Like any business, when a registered charity becomes insolvent, something has to be done. With commercial enterprises, there are formal creditor agreements and other rescue options that can be used to try and save them.
However, in the case of charitable organisations, a rescue will not usually be possible. Instead, they have to consider how to liquidate their organisation.
What’s Process of Liquidating a Registered Charity
The process used to liquidate a registered charity depends on the charity’s structure. There are a number of different legal structures that can be used for charities in the UK. That includes incorporated structures, which are set up in a similar way to limited companies, and unincorporated organisations such as societies and sports clubs.
As is the case with the liquidation of commercial enterprises, the interests of the charity’s creditors must be maximised. Investigations will also be carried out by the Insolvency Service into the running of the charity and trustees who have acted in breach of their legal duties could be held personally liable for any subsequent loss the charity has incurred.
When is a Charity Insolvent?
There are two separate tests for insolvency. They are:
- The charity cannot pay its debts as they fall due for payment;
- The value of its liabilities exceeds the value of its assets.
If the charity fails either of these tests then that is an indication of insolvency. There are also a number of other indicators that a charity could be at risk. That includes things like:
- Reserves regularly have to be spent because income is not enough to meet the charity’s commitments;
- There’s a need to provide additional security for long-term borrowings;
- There’s increasing pressure from creditors chasing overdue payments;
- The charity relies on cash from restricted funds to finance its day-to-day needs;
- There’s no adequate financial reporting in place;
- The charity has reached the limit of its borrowing facilities;
- The charity has significant contingent liabilities.
If the charity’s trustees or directors believe it could be insolvent, they should contact their accountant or speak to an insolvency practitioner or other professional advisers to discuss the options available to them immediately. They should also take careful note of the advice they are given.
The Liquidation Process for Charities
- Charitable Companies Limited by Guarantee
This is the structure most like that of a limited company as the charity is registered at Companies House, is run by directors (trustees), is limited by guarantee and has members that help to determine its aims and fundraising objectives. Unlike a limited company, any profits the charity makes are put towards its stated purpose rather than being distributed to members. Unless there’s any evidence of misconduct or mismanagement, the liability of trustees and members on the liquidation of the registered charity is limited to the value of the original guarantee.
If this type of charity becomes insolvent then the liquidation processes that can be used, namely a Creditors’ Voluntary Liquidation (CVL) and compulsory liquidation, are the same as in the insolvency of a limited company. In both cases, a registered insolvency practitioner will take over control of the company, realise its assets and distribute the funds to its creditors. Any staff will be made redundant and the charity will be removed from the register at Companies House and will cease to exist.
- Charitable Incorporated Organisations (CIOs)
This is another incorporated charity structure, but in this case, the charity is not registered at Companies House. The same insolvent liquidation procedures can be used as described above, although there are some small modifications. The charity’s assets will be sold and distributed to its creditors and in almost all cases the members will be protected from any personal liability for its debts.
- Charitable Trusts
Charitable Trusts are unincorporated bodies and as such, the trustees who conduct their operations are also responsible for the charity’s debts if it becomes insolvent. The procedure for winding up a Charitable Trust will usually be included in the trust deeds. That will provide guidance on the winding up of the trust and dictate how any funds should be distributed. All debts and liabilities will need to be cleared before they can be put towards the charity’s objectives or given to some other charitable trust.
- Unincorporated Associations
This type of charity structure is not unincorporated and so does not have a legal identity which is separate to its members. Formal liquidation procedures are not available for unincorporated associations and if they do become insolvent, its members could be held personally liable for its debts.
Concerned your Registered Charity is Insolvent?
If you’re worried your charity is declining then whatever its structure, we can provide confidential, no-obligation advice about the next steps to take and your duties as a charity member, director or trustee. To find out more, please get in touch with our team.