Keep it legal: Insolvency

In times of economic turbulence, some organisations will inevitably run into financial difficulties. Charitable companies facing insolvency have a number of avenues open to them.

First, trustees need to ask whether there is any reasonable prospect of avoiding liquidation. If there is not, they must stop incurring liabilities on the charity's behalf and take steps to minimise the risks to the charity's creditors. If they continue incurring liabilities, however, they can be made personally liable for some of the charity's debts when the company is liquidated.

If, however, there is a reasonable prospect of the charity being able to stay solvent, then the trustees can continue as usual. In either case, they have a number of options.

They may want to wind the charity up, which would mean the charitable company's members resolving to wind up and a liquidator realising the company's assets and distributing them to its creditors in a prescribed order. After that, the company is dissolved.

Alternatively, the trustees might want to try to rescue the charity. One possibility is to use a company voluntary arrangement. This involves the charitable company making a proposal for dealing with debts (for example, offering to pay creditors pro rata). This proposal is considered by a licensed insolvency practitioner, who reports to the court. The proposals are put to the company's members and creditors for approval. If approved, the proposals are contractually binding on all the company's creditors (except for those with security over the company's assets, employees and pension schemes). The insolvency practitioner implements the agreed proposals.

Another option is to apply to the court for an administration order. The order lasts for 12 months. During this time, creditors are prevented from taking action to recover their debts. Once the order is made, an administrator carries out a scheme for dealing with the charity's debts, with his first priority being to get the company back on its feet.

- Rachel Holmes is a professional support lawyer at Farrer & Co.

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