New rules came into play on 1 December 2020 which allow HMRC to leapfrog other creditors in the order of priority of payment that applies when a business goes bust. This broadly returns the position to the situation before the preferential status of these claims were abolished in 2003 to promote enterprise.
The theory behind the changes, and presumably their earlier existence, is that businesses collect certain taxes and periodically pay them over to HMRC. When businesses struggle these funds are often withheld and used for other purposes, such as bolstering cashflow including paying off other creditors. HMRC therefore feel that priority should be given to replenishing their funds upon insolvency, particularly as such funds may still be held.
So the new rules mean that insolvencies starting from 1 December 2020 HMRC will enjoy secondary preferential status for the repayment of many taxes ranking only behind certain secured creditors, insolvency costs and existing preferential claims (comprising wages and holiday pay due to employees). Those taxes are:
– Employee’s (but not employer’s) NIC
– Student loan repayments
– CIS deductions
Preferential claims for those taxes are not time limited as they were last time round and so can stretch back over a considerable period. This will be particularly relevant following the pandemic, during which the payment of many taxes has been deferred.
These provisions do not, however, apply to corporation tax or employer’s NIC since these are not taxes on others collected on behalf of HMRC but are taxes directly on the business itself.
Business owners might say well does this really matter. Well the answer is yes as it does have real implications both before and after business insolvency occurs and even if it never does.
Firstly, since many lenders to a business rely on their floating charge over a company’s assets to obtain repayment should things go wrong, returns in this respect will be diluted as this now ranks behind the aforementioned taxes due to HMRC rather than before as previously. This will make lenders less likely to provide business finance and, where they do, this may be at a higher cost and personal guarantees are more likely to be required (more on which follows).
Secondly, should businesses get into trouble and wish to avail themselves of a rescue procedure such as a company voluntary arrangement (CVA), this could be much harder to get off the ground as funds coming into the arrangement will need to repay the aforementioned claims from HMRC first before money becomes available to ordinary creditors. Returns to those ordinary creditors are therefore likely to diminish, if they exist at all, making the approval of a CVA at best harder to achieve or at worst impossible, so forcing the businesses into more terminal insolvency procedures.
Thirdly, theory has it that if HMRC know they stand a better chance of making a recovery upon formal insolvency, they are more likely to be willing to force a business down that route than look at survival strategies. The counter to this, though, is that HMRC may be more willing to enter into time to pay agreements if they know they have more chance of making a recovery if things go wrong.
Fourthly, should you be unfortunate enough to have a business failure, it is quite possible that as a director you may have personally guaranteed the finance providers. If they will now make a lower recovery under their security as mentioned above, your personal exposure is likely to correspondingly increase under any such guarantees.
Finally, if you have lent money to your failed business as is commonly the case, many of HMRC’s claims will now rank ahead of yours in the insolvency procedure, so diluting or eliminating any return you might have been anticipating.
In summary, these changes are quite likely to negatively impact many businesses and their owners and stifle enterprise at a time when perhaps it is particularly important for this to be encouraged.