General Insolvency
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Generally there are three types of winding up:
| 1. |
Member's Voluntary Winding Up: |
This is where the company's shareholders expect all
creditors to be paid in full. Generally a rare device
which credit controllers do not often see. |
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| 2. |
Creditor's Voluntary Winding-Up: |
This is where the shareholders agree to wind up the
company but do not expect there to be sufficient funds
to pay the creditors in full. Credit Controllers will
be familiar with this. |
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| 3. |
Compulsory Winding-Up: |
This is a winding up ordered by the courts.
Credit Controllers will be familiar with this. |
To explain which procedures and processes are involved it
is best to describe voluntary liquidation and then move onto compulsory liquidation.
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SECTION ONE: VOLUNTARY LIQUIDATION
- Members Voluntary Liquidation
- What Is It?: This process is used to
wind up a solvent company. It is not very common and is used when
the business venture has reached its natural conclusion and perhaps
the company members take the view that whilst the business is
solvent it may be better to wind up the company sell its assets
rather than selling the share capital in the company.
- How Is It Done? Basically the
company directors make a declaration in terms of the Insolvency Act
1986 [known as a statutory declaration] 5 weeks prior to the passing
of a resolution to wind up the company. The declaration in effect
says that the directors are of the opinion that after investigating
the affairs of the company they believe the company will be able to
pay all its debts in full within 12 months of it being wound up. So
you, as a creditor, should be paid in full in this type of winding up.
- What Are the Critical Procedural Details?
- The Liquidation begins when the shareholders pass a Special
Resolution (for which 21 days notice is required)(75% majority)
to wind up the company in general meeting.
- Notice of Special Resolution is advertised 14 days prior to
the meeting - so you as a creditor should know about it.
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- Creditor's Voluntary Liquidation
- What Is It?
This type of liquidation is
probably far more familiar to you. Basically a company goes into
creditor's voluntary liquidation when it cannot pay its debts.
- How Is It Done?
- An Extra-ordinary Resolution (For which only 14 days notice
is required)-requiring 75% majority, is passed by the members
stating that by reason of the company's liabilities the company
should be wound up.
- Within 15 days of a copy of this resolution must be sent to
the Registrar of Companies.
- Within the next 14 days a meeting of creditors must be held.
You will know about the meeting because you will receive not less
than 7 days prior notice. Also the meeting will be advertised in
the Edinburgh Gazette and in a newspaper in the area where the
company has its principal place of business.
- What Happens at the Creditor's Meeting:
The Directors will have prepared a statement of affairs
which will be considered. The Directors may be asked questions about the
statement of affairs which should contain details of the assets and
liabilities position of the company, creditor's names and addresses and
details of any securities held by creditors (usually fixed and floating
charges).
- When is the Liquidator Appointed?
After the company have passed the extra-ordinary
resolution to wind up the company the members will appoint an `
insolvency practitioner to act as a temporary liquidator. The notice
of the meeting (referred to in 2) detail the temporary liquidator
from whom creditors can ask for information about the company together
with the names and addresses of all creditors.
- Can Creditors Change the Temporary Liquidator?
Yes. At the Creditor's Meeting the Creditors can make
their own appointment of a Liquidator in place of the temporary Liquidator.
- Can a Member's Voluntary Liquidation Become a Creditor's Voluntary?
Yes. If the Liquidator decides that the company
will be unable to pay its debts within 12 months he will call a
Meeting of Creditors and thereafter the Liquidation will become a
Creditor's Voluntary Liquidation from the date of the meeting.
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SECTION TWO: COMPULSORY LIQUIDATION
- Which Court has jurisdiction?:
The Sheriff Court of the company's
registered office provided the company had its
registered office within 6 months prior to the
winding-up [If the paid up share capital of the company
is ,120,000 or more the petition must be brought before
the Court of Session]
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- What Are the Grounds for a Compulsory Winding Up?
There are a number of grounds but as a
credit controller the most commonly come upon that the
company is unable to pay its debts.
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- How Will the Court Be Satisfied that the Company is Unable to Pay its Debts?
- Creditors have served by Sheriff Officers a written demand
at the company's registered office demanding ,1,500.00 or more
and within three weeks thereafter either no payment is made or
the company does not validly dispute the debt is due.
