What’s the Purpose of Insolvency and Bankruptcy Law?

Different countries worldwide have their own insolvency and bankruptcy law but they don’t differ that much from the UK’s legal rules in respect of insolvency and bankruptcy. The two principal objectives of insolvency and bankruptcy law are shared by most countries – (1) the allocation of risk in a predictable, equitable and transparent manner, and (2) to protect and maximise value for the benefit of all the interested parties and the economy.

The allocation of risk in a predictable, equitable and transparent manner

The objective is to ensure confidence in the UK’s credit system as well as to encourage economic growth for the benefit of all parties, in terms of the creditor-debtor relationship. Essentially, insolvency and bankruptcy law entitles a creditor to start insolvency proceedings against a company or individual, lessens the risk of lending and, therefore increases credit availability.

Insolvency law spreads the risk across creditors and benefits borrowers; so, where secured creditors are favoured in terms of the distribution of assets, or funds released from the sale of assets, it protects the value of security. F/or debtors, this could be an important factor in that they may not be able to get unsecured credit but could get secured credit. Let’s look at the three different aspects of predictability, equitability and transparency.

  • Predictability – although this may vary in terms of policy in different countries, overall insolvency laws generally allocate the risk among the relevant parties, and this should be clearly set out in insolvency and bankruptcy laws. The idea is to ensure the allocation of risk is predictable, as much as possible, to avoid uncertainty and increase confidence not only in the legal system, but also in terms of the willingness to grant credit.
  • Equitability – a key aspect of insolvency and bankruptcy law is to deal with situations whereby insolvent companies and individuals that are unable to pay their creditors, and provide a method by which all creditors are treated in an equal way. This also addresses the areas of favouritism and fraud, and ensuring that there is no discrimination against foreign creditors.
  • Transparency – throughout insolvency proceedings, all relevant parties must be provided with not only the correct information but sufficient details so that they are able to exercise their lawful rights. For example, creditors must receive sufficient notice of meetings in which creditor decisions are likely to be undertaken. Insolvency and bankruptcy practitioners must also ensure that they provide the best of guidance to all parties, and that any judicial proceedings are transparent with the court’s decision being made available publicly.

Protecting and maximising value for the benefit of interested parties and the economy

Whilst this objective is part of insolvency and bankruptcy law, its aim is more to do with keeping a viable company in operation. It is very much linked with the allocation of equitable risk in terms of creditors being treated fairly and ensuring the value of the insolvent company’s, or an individual’s, assets are valued and sold in an equitable manner.

A legal framework

Insolvency and bankruptcy law is based around a legal framework which includes:

  • Identifying debtors who are subject to insolvency proceedings, including private and state-owned companies.
  • Defining when insolvency proceedings may start, who may initiate the proceedings and the criteria by which insolvency can be applied.
  • Determine the level of involvement from the debtor, or debtors, regarding the management and control of the company. For example, in cases of administration or compulsory liquidation, who appoints the administrator/official receiver?
  • The level of protection given to creditors during liquidation proceedings.
  • The level of the insolvency practitioner’s authority, particularly in terms of existing contracts that were entered into prior to any proceedings starting.
  • How wide are the insolvency practitioner’s powers in terms of fraudulent or non-fraudulent activity?
  • The ranking of creditors when it comes to the distribution of realised assets funds.
The institutional framework

As well as the legal framework, there needs to be an institutional framework to be able to implement insolvency and bankruptcy law. As insolvency proceedings come under the heading of disputes, i.e. a creditor’s dispute with a debtor, it is a judicial function. As such, any liquidation process should be carried out in accordance with a court of law and judges will adjudicate disputes based on facts.

Whether an insolvency practitioner is appointed by the company, the individual or the court, all paperwork, documents, records and reports must go through the court. It is the court’s responsibility to ensure that insolvency and bankruptcy law has been implemented correctly, and that any conflict of interest has not taken place between the insolvency practitioner handling the proceedings and the relevant parties involved.

With all this said, the UK’s insolvency and bankruptcy laws do give the courts and insolvency practitioners the right to exercise discretion as they see fit, or deem necessary, in order to resolve the matter. Sometimes, a certain option is not always feasible and another may be sought for the best interests of the relevant parties.

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The Corporate Insolvency and Governance Act 2020

In May 2020, new changes to insolvency law in the UK were published and given Royal assets in June 2020. Three new permanent measures were introduced:

  • There is a new freestanding moratorium which grants companies a specific 20 days breathing space, which can be extended by a further 20 days, if granted, from creditors to allow insolvency practitioners to work with directors with the aim of restructuring the company’s debts. However, to take advantage of this change, the company’s directors must appoint an insolvency practitioner.
  • A new restructuring plan that is based on arrangement schemes and includes cross-class cram-down.
  • Restrictions on contract termination in respect of the supply of goods and services.

During the COVID-19 pandemic and the last three lockdowns, certain temporary insolvency measures were implemented and became a part of the new Corporate Insolvency and Governance Act 2020. These were:

  • Restrictions on how the winding-up processes were used;
  • Temporary changes to the rules of wrongful trading; and
  • The relaxation of requirements in respect of insolvency meetings and filing to grant greater flexibility.

However, these temporary measures are set to end on 30th June 2021.

Company or individual insolvency is not something that anyone wants to deal with; however, the sooner a financial problem is recognised, the sooner it can be dealt with and the more potential the company has in recovering. If you are struggling with debt, contact Simple Liquidation for assistance. For more information on how our professional insolvency practitioners may be able to help your business, contact us today.