A guide to insolvency - what it is and how to manage it

Read our introductory guide to what insolvency is and how to manage it.

Helen Cockle

Of course, insolvency is the worst-case scenario for a company. However, if it does occur, it is crucial to be prepared. This is why we've compiled this short guide to managing insolvency.

Woman holding her hand
Of course, insolvency is the worst-case scenario for a company.

Insolvency - explained

Insolvency describes the state of a business when it is unable to pay its bills or liabilities. According to the Insolvency Act 1986, a business’s insolvency is measured in cash flow (a company is unable to pay its due debts), balance sheets (a business's assets are valued less than its liabilities), and statutory demand (the company has received written demand for an unpaid sum three weeks after that sum was due). Once a business is declared insolvent, it is placed on an insolvency register.

While an insolvent company is 'merely' unable to pay its liabilities, bankruptcy describes the legal term applied once a company was declared bankrupt by a court. This means a company can be insolvent without being bankrupt. To be legally declared bankrupt, you must owe a minimum of £5,000, with no clear ability to cover this debt.

Once you as a business owner suspect you might be insolvent or even facing bankruptcy, there are professionals you can go to - eg the Citizens Advice Bureau, a solicitor, accountants, or a debt advice center.

Man in suit
Insolvency describes the state of a business when it is unable to pay its bills or liabilities.

How to manage insolvency

If your business is insolvent, there is a couple of options. You can try to negotiate with creditors, chase up debtors for immediate payment or sell off assets. There are other options available once your company for certain is insolvent.

Company voluntary arrangement (CVA): Your company can enter a legally binding agreement guaranteeing it will pay back debts over time. If 75% (by debt value) of creditors agree, your company can continue business while repaying creditors. Another advantage of this option is that company directors of insolvent companies do not have to let their customers know.

Administration: Going into administration means you hand over control to a professional insolvency practitioner who will be acting in line with the insolvency act. However, this is a public act, so it will be noted on eg Companies House. This also means your business will appear on the insolvency register. The insolvency process is dependant on what the appointed insolvency practitioner decides - they can enter into a CVA anyway, sell parts of your assets, sell the company on, or close your company completely. While you cannot face legal action while your company's business is in administration, this does not apply anymore after the administration contract is over, usually after a year.

Sign saying "Closed"
Going into administration means you hand over control to a professional insolvency practitioner who will be acting in line with the insolvency act.

Winding up: This means going into liquidation. Winding up your company comes with a public notice of this and a court hearing. If the process goes through court, the company's assets are sold to pay bills and the company's debts. This also means that your company will be taken out of the Companies House register. You can of yours always wind up your own company, even without corporate insolvency. In this case, it is known as a members’ voluntary liquidation, while liquidation due to company insolvency is known as a compulsory liquidation or creditors’ voluntary liquidation.

Winding up your company comes with a public notice of this and a court hearing.

Once the company has been closed, the former director can start a new business venture.

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