The return of Crown Preference

Ruth Duncan, Maxwell Davies Director

I have read a number of blogs from my colleagues in the industry over this, in my opinion, very misguided return to Crown Preference that was announced, legislated for and then the government decided to consult us all on and will undoubtedly impact business rescue procedures, affect bank’s lending and floating charge recoveries and dividend payments to unsecured creditors.

So, what has changed?

Crown preference: insolvency law change increases debt and insolvency risk for small businesses

The UK Government has recently consulted to overturn the 2002 Enterprise act which, for almost two decades, had provided greater returns for unsecured creditors – including small businesses, who can ill afford to write off losses owed by companies entering insolvency.

The change effectively brings back Crown preference, making the collection of taxes owed by an insolvent business a higher priority than money owed to small businesses. While this benefits HM Revenue and Customs (“HMRC”) and the public purse, to an estimated tune of £185 million per year, it passes back risk and expense to the unsecured creditors.

How does the new ‘Crown Preference’ work?

From 6 April 2020, under the new insolvency rules HMRC will be third in line of priority claimants for the business’s assets. They sit behind secured creditors (such as banks that hold fixed assets) and insolvency practitioners, and any other preferential creditors such as employees (for certain debts), The Redundancy Payments Service and Financial Services Compensation Scheme.

By changing the statutory hierarchy in which debts are repaid, HMRC will be ahead of holders of secured floating debt, unsecured creditors, who, remaining at the bottom of the order, will be less likely to receive a dividend. Well to be honest a dividend to unsecured creditors was always a small hope but from April 2020 that hope will be virtually non-existent.   

The impact on creditors and small businesses

Undoubtedly, the new regime will add to financial pressures and sleepless nights to many small business owners, who will find access to funding and keeping their business financially buoyant more difficult as this change in the priority of payments in an insolvency may change the lending criteria available and appetite by funders who normally have some comfort under a floating charge (lending against a secured changing asset, e.g. stock, book debts) as these debts will now only be repaid after HMRC.

In turn any tighter access to funding may dramatically reduce further business investment, and as a result, will lead to a higher business failure rate. With which will come lower tax revenue, defeating the original government objective.

Unsecured creditors, including small businesses, company pensions schemes, some employees claims, supply chains and customers will also be affected because the money, that would otherwise be repaid to creditors, will go to HMRC.

No time limit

The change is also retrospective. The old ‘Crown Preference’ had a 12-month cap on tax. Now, no matter how old the tax bill, this must all be paid before unsecured creditors can claim. Reducing the amount of money returned back to unsecured creditors further.

Not only is the tax retrospective it will now apply to all insolvencies rather than the previous “crown preference” which only applied to corporate insolvencies, thereby, hitting the unsecured creditors of sole traders.

Most of the commentary seems to indicate that this is a move that can only lead to hurting the UK economy, in particular the owner managed business community who form an important sector of the economy, at time when we need to be pulling together in the current Brexit turmoil.

I can only echo the words of Caroline Sumner of R3 writing in Accountancy Age recently who said “ We think that overturning a system that has functioned well for 16 years, with very little warning and no proper scrutiny to date of the myriad potential impacts, is reckless and ill-judged.”

Will the Government listen to the concerns being raised and change tack? Let’s hope so.

Remember, you only need to ask

Whatever your debt problem, whether a failing business or individual debts, advice and help is always available and it is vital that it is sought as early as possible.

If you or your business is facing financial problems, then please do not put it off. We offer a free initial consultation, please contact us on 0800 118 2948 to arrange. You don’t know what we can do until you ask!

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