Potentially, yes. A company that is approaching liquidation is not automatically prohibited from making payments. However, once the company is insolvent, or the directors know that insolvency is likely, company money must be handled very carefully.

Directors should not simply pay the creditor who is demanding payment most loudly, a supplier they want to use in a future business, or a debt they have personally guaranteed. A selective payment made shortly before liquidation may be investigated and challenged as a preference.

The key question is whether the payment is commercially justified and benefits the company's creditors as a whole. Before making any significant or unusual payment, directors should obtain advice from a licensed Insolvency Practitioner.

What changes when a company becomes insolvent?

A company is generally considered insolvent when it cannot pay its debts as they fall due or when the value of its liabilities exceeds the value of its assets.

Once insolvency arises, the directors' responsibilities shift towards protecting creditors. Directors should preserve company assets, avoid worsening the financial position and refrain from favouring one creditor unfairly over another.

This does not mean that every creditor must always be paid equally or at the same time. Companies may still need to make legitimate commercial decisions, particularly where they are continuing to trade for a short period, completing profitable work or preserving valuable assets.

However, directors should be able to explain why a payment was made and why they believed it was in the interests of creditors generally.

Is every payment before liquidation unlawful?

No. A payment is not automatically unlawful simply because it was made shortly before a Creditors' Voluntary Liquidation.

A company may need to pay employees for recent work, purchase essential materials, maintain insurance, secure its premises, preserve accounting records or complete profitable contracts. Payments of this nature may be reasonable where the company receives proper value in return and the transaction does not worsen the position of creditors.

The circumstances and reasons for the payment are important. Directors should consider whether the payment was necessary, whether it related to new goods or services, whether it was clearing an old debt, whether the creditor was connected to the company and whether the payment reduced a director's personal liability.

What is a preference?

A preference can arise where an insolvent company does something that places a creditor, guarantor or surety in a better position than they would otherwise have occupied in the liquidation.

For example, a company may have £20,000 available but owe substantial sums to HMRC, employees and suppliers. If the company pays one supplier in full while leaving everyone else unpaid, the liquidator may investigate why that supplier was selected.

For a payment to be challenged successfully as a preference, the company must generally have been influenced by a desire to place that person in a better position. Where the recipient is connected to the company, that desire may be presumed unless evidence shows otherwise.

A payment is not necessarily a preference merely because one creditor received more than another. The liquidator will consider the company's financial position, the reason for the payment and the evidence available.

The review period is generally six months before the onset of insolvency for an unconnected creditor and two years for a connected party. If a preference is established, the court may order the recipient to repay the money or return property received.

Can I pay my staff before liquidation?

Sometimes, yes, although the position must be considered carefully.

Directors understandably want to ensure that employees receive their wages. Paying the normal payroll for genuine work recently completed may be appropriate where the company is continuing to trade for a short period, completing profitable contracts or bringing its affairs to an orderly conclusion.

The payment should form part of a properly considered plan, and there should be a reasonable prospect that the employees' work will preserve or increase value for creditors.

Greater caution is required where the company intends to pay some employees but not others, clear historic wage arrears selectively, pay a director or relative while other staff remain unpaid, or make bonuses, retrospective salary payments or unusual overtime payments.

Employees are not connected to the company merely because they work for it. However, an employee may be connected because they are also a director, shareholder or close relative of a director.

Where the company cannot afford to pay all amounts owed, eligible employees may be able to claim redundancy pay, unpaid wages, holiday pay and statutory notice pay through the Redundancy Payments Service once the company enters formal insolvency.

Directors should avoid making promises that employees will definitely receive everything they are owed, as employee claims are subject to eligibility requirements and statutory limits.

Can I pay suppliers before liquidation?

Potentially, but there is an important difference between paying for new goods or services and clearing an historic debt.

A company may need to pay for new materials, insurance, security, utilities, IT access or professional advice where those costs are necessary to complete profitable work, preserve assets or support an orderly closure.