- The company fails to satisfy a decree 14 days after a Charge
has been served and the debt is ,1,500.00 or more.
- It is proved to the satisfaction of the court that the company
cannot pay its debts as and when they fall due [sometimes known as
the balance sheet test - not often used]
{Generally speaking credit controllers rely upon grounds 'i' and 'ii'}
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- What Are The Procedures Involved to Start the Liquidation Once the Petition Has Been Granted By the Court?
These are lengthy and detailed and governed by the Insolvency Act 1986 and The Insolvency (Scotland) Rules 1986. Very briefly they may be summarised as follows:-
- The petition must be advertised in the Edinburgh Gazette.
Notice of the making of a winding up order will appear on the
company's file in the Registrar of Companies. So a credit
controller will find this out after conducting a search.
- After the petition is presented to the court a Provisional
Liquidator may be appointed. (This is often sought in Scotland
and can have certain advantages) If no Provisional Liquidator is
appointed but instead a winding up order is made an Interim
Liquidator will be appointed. Both a Provisional Liquidator or
Interim Liquidator will be appointed. Both a Provisional Liquidator
or Interim Liquidator must notify the court of the appointment.
So again a credit controller will be able to find this out after
conducting a search.
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- What Does a Provisional Liquidator Do?
A Provisional Liquidator may be appointed
after the petition is presented to court. So it is possible for a
Provisional Liquidator to be in place before the company directors
are aware of his appointment. The purpose of the appointment of a
Provisional Liquidator is to protect and preserve the company's assets
if perishable or likely to be removed.
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- What Can the Company Do?
The company can oppose the petition if it has ground to do so.
So if the petition is presented on the grounds that the company is unable to pay
its debts as and when they fall due it would certainly be a valid reason for
opposing the petition if the debt in question is either disputed or paid.
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- What is the Winding Up Order?
Once the petition has been granted (irrespective of whether
a Provisional Liquidator has been appointed, a winding up order is made.
This starts the formal process of winding up the company.
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- What Happens Once the Winding Up Order is Made?
No further court actions can be taken (without the court's
consent) - this effectively preserves the assets for the benefit of the creditors.
- Notice to be sent to the Registrar of Companies
- Notices to be inserted in the Edinburgh Gazette and
local newspaper intimating the liquidation
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- What is the Difference between the Interim Liquidator and Full Liquidator?
The Liquidator appointed once the petition is granted is known
as the Provisional Liquidator. He acts as the company's liquidator until the
first meeting of creditors. At this meeting he resigns office and a full
liquidator is appointed, although it is quite common for the Interim Liquidator
to be full Liquidator.
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- What Does the Interim Liquidator Do?
- Dispose of perishable assets
- Investigate reasons for the company failure
- Interview company directors and employees to ascertain asset and liability position.
- Within 28 days issue a notice to convene a creditor's meeting
- Hold creditor's meeting within 28 days of notice.
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THE CONDUCT OF A WINDING UP
The Liquidator's task is to engather funds due to the company and to
distribute them to creditors. His powers are given in terms of the
Insolvency Act 1986. There are also various detailed Insolvency Rules
governing specific procedures which details how engathered funds are
to be distributed. The Liquidator has the power to take and defend
court actions on behalf of the company.
In addition the Liquidator has the following powers:
- Equalisation of Diligence - (i.e Enforcement of Decrees)
Many credit controllers think that if a company is going into
liquidation the quicker they act the better chance they will have
of getting paid. However, the opposite may be true. Taking quick
court action and following this up with decree enforcement may put
a creditor in no better place than had he done nothing. How can this be so?
What the Insolvency Act attempts to do is to treat creditors equally.
So if one creditor proceeds with enforcement after decree, but shortly
thereafter the company goes into liquidation, the Act will not allow
that creditor to have a preference over other creditors who perhaps
were not so Aquick of the markquickically the rules are:-
- If a creditor carries out an inhibition within 60 days of
a Winding Up this will have no effect to create a preference in
favour of the inhibitor.
- No arrestment or attachment executed within 60 days before a
winding up shall create a preference in favour of the creditor.
