Coronavirus, Business Recovery and HMRC’s New Preferential Creditor Status

Directors Beware. Do you know what HMRC’s new status means for you in insolvency? Make sure you know what is in your Finance Agreement Ts and Cs

On 1st December 2020, HMRC ‘s status as a creditor of preferential status will be reinstated for formal insolvency proceedings. Much has been written about this, but what does it really mean for directors? In particular, what effect will it have on directors’ personal guarantees – and indeed whether the small print in any finance agreement, includes personal liability within any warranty and indemnity clauses – if the company becomes insolvent?

In this article, Steve Illes, one of our Insolvency Practitioners, points out that with many thousands of businesses struggling or likely to struggle once the various Government support schemes start to be wound down, “it is vital for directors to know what is in their current agreements, or in those they are about to sign, as personal liability if the business becomes insolvent could be in the Terms & Conditions.”

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First a recap on the change

For more than 15 years, HMRC has not had a preferential claim as a creditor when businesses become insolvent, with their status being the same as other unsecured creditors. However, from 1st December, when a company becomes insolvent and fails, floating charge assets must now first be used to pay preferential creditors, including HMRC. This means that HMRC’s claims for a number of taxes including PAYE, employee NI deductions and VAT will have priority.

Effectively this change means that the way HMRC allows what it is owed in tax to accrue going forward could change, and they may become more aggressive, especially given the need to start plugging the huge hole that Covid-19 has made in the Government’s finances, which could lead to increased insolvencies.

However, of most importance to directors is the impact HMRC’s change in status will have on their personal liability and personal guarantees if insolvency strikes and how this change will impact on lending decisions.

The impact on directors’ personal liabilities and personal guarantees – are directors fully aware?

The change of HMRC’s creditor status will have an impact where a director has provided a personal guarantee to a lender (either secured or unsecured), or there are personal liability warranties and indemnities in the terms and conditions, and their company is at risk of insolvency.

In an insolvency, a creditor with a personal guarantee and/or warranties and indemnities will demand repayment from the director personally. However, when a company is at such a point, the impact of HMRC’s new preferential status will likely have an impact on the amounts available to the lenders that hold these guarantees and will result in increased claims against the directors.

Not only, therefore, will lenders be more reluctant to lend (at a time when businesses need more cash to keep going) but also for those Directors who have personally guaranteed, or have personal liability for, the borrowings of their Company, there is a heightened risk of demanding a bigger repayment from the Directors.

The Impact on lending decisions

This is likely to be immediate. This is because for lenders and funders who are reliant on floating charges to recover lending, the security cover position will change with HMRC ranking ahead of the lender.

It will also have a negative impact on lending decisions, at a time when cash flow for businesses is tight and they are looking for help in that area. This is not good news for businesses, coming at a time when many are already likely to be carrying higher than normal levels of Crown debt due to the impact of Covid.

It is likely that lenders and funders will be ready for this and, as a result, will want to monitor their own lending exposure with greater scrutiny. The outcome is likely to be a requirement from directors for greater security and less room for flexibility if things go wrong.

Advice for Directors from our Insolvency Practitioners and Business Recovery Experts: Check your Ts and Cs

We know that Directors are already working hard to try and protect their companies during the pandemic so that they can come out the other side as going concerns. There is no doubt that the change in HMRC’s creditor status will make their work even harder. What they need is for the support of their existing lenders and funders to be maintained not put under threat.

As Insolvency Practitioners, much of our effort is put into saving businesses and turning them around, and so avoiding insolvency. This will include helping and advising businesses who are threatened because of the change in HMRC’s status, especially where personal guarantees and personal liability is involved.

We are here to explain what this change means on a practical level, business by business, work through the financial outcomes with directors and advise on what needs to be done if insolvency looks likely.

There are always options available, but the sooner you get your clients to talk to us, the more we can do to help. The initial discussion is FREE of charge. Contact us at any of our offices:

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