Liquidation vs bankruptcy: what’s the difference?
At 1st Business Rescue, we understand that insolvency can be challenging to understand. There are many elements to think about during an already stressful time. In this blog, we’re answering the question, what’s the difference between liquidation vs bankruptcy?
Many directors we speak to get confused and ask, ‘Is insolvency the same as bankruptcy?’ This is generally because people think that liquidating a company must be done because there’s no money left. This is not always the case.
What is insolvency?
An insolvent company is one that cannot afford to pay its debts when they fall due. It can also be used to describe a company whose liabilities are worth more than its remaining assets. This can lead to all sorts of financial difficulties and lots of stress for the company director.
The best thing to do would be to use a legal process to close the company down. All formal insolvency procedures require the appointment of a licensed insolvency practitioner to complete.
What is bankruptcy?
Bankruptcy is a personal procedure in which an individual is unable to pay their debts. This would lead to them filing for bankruptcy. Alternatively, an individual may be forced into bankruptcy by someone they owe money to. These are more likely to be personal debts owed rather than company debts unless a personal guarantee has been signed.
These guarantees can lead to personal liability for directors and can make it difficult to avoid bankruptcy. A director in question would face a bankruptcy petition and be required to pay liabilities.
What is a liquidation?
Liquidation and bankruptcy are very different. This is because liquidation only affects a company rather than an individual. Liquidation is an insolvency procedure used by a company that may be in financial distress.
In the same way as bankruptcy, if a company can no longer afford to pay their debts, they may choose or be forced to enter a liquidation and company closure procedure. Seeking early advice is crucial if you are worried that you may need to enter a formal insolvency procedure.
There are a few forms of liquidation that you may wish to consider:
Members voluntary liquidation
A member’s voluntary liquidation (MVL) is used by companies that have enough money in the bank to pay off their debts over a period of time. A formal agreement must be made on this, showing that the company’s shareholders can pay the remaining debts.
When they enter the MVL process, the creditors are paid in full, and the business no longer exists. This method is often used by those who no longer need to use their company, such as contractors dealing with IR35 and closing a limited company.
Creditors voluntary liquidation
Businesses that do not have enough money to pay off their creditors’ debts can use a creditors’ voluntary liquidation. The positive aspect of this liquidation process is that directors enter it voluntarily which can allow for more control for directors.
Company assets may be sold to generate money to pay company debts. If the company’s financial future is feasible, you may be able to pay creditors using a different method, such as a CVA or pre-pack liquidation.
Compulsory liquidation
A compulsory liquidation begins after a creditor issues a winding-up petition and court order to the business. In these cases, the company’s creditors have tried multiple times to get the money they are owed and have been unsuccessful. Company directors will have very little control over the situation and may face increased scrutiny from the Insolvency Service.
It’s best to avoid compulsory liquidation as it shows you have not complied with your director’s responsibilities and have likely tried to continue trading while burying your head in the sand regarding the business’s debts.
Bankruptcy vs insolvency
While both procedures are concerned with being unable to pay business debts. The key difference between bankruptcy and insolvency is that bankruptcy is personal insolvency. Insolvency and liquidation are for company use, and a licensed insolvency practitioner must assist with the sale of the company’s assets and closure.
We received a call earlier from a client who asked, ‘If I liquidate, does that make me bankrupt?’ The answer is no, and it is the same in 99% of cases.
A liquidation is the formal ending of a company. This has absolutely no bearing on the director’s credit score unless you have signed a personal guarantee. We’ll let you know more about these below.
Having a limited liability company means that the company is a separate legal entity from its directors, meaning they are not responsible for paying back outstanding debts that the company owes.
Liquidation vs bankruptcy: I’ve signed a personal guarantee
A personal guarantee is essentially used as a promise that a director will pay debts if the company cannot. This is an extremely risky chance to take, as any business can experience financial difficulties for a number of reasons. When loaning money from creditors such as the bank, you will usually be required to sign a personal guarantee.
For the bounce-back loan, directors were not required to sign personal guarantees. Instead, the government provided security to the lenders. This means that if the money has been used correctly, and your business ends up being liquidated, the bounce-back loan would be written off.
If you’re worried about personal guarantees, seek advice as soon as possible. A personal guarantee would affect both liquidation and bankruptcy. We hope this blog has been helpful regarding the difference between liquidation and bankruptcy. We’re here to provide support on all areas of business rescue and closure. Contact us today.
I'm Chris Worden, Managing Director at 1st Business Rescue. With over 7 years of experience, I help UK directors navigate the complex world of UK corporate insolvency. We offer free and independent advice to UK directors and advise them about what options may be available to them if their limited company starts to struggle.
I am passionate about helping other directors overcome their business challenges and get back on their feet, as I was once in the same position as them. I had a business that became insolvent, and the advice out there was confusing and overwhelming. I am here to provide honest and valuable advice to UK directors.
I am proud to say that we are one of the only 5-star corporate insolvency companies on Trustpilot with hundreds of 5-star reviews, and we publish videos weekly on our YouTube channel. Our channel is designed to educate UK directors about insolvency and debt advice. Check it out here:
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