Insolvency Act 1986 – Everything you need to know

Insolvency Act 1986 – Everything you need to know

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What is the Insolvency Act 1986?

Insolvency happens when an individual or business runs out of money and can no longer meet its financial obligations. The legal framework for dealing with personal and corporate insolvency is primarily governed by the Insolvency Act 1986.

The Insolvency Act 1986 covers:

  • The process by which individuals or companies can declare bankruptcy
  • The powers and duties of insolvency practitioners
  • The rights and duties of debtors and creditors
  • The distribution of assets in insolvency proceedings
  • And more. 

The Act is a significant piece of legislation which has been updated several times to reflect changes in the economic and legal landscape.

Why was the Insolvency Act introduced?

The Insolvency Act 1986 modernised and consolidated the laws related to insolvency in the UK.

Before its enactment, insolvency law in the UK was governed by a patchwork of outdated statutes and common law principles. 

The Insolvency Act 1986 sought to: 

  • Streamline and clarify the insolvency process
  • Establish clear procedures for the administration of insolvent estates
  • Protect the interests of creditors
  • Facilitate the orderly winding up of insolvent businesses.

Additionally, the Insolvency Act 1986 aimed to balance the interests of debtors and creditors, promote rescue and rehabilitation of viable businesses where possible, and provide a fair and efficient system for resolving financial distress.

The history of the Insolvency Act 1986

The Insolvency Act came into force on May 29, 1986. Certain parts of the Act were updated with the Enterprise Act 2002, which kicked in on April 1, 2004.

One significant change was introducing the “out-of-court” administration route, which provides an alternative to traditional court-based insolvency proceedings for financially distressed companies.

The Enterprise Act also introduced the concept of the “prescribed part”, which provides additional protection to unsecured creditors in insolvency proceedings. Set initially at £600,000, it was increased to £800,000 in 2020 to keep pace with inflation.

Further updates to the Insolvency Act were made by the Corporate Insolvency and Governance Act 2020 to help relieve the burden on businesses during and after the Covid-19 pandemic.

The permanent measures introduced by the Act were:

  • A new restructuring plan to help viable companies facing debt problems. Creditors get to vote on the plan, and if a majority agrees, the court can make all creditors follow the plan as long as it’s “fair and equitable”.
  • A free-standing moratorium designed to give UK companies “breathing space” to pursue a rescue or restructuring plan. During this freeze, a creditor can only take action against a company with the court’s permission.
  • New rules preventing suppliers from stopping their supply while a company is going through a rescue process. Safeguards ensure that continued supplies are paid for, and suppliers can be relieved of the requirement to supply if it causes hardship to their business.

Insolvency Act 1986 schedule b1

Schedule B1 of the Insolvency Act 1986 outlines the procedures to be followed when a limited company is in financial trouble and facing administration.

During administration, an insolvency practitioner called an administrator takes control of the company’s affairs and assets to achieve one of three specific outcomes (statutory purposes).

To be eligible for administration, a company must have a good chance of achieving one of the following three purposes:

  • Rescuing the company as a going concern
  • Achieving a better result for the company’s creditors as a whole than would be likely if the company were wound up without first being in administration
  • Realising property to make a distribution to one or more secured or preferential creditors.

Insolvency Act 1986 - Company Insolvency

Corporate insolvency happens when a business runs out of money and can no longer meet its financial obligations. If a company is facing corporate insolvency, there are several possible outcomes as set out below.

When a company is in financial trouble, it can hand over control of its operations to administrators, typically for about a year. Administration can be initiated by the company, its directors, or one or more creditors.

Once in administration, creditors are only allowed to take legal action to recover assets with court permission. This pause gives the company time to devise a plan to try to save the business.

Administrative Receivership
Limited companies often use “fixed” and “floating” charges to secure loans. These charges act as guarantees for lenders.

If a secured creditor loses confidence in a company’s ability to repay its debt, it can appoint an insolvency practitioner to sell its assets and recover what it’s owed.

This process is called administrative receivership. Administrative receivership was all but abolished in 2003, but there are a few exceptions.

Company Voluntary Arrangement
A Company Voluntary Arrangement (CVA) is a deal between a struggling business and its creditors. It outlines how the company will repay some or all of its debts over time.