Assets arrested, poinded or the proceeds of sale of poinded goods
shall be handed back to the liquidator in these circumstances.
So the Insolvency Act basically removes the opportunity to creditors
to seize the assets at the expenses of slower creditors.
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- Setting Aside Some Prior Charges and Transactions
If company directors were to give away the company's assets
to friends or relatives at low or little value then obviously
there should be a mechanism in place to allow the liquidator
to get these assets back. Two types of transaction can be
reduced - gratuitous alienations and unfair preferences.
- Gratuitous Alienation
A gratuitous alienation occurs when company assets are
disposed of for less than their full value. It also
occurs when the company grants security over these
assets at less than full value.
- Who Can Challenge a Gratuitous Alienation ?
Only a Liquidator is able to make the challenge which by definition
means that there has to be a winding up order. Many credit
controllers think they can make the challenge but this is incorrect.
- How is the Challenge Made ?
The Liquidator may be able to challenge any disposition of the
company's property which takes place up to five years before the
liquidation commences.
The five year limited is applicable where the recipient was an 'associate'.
An associate is defined as a close relative, partner, associated company or
partnership, employer or employee.
The five year limit is reduced to two years where the recipient was any other person.
- Can the Recipient Defend the Liquidator's Challenge ?
A recipient will be able to defied the Liquidator's challenge but he will
be unsuccessful in doing so if he is unable to prove that
- At or after the time of the alienation the company's assets
were greater than its liabilities.
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- The alienation was made for adequate consideration.
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- Unfair Preference
An unfair preference occurs when the company repays a creditor
to the prejudice of the other creditors.
- How Can An Unfair Preference Be Identified ?
It may occur where the company borrows money from a friend of one of
the directors and this loan is repaid even though other loans are
outstanding or it was repaid before it need be. Also rather than
repay the loan, the company may grant a lender security over its
property - again putting the lender in an advantageous position in
relation to other creditors.
- What Are Not Unfair Preferences ?
- Transactions in the ordinary cause of business
[This is not necessarily easy to identify]
- Payments in cash when a debt was due and payable -
unless the transaction was collusive to the prejudice of
the general body of creditors.
- A transaction where the parties to us undertake
reciprocal obligations to each other unless the transaction
was collusive.
- The granting of a mandate authorising an arrestee to
pay over arrested funds to an arresting creditor following
a decree [an arrestment on the dependence of an action will
be insufficient]
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- What Happens If the Court Sets Aside (reduces) A Gratuitous Alienation
or an Unfair Preference ?
The Court will order the return of the funds to the Liquidator. These funds
will be credited to the sums held by the Liquidator. The person who has to
hand back the assets or funds and will be a postponed creditor.
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- Extortionate Credit Transactions
In terms of S244 of the Insolvency Act 1986 where the company has been
granted credit the liquidation can have the transaction set aside if it
was extortionate. The loan must not have been granted more than three
years prior to the liquidation. There are also detailed guidelines to
determine 'extortionate'.
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- Reduction of Floating Charges
If money is lent to a company and that company grants
the lender a floating charge then the lender (now the
floating charge holder) is in a better position to get
his money back than other unsecured creditors.
So it may be that the company is indebted to a particular
supplier or a relative of a director who has lent money to
the company. The company wants to favour that particular
creditor by granting them a floating charge. The company
then does into liquidation. Does the liquidator have to
recognise the floating charge? Can he challenge it is any
way?
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- The Basic Rule
The basic position is that if a lender lends money to
a company and the company then grants the lender a
floating charge, the floating charge should only be
granted by the company when the loan is being made to is.
Or to put it another way the company should not borrow
the money first and later on grant the floating charge.
If this were to happen it would be unfair to other creditors
who may not have lent money to the company had they known
the company had previously borrowed money and was now
attempting to backdate another creditor's security.
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- What Are the Exceptions to the Rule?
- Where the floating charge holder (i.e the lender)
is not a connected person (to be defined later but
it includes a close relative) a floating charge granted
by the company within a 12 month period prior to the
commencement of the winding-up is invalid.
Or to put it another way if the floating charge creditor
is not a connected person the charge will be granted if
constituted over a year prior to the company's winding up.
- Where the floating charge creditor is a connected
person then the period is extended from one to two years.
