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Company Insolvency: No Timeout For The Tax Adviser

Article In Taxation Magazine on 27 May 2020 By Elliot Green


Insolvency is a state of being unable to discharge your debts when they fall due. There are two notable thresholds broadcast in Section 123 of the Insolvency Act 1986. If a company satisfies either, then it is deemed to be insolvent.

The cashflow test arises from consideration as to whether the client company is able to pay its debts when they fall due. If it cannot do so, then the company is insolvent. An Insolvency Practitioner investigating a company’s solvency may well discover this when he or she trains their sights on a company’s books, papers and records. Often in the case of an insolvent company, the records can be replete with reference to solicitors threatening enforcement action, court judgments and HMRC seeking payment for arrears of PAYE & NIC, VAT and Corporation Tax.

There is also the balance sheet test when you undertake a numerical exercise to simply crunch through the numbers and deduct all your liabilities (taking into account prospective and contingent) from your assets. If you end up with a negative number on the other side of that equation, then again you are deemed insolvent.

Duty To Creditors

Ordinarily, when a company is sailing along making profits and hopefully enabling the owners to enjoy the fruits of such labour, perhaps via distributions, the Directors operate the company in the interests of the shareholders. However, a metamorphosis arises when a company becomes insolvent or alternatively suffers from the real as opposed to remote risk of becoming insolvent. It is important to remember that the role of a Director, although not the same as, is akin to that of a trustee, having fiduciary duties. As the scales tip towards insolvency, the duty of a Director shifts from the need to act in the interests of the shareholders; instead, having to train their sights on the interests of the Company’s creditors.

In Roberts v Frohlich & Anor [2011] EWHC 257 (Ch) the Court said:

“The acts which a competent director might justifiably undertake in relation to a solvent company may be wholly inappropriate in relation to a company of doubtful solvency where a long term view is unrealistic”

Once a company is at risk of entering an insolvency procedure the Directors might in the longer term not necessarily remain in control of the company. Their role can be transformed from operating the company with due consideration of the company’s Articles of Association and the Companies Act 2006, (hopefully where required supported by accountancy advice) and in might step a different personality with different rules to follow in the form of the Insolvency Practitioner (“IP”). The IP might be a Liquidator, an Administrator or a Supervisor (in the case of a Company Voluntary Arrangement). However, regardless of which type of IP might step in to act instead of the Directors, they are provided with a different legislative framework to adhere to, in the form of the Insolvency Act 1986. The IP has a notable duty to consider as part of their role, transactions that have been entered into by the company since it became insolvent. Part of that role involves scrutiny as to whether such transactions are capable of being impeached.

Personal Liability And Piercing The Corporate Veil

It is perhaps well known that in relation to an IP’s challenge to transactions entered into whilst a company was insolvent that this may result in Directors being liable personally to compensate a company for any consequential losses they have caused. A reference to Wrongful Trading (trading on when you should have known that the company had no reasonable prospect of avoiding insolvent liquidation) is perhaps what might spring in someone’s minds first before anything else.

This might be conflated with other concepts such as piercing or lifting the corporate veil. However, notwithstanding such conceivable perceptions, it would be relatively rare in the context of insolvency litigation, for the discrete cause of action for the IP to deploy to be that of piercing the corporate veil. Indeed, it would be far more common (indeed more common than even Wrongful Trading) for the cause of action to be rooted in misfeasance and breach of duty, typically deploying the gateway afforded by Section 212 of the Insolvency Act 1986, being a summary remedy against delinquent directors.

The specific right of action of piercing the corporate veil typically has a number of necessary ingredients, including but not limited to impropriety linked to the use of a company to avoid or conceal liability by a party in control of it. The case law shows that this is a complex area of law. Our long-cherished principle of the veil of incorporation was eloquently articulated in the case of Salomon v. A. Salomon and Company, Limited [1897] AC 22 (“Salomon v Salomon”), as a concept that a company is a legal person separate from its corporators and controllers, with its own separate rights and liabilities. This cannot even be swept aside simply to further the interests of justice. There must be something more.

HMRC As A Creditor

HMRC appears to have a number of strings to its bow in how it might seek to recover money from insolvent companies as a consequence of being one of the creditors.

HMRC in the context of insolvency proceedings is often in a unique position as a creditor. Prior to the Coronavirus restrictions coming into force last year that stopped a great many winding petitions from being heard, HMRC was probably the leading creditor by some margin winding up companies for them to be placed into Compulsory Liquidation.

Rarely will an insolvency matter sprout without HMRC appearing on the creditor’s list. Indeed, very commonly HMRC will be the largest creditor and by some distance. There are several ways that HMRC might if indeed it so wishes pursuant to the circumstances of the case, look to Directors personally for company debts when insolvency is triggered.

