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Restrictions of creditor rights during Covid-19

Following on from the Secretary of State for Business, Energy and Industrial Strategy (BEIS) announcement on 28 March 2020 addressing protective measures for companies facing major funding and operational hardship during Covid-19, on 23 April 2020, the Government has further announced that it will introduce temporary restrictions on creditor rights to pursue aggressive debt recovery.

Below we summarise some of the temporary mechanisms that have and/or otherwise will likely restrict creditors in addition to other changes announced to UK insolvency laws.

Creditor winding-up petitions

The issue of a statutory demand is a common and often effective debt recovery tool that a creditor can serve on a debtor company for an undisputed corporate debt. When the company receives the demand, they have 21 days to either pay the debt or reach an agreement to pay. Subsequently, if the demand expires unsatisfied the company is presumed insolvent under section 123(1) of the Insolvency Act 1986 (the “Act”) and a petition can be made in Court to wind up the debtor company so that the creditor’s debt or a portion of the debt can be recovered during the liquidation process.

Based upon the recent announcements, it is said that there will be temporary restrictions imposed on creditor statutory demand and winding up petitions that are issued to:

  • Commercial tenants where a company cannot pay its bills due to Covid-19; and
  • Companies who presently cannot pay their debts as and when they fall due and payable as a direct consequence of Covid-19. This does not extend to debt recovery or insolvency related action that was in existence prior to Covid-19.

Further, it is said that Directors may, temporarily, be permitted to file a special “COVID-19 Declaration” stating that the company is facing liquidity because of circumstances related to COVID-19. The main effect of this proposal would be that:

  • If the demand is not paid, creditors will not be able to file winding-up petitions against the company for the next 90 days (a moratorium period that might be extendable under the new measures by a further 90 days);
  • this Declaration could also be filed by a director of the debtor company within two business days of a winding-up petition being presented which would operate to invalidate the creditor’s petition and prevent the disposition of the debtor company’s property (including the freezing of bank accounts or transfer of shares, etc.) pursuant to section 127 of the Act; and
  • for the 90 day (or more, if extendable) Declaration period, a company could not be presumed insolvent and unable to pay its debts as they fall due under section 123(1) of the Act and therefore, not be wound up pursuant to that automatic ground under section 122(1)(f) of the Act.

HM Revenue and Customs has also recently announced that is it will not petition for winding-up orders unless it is deemed to be “essential” for example, in instances where fraud and criminal activity is involved.

Suspension of Wrongful Trading

There is also a temporary suspension of wrongful trading rules for three months, retrospectively from 1 March 2020 aimed at assisting directors to keep businesses going without the threat of personal liability and subsequent bankruptcy action against them. Despite this, directors will remain subject to other potential liability (including criminal liability) under the Act, for example, personal liability in respect of fraudulent trading.

Wrongful trading is dealt with pursuant to section 214 of the Act and ensures directors of the debtor company are held responsible for their actions, and also restrains directors from making decisions that harmfully affect creditors in a moment that the company cannot avoid insolvent liquidation. The section allows a liquidator or administrator to apply to the court for an order requiring a director to make a financial contribution to the assets of the company where a company has gone insolvent and, before the winding up the director knew or ought to have known that there was no reasonable prospect that the company would avoid entering into insolvency.

Other insolvency restrictions  

The Government has further announced that it intends to make changes to insolvency laws to allow UK companies undergoing a rescue or restructure process to continue trading through the provision of a new moratorium period to provide for further breathing space. There is no further details at this stage on whether this will result in some form of general restriction on hostile creditor actions against companies in debt however, once this proposal develops, we will provide further information on this so you can be sure as to what debt recovery action you can and can’t pursue in this current climate.

It is also worth mentioning that there is now a temporary Insolvency Practice Direction which came into effect from 6 April 2020. This provides creditors with further guidance as to the type of hearings which the Insolvency and Companies Court list will endeavour to provide during Covid-19. Under this Practice Direction, it is confirmed that The Companies House has suspended its strike off process to prevent companies being dissolved during Covid-19 (for example, for late filing of accounts). However, these changes do not apply to businesses being dissolved under an insolvency procedure, such as administration or liquidation.

What this means for creditors?

The Government intends to strike a balance when introducing these restrictions between protecting companies from “short-term” liquidity challenges and ensuring that creditors get the best return possible. It is our view that these proposals will inevitably favour debtor companies over creditors (especially the inability to file winding up petitions and substantial delays in recovering debts due to the new moratorium period proposed).

Nevertheless, despite these proposed restrictions, it has been said that creditors would have some limited protection by being permitted to apply to the court for approval to lodge a winding-up petition however, until further information is release detailing the accepted circumstances in which this can occur, we suspect this process will be burdensome and will likely involve a balancing exercise by the court to satisfy itself that there is no realistic prospect of a company avoiding insolvency given the above is only supposed to combat “short-term” liquidity.


Legal Disclaimer

Articles are intended as an introduction to the topic and do not constitute legal advice.