Insolvency is tough but there are options

It is perhaps fitting to remind you today on Friday the 13^th that next week begins with Blue Monday, commonly seen as ‘the most depressing day of the year’.  It is considered to be the emotional and financial low point for many of us with the festive season cheer well and truly over, credit card invoices (and other bills) dropping through our letterboxes and the usual misery of January weather.

As an experienced adviser to clients with debt problems, I am aware of the levels of stress that people are under, especially here in the depths of winter.  According to the most recent 2011 statistics from the Insolvency Service, 19,561 Scots entered the bankruptcy and sequestration process in the year ended 30 September 2011.  Included within this figure are many company directors whose firms went bust - leaving them to face personal bankruptcy because their own assets were used as security against business debt. 

As devastating as it can be, business insolvency need not be all doom and gloom.  Once you realise that there is a way out of this situation, the burden can begin to ease.  In addition, finding a solution to financial problems can also be the catalyst for company directors to sort out the accompanying health and social problems that often arise from debt-related stress.

In the same way that alcoholics need to address their illness, the first important step of those facing insolvency is to face up to the problem.  This means a full and frank discussion about the finances of the business, warts and all.  The next step is to work with an adviser to take a realistic look at what assets and income are available from where a range of options can be devised in going forward.  And it is important to stress that there are options available to both individuals and companies facing apparently insurmountable debt problems.

In Scotland, entering into the Sequestration process voluntarily can be a very effective way of helping an individual facing a debt problem, (Sequestration is the Scottish term for Bankruptcy).  This can be advantageous in that it removes a burden of debt that is becoming impossible to service.  After only 12 months an individual can obtain ‘discharge’ meaning that they cannot be lawfully pursued for any of the money that they owed.  This stops all the nasty letters and phone calls from creditors, as these are all dealt with by a Trustee and enables an individual to turn over a new leaf with the option of starting a new business after 12 months.  In Scotland, debt relief can also be obtained by entering a Trust Deed, which is another voluntary way to deal with an impossible debt burden.

With a Trust Deed or in a Sequestration all assets are transferred to the Trustee including the family house - if there is equity in it, it may need to be sold.  However, in some cases, it is possible to hold on to the house.  If there is minimal or no equity in the house, or if there is a relative or friend who can pay the Trustee for the value of their equity, then the home can be retained.  A mortgage-to-rent scheme can, in some cases, also be used to keep possession of the house.

Not forgetting the impact that insolvency has on creditors who often see little if any of money that is owed to them, a Sequestration or Trust Deed is also not a painless undertaking for the individual who has become bankrupt.  They cannot be a director of a limited company and, as with any form of bankruptcy, it will be recorded by credit rating agencies so obtaining future credit, and even a new bank account, can be extremely difficult.  There is also an obligation to co-operate with the Trustee which means that a contribution from income might need to be made.

If it is a company that is in financial difficulty rather than an individual then Administration might be an option.  In Administrations creditors are often asked accept a proportion of a debt as a final settlement of their claims.  It removes a burden of debt from a company that is becoming impossible to service but, at the same time, can enable the underlying business of a company to continue through a sale to a new owner, securing employment for at least some of the workforce.

The directors can then move on from a venture that has failed, enabling them to concentrate on some different and hopefully more successful activity, although in many cases they will be exposed to personal liability for some or the failed company’s debts, particularly its bank liability.

Entering Administration can be a very sensible option for directors to demonstrate that they have acted responsibly and haven’t allowed the situation to deteriorate unnecessarily.  Directors must act responsibly or face the possibility of being criticised for not acting properly - which can lead to personal liability.  In some cases placing a company into administration is the only responsible course of action.  Compared with liquidation, it can also lead to a better outcome for creditors in some cases by avoiding the break-up of the assets.  However, there is always going to be a degree of financial pain as not all creditors and shareholders will be paid in an administration. 

Regardless of which option you undertake, insolvency is never without trauma but as with any form of physical or mental pain it is important to get professional help from a trusted practitioner.  In most cases you will get an initial exploratory meeting free of charge with any subsequent costs being met from the available assets.  It can result in an outcome that is best for your long term future, and it can lift the stress from dealing with an impossible debt burden - which often has an adverse effect on health.  If you are facing insolvency at the beginning of this new year please take comfort in the fact that through the right course of action the only way is up for the rest of 2012.

Matt Henderson, Business Recovery and Insolvency Partner.