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Both individuals and companies can be described as ‘insolvent’ but, for individuals, bankruptcy is a more commonly used term.

Below, we’ll explore what insolvency means in detail. If you’re unsure of your situation, consider using our insolvency test. Or speak with one of our insolvency practitioners.

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Insolvency Guide

Insolvency Definition

Insolvency is a state of financial stress relating to persons or businesses who cannot pay their debts.

Under UK law, insolvency can be defined as when debts outweigh assets or if bills cannot be paid when due.

Those in a state of insolvency are said to be ‘insolvent’

Insolvent companies are responsible to creditors interests primarily, rather than shareholders.

Summary
– Insolvency can results from shifting market forces, problems with the cash-flow cycle, or increased expenses.
– Insolvency events in the UK must be handled by licensed insolvency practitioners
– Insolvency does not always mean the end of a company, rather debt restructuring can make debts manageable via repayment installments
– When a company cannot be rescued, liquidation is the process to close down an insolvent company with debts

Insolvency Tests

Known in accounting as the acid test or quick ratio, there are two simple forms of insolvency: cash-flow insolvency and balance-sheet insolvency

Of these two insolvency tests, the cash-flow test is probably the most important as you can have all the assets in the world, but if you cannot pay your bills on time you may find yourself insolvent.

A creditor (someone you owe money to) only needs to be owed £750+ to be able to force your company into liquidation by the use of a winding up petition

The definition of the inability to pay business debts is laid out in the Insolvency Act 1986, Section 123.

(1) The Balance- Sheet Test

Do your company’s debts outweigh its assets?

That’s the essential question posed by the balance sheet test. Simply list down all of your company’s assets in one column, and the contingent and prospective liabilities in another. If the value of the assets is lower than the liabilities, you are facing balance sheet insolvency (also called technical insolvency)

(2) The Cash-flow Test

Can your company pay its bills on time? That’s the simple question posed by the cash flow insolvency test.

This test accurately maps the amount of working capital or liquid assets you have available at any given time, comparing forecasted sales with payments that are due.

Since cash-flow insolvency is caused by a lack of liquidity, it can often be resolved by negotiation or payment by intallments.

If you’d rather use a simple tool that does both these things, you easily complete that process here .

What Happens When you go Into Insolvency?

Being insolvent doesn’t necessarily mean the end of your company, there are options for business debt restructuring, company rescue and business turnaround. Insolvency practitioners have a strong focus on rehabilitating a business so it can continue, rather than simply liquidating it.

For directors, speaking with an IP will help you understand your options, how to protect yourself from insolvent trading , accusations of wrongful trading and potentially being made personally liable for any company debts.

The goal of any insolvency is to realise the maximum return for the company’s creditors. To this end, the appointed insolvency practitioner’s (IP) have a number of tools and processes at their disposal which we explain later in this article.

If you’re concerned you won’t be able to afford the IP, you should be aware that most liquidations can be paid for from the realisation of corporate assets. Directors may also be eligible for redundancy payments.

Insolvency Register

Is there an insolvency register for individuals and companies in the UK.

For individuals there is a government run register here: https://www.gov.uk/search-bankruptcy-insolvency-register

For companies, you can check if a company is either being liquidated or is in provisional liquidation here: https://www.gov.uk/find-out-if-a-company-is-in-financial-trouble

How Does Insolvency Affect Company Directors?

As the director of a limited company you should understand how insolvency proceedings are going to affect you. Some processes are there to keep the company afloat so that it may live another day.

If the company is liquidated, your company will be closed, and struck off the register at Companies House. Any assets will be liquidated to pay off creditors.

As a director you will be free to become the director of another company and, assuming there’s no wrongful trading or misfeasance, the closure should not impact your personal finances.

Insolvency vs Bankruptcy

Bankruptcy only refers to personal debt and so would be incorrect terminology to use for company debt.

Insolvency is the correct term to refer to a limited company which has liabilities exceeding assets, or which cannot pay its bills when they fall due.

What are Insolvency Proceedings?

Insolvency Proceedings are the collective term for all of the official legal mechanisms of the Insolvency Regime, which include winding up, liquidation, company administration, receivership and, for individuals, bankruptcy.

Insolvency Practitioners

Often (but not always) accountants or solicitors, an insolvency practitioner (IP) is someone who is authorised to act on behalf of insolvent companies, or individuals.

It should be emphasised that IP’s are not simply figures who liquidate companies, but who will always seek to rescue the company if that is a viable proposition.

A structured debt management plan, known as a Company Voluntary Arrangement, represents a good chance to find permanent debt relief.

While the task is always to find the best deal possible for any company creditors, it may well be that processes such as administration, or a company voluntary arrangement, offer the best chance of doing so.

Insolvency Law

The key UK insolvency laws are:

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