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31st October 2018

Insolvency law in a Brexit environment – the dangers of winding back the winding up clock

31st October 2018

Insolvency law in a Brexit environment – the dangers of winding back the winding up clock

Mike Pavitt

Posted: 31st October 2018

T: 023 8048 2275

E: Email Me

In my capacity as Southern Region Chair of R3 (the trade association for insolvency, restructuring, advisory and turnaround professionals), I often comment on financial news stories affecting the wider economy, particularly following a new Budget. On this occasion, however, following some of the less headline-grabbing of the Chancellor’s pronouncements this Monday, my concern relates chiefly to upcoming legal changes and to the interests of the sort of grass roots businesses, suppliers and lenders I advise on a daily basis as a partner in a busy commercial law firm.

The economic backdrop

We all know and understand that we live in relatively uncertain times. Uncertainty can of course be an opportunity as well as a threat to business, but it is certainly taking scalps in 2018. According to Reuters, the number of insolvent UK firms is rising at its fastest pace since 2009, showing a 19.3 percent annual rise in business insolvencies between 2017 and 2018, and a 9 percent rise between July and September. The increase, to well over 4,000 insolvent businesses in Q3 2018 (the highest in one quarter since Q1 2014), is reflected mostly in a growing number of creditors’ voluntary liquidations (when shareholders’ resolve that a company has no future and to appoint a liquidator, and creditors supervise the process: also known as ‘winding up’). I have seen an element of this myself in a growing number of contacts seeking assistance with insolvency-related legal issues and/or recommendations for the sort of specific financial options advice which only qualified insolvency practitioner accountants are fully equipped to provide.

Leading commentators ascribe a proportion of these rising failures to higher business rates (in which connection the Chancellor’s announcement in his Budget this week was really shutting the door after the horse had bolted), to the knock on effect of numerous household name insolvencies this year and even to traffic congestion, but all acknowledge that a big part of the problem is the backdrop of continuing uncertainty about Brexit. Many large businesses have – understandably – been delaying putting their longer term plans into action and sitting on cash reserves and orders which would ordinarily have been sustaining a multitude of smaller businesses. The extent to which these effects will be ameliorated by the Chancellor’s handouts are unknown, but what is clear is that there are a large number of businesses in England and Wales which have suffered this year and which are beyond rescue in their current form at this point.

Unexpected legal changes on the horizon

Quite apart from the economic impact of Brexit generally, closer to home I am naturally concerned for clients and potential clients whose exposures to business partners entering into an kind of formal insolvency procedure may be exacerbated by changes in the law. In this regard, two aspects of the Chancellor’s announcements on Monday merit closer inspection.

The first is the government’s stated intention to bring forward legislation for a 60 day ‘breathing space’ for private individuals in debt – who often of course guarantee smaller scale corporate borrowing – albeit very likely under some fairly stringent criteria, and for a statutory debt repayment plan. 60 days is considerably longer than most debt experts were advising was appropriate, whilst the case for statutory debt repayment plans has not really been made out at all. The additional delay which either or both reforms might bring to creditors seeking to recover from individuals might mean the difference between cash flow solvency and insolvency for many companies.

The second – and potentially much more damaging – announcement from the Chancellor which concerns me, is the government’s intention to wind the clock back 20 years or so and to reinstate at least a level of Crown preference for certain tax liabilities in insolvency, essentially allowing HMRC to steal a march on everyone else and pushing ordinary creditors well down the queue for a dividend payout from an insolvent business.

I first came into the legal profession in 1997, 5 years prior to the Enterprise Act 2002 which effectively abolished Crown preference – for very good reasons. For creditors these were the dark ages in terms of visibility on risk, and this was no good for borrowers either since uncertainty in business has always translated into cost.

The detail is still rather sketchy at this time, and I for one hope that this notion never makes it back onto the statute books, but if the government has its way it could be with us as early as 2020. Given that lenders, trading partners and insurers – who can have no possible visibility on the future size of likely tax liabilities of those they are doing business with – will be taking business credit decisions now in anticipation of possible defaults well into the future, these ‘reforms’ could start having an immediate effect.

For me, this is a huge retrograde misstep which will not enhance overall tax revenues and one which needs to be reversed urgently. Brexit uncertainty is bad enough without scoring unnecessary own goals.

Steady as she goes

In the meantime, my advice to businesses remains that we need to plan – naturally at a level which is proportionate to the scale and type of business we are in – for every Brexit eventuality. Clearly all business decisions involve a certain amount of crystal ball gazing, and predicting and reacting to changes to the law is a part of that process. I am certainly not recommending that we all put up the shutters to ride out the storm, but what I would say is that we need to keep a careful record of why we are taking certain decisions and what risks we took into account beforehand.

If in doubt, professional advice can help you to assess and manage those risks, and stand as a long-term and unbiased record that you considered them. It will usually play out much better for directors and owners in the future, should things not go to plan, if they can produce some sort of contemporaneous documents (whether or not professionals have been involved) which demonstrate that these decisions were taken objectively and reasonably.

In this way, so long as they operate within the law (do not continue to trade when they shouldn’t, prefer themselves or others as creditors, pay themselves dividends when there was no profit available, only part with assets for full demonstrable value and in the interests of the company, etc), the decision takers should be absolved of responsibility (to the Crown or other creditors) for any liabilities (other than those they’ve agreed to, e.g. by personal guarantee/ indemnity) left in a business if and when it should fail.

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Mike Pavitt

Posted: 31st October 2018

T: 023 8048 2275

E: Email Me