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Myths surrounding business debt and insolvency

Ask a group of random people what happens if you’re struggling with business debt, and you’ll likely get a range of answers. Unfortunately, there are many myths surrounding business debt and insolvency. So, if you are struggling with debts that threaten your company’s future, it’s essential you differentiate fact from fiction, or you could find yourself in even worse trouble if you end up believing the latter. Below, we dispel some of the myths surrounding business debt and insolvency, what the truth actually is, and what, if anything, you can do to combat the problem.

You’ll lose your home and belongings

It’s easy to fall down the rabbit hole of worry, thinking about bailiffs showing up at your front door, barging in, and taking all your belongings. If the debts are of such a level, you might feel even your home itself isn’t safe from repossession.

The good news is, if you’ve incorporated the business in a limited company, then the debts will stay confined to that limited company thanks to its inbuilt limited liability protection. This protection separates your business’ debts and finances from your own personal finances. This separation means that unless you’ve personally guaranteed any finance or loan arrangements, your personal finances and assets (your home, vehicles, etc.) are protected.

You can go to prison for unpaid debts

While you may have heard of Victorian debtors’ prisons, in Britain, these are thankfully confined to the history books. While the UK’s county courts deal with debts and judgments, being in debt is not a criminal offense in itself, and despite what certain creditors may threaten, the police rarely get involved in debt-related matters.

Bankruptcy is the company’s only option

Once a company’s debts become unaffordable, or there’s no obvious way out, you may instantly assume your company will end up going ‘bankrupt.’ This isn’t the case. In the UK, bankruptcy only applies to individuals and not companies. If a company were to close due to unpayable debts, it would enter a liquidation process.

Insolvency means the end of a company

Name differences aside, finding your company is in debt doesn’t mean it has to close by default.

While insolvency and company closure often go hand in hand, they aren’t necessarily exclusive, and not all insolvent companies go into liquidation. Many companies enter insolvency via other processes and come out the other side. Whether these options are available will depend on the severity of the company’s debts. Circumstances permitting, your business could continue operations while paying back its debts or even restart in a new limited company.

Directors of insolvent companies can’t set up new ones

While being a director of an insolvent company isn’t necessarily something to shout about, a director in that position isn’t automatically blocked from setting up a new company.

For example, suppose there’s no evidence of directorial wrongdoing or failures once the liquidation is complete. (The company becoming insolvent isn’t automatic criteria for directorial wrongdoing or a sign you’ve failed your duties as director). If this is the case, the directors can choose to continue the business in a new limited company. While you may be able to buy back the old company’s assets at market value, rules exist regarding reusing the company’s name or similar sounding names.

What can a director do if the company is insolvent?

If directors act quickly and decisively, they may be able to keep the company from closing if it’s the best course of action. The company’s exact circumstances will go some way towards determining which debt-relief option is the most appropriate.

If closure is the only viable option, you can choose to voluntarily enter liquidation via a ‘Creditors Voluntary Liquidation’ (CVL); a closure process for insolvent companies. During the process, the insolvent company ceases trading, removing existing creditor pressure and preventing further legal action. Any staff is laid off, allowing them to claim redundancy from the redundancy payments office and claim unpaid wages.

One of the most popular insolvency relief options for UK-based companies is paying the unsecured portion of their debts off in affordable, monthly installments. This may be feasible if the company has the potential to be profitable without its unsecured debts. You can do so by applying for a Company Voluntary Arrangement (CVA). These are formal arrangements between the company and its unsecured creditors, including contractors, customers, and suppliers, where you repay an agreed, affordable amount on a monthly basis, usually over a period of five years. The company continues trading for the arrangement’s duration. Once it concludes, the remaining unsecured debts are written off. These arrangements require approval from a portion of the creditors by the value of the company’s debts before they come into force.

If directors don’t act early enough or choose to ignore the debt, their creditors can force the company into compulsory liquidation by applying for a winding-up petition. That said, compulsory liquidation is seldom the first option a creditor will use to recover what the company owes them. It is more of a last resort when other debt-relief options have been explored, failed, or ignored.

Summary

Those listed above are some of the myths surrounding business debt and insolvency. Losing your personal assets and belongings is unlikely unless personal guarantees are involved. Being in debt is not a criminal offense, so you won’t go to prison solely for running an insolvent business. Bankruptcy doesn’t apply to UK-based companies, and insolvency doesn’t automatically mean the business has to close its doors. If the best way forward is to close the insolvent company, then as long as no wrongdoing has been committed, the directors can start a new limited company and continue the business. If the company could survive and be profitable were it not for its debts, other recovery options may be available. Which of these solutions is most appropriate depends on the business’ circumstances, including the volume of its debts.

Whatever you do, if your company is stuck with debts that are pushing it into an insolvent state, you should never ignore it. Burying your head in the sand and hoping it will all go away only worsens the problem. Take decisive action as soon as possible and limit the damage.