Will Changes To UK Insolvency Laws Keep Businesses Afloat?

On 28 March 2020, Secretary of State for the Business, Energy and Industrial Strategy Alok Sharma announced that the government would be making changes to the UK’s insolvency laws. He outlined that ‘wrongful trading laws’ will be suspended, and a moratorium will be made available to companies across the UK.

These proposed changes come as a response to the COVID-19 crisis. The government says that this will offer businesses more flexibility in the current economic climate.

Minister Alok Sharma, said the new legislation comes as part of the national effort to keep businesses going through the crisis. He claims the changes will allow them to ‘bounce back’. However, the proposed changes are not without critics.

Some economists have said that the changes will not help businesses on the whole, and instead only benefit a few directors. The effects remain to be seen.

What changes are being made to insolvency laws

The new changes will reportedly provide ‘breathing space,’ for businesses currently struggling and allow them to continue trading while they seek to alleviate the financial pressures caused by COVID-19.

Prior to these changes, according to the Insolvency Act 1986, a director of a company could not continue with trade if there was a real possibility of administration or liquidation. Continuation of trade under these circumstances would make directors liable to creditors for committing ‘wrongful trade.’ This also applied to directors who did not take significant steps to minimise loss to creditors.

If these new rules go ahead, it will mean that, dated retrospectively from 1 March 2020, these provisions will be suspended. It has not been made clear how long this will last.

Another alteration which seeks to mitigate the potentially devastating impact of COVID-19, is the introduction of a temporary moratorium for companies (determined by a prospective insolvency test), as well as a restructuring plan which all creditors will be bound to. This will be enforced through a cross-class cram down mechanism.

The proposed moratorium also means that companies will be able to continue to buy supplies required to keep their businesses afloat.

Further details on this measure are yet to be announced, however the legislation is based on the insolvency plans announced back in August 2018.

What does this mean for businesses?

These new measures are intended to prevent a dramatic rise in unemployment, and large scale failure of companies UK-wide. Ultimately, it is hoped the legislation will protect the UK from a complete economic shutdown.

The legislation announced on the weekend means that if a company is nearing insolvency, directors can continue trading, while taking on debt from initiatives like the government’s Coronavirus Business Interruption Loan Scheme. They can now do this without fear of personal liability.

Meanwhile, the new moratorium means that creditors cannot enforce debt while companies develop restructuring plans. This is to ensure the future viability of UK companies. Minister Alok Sharma reiterated this by stating that the government’s: “Overriding objective is to help UK companies which need to undergo a financial rescue or restructuring process to keep trading.”

Discussing the importance of these measures, speaking to the Financial Times, Jonathan Geldart, Director-General of the Institute of Directors said: “We’re calling on the government to prioritise jobs and business survival by relaxing existing insolvency obligations put on directors and thereby providing business leaders greater room for manoeuvre at this critical juncture.”

However, not everything is changing. In order to prevent directors from abusing this legislation, the old checks and balances will still remain. So, rules on fraudulent trading and director disqualification still stand, and directors must ensure they still fulfill their director’s duties.

How effective will the changes be?

Many have welcomed the changes. A spokesperson from ICAEW called the changes both pragmatic and useful. They continued: “The proposed moratorium will definitely help some businesses survive, but we would encourage any directors with concerns about their company to seek professional advice at the earliest opportunity.”

Agreeing with this sentiment, BCC Head of Economics Suren Thiru said: “It is right that the rules on wrongful trading are temporarily suspended to ensure that directors are not penalised for doing all they can to save companies and jobs during this turbulent period.” He added: “Companies that were viable before the outbreak must be supported to ensure they can help power the recovery when the immediate crisis is over.” However, he emphasised that cash flow remains a serious issue. It is subsequently essential that the government continues to supply support packages to companies and that these  packages are delivered immediately.

However, others have raised concerns that it is not enough to keep businesses afloat. Richard Murphy, Professor of Practice in International Political Economy at University of London called the measures: “Tinkering from a government that is overwhelmed by the scale of the crisis that it is facing and has no idea how to respond to the systemic risks that this creates.”

Others say the proposed changes are too delayed considering that other countries in Europe have already brought in measures to safeguard businesses and employment. And, while many are rallying for the immediate implementation of these new rules, due to parliament shutting for recess, it may be a case of too little, too late.

The consequences of these measures must also be seriously considered. There are fears that this increased accumulation of debt will have a ‘domino effect’ on the wider business world. Questions have also been raised over how the new measures will affect the availability of bank loans to companies for the purpose of restructuring. As Professor Murphy said, while directors will no longer have personal liability to creditors, banks will still seek ‘personal guarantees’ from them to ensure they have sufficient assets external to the business.

Clearly, there are uncertain times ahead for the business world, and more broadly for the UK economy. Unfortunately it seems that there will not be a ‘trickle-down’ effect from these financial innovations, and it is perhaps doubtful that these measures will ward off insolvencies. Concerning statistics from The Corporate Finance Network have reported that 18% of SMEs are due to collapse within the next four weeks. It appears that these measures are not the lifeboat the government have claimed them to be.

Article Created By Madaline Dunn