Customer Insolvency in the UK: What to Do When a Client Can’t Pay

When a major customer or client becomes insolvent, the immediate concern for your business is the potential impact on cash flow and outstanding invoices.

This situation can be stressful, as it threatens the financial stability of your company. However, there are clear steps you can take to protect your interests and mitigate the risks.

This guide will clarify the necessary actions, from confirming insolvency status to registering as a creditor. By following these steps, you can confidently navigate this challenging scenario and safeguard your business’s future. Let’s delve into the practical measures you should consider.

Understanding the Basics of Customer Insolvency

Under UK law, insolvency occurs when a company can no longer pay its debts as they fall due or when its liabilities exceed its assets. This state of financial distress can have significant repercussions for businesses owed money, as it often leads to formal insolvency procedures like liquidation, administration, or Company Voluntary Arrangements (CVAs).

• Liquidation: This process involves winding up the company, selling its assets, and distributing the proceeds to creditors. It is typically the end of a business’s life.  
  
• Administration: Aimed at rescuing the company or achieving a better outcome for creditors than liquidation, administration provides a legal moratorium against creditor actions while an appointed administrator assesses options.  
  
• Company Voluntary Arrangement (CVA): This agreement between the insolvent company and its creditors allows the business to continue trading while repaying debts over time.

It’s crucial to distinguish between a company that is merely struggling financially and a formally insolvent one. A struggling business may still manage its debts with restructuring or refinancing, whereas a formally insolvent company must enter one of these structured processes. Understanding these distinctions helps you navigate your rights and potential recoveries as a creditor.

Assessing Your Financial Exposure

Assessing your financial exposure is crucial to managing the financial risk of an insolvent customer. Start by summarising all outstanding invoices, including due dates and payment terms. This helps you understand the total amount owed and its potential impact on your cash flow.

Consider the worst-case scenario, especially if the insolvent customer represents a significant portion of your revenue. If their insolvency could disrupt your operations, it’s vital to prepare. Key factors to consider include:

• Total Amount Owed: Calculate the sum of all unpaid invoices.  
  
• Payment Terms: Review the agreed payment terms to identify overdue amounts.  
  
• Revenue Dependency: Determine what percentage of your revenue comes from this client.  
  
• Cash Flow Impact: Assess how the lack of payment might affect your ability to meet your own financial obligations.

Understanding these factors helps you gauge the severity of the situation and plan accordingly. This proactive approach enables informed decisions about prioritising payments and seeking alternative revenue streams if necessary.

Confirm the Customer’s Insolvency Status

Confirming a customer’s insolvency status is crucial to protect your business interests. Start by checking official insolvency registers like The Gazette, where all formal insolvency notices are published. This provides the most up-to-date information on any insolvency proceedings involving your client.

Next, visit Companies House to verify if an insolvency practitioner has been appointed. This step confirms the formal status of the insolvency and identifies the practitioner managing the process. You can also contact the appointed insolvency practitioner directly to clarify the situation and your position as a creditor.

While these checks are underway, exercise caution with further deliveries or services to the client. Supplying goods or services without confirming their insolvency status could expose your business to additional financial risk.

Here’s a quick checklist to confirm a customer’s insolvency status:

• Check The Gazette: Look for official insolvency notices.  
• Visit Companies House: Verify appointment of an insolvency practitioner.  
• Contact the Insolvency Practitioner: Confirm details and your creditor status.  
• Pause Further Deliveries/Services: Until status is verified, avoid additional exposure.

Taking these steps promptly will help safeguard your business and allow you to make informed decisions about proceeding with outstanding debts.

Register as a Creditor and Submit Proof of Debt

Once you’ve confirmed that your customer or client is insolvent, it’s crucial to register as a creditor to protect your interests. This involves formally submitting a proof of debt to the appointed Insolvency Practitioner (IP). Here’s how you can navigate this process:

1. Obtain the Creditor Claim Form: Contact the IP handling the insolvency to request the necessary creditor claim form. This form is essential for registering your claim.  
   
2. Complete the Form: Fill out the form with accurate details, including your name, contact information, and the total amount owed. Attach supporting documentation such as invoices, contracts, or agreements substantiating your claim.  
   
3. Submit Proof of Debt: Send the completed form and all relevant documents to the IP by the specified deadline. Missing this deadline could jeopardise your claim.
     
4. Track Updates: Keep in regular contact with the IP to stay informed about the progress of the insolvency proceedings. They are responsible for distributing any available funds according to legal priorities.

Following these steps ensures your claim is officially recognised, allowing you to recover some of your debts. Always act promptly and consider seeking professional advice if you’re uncertain about this process.

Priorities in Liquidation and Potential Recoveries

When a company enters liquidation, creditors are paid according to a strict hierarchy. Secured creditors, who hold security over the company’s assets, are at the top of this list. They are typically paid first because their loans or credit are backed by specific assets, reducing their risk. Following them are preferential creditors, which include particular employee claims and, since December 2020, HMRC for VAT and PAYE debts.

Trade creditors, often classified as unsecured creditors, are lower in the pecking order. This means they are only paid after secured and preferential creditors have been satisfied. Unfortunately, in many cases, the remaining assets are insufficient to cover unsecured debts, resulting in little to no recovery for trade creditors.

Businesses must manage expectations regarding potential recoveries. The liquidation process can be lengthy, sometimes taking several months or even years to conclude. During this time, distributions to unsecured creditors may be minimal or non-existent. Understanding this hierarchy and the likely outcomes can help businesses plan accordingly and seek alternative ways to mitigate financial risks associated with client insolvency.

Mitigating Future Risks

Implementing proactive measures is crucial to safeguard your business from the financial fallout of customer insolvency. Begin by conducting thorough credit checks on potential clients. This step helps assess their financial health and reduces the risk of engaging with those who may struggle to meet payment obligations. Utilising services like Experian or Equifax can provide valuable insights into a client’s creditworthiness.

Consider trade credit insurance as another layer of protection. This insurance covers unpaid invoices if a client becomes insolvent, ensuring a stable cash flow. It’s particularly beneficial for businesses heavily reliant on a few key clients.

Diversifying your client base is also essential. Relying too heavily on one major account can be risky, so spreading your business across multiple clients reduces the impact if one defaults. Aim to have no single client contributing more than 20% of your revenue.

Updating your terms and conditions to include retention of title clauses can further protect your interests. These clauses ensure that ownership of goods remains with you until full payment is received, allowing you to reclaim goods if a client becomes insolvent before settling their invoice.

By integrating these strategies, you can significantly mitigate the risks associated with customer insolvency, ensuring your business remains resilient in challenging times.

When to Seek Professional Advice

Seeking professional advice is crucial when your business faces significant financial exposure due to a client’s insolvency. Consulting an insolvency practitioner or financial advisor can be invaluable if large sums are owed or insolvency threatens your company’s solvency. These professionals can guide you on navigating the complex legal landscape and help you understand your rights and obligations.

Timely action is essential to prevent potential liabilities such as wrongful trading. Wrongful trading occurs when a company continues to trade despite knowing it cannot avoid insolvency, potentially leading to personal liability for directors. An insolvency practitioner can assess your situation and advise on the best action to minimise risks.

Moreover, if the insolvent client forms a substantial part of your revenue, expert advice can help you strategise on managing cash flow and restructuring your business operations. This might involve diversifying your client base or renegotiating terms with other suppliers and creditors.

If a customer or client’s insolvency affects your business, our licensed insolvency practitioners and business rescue specialists can explain your rights, outline recovery options, and guide you on the best steps to protect your company. Call us free on 0800 074 6757 for confidential expert advice.

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