- However, even if the floating charge creditor does
fall within the time limits referred to in (i) and (ii)
the floating charge will still be invalid if:
- at the time of the creation of the charge the
company was unable to pay its debts as and when they
fell due (as defined by Section 123 of the Insolvency
Act 1986) and/or
- the company became unable to pay its debts as and
when they fell due as a rerobustf the transaction for
which the company granted the floating charge (except
to the extent the floating charge was granted in respect
of new sums lent or new obligations undertaken at the
time of the floating charge was created)
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- What Happens If the Floating Charge is Reduced?
Basically the floating charge will be set aside. If a
receiver has been appointed in respect of that floating
charge and it is set aside then the receivership itself
will be set aside and any assets passed to the receiver
will be passed back to the liquidator for the general body
of creditors.
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- Definitions
| S249: |
Connected Persons: |
these include a director or shadow director of
a company or an associate of such director or
shadow director. |
| S435: |
An Associate: |
includes an individual if that person is the
individuals husband, wife or is a relative of the
husband or wife. |
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- Examination of the Director's Conduct
- Compensation from Directors for Misfeasance
If directors think their company is in difficulty they may be tempted
to remove assets from it for their own benefit. However, company law
provides that directors owe duties to their companies. These duties
include a duty to act in good faith as well as owing a duty of
reasonable care to the company. Statute contains further instances
where specific duties are required.
From the credit controller's point of view invariably these duties
are all owed to the company - not to the general body of creditors
as such. Although certain litigation has indicated that a gap may
emerge for a creditor to be successful. However, for a creditor to
show that a director owed a particular creditor a duty of care will
be difficult to establish. After all it is contrary to the very
precept of limited liability and the separate corporate personality
Section 212 of the Insolvency Act 1986 provides that if in the course
of a winding up it appears that a company director (or person involved
in the formation, promotion or management of the company) has misapplied
or retained the company's money or any other property of the company, or
has been guilty of any misfeasance or breach of any fiduciary or any
other duty in relation to the company the Liquidator has certain powers.
- What Can the Liquidator Do?
If the terms of Section 212 are satisfied the Court may, on the
application of the Liquidator or of any creditor compel the director
to: repay, restore or account for the money or property or contribute
such sum to the company's assets by way of compensation in respect of
the misfeasance or breach of duty as the court thinks fit.
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- Compensation for Fraudulent Trading (S213)
Similar remedies are available if the business of the company has been
carried on with the intent of defrauding its creditors or for any fraudulent purpose.
However basically intent to defraud has to be proved. Because this is
difficult the remedy of Awrongful trading@ was introduced by the Act
[Note: actions for fraudulent trading may only be brought by the Liquidator
as opposed to misfeasance actions under S212 which can also be brought by a creditor]
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- Wrongful Trading (S214 Insolvency Act 1986)
- Introduction
This was a new provision introduced by the Act and should serve
as a caution against those directors who carry on a company when
they knew or ought to have known of an insolvency situation.
It has to be emphasised from the credit controller's point of view
that the section can only be used if the company is being wound up
and the company has gone into insolvent liquidation. So as a
pre-cursor the company has to be wound up and the application has
to be made by the Liquidator. In other words a creditor cannot
make the application. Also action can only be taken against directors.
- What Are the Provisions?
Broadly speaking the action provides that on the Liquidator's
application to the court a director may be required to contribute
to the company's assets where a company has gone into insolvent liquidation
- What Criteria Does the Court Apply?
A director should have known or ought to have concluded that there
was no reasonable prospect that the company would avoid going into
insolvent liquidation.
- Can the Court Refuse To Grant An Order?
The court will not make a declaration under S214 if it is satisfied
that the director took every step with a view to minimising the
potential loss to the company's creditors which he ought to have
taken - assuming the director would have known there was no reasonable
prospect of the company not going into insolvent liquidation
The section further provides the facts which a director ought to have
known or the steps which he ought to have taken would be those which
a reasonably diligent person would have taken, taking into account
the general knowledge, skill and experience that may be reasonably
expected of such a person and the general knowledge, skill and
experience that that director has.
[Note: the reference to 'director' in Section 214 also included 'shadow director']
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