insolvency practitioner and discuss your options thoroughly. With their professional advice, you may find a preferable alternative.