‘Phoenixing’ is an unwelcome buzz word to many in the business community and, with company insolvencies on the rise, it is not one that is likely to go away soon. But what is a phoenix company and are they legal? And what do directors need to consider when looking to close their business and start again? Here, we take a closer look at the phoenix company phenomenon.
What is ‘phoenixing’?
‘Phoenixing’ occurs when an indebted company is closed through liquidation or dissolution, but is started again using the same assets and name. This is often an underhand practice designed to avoid paying creditors and leaving behind the accumulated debt to start with a clean slate.
Does this mean a phoenix company is illegal?
There is a huge difference between a business owner attempting to start a business again and one trying to avoid repaying debt. Business failures occur for many different reasons and often through no fault of the directors. UK insolvency law is there, in part, so that business owners can close a business legally and begin a new company without the burdens of the previous business continuing.
It is legal for a director to buy the assets and goodwill of the insolvent company, provided they are paying the market value and are taking responsible action towards the insolvent company’s creditors.
Unfortunately, this legal practice has been marred by those directors who attempt to use the insolvency process to defraud creditors. For this reason, the Insolvency Service has worked hard to tighten up all aspects of the insolvency process so that creditors are not placed at a disadvantage and the directors of the insolvent company have greater and defined legal responsibilities.
In short, ‘phoenixing’ as described above is illegal, but starting a business after insolvency is not, under certain conditions.
What are the rules regarding a phoenix company?
UK insolvency law allows company directors to set up a new business and trade in much the same way as the closed business. However, this is only as long as the individuals involved are not personally bankrupt and have not been disqualified from acting as directors.
At the heart of the old practice of ‘phoenixing’ was carrying on a business with the same name after liquidation. Because of this, specific restrictions have been brought in under the Insolvency Act. Section 216 makes it a criminal offence to use the same or a similar name as the company that has entered liquidation for a period of five years (with exceptions). These restrictions apply to anyone who has been involved in the formation or management of the liquidated company.
We have found that a director wishing to carry on the name of their business is often down to emotional attachment, rather than anything nefarious. But directors need to consider the benefits of starting a new venture without any of the reputational burdens that are attached to the closed business and its name.
Pre-packaged sale refers to a pre-arranged sale of company assets, usually to the company directors. It is common practice to sell the assets and goodwill of the insolvent company through a pre-packaged sale. This can often be the best deal for directors and creditors alike. This is because the pre-pack is likely to be worth more to the directors of the insolvent company than on the open market, meaning there will be more funds available to disburse to the creditors.
The pre-pack value will need to be proven that it is a reasonable and fair price and the current asset value thoroughly assessed. The valuation of the assets must be independent and provided by a Royal Institute Chartered Surveying agent.
One of the greatest advantages of pre-packaged sales is the saving of jobs, which would otherwise have been lost through the business closure.
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When is a phoenix company prohibited?
If a company fails as a result of misconduct of the directors, it is the duty of the insolvency practitioner to report this to the Insolvency Service for further investigation. If the Insolvency Service finds evidence of unfit conduct on behalf of the directors, a director disqualification can be sought. The director would then be banned from forming, promoting or managing a business for a period of between 2 and 15 years.
Due to the tax debt that inevitably builds through repeated phoenixing, HMRC has brought in specific guidelines to assess if a director has repeatedly used insolvency to avoid paying taxes.
HMRC outlines four conditions that need to be met in order for a penalty notice to be issued:
- in the five years prior to the notice, the director had been involved with at least two companies (the old companies), which had entered into an insolvency procedure and owed taxes to HMRC;
- the director is connected with a new company that is carrying on a trade similar to the old companies;
- at least one of the old companies still owes taxes to HMRC; and
- the amount owed is at least £10,000 or 50% of the amount owed to the creditors
If a director has received an HMRC notice, we would advise they seek professional advice from an insolvency practitioner or solicitor.
Further advice on phoenix companies
Not all legitimate businesses are able to succeed, particularly in the current conditions. If the profitable elements of a company are able to survive in the form of a new business, and the directors of the insolvent company have acted legally and responsibly to their creditors, then setting up a new company is the best result.
How we can help
We have extensive experience in advising on restructuring and insolvency, closing a business and pre-packaged sales and we will always work with you to find the best solution for your business.
One of our Partners would be more than happy to have a non-obligatory confidential chat with you. We can be contacted at email@example.com or call us on 020 3326 6454 and we will arrange for a call with one of our Partners.
This guidance article was written by Insolvency Practitioner, Louise Freestone, Partner at Opus.