MVLs—a ticking time bomb?

Are members’ voluntary liquidations (MVLs) a ticking time bomb? Helen Kavanagh and Charles Draper, members of the restructuring & insolvency practice of Squire Patton Boggs, consider whether the rush to take advantage of the lower level of tax available under the previous tax regime has left directors and insolvency practitioners (IPs) with a ticking time bomb.

Background

Due to the introduction of new tax legislation on 6 April 2016, distributions made to shareholders of companies undergoing MVL are now treated as income (rather than capital) and are taxed accordingly. The result is that the tax rate on MVL proceeds has shot up to a staggering 28%, as detailed. For distributions to avoid being taxed at this rate, they must have been made before the 6 April 2016.

MVLs—a recap

To put a company into MVL, uniquely among corporate formal insolvency processes, directors swear a statutory declaration of solvency—a statement that the company will be able to pay all its debts in full with interest in a period not exceeding 12 months. From the outset, an IP appointed as liquidator is reliant upon this declaration and the accuracy of the company’s accounts to list all the assets and liabilities of the company so as to ensure that all the creditors of the company will be fully paid from the proceeds of the liquidation—the primary aim of an MVL. Once creditors have been paid in full, the remaining balance is distributed among the shareholders and the liquidator will dissolve the company.

Where may problems arise?

An MVL is a straightforward procedure with a shell company as part of a corporate re-structuring or a cashing-out procedure where there are assets and few liabilities to muddy the waters, but is a much different proposition with a trading company. A company engaging in business will have a more complex set of accounts, with new debts being created and old debts being paid off. As a result, it is far harder to keep track of every creditor and poor book-keeping or administrative errors could lead to a creditor being overlooked when the company’s liabilities are drawn-up. This difficulty is compounded further if the directors of the company are careless or negligent in their running of the company, or even, in the worst case scenario for a liquidator, fraudulently conceal creditors to ensure a return for the members from the assets of the company.

If, at any point during an MVL, the liquidator determines that there are not enough assets in the company to settle all the creditors in full with interest, the winding-up will be converted into a creditors’ voluntary liquidation (CVL) by calling a meeting of the creditors to present a full statement of the affairs of the company pursuant to sections 95 and 96 of the Insolvency Act 1986.

Where that happens, there will be an investigation into whether the directors had reasonable grounds to swear the statutory declaration of solvency. If the directors cannot prove reasonable grounds for swearing that declaration, they are guilty of committing a criminal offence and can be liable to an unlimited fine and/or two years imprisonment. It is possible that, as these unpaid creditors come out of the woodwork seeking repayment of their debts, we could be seeing a rush of MVLs being converted to CVLs.

A reliance on the declaration of solvency, coupled with the time pressure to make distributions before the 6 April 2016 deadline, may have resulted in IPs making distributions to shareholders before all creditors are fully paid. If a creditor appears after all the assets in the company have been liquidated, known creditors paid and shareholders have received the balance, who will be liable for the unpaid creditor’s debt?

What can IPs do if they have concerns?

It is the obligation of the IP in an MVL to ensure that assets of the company are distributed according to the statutory order of distribution and therefore, ensuring that there are enough assets to satisfy all the creditors in full before making distributions to shareholders. If they have not been thorough with their investigations into the company’s accounts, they could be vulnerable to a misfeasance claim for the value of the company's unpaid debts.

For this reason, it is always advisable that IPs always take deeds of indemnities from the members receiving early distributions (or, alternatively, a guarantee from any parent company) to protect them against any liability as a result. However, an indemnity is only worth the paper it is written on. In the event of an uncooperative or insolvent shareholder/parent company, with the costs and delays involved in contested litigation, it might not be possible to recover the full amount of any distribution made. Where an unpaid creditor’s debt was greater than the recovery under an indemnity, the IP could be personally liable for the shortfall.

Despite the (supposedly) quick and simple nature of the MVL, the rush to make distributions before the 6 April 2016 deadline means that there is a potential risk for both directors and MVL liquidators if creditors come out of the woodwork after distributions have been made, especially where the liquidation is tipped from a solvent to an insolvent one as a result.

Helen Kavanagh is a senior associate at Squire Patton Boggs, the UK-based professional support lawyer for the restructuring & insolvency practice and a non-appointment-taking licensed insolvency practitioner. Her experience includes advising on all aspects of contentious and non-contentious restructuring, recoveries and insolvency work including administration, administrative receivership, LPA receivership, bankruptcy and distressed sales and purchases

Charles Draper is a legal assistant in the restructuring & insolvency practice of Squire Patton Boggs.

The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.

Further Reading

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What is an MVL and where/when are they typically used?

What is a statutory declaration of solvency, and what happens if a false declaration of solvency is made

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First published on LexisPSL Restructuring and Insolvency

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