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Return of Crown Preference

On 1 December 2020 Crown preference in relation to unpaid taxes reappeared on the insolvency landscape for the first time since the abolition of the doctrine in the Enterprise Act 2002.

Debts owed to HMRC are now to rank as secondary preferential debts, ranking after employees’ preferential claims but, importantly, before claims of floating charge holders.

For insolvencies commencing on or after 1 December 2020 secondary preferential status is granted to any money owed to HMRC relating to certain types of tax which a company has collected on behalf of others. The relevant types are currently VAT, PAYE, employee national insurance contributions, construction industry scheme deductions and student loan repayments. HMRC’s claim for these taxes will rank in priority to floating charge holders and unsecured creditors but not to ordinary preferential creditors, which include fixed charge holders and expenses of the administration/liquidation, which will include the fees of the insolvency office holder.

Other tax debts which a company owes to HMRC on its own account, such as corporation tax, will still rank as ordinary unsecured claims.

The application of the legislation depends on the date on which the insolvency proceeding commences. Neither the date the tax debts were accrued nor the date of the floating charge are taken into account.

Impact on invoice financiers

In the big picture invoice finance as a product should be a beneficiary of these changes, because of course as owner of assigned debts the funder has an absolute as opposed to a security interest so in relation to the assigned debts themselves no question of priority arises in the event of an insolvency.

Security taken by invoice financiers in the form of valid fixed charges over assets such as non-vesting debts will be seen to be even more valuable in comparison to floating charge security, so in practice invoice finance should become more attractive considering that standard working capital facilities consisting of overdrafts, cashflow loans or revolving credit facilities are likely to be wholly or partially secured by floating charge security.

It is also worth remembering that “the prescribed part” of floating charge realisations that is set aside and made available to unsecured creditors in priority to floating charge holders was increased as from 6 April 2020 to a maximum of £800,000 in respect of floating charges granted on or after that date or £600,000 in respect of those granted earlier, thus further by diluting the relative value of floating charges as opposed to fixed charges or outright ownership of debts.

These changes also increase the importance of invoice financiers exercising sufficient control over assets purportedly subject to a fixed charge to mitigate the risk of such security being re-characterized as floating security and therefore diluted by the Crown Preference.

The other point to be noted by invoice financiers is that they need to consider the extent to which they monitor their clients tax liabilities to HMRC, since problems with unpaid taxes will often be an early warning signal of financial trouble ahead.