Voluntary Liquidation vs. Compulsory Liquidation

What is the Difference Between Voluntary Liquidation and Compulsory Liquidation ?

Voluntary liquidation is a formal process to close a limited company that is initiated by the company’s directors or shareholders. Compulsory liquidation is a type of company closure that is initiated by a creditor, or by the court.

What are the Different Types of Voluntary Liquidation?

The two main types of voluntary liquidation are creditors’ voluntary liquidation (CVL) and members’ voluntary liquidation (MVL). In a voluntary liquidation, the company’s directors are still in control of the process and have a say in how the assets of the company are distributed.

What Does a Creditors’ Voluntary Liquidation (CVL) Mean?

In a CVL, the company is unable to pay its debts, and the assets are sold and distributed among the creditors in order of priority.

What Does a Members’ Voluntary Liquidation (MVL) Mean?

In an MVL, the company must be solvent, and the assets are sold and distributed among the shareholders.

What Does Compulsory Liquidation Mean?

Compulsory liquidation is a process in which a company is “wound up” by the court, with, or without the permission of the shareholders. This is usually the case when a company is unable to pay its debts and there is no prospect of it being able to do so.

In contrast to voluntary liquidation, compulsory liquidation includes a court-appointed liquidator (official receiver) who is tasked with taking control of the process and the assets of the company are distributed according to a set of rules laid out in the Insolvency Act 1986.

What are the Pros and Cons of Voluntary Liquidation?

Advantages of Voluntary Liquidation:

• Retain control: Directors retain control over the process and the distribution of assets.
• Flexibility: Voluntary liquidation provides flexibility as the company’s directors can choose between a creditors’ voluntary liquidation or a members’ voluntary liquidation, depending on the company’s financial situation.
• Assets distribution: In a members’ voluntary liquidation, the assets can be distributed among the shareholders, which may be beneficial to the shareholders.
• Avoid compulsory liquidation: If the company is facing financial difficulties, voluntary liquidation can be used to avoid compulsory liquidation.

Disadvantages of Voluntary Liquidation:

• Cost: Voluntary liquidation typically costs several thousand pounds as the company must pay the liquidator’s fees.
• Creditor dissatisfaction: Creditors may be dissatisfied with the distribution of assets, particularly in a creditors’ voluntary liquidation, where the company is unable to pay its debts.
• Personal liability: Directors may be held liable for wrongful trading or misfeasance if the company is insolvent and they do not take steps to minimize their personal liabilities.
• Limited options: Voluntary liquidation may not be the best option for the company, and other options such as restructuring or refinancing may be more suitable for the company’s situation.

What are the Pros and Cons of Compulsory Liquidation?

Advantages of Compulsory Liquidation:

• Fair distribution of assets: In compulsory liquidation, the assets are distributed among the creditors in accordance with the rules laid out in the Insolvency Act 1986, which is fair for the creditors and ensures that the assets are distributed in a priority order.
• Creditor protection: Compulsory liquidation provides protection for the creditors by ensuring that their claims are paid off in accordance with the rules laid out in the Insolvency Act 1986.
• Legal process: Compulsory liquidation is a legal process that is overseen by the court, which ensures that the process is carried out in accordance with the law.

Disadvantages of Compulsory Liquidation:

• Loss of control: The company’s directors lose control over the process and the distribution of assets, as the official receiver appointed by the court takes control of the process.
• Personal liability: Directors may be held liable for wrongful trading or misfeasance, which can lead to personal liability.
• Public record: Compulsory liquidation is a matter of public record, which can damage the company’s reputation.

What Does Voluntary Liquidation Mean for the Directors?

Whether you decide to enter a CVL, or an MVL, in both cases, the directors will be required to work with the liquidator to ensure that the assets of the company are distributed in accordance with the rules laid out in the Insolvency Act 1986.

What Does Compulsory Liquidation Mean for the Directors?

In a compulsory liquidation, the court appoints an official receiver who takes control of the process and the company’s directors will have no control over the process. You will be required to cooperate fully with the official receiver by law.

3 Reasons Directors Should Understand the Differences Between Voluntary Liquidation and Compulsory Liquidation

1. Firstly, the processes are all very different and have different purposes, which will include different formats of involvement for yourself (as a director), and different types of information that may be required.
2. Secondly, the outcome for each of these formal procedures will generate a completely different result for your company, the company’s creditors and you as a director.
3. Thirdly, the responsibilities and liabilities of the company’s directors also vary depending on the procedure.

