Company insolvency FAQs

When is a company insolvent?

A company is insolvent when it does not have enough assets to meet all its debts or is unable to pay its debts when they fall due. When a company becomes insolvent, it must follow an insolvency procedure, such as administration or liquidation. Company directors are responsible for recognising when their company becomes insolvent, and they can be held legally responsible for continuing to trade whilst insolvent.

The offence is known as wrongful trading and applies to directors who continue to trade when they ought to have known that there was no reasonable prospect of avoiding an insolvency procedure. Company directors can enter the company into insolvency procedures, but creditors (those owed money by the company) can also apply to the court to force a company to enter an insolvency procedure.

What is administration?

Administration is an insolvency procedure where an independent insolvency professional, acting as an administrator, takes over management of the insolvent company. The administrator has legal objectives to attempt to rescue the company as a viable business and to seek the best return for the company’s creditors.

When a company enters administration, a statutory moratorium automatically applies, preventing creditors from taking legal action against the company to recover their debts. This legal protection lasts for the duration of the administration and allows the administrator breathing space to perform their duties.

Administration can end with the company returned to solvency, usually through the renegotiation of company debts with creditors, known as restructuring. Normally, most creditors must agree to the restructuring plan which tends to include writing off some company debts in order to re-structure the company as a viable business. Where the administrator is unable to salvage the business, administration can end in the liquidation, or winding up, of the company.

For more information about administration, see the Library briefing Insolvency: Company administration.

What is liquidation?

Insolvent liquidation is an insolvency procedure where an independent insolvency professional, acting as a liquidator, closes down an insolvent company. The liquidator sells the remaining assets of the insolvent company and distributes them to creditors (those owed money by the company) according to a strict legal order.

There are two types of insolvent liquidation:

• Creditors’ Voluntary Liquidation (CVL). This happens when the members (shareholders) vote by a 75% majority to close the company down; and
• Compulsory liquidation. This is when a court orders that the company be closed down and appoints a liquidator. Unlike a CVL, shareholder consent is not required and court proceedings are usually initiated by a creditor.

For more information about liquidation, see the Library briefing Insolvency: Company liquidation.

What is the hierarchy of creditors?

The hierarchy of creditors is the legal order in which people owed money by an insolvent company, must be paid. Each class of creditor is paid in full before any distribution can be made to the next class. Therefore, where the total debts exceed the total funds available to distribute, low ranking creditors may not receive any return. Broadly, a secured debt, fixed against a specific asset such as a mortgage on a building, will be paid first, and guaranteed the proceeds from the sale of that specific asset. However, an unsecured debt, such as an outstanding customer refund, would be paid after the secured creditors with whatever funds are left.

Payments must be made to the following classes of creditors in order:

1. Secured creditors with a fixed charge (creditors with security over a specific asset such as a bank with a mortgage)
2. Insolvency practitioners’ fees and expenses
3. Preferential creditors (such as employee salaries and pension contributions)
4. Secondary preferential creditors (including certain HMRC debts)
5. Prescribed part creditors (the Enterprise Act 2002 created a guarantee for unsecured creditors to receive a proportion of the distribution to certain secured creditors)
6. Secured creditors with a floating charge (creditors with security over the company’s general pool of assets, rather than a specific asset)
7. Non-preferential creditors (unsecured creditors such as suppliers owed payment, or customers owed refunds)
8. Shareholders

What happens to gift cards from an insolvent company?

Gift cards and vouchers are effectively a pre-payment for a good or service. The customer pays in advance in exchange for the gift card, which can then be redeemed later for goods or services. Therefore, unredeemed gift cards and vouchers are treated as unsecured company debts. When a company enters insolvency, a customer holding a gift card is considered an unsecured creditor, ranking below secured and preferential creditors.

When an insolvent company enters administration, administrators take control of the company, which is automatically protected from legal claims by creditors. In an administration, the administrator may choose to honour customer prepayments such as gift cards, or offer refunds, but they are under no obligation to do so.

If the company is liquidated (where its assets are sold off to repay creditors and the company ceases to exist), the refund of gift cards would be paid almost last. In practice, where companies are liquidated, unsecured creditors are rarely repaid in full, if at all [PDF].

For more information about gift cards and customer prepayments, see the Library briefing Consumer payments made in advance of receiving goods or services.

Can I claim back money I’m owed by an insolvent company from my credit card provider?

If someone is owed something they’ve paid for from an insolvent company, they may be able to get a refund from their credit provider.

Section 75 of the Consumer Credit Act 1974 means that when a consumer buys something with credit, the credit provider and the supplier of those goods and services are jointly liable.  This applies to purchases between £100 and £30,000.

If a supplier enters insolvency, the customer may be unable to claim a full, or timely refund, from the supplier, but they may be able to claim a full refund from the credit provider.

Where can I find information about an administration?

The administrators must file certain documents with the UK Company Registrar. These documents are publicly available on the company’s filing records at Companies House.

Often, the administrators will also publish updates on the insolvent company’s website.

The appointment of administrators must also be published in The Gazette, the newspaper of record.

About the author: Peter Brook is a researcher at the House of Commons Library, specialising in areas of banking, company law, competition, financial systems and institutions, and consumer financial services. 

Disclaimer​

The Commons Library does not intend the information in this article to address the specific circumstances of any particular individual. We have published it to support the work of MPs. You should not rely upon it as legal or professional advice, or as a substitute for it. We do not accept any liability whatsoever for any errors, omissions or misstatements contained herein. You should consult a suitably qualified professional if you require specific advice or information. Read our briefing for information about sources of legal advice and help.