As with any creditor, there is provision within Section 212 of the Insolvency Act 1986 that they may bring legal proceedings against a Director for a breach of duty and seek compensation accordingly on behalf of the company. The action itself is the company’s brought by the creditor. It is rare in practice to arise but it certainly can be done.

Far more commonplace is for a Liquidator to be appointed by creditors such as HMRC, where Director misconduct might be suspected. The role of the Liquidator is to identity, discover and recover the company in Liquidation’s property. The ambit of property defined in Section 436 of the Insolvency Act 1986 for a Liquidator to seek to realise is wide. Wide enough to incorporate causes of action ie. it includes both disclosed as well as undisclosed assets. It is not unknown for a Director of a limited company to have misapplied company property or funds but to then declare at the point of Liquidation that it has no assets. It therefore may come as a surprise to some Directors that a private Liquidator might be prepared to act and take on such a Liquidation. However, the fallacy or mistake in this hypothetical scenario is the conceivable oversight. Misapplication of company funds or property is itself an asset that a Liquidator on behalf of the creditors as a whole (including but not limited to HMRC) might look to recover.

Perhaps one of the more problematic issues for Directors of insolvent companies is if they trade with tax monies to in effect keep the company going. Such HMRC tax monies typically being PAYE & NIC or VAT which the company is deemed to be entrusted to collect on behalf of our taxman. In the writer’s experience, HMRC might act with greater alacrity in looking to appoint an IP to investigate if a Director has been trading with such tax monies, than if there is an outstanding corporation tax bill. The Insolvency Service is understood to conceivably pay reasonably close attention to the length of the period of what is sometimes known as trading to the detriment of the Crown, when considering if a Director’s conduct might merit a period of disqualification.

Indeed, so conceivably important is this issue perhaps, that on 1 December 2020 HMRC in effect reacquired what was known as the Crown Preference. It lost it following the Enterprise Act 2002 almost twenty years ago. This time however, its preferential treatment is now concentrated on those taxes the company collects for HMRC. Taxes that HMRC collects itself such as corporation tax are outside the scope of this preference.

HMRC Personal Liability Notice

A company must pay PAYE and Class 1 NICs to HMRC within 22 days of the end of the month for all employment income paid to staff on a monthly payroll. However, Section 121C of the Social Security Administration Act 1992 enables HMRC to recover from the ‘officers’ of the company any unpaid contributions plus interest and penalties.

HMRC can tackle this when such tax is not handed over by company directors as a result of fraud or neglect. Directors can therefore be personally liable in respect of this unpaid tax.

EBT Tax Avoidance Schemes

EBT Tax avoidance schemes have for some time been a thorn in HMRC’s side. The decision of the Supreme Court in what is known as the Rangers decision gave rise to some pyrotechnics in the world of tax avoidance schemes because it confirmed that payments into an EBT, in that case, were emoluments. Many Liquidations have arisen simply because Accelerated Payment Notices had been issued with few or no other creditors other than the disputed HMRC claim based on an EBT tax avoidance scheme. However, because of Rangers, HMRC appears to have been able to seek to have its voice heard with perhaps further emphasis. It is the writer’s experience having been involved in some HMRC EBT liquidation cases, that HMRC may expect the Liquidator to address any misfeasance that might arise in such cases.

The case of Toone v Ross & Anor, Re Implement Consulting Ltd [2019] EWHC 2855 (Ch) conceivably took matters to another level. It demonstrated that payments into EBT schemes for tax avoidance purposes could be risky for the taxpayer. HMRC was the main creditor. In that case, the company Directors were pursued by the Joint Liquidators and called upon to repay monies paid from the company into the EBTs. In his exegesis Chief Insolvency and Companies Court Judge Briggs determined the payments were distributions and the Liquidators succeeded in their action.

Tax Advisers Role

A tax adviser, therefore, needs to be alert to the reality that it is conceivable that they will encounter situations in which clients enter some form of insolvency. How does their role change and what are their duties?

Changes In Responsibilities

It is perhaps helpful to remember what was said in Salomon v Salomon to assist with the identity of the tax adviser’s client. As the years pass by, the distinction between client and (client) personality might possibly become somewhat blurred. However, getting right down to brass tacks, the client is unchanged because of insolvency. In the case of a limited company, the client is still the company. What changes is the personality with whom the tax adviser might now be engaged hereafter. Out go the Directors who issued the instructions and no doubt ensured that the bill was paid. In comes the IP. The adviser might now never be called upon to do work for the company again or be paid a historic outstanding bill.

The company is still alive, albeit being kept on life support with the Insolvency legislation guiding the IP, who will over time lead the company to its final resting place.