It is essential for company directors to understand the differences so that they can make an informed decision about the best course of action for their company and creditors (if applicable).

When is Voluntary Liquidation Appropriate

Voluntary liquidation is typically appropriate when the company is facing financial difficulties but still has some assets that can be sold to pay off its creditors, or when the company is solvent but the shareholders wish to close it down and distribute its assets among themselves.

When is Compulsory Liquidation Necessary?

Compulsory liquidation is necessary when a company is unable to pay its debts and there is no prospect of it being able to do so. This is typically the case when the company has no assets that can be sold to pay off its creditors.

6 Things Directors Should Avoid if They are Considering Voluntary Liquidation.

1. Failing to seek professional advice: Before choosing voluntary liquidation, it is essential for directors to seek professional advice from a licensed insolvency practitioner. An insolvency practitioner can evaluate the specific situation of the company and provide guidance on the most appropriate course of action.
2. Not considering all options: Directors should consider all options available to them before choosing voluntary liquidation, such as restructuring, refinancing, or administration. These options may be more suitable for the company’s situation, rather than liquidation.
3. Not complying with legal requirements: Directors must comply with the legal requirements associated with voluntary liquidation, such as holding a meeting of creditors and shareholders and appointing a licensed liquidator.
4. Not informing creditors and shareholders: Directors must inform creditors and shareholders of their decision to enter into voluntary liquidation and the reasons for it. Failing to do so may lead to dissatisfaction among stakeholders and could result in legal action.
5. Not keeping accurate records: Directors must maintain accurate records throughout the liquidation process, including financial records, minutes of meetings and any correspondence. These records will be required to be produced to the liquidator and the Official Receiver if required.
6. Not cooperating with the liquidator: Directors must cooperate with the liquidator throughout the process, and provide any information or documents requested by the liquidator. Failure to do so can result in delays and additional costs.

3 Things Directors Should Consider When Avoiding Further Challenges in Compulsory Liquidation

Aside from the above list for items to focus on when considering a voluntary liquidation, when faced with compulsory liquidation directors should address the three following things:

1. Cooperate with the official receiver: Directors must cooperate with the official receiver throughout the process, and provide any information or documents requested by the official receiver. Failure to do so can result in delays and additional costs.
2. Understand the potential personal liabilities: Directors should be aware that in a compulsory liquidation, they may be held liable for wrongful trading or misfeasance. It is essential for directors to understand and take steps to minimize their personal liabilities.
3. Protect the company assets: Directors should take steps to protect the company assets from being dissipated before the liquidation

How Does the Role of the Licensed Insolvency Practitioner Differ in Voluntary and Compulsory Liquidation in the UK?

In a voluntary liquidation, an insolvency practitioner is typically appointed as the liquidator by the company’s directors or shareholders. The liquidator is responsible for collecting and selling the company’s assets, and using the proceeds to pay off the company’s creditors.

In a compulsory liquidation, an insolvency practitioner is typically appointed as the official receiver by the court. The official receiver is responsible for collecting and selling the company’s assets, and using the proceeds to pay off the company’s creditors.

In both cases, the insolvency practitioner must be a licensed insolvency practitioner and must comply with their code of ethics. The insolvency practitioner’s role is to act in the best interest of the creditors (where applicable) and to ensure that the liquidation is carried out in accordance with the law.

When Should Limited Company Directors Seek Professional Advice on Voluntary and Compulsory Liquidation in the UK?

In either case, directors should seek professional advice from a licensed insolvency practitioner as soon as they become aware that their company is facing financial difficulties.

It is also advisable for directors to seek professional advice before making a decision to enter into voluntary liquidation, as an insolvency practitioner can advise on the legal requirements and the potential outcomes for the company’s creditors and shareholders.

In the case of compulsory liquidation, the process is initiated by a creditor or the court, therefore, directors may not have much time to seek professional advice. However, it’s advisable for them to seek professional advice as soon as they become aware of the process, again, in order to understand the legal requirements, their responsibilities and potential liabilities.

Summary

In summary, voluntary liquidation is a formal process to close a limited company that is initiated by the company’s directors or shareholders.

Compulsory liquidation is a type of company closure that is initiated by a creditor, or by the court.

The main types of voluntary liquidation are creditors’ voluntary liquidation (CVL) and members’ voluntary liquidation (MVL).

In a CVL, the company is unable to pay its debts, and the assets are sold and distributed among the creditors in order of priority.

In an MVL, the company must be solvent, and the assets are sold and distributed among the shareholders.