A CVA allows the company to keep operating, but at least 75% of creditors typically need to agree for the arrangement to be official. Legal actions against the company are paused during the CVA.

Company Liquidation
Liquidation happens when creditors force a business to shut down after failed attempts to recover debts. Creditors can ask the High Court to close the company by serving a winding-up petition. The struggling company has a week to respond, pay the debt, arrange a repayment plan, or enter administration.

In company liquidation, assets are sold to pay debts, but unsecured creditors might not get anything. In some cases, rather than struggling with unmanageable debts, a company will decide to cease trading and close. This is known as creditors’ voluntary liquidation (CVL). 

Insolvency Act 1986 - Personal Bankruptcy

Bankruptcy is a solution for individuals without hope of paying their debts within a reasonable timeframe.

Once declared bankrupt, an individual’s unsecured debts are written off, and creditors cannot take further steps to recover the money owed. Like corporate insolvency, personal bankruptcy is governed by the Insolvency Act 1986.

If a person is in financial difficulty, there are several possible options.

Breathing Space (Debt Respite Scheme)
If you live in England or Wales, you can get temporary protection from your creditors while you get debt advice and make a plan. This scheme is called Breathing Space. The temporary protection lasts for up to 60 days.

Debt Management Plan (DMP)
A Debt Management Plan is an agreement between you and your creditors to pay all of your debts. A credit counselling agency or debt management company will assess your financial situation to determine how much you can pay and negotiate with your creditors to secure an affordable payment on favourable terms.

Once the DMP is in place, you must continue to make the agreed payments until all debts included in the plan are paid off. This process typically takes several years.

Individual Voluntary Arrangement
An Individual Voluntary Arrangement (IVA) is an agreement between you and your creditors that helps you get your finances under control.

With an IVA, any unsecured debt is restructured into one manageable monthly payment based on what you can afford. Your IVA will be added to the Individual Insolvency Register.  Because an IVA is legally binding, creditors can no longer chase you for money if you keep up your monthly payments.

Debt Relief Order (DRO)
A Debt Relief Order (DRO) is a formal insolvency procedure for individuals who cannot pay their debts and have limited assets and income. To be eligible, the individual must owe less than £30,000, have little or no spare income (usually less than £75 per month), and not own your home or other significant assets.

If the Insolvency Service approves a DRO, your creditors are legally prohibited from taking any further action to recover the debts included in the order, usually 12 months. Your DPO will be added to the Individual Insolvency Register and removed three months after the order ends.

Personal Bankruptcy
If you cannot pay your debts, you can apply to become bankrupt. An adjudicator for the Insolvency Service will consider your application.

A creditor may also apply to make you bankrupt. Seeking legal advice is essential if you receive a statutory demand and want to challenge this application.

Why is the Insolvency Act 1986 important for companies?

The Insolvency Act 1986 helps to ensure the orderly resolution of financial difficulties, protect the interests of creditors, and promote confidence in the business environment. In particular, the Insolvency Act 1986: 
  • Sets out the procedures and regulations governing insolvency proceedings, ensuring they are fair, orderly, and transparent
  • Ensures that creditors are treated fairly and have recourse to recover their debts to the extent possible
  • Allows financially distressed companies to restructure their debts, renegotiate contracts, and potentially continue trading, thereby maximising the chances of saving the business as a going concern.

Do you need insolvency legal advice?

If you are facing the threat of insolvency, early legal advice can help you navigate your financial troubles, avoid bankruptcy, and emerge even stronger.

If bankruptcy is the only possible solution, our specialist insolvency lawyers will steer you through the process and ensure the best possible outcome for everyone involved.Here are just a few reasons why you should contact our insolvency lawyers today:

  • Transparent. With an open and honest approach, we make the most complicated situations easy to understand.
  • Supportive team. On your side through what can be an emotionally draining and challenging time, our advice is sympathetic to your situation.
  • Pragmatic approach. We get to grips with the problem to find an answer to your challenges as quickly and cost-effectively as possible. We also provide an affordable service with various flexible payment options.
  • Excellent client care. We have been awarded the prestigious Lexcel Accreditation status, demonstrating our commitment to client care. We are proud to have been nominated as Insolvency Law Firm finalists of the year.

Contact us today at 020 7467 3980 or complete the enquiry form on this page to learn more about how we can help you and your business today.