Can a Company Trade Whilst Insolvent in England?

As a company director, you may find your business facing financial difficulties. You might think your company is unable to meet its current liabilities in the near future, or you predict that your company cannot meet its liabilities. It can be challenging to know at what point you should stop trading. To help, this article will first explain some key terms before explaining when you must quit trading, as well as the risks of continuing to trade whilst insolvent. It will also briefly explain the insolvency procedure you will need to initiate. 

Key Terms Explained 

Insolvency 

Insolvency is defined in one of two ways. Either your company:

• is unable to pay debts — such as when one of your company’s creditors has served your company with a “statutory demand” (a formal request to settle your company’s debts) and you have not taken the appropriate steps within 21 days; or
• your company fails the cash flow and balance sheet insolvency test — where, given all the circumstances, your assets cannot reasonably cover your liabilities, including future liabilities.

Liquidation vs Administration 

Liquidation

The process of liquidation, also called “winding up”, is the nuclear option. This is where either the court or the company itself appoints a liquidator to sell off the company’s assets to pay the creditors in the order of priority. Afterwards, the company ceases to exist. 

Administration

Administration is another main rescue proceeding. The aim is to ensure that either:

• the company itself can continue “as a going concern” (i.e. come out the other side and continue to meet its financial obligations); or, if that is not possible, 
• coordinate with the creditors to reach a resolution that meets their objectives by selling off the company’s assets. 

It is an alternative to liquidation. 

Insolvency Practitioners 

Liquidators and Administrators will be a qualified insolvency practitioner. They are a specially appointed professional who assumes control of the company’s assets. Either the company, the court, or certain creditors can appoint the liquidator/administrator. 

The job of this professional is to ensure creditors receive payment according to insolvency rules. In general, this gives secured creditors the first rights of repayment after a company’s assets have been sold. Secured creditors are those that have the rights to sell your company’s assets to pay off its debts. 

Other Rescue Proceedings

You should note that administration is only available for companies that are actually insolvent (with one exception that is beyond the scope of this article). There are other rescue proceedings available to companies before they are insolvent. Many of these alternatives allow company directors themselves to initiate and manage these proceedings. 

Importantly, it is vital to seek advice as soon as you think your company is facing financial difficulties. Indeed, there are processes available to rescue companies in difficulty before you need to wind yours up.

When Must My Company Quit Trading?

The short answer is that you should seek advice when you think your company is in financial difficulty.  

The law surrounding insolvency and restructuring is complex and highly fact-dependent. This makes it difficult to generalise. However, insolvency practitioners and lawyers specialising in insolvency and restructuring can review your financial accounts and essential contracts to determine if you can continue trading. 

As a company director, you can permit your business to continue trading, even if you recognise it is facing difficulty. However, be aware of the consequences surrounding this decision.

What To Do If Your Company is Trading While Insolvent

There are a number of steps that you can take to demonstrate that you acted in the best interest of the creditors. By doing so, you can avoid director disqualification or liability for a civil offence or a criminal offence. 

For example, your company could take steps such as trying:

• a company voluntary arrangement;
• administration;
• a creditors voluntary arrangement; and
• time to pay arrangements.

On top of this, it is also usually a good idea to seek advice from an insolvency specialist. An insolvency specialist is likely to tell you to avoid certain actions, such as: 

• using company money to fund personal expenses;
• paying yourself an unreasonably high salary;
• trying to exclude certain company assets from an insolvency calculation.

As a result, if your company is insolvent or on the verge of insolvency, it is a good idea to not trade for the profit of your business. This is because your primary obligation will be to the creditors of your business.

Liabilities When Continuing to Trade 

Note that you can be liable for wrongful trading if the liquidator/administrator concludes that either:

• you actually knew the company was facing insolvency; or 
• you should have known the company was at risk of insolvency. 

Therefore, you could be liable without actually knowing that the company was in difficulty. Importantly, the law will hold you to the objective standard of a reasonably competent company director. If the court reaches this conclusion, the administrator/liquidator may seek a declaration that you must contribute personally to the company’s assets to repay the company’s creditors. 

Likewise, if the court grants such an order, you will be personally liable for some of the company’s debts on the basis that you breached your duties as a director. 

Finally, if you are found liable for wrongful trading, you can receive a disqualification from being a director for up to 15 years from the date of the order. 

Fraudulent Trading 

In essence, fraudulent trading is where directors (and certain other third parties) act in a way that constitutes wrongful trading. Notably, there is an additional element of intending to mislead or defraud its creditors. 

Protecting Yourself as a Director

Seek Advice

The law imposes severe liabilities on directors when continuing to trade despite being at risk of insolvency. 

As such, the best thing to do is seek advice as soon as you think your company is at risk. You can minimise reputational damage to your company and yourself, as well as ensure you will not be held personally liable for your company’s debts in the event of its insolvency. 

Manage Accounts 

You should always know your company’s financial position, including at what point your company’s obligations to its creditors are due. This will help you stay on top of your obligations and ensure you can see any risk of financial difficulty well in advance. 

Understand the Terms of All Loans

When you take out loans, the terms of the loan may contain certain covenants. Covenants are obligations on your company not to do certain things like borrowing more money. Covenants can also be positive. This means that you must do something, like make your accounts available to your lenders. 

Lenders can initiate insolvency or restructuring proceedings if you breach your covenants. Therefore, know what the covenants say and abide by them. 

Properly Record Directors’ Meetings

Though you should always try and take adequate minutes of your board meetings, if your company is in financial peril, it is vital that you record the decisions that you and the other directors are making. 

Key Takeaways 

Continuing to trade under the suspicion that your company may be insolvent carries substantial financial and reputational risk. Therefore, it is vital to seek advice from the moment that you feel your company may be in financial difficulty. If your company is held liable for continuing to trade whilst insolvent, you may have to repay your company’s creditors personally. Likewise, you may receive a disqualification from being a director in the future. 

If you need help navigating your company’s financial difficulty, our experienced corporate lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us today at 0808 196 8584 or visit our membership page.

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