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What is Insolvency?

Posted on by Recovery & Turnaround

Insolvency has a number of different meanings when it comes to both individuals and businesses. There are various types of insolvency to consider, which are explained in detail below.

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Actual insolvency

This type of insolvency indicates the original definition of insolvency, which is the inability of those with a mortgage to pay their debt.

Technical insolvency

Technical insolvency is what happens when individuals or firms cannot cope with and meet their financial obligations, and is synonymous with balance sheet insolvency; where liabilities exceed assets.

Cash flow insolvency

When a business has a lack of liquidity to pay off debts when they are due, this is known as cash flow insolvency. Businesses can be balance sheet insolvent, where negative net worth from assets is shown on their balance sheet, but in this instance they may not be cash flow insolvent as their everyday, ongoing revenue may be enough to set their accounts and cash flow straight.

Accounting insolvency

Accounting insolvency is what occurs if a business’ total liabilities are greater than their total assets, thus giving them a negative net worth.

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What to do if you are insolvent

The director, shareholders or creditors of a company – or the court – can place a company into a formal insolvency procedure in the event of their falling into insolvency. If it appears that your company is heading toward insolvency, there are four procedures to consider which may rescue the situation, distributing your company’s assets. These are as follows:

Company Voluntary Arrangement

A CVA is a binding agreement between a company and its creditors, under which a reduced or revised debt repayment arrangement is created, provided your company re-establishes its affairs following a new strategy for business development.

Administration

This rescue procedure involves your business’ assets being protected by the halting of any creditor action. In the event of administration, an insolvency practitioner, or ‘administrator’ will replace you as director, and follow what they believe to be the best course of action for your company, whether that be saving it, selling it or winding it down.

Administrative Receivership

Although now predominantly taken over by administration, AR is available for some companies where an insolvency practitioner, or ‘administrative receiver’, is appointed to sell the assets belonging to your company at their maximum value so that your company can pay off its debt.

Liquidation

The process of liquidation completely closes down your company and stops its trading through the conversion of its assets into cash. The assets are separated and sold, being being distributed to shareholders for solvent companies, and creditors for insolvent companies.

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If you are worried that your company is insolvent or close to being insolvent it is imperative that you act quickly. Failure to maximise creditors interests could lead to personal liability for the company’s debts. At Recovery & Turnaround, we are committed to helping our customers in the event of any financial requirements or issues they or their company may be having. For more information on our services, get in touch with us today and let us help you keep your finances correct, consistent and clear at all times.

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