Understanding the role of the accountant when a company is insolvent
Peter Barlow, a solicitor in our insolvency team, and Chris Bristow, a senior insolvency expert at Scotland Liquidators, part of Begbies Traynor Group, look at the role an accountant plays when a company is insolvent.
An accountant is likely to be one of the first to know that a client is approaching the point of insolvency. Whether it is the accountant who makes the client aware of this fact, or whether the client comes to their accountant seeking advice after realising their financial position is deteriorating, an accountant is often the first port of call.
Signs of insolvency
It is important to be aware of some of the major warning signs of impending insolvency. While these vary between companies, a company exhibiting any of the following should be seen as an indication that all may not be well with the financial and operational position of the business:
- Compromised cash flow;
- HMRC tax arrears;
- Inability to obtain further credit;
- Threatened or actual litigation action from creditors (including the serving of a statutory demand or winding up petition); and
- Escalating operating costs and/or falling profit margins.
When dealing with a financially and/or operationally distressed company, the first step is to determine whether it is indeed insolvent, or merely experiencing temporary financial concerns.
If it is a short-term cash flow issue, it may be possible to remedy the situation by injecting new funds into the business or tightening up existing collection and recovery processes to reduce late payments and the possibility of bad debt; however, if the situation is more serious, and the company is either cash flow or balance sheet insolvent, professional insolvency advice should be sought.
Time is very much of the essence once a company is knowingly insolvent or is believed to be heading towards an insolvent position; the sooner expert insolvency advice is taken, the greater the chances of being able to affect a successful turnaround. A licensed insolvency practitioner will be able to take an objective view of the company and confirm its current position.
Next steps
Once an insolvent company is introduced to a licensed insolvency practitioner, the role of the accountant within the process does not end. A client may ask their accountant to be involved in these initial discussions with the insolvency practitioner where the possible options for rescue or closure are explored.
Although the insolvency practitioner will identity the most appropriate process at this point, a client may still ask for the advice of their accountant as a trusted second opinion.
Once a strategy for either restructuring or liquidation has been decided upon, the appointed insolvency practitioner will take control of the company (depending on the chosen insolvency process) and they will thereon become the primary point of contact for the client.
An accountant will, however, often remain in contact with the insolvency practitioner, who is likely to require their assistance to formulate an accurate picture of the insolvent company’s current financial position. It is likely that they will be asked to furnish the insolvency practitioner with certain books, records and accounts to allow this to happen.
They may also be asked to reconcile the position from the last set of accounts until the start date of the chosen insolvency process.
Due diligence
Under section 235 of the Insolvency Act 1986, accountants have a duty to co-operate with insolvency practitioners and provide them with further information following on from when a company enters insolvency proceedings. An insolvency practitioner may require an accountant to provide information and/or books and records which relate to a company’s promotion, formation, business dealings, affairs or property.
An insolvency practitioner may require information from an accountant such as, but not limited to, a company’s previous accounts, payroll information and information regarding a company’s tax affairs.
If an accountant, without a reasonable explanation, fails to respond to an insolvency practitioners request for further information, then they may be subject to a fine.
If a company’s accountant continues to not comply with the requests made of them, this can result in an insolvency practitioner applying to court under section 236 of the Insolvency Act 1986, at which point an accountant could be required to attend a private examination at court, where questions about a company would be put to them.
Alternatively, a company’s director(s) may be asked questions, by an insolvency practitioner, relating to prior dealings of a company, on which they may need advice or guidance from the accountant.
In many cases the accountant will also be asked to assist in the preparation of key documents, such as a Statement of Affairs, which must accompany any proposed insolvency process presented to creditors.
Relationship following insolvency
Depending on whether an insolvent company is embarking upon a restructuring or turnaround strategy, or whether it has been decided that a company’s problems have taken it beyond the point of rescue, and liquidation is therefore the chosen route forward, an accountant’s future role with the client and their company may differ.
In the case where a company has been successfully restructured and is to continue trading, the accountant is likely to continue working with the business. Alternatively, upon the conclusion of liquidation, which typically occurs 3 months after the final return has been filed with Companies House, the company will cease to exist as a legal entity and thus end any relationship that existed between the company and the accountant.
Liquidation, however, does not necessarily mean the end of the relationship with the client as an individual. In many cases, directors of insolvent companies make the decision to incorporate a new entity following liquidation, armed with the experiences of their past venture to inform their future business decisions.
So, while insolvency may seem like the end of the road for a client’s relationship with their accountant, it is often just the beginning.