Undoubtedly from the vantage point of the tax adviser at this juncture, contractual rights might entitle termination of the terms of engagement. However, legal relations between the adviser and the company do not necessarily evaporate upon insolvency. For example, the tax adviser’s duty of confidentiality to the company remains.

An adviser tempted to conflate (inadvertently or otherwise) a duty to the company with a perceived continued obligation to the former Directors personally, may wish to seek independent professional advice. Confidentiality is a fundamental principle for an adviser to uphold and such a duty survives insolvency.

How To Deal With The Insolvency Practitioner

It is that duty of confidentiality that is at the heart of the tax adviser’s dealings with the company. It in effect governs the framework of the relationship thereafter with the IP. If an adviser is concerned about a potential breach of confidentiality by disclosing information to the IP about the company then arguably the simplest way to think about the matter is this – would they be concerned about disclosing such information if instructed to do so by the former Directors.

This question of duty might also helpfully be considered by focusing on who an adviser would need to contact for authority to deal with the company’s continuing tax affairs. The answer is that the adviser would generally need to seek the IP’s authority.

In many instances, the tax adviser will have been engaged in the capacity as agent of the company. Typically, this will be as tax agent. The resulting relationship is likely to be one of agency and principle.

When an IP is undertaking their statutory and regulatory investigations into the causes of the company’s failure it is likely they will call upon the assistance of the adviser. An adviser should generally cooperate and assist the IP. The tax adviser has a somewhat unique role in the financial life of a limited company. The engagement is likely to lead to documents being created that are in effect company records but might for convenience often be retained by the adviser. The IP is entitled to take custody and control of all the company’s books and records regardless of who their custodian might be. Except where specifically excluded by the terms of engagement, such company records could be as seemingly trivial as the email evidence of the filing of documents at Companies House and HMRC.

However, there are other duties that the tax adviser has to the IP and these arise directly from the statute. To assist the IP, who enters office as a stranger to the affairs of the company, to discover the company’s property and reconstitute knowledge required to properly administer it, the Insolvency Act 1986 provides three key Sections:

  1. Section 234 of the Insolvency Act 1986 enables the IP to call for production from a party holding records and property of the company.
  2. Section 235 of the Insolvency Act 1986 enables the IP to call upon the cooperation and assistance of an adviser who has provided professional services to the company within its last 12 months.
  3. Section 236 of the Insolvency Act 1986 provides for the ability of the IP to enlist the Court’s assistance to compel an adviser to produce relevant information reasonably required for the purposes of the IP’s functions.

It might be important to note that an IP has an important public interest function to fulfil. A proper insolvency regime is considered germane to the operation of a viable economy. It appears to be in the public interest that insolvent companies can be wound down in an orderly fashion. Part of that may involve a review of any potential Director misconduct. It is improbable that such a review can be easily undertaken in circumstances when there is an absence of objectively reliable contemporary records. An adviser is likely to be able to assist with that because their files could conceivably be one of the most useful sources of well-ordered financial information for the IP.

Furthermore, if the adviser is a creditor of the company it may well also be in their direct interests to help the IP maximise realisations by proactively assisting with the provision of its financial information.


This article: Company Insolvency: No Timeout For The Tax Adviser is not legal advice and should not be relied upon as such. This article is provided for information purposes only and no liability is accepted by the writer, Elliot Green, or the writer’s firm, Oliver Elliot Chartered Accountants, for any reliance placed upon it. You should seek independent professional and or legal advice on the discrete facts of your case or situation.

The Writer

Elliot Green FCA FABRP is a Licensed Insolvency Practitioner, Chartered Accountant and CEO of Oliver Elliot Chartered Accountants. He typically acts at the initiation of Directors, Creditors and their advisers. Having a wealth of experience engaged in complex insolvency and forensic matters, tax and associated litigation. He has appeared many times in Court in his capacity as Liquidator dealing with contentious disputes in Liquidations that could not be disposed of consensually following actions that he brought for the benefit of creditors. For further information he can be contacted at elliot.green@oliverelliot.co.uk or alternatively through the Oliver Elliot website https://www.oliverelliot.co.uk.

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Disclaimer: Company Insolvency: No Timeout For The Tax Adviser

This page: Company Insolvency: No Timeout For The Tax Adviser  is not legal advice and should not be relied upon as such. This article Company Insolvency: No Timeout For The Tax Adviser is provided for information purposes only. You can Contact Us on the specific facts of your case to obtain relevant advice via a Free Initial Consultation.

Link to the Article in Taxation Magazine is here – https://www.taxation.co.uk/articles/-company-insolvency-no-timeout-for-the-tax-adviser.

Elliot Green

Licensed Insolvency Practitioner & Chartered Accountant. We Know Insolvency Inside Out.