Insolvency definition

The definition of insolvency reads as: Someone who is unable to pay their debts on time. Insolvency typically refers to a business’ inability to pay off their debts.

The United Kingdom Insolvency Law deals with insolvency of corporations and individuals within the United Kingdom.
The legislation involved within this law is the Insolvency Act of 1986 and the Enterprise Act of 2002.

Although insolvency is used together with businesses and individuals it is not the same as a Bankruptcy.

Bankruptcy is the consequence of the Courts trying to resolve the insolvency. Bankruptcy is not used in corporations but is left for individuals.

A business can be insolvent in two different ways. The first is called Cash Flow Insolvency.

Cash Flow Insolvency means that the company is unable to pay their debts as they become due. Cash Flow Insolvency has recently been redefined to include not just the current debt that cannot be paid but whether or not future debts will be able to be paid.

The second is called a Balance Sheet Insolvency.

Balance Sheet Insolvency means that the company has negative assets and their liabilities exceed those assets.

The legal definition of insolvency is defined using cash flow and balance sheet within the UK Insolvency Act of 1986 dictated below:

s.123. Definition of inability to pay debts:

  1. A company is deemed unable to pay its debts if it is proved to the satisfaction of the Court that is unable to pay its debts as they fall due. (Cash Flow Insolvency).
  2. A company is also deemed unable to pay its debts if it is proved to the satisfaction of the Court that the value of the company’s assets is less than the amount of its liabilities, taking into account its contingent and prospective liabilities. (Balance Sheet Insolvency).

The Insolvency Act focuses mainly on debt for businesses and corporations within the United Kingdom. Its aim is to assist those who need debt relief so that they may repay their debts and keep their business from failing.

This process is known by two terms, Business Turnaround and Business Recovery.

Reconstruction your Debt

Rebuilding your debt does not have to be a legal matter, if possible and feasible you can reconstruct your debt on your own. This is called Workout.

Workouts have grown in popularity but can only be accomplished if all parties involved are in agreement and the business in debt is able to make the necessary payments.

Typically debt reconstruction is handled through professionals trained in insolvency as well as Reconstruction Practitioners. Either of these choices are a cheaper solution to Bankruptcy.

Insolvency Specific to the United Kingdom

In the United Kingdom Bankruptcies are kept for individuals experiencing debt troubles. Companies that are insolvent are not Bankrupt they are instead put up for liquidation.

The liquidation process can be initiated by the company’s board of directors as well as by an Insolvency Practitioner that will serve as the liquidator.

In order for a liquidation to be legally binding a meeting of the company’s Creditors must take place and the Creditors must also have a say in who the liquidator is. This process is known as the Creditors Voluntary Liquidation.

Liquidation is also known as winding-up or dissolution. Creditors reserve the right to petition the Courts for a winding-up, if the winding-up is granted the company will then be placed into compulsory liquidation by the Court.

There are two main insolvency procedures implemented by the Insolvency Act of 1986 that gives companies time to resolve their debt or at the very least keep their business. These two procedures are called Administration and Company Voluntary Arrangement.

Administration simply offers a company relief from their Creditors so that they can make positive efforts in restructuring their business. It also provides the company with time to negotiate with their Creditors in an effort to avoid liquidation.

Company Voluntary Arrangement is a legally binding agreement between the Creditors and the company where they have negotiated a payment plan. This plan is arranged so that the company will pay back a fraction of their debt having the remaining balance wiped clean.

Insolvency Procedure in the United Kingdom

For companies that go insolvent in the United Kingdom there are four specific kinds of procedure to follow:

  • Administration: the rescue of a company.
  • Receivership: assets are taken over by the Creditors.
  • Liquidation: company is terminated.
  • Company Voluntary Arrangement: company directors negotiate with Creditors.

In select jurisdictions within the United Kingdom it is illegal to continue to operate your business while it is insolvent.

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