When a company becomes insolvent, entering administration offers the chance for rescue without creditor pressure. Although many businesses are turned around after entering company administration, in some cases rescue will not be possible.
This means the eventual outcome would be the liquidation of company assets and permanent closure. The nature of insolvency means that not all creditors can be repaid, however, which is why there is a priority order of creditors for repayment in an administration process.
The Insolvency Act, 1986, lays down the order of priority a licensed insolvency practitioner (IP) must follow to pay creditor claims. The company’s assets are sold for the benefit of creditors, but creditors are grouped into specific categories, and each group must be repaid in full before the IP can move on to the next.
This typically means the creditor falling at the bottom of the priority list receive little or no return from an administration process. So what are the creditor categories, and which is paid first?
Secured creditors with a fixed charge
Secured creditors with a fixed charge typically include the bank and other lenders, such as factoring companies. They’re paid using funds from the realisation of the asset(s).
Office-holder’s fees and expenses
The administrator’s/liquidator’s fees rank second in line for payment, and these include the expenses of carrying out the procedure.
Preferred creditors include employees of the company. Since 1st December 2020, HMRC are also ranked as secondary preferential creditors. This means they’re paid arrears of taxes that a company collects on their behalf, such as VAT and PAYE, but not those paid directly by a company – corporation tax, for example.
Creditors with a floating charge and the prescribed part
A floating charge covers a class of asset rather than a specific item, and can include stock and work-in-progress. These are assets that typically change during the course of day-to-day business.
The prescribed part is a sum of money set aside at this point from the proceeds of realisation of floating charge assets. It’s designed to provide unsecured creditors with a greater possibility of repayment in some form, and a maximum of £800,000 can be set aside in this way.
Claims made by unsecured creditors lie at the bottom of the hierarchy for payment in an administration process, which means by this stage, their return is typically low. Payment is made from the sale of unsecured assets, and in many cases there is little, if any, money left to distribute. Unsecured creditors can include suppliers, customers, and HMRC for tax arrears owed directly by the company.
Connected unsecured creditors
Unsecured creditors associated with the company in some way – perhaps family members who loaned money to the business, for example – rank below general unsecured creditors.
The office-holder gathers in the company’s assets for realisation, obtains a professional valuation, and invites claims from the company’s creditors. When all monies are received following the sale of assets, the administrator or liquidator can begin to repay creditor claims in the prescribed order.
As creditors must be repaid in full as a group, the knock-on effect to other businesses can be severe. Suppliers and other unsecured creditors in this position typically receive no dividend from the process, and can experience a decline themselves as a result of unpaid debts and the loss of that customer.
If you would like more information on the priority order of creditors in an administration process, Real Business Rescue can provide reliable professional advice. Please contact one of our expert team to arrange a same-day consultation free-of-charge – we operate an extensive network of offices throughout the UK, so you’re never far away from professional assistance.
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