HomeInsolvencyInsolvency Service closes dissolution 'loophole'

Insolvency Service closes dissolution ‘loophole’

Tax expert Richard Simms, MD of F.A. Simms and the AMLCC and explains why company directors need to tread carefully when closing a business

Directors who close their company down through a dissolution process to avoid paying staff wages, suppliers and Covid-19 loans are being targeted by the Insolvency Service.

With the number of business failures exceeding pre-pandemic levels for the first time, the government has enacted legislation boosting the Insolvency Service’s ability to investigate suspected wrongdoing and disqualify directors found to have abused the system.

The number of registered company insolvencies in January 2022 was 1,560, more than double the number registered in the same month in the previous year (758 in January 2021). In January 2022 there were 1,358 Creditors’ Voluntary Liquidations (CVLs), more than double the number in January 2021, and 34% higher than in January 2020.

The new rules mean that directors looking to close down their company must tread very carefully indeed. This article looks at some of the pitfalls to avoid if you find yourself in the position of having to close a business.

The new powers explained

The Insolvency Service has, for many years, had the power to investigate directors of companies that enter any form of insolvency, including administration and liquidation.

The new legislation – The Rating (Coronavirus) and Directors Disqualification (Dissolved Companies) Act – extends those investigatory powers to directors of dissolved companies. If any misconduct is found, directors face sanctions including being disqualified as a company director for up to 15 years or, in the most serious cases, prosecution.

The Act received Royal Assent in December 2021.

As well as enabling the Insolvency Service to investigate the directors of dissolved companies, the Act introduces another significant change – that there is no need to restore a company before an investigation can take place.

Previously, the dissolved company under investigation would have to be restored to the register at Companies House, a time-consuming and cumbersome process.

In order to do this, the Insolvency Service had to:

  • Apply to the Court to restore the dissolved company to the register
  • Once the company had been restored to the register, obtain information and documents from the company to help investigate the director’s conduct
  • Where appropriate, seek a disqualification order.

Now, in effect, the Insolvency Service can begin any investigation straight away.

Added to that, the Business Secretary will also be able to apply to the court for an order to require a former director of a dissolved company, who has been disqualified, to pay compensation to creditors who have lost out due to their fraudulent behaviour.

Why the new powers?

Dissolution is a quick and easy way of removing a company from the Companies House register, and is far cheaper than a more formal insolvency process.

To dissolve a company, the directors simply sign and send a form to Companies House, with a £10 fee, and publish a notice of proposed striking-off in The Gazette (the official public record). If there are no objections for two months, the company is then dissolved upon publication of a further notice.

However, one of the conditions is that the company must not have traded in the three months previous to dissolution. If this condition is ignored, then the company’s directors will face being banned as a director of any company going forward.

The new Act is the government’s response to concerns raised that the dissolution process was being misused as a method of fraudulently avoiding repayment of government-backed loans given to businesses to support them during the Covid-19 pandemic.

Added to this, there were perennial concerns that directors can opt to dissolve a company along with all its liabilities and then go on to set up a new company that carries on the same business but without those liabilities – a so-called ‘phoenix’ company.

Avoiding the pitfalls

Seeking the help of a licensed Insolvency Practitioner or trusted business advisor should be the first step you should take if you are thinking of dissolving your company, or are being forced into a more formal insolvency process such as a Company Voluntary Arrangement (CVA) or even liquidation.

This is especially important if your company has been the recipient of government loans designed to protect firms from the effects of the pandemic, such as the Bounce Back Loan Scheme and the Coronavirus Business Interruption Loan Scheme (CBILS).

Directors of companies at risk of insolvency, who are considering whether to opt for dissolution or liquidation, need to be aware of the risks of inadvertently misusing the dissolution procedure. If you are in this unenviable position is it vital you seek advice from a trusted business professional, such as a licensed Insolvency Practitioner.

Whichever route you choose to take, having taken advice, it is imperative that you remember your responsibilities as a company director, and act accordingly.

To conclude

Ultimately, the new Act gives a company’s creditors, including the government, greater redress when it comes to recovering monies owed to them.

Historically, creditors have had little recourse when directors have abused the company dissolution process. Although the dissolution process does incorporate a notice period in which creditors may object to the dissolution continuing, it is common for creditors to be unaware of the company’s proposed dissolution. Furthermore, if creditors fail to object in time, they have few options for redress, with court action often prohibitively expensive for smaller creditors.

Business Secretary Kwasi Kwarteng summed up the new Act: “We want the UK to be the best place in the world to do business and we have provided unprecedented support to businesses to help them through the pandemic.

“These new powers will curb those rogue directors who seek to avoid paying back their debts, including government loans provided to support businesses and save jobs. Government is committed to tackle those who seek to leave the British taxpayer out of pocket by abusing the Covid financial support that has been so vital to businesses.”

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