Paying for new goods on a cash-on-delivery or payment-in-advance basis may be commercially justifiable because the company is receiving new value in return.

Paying an old supplier invoice shortly before liquidation carries greater risk, particularly where other suppliers remain unpaid, the supplier is connected to the directors, the debt is personally guaranteed or the directors want to preserve the relationship for a new company.

A director should not use the insolvent company's money to protect a future commercial relationship or obtain a personal benefit.

Creditor pressure does not automatically make a payment appropriate. A supplier may threaten to stop work or begin legal proceedings, but the directors should still consider whether making the payment will benefit creditors overall.

Where a supplier is essential to completing profitable work, the directors should record why the supplier was necessary, what income the company expected to receive and how the payment was expected to improve the position of creditors.

What if a supplier claims ownership of goods?

Some suppliers include retention-of-title clauses in their terms and conditions. These clauses may provide that ownership of goods does not pass to the company until the supplier has been paid.

Whether a retention-of-title claim is valid will depend on the contractual wording and whether the goods can be identified.

Directors should not automatically pay the supplier or return goods without taking advice. The proposed liquidator may need to review the contract and establish whether the goods belong to the company or the supplier.

Can I pay a debt that I have personally guaranteed?

This is one of the highest-risk areas.

If a director has personally guaranteed a bank loan, supplier account, lease or finance agreement, paying that creditor with company money may reduce the director's personal exposure.

The payment may therefore place both the creditor and the guarantor in a better position. It is likely to receive close scrutiny in a subsequent liquidation.

A director should not pay a personally guaranteed creditor simply because non-payment may affect them personally.

There may be circumstances where that creditor is also providing an essential service that preserves value for the company. However, the commercial reason must be carefully considered and documented before any payment is made.

Can I pay HMRC before liquidation?

Potentially, but HMRC should not automatically be paid ahead of every other creditor.

Where a company is continuing to trade as part of a genuine rescue attempt, it will usually be important to keep new tax liabilities current. Allowing further VAT, PAYE or other liabilities to build up may worsen the position and reduce the likelihood of agreeing a Time to Pay arrangement.

The position is different where the directors have concluded that the company cannot continue and intend to place it into liquidation.

Using all the company's remaining money to reduce historic HMRC arrears may leave nothing for employees, secured creditors, necessary professional costs or the preservation of company assets. The effect on all creditors must therefore be considered.

Certain taxes collected by a business from employees or customers are treated as secondary preferential debts in a liquidation. These include VAT, PAYE Income Tax, employee National Insurance contributions, student loan deductions and Construction Industry Scheme deductions.

Other liabilities, including Corporation Tax, employer National Insurance contributions and many penalties and interest charges, generally remain unsecured.

This affects the order in which HMRC may receive money within the liquidation, but it does not automatically mean that HMRC should be paid before the liquidator is appointed.

Should I pay HMRC to prevent a winding-up petition?

Urgent advice should be obtained.

Paying HMRC may sometimes prevent enforcement action and give a viable company time to refinance, collect outstanding debts or agree a Time to Pay arrangement.

However, where the company is no longer viable and the payment merely delays an unavoidable liquidation, using limited funds in this way may not benefit creditors generally.

Directors should consider whether the business can remain current with future tax liabilities, whether any proposed arrangement is affordable and whether the payment will genuinely stop enforcement action.

A partial payment should not be made on the assumption that HMRC will automatically suspend a winding-up petition. Any agreement should be confirmed directly with HMRC.

What if a winding-up petition has already been presented?

The presentation of a winding-up petition changes the position significantly.

Payments and other transfers of company property made after the petition has been presented may be void if a winding-up order is subsequently made, unless the court authorises them.

The company's bank account may also be frozen once the bank becomes aware of the petition. A validation order may be required before funds can be used.

Directors should not pay staff, suppliers, HMRC, themselves or any connected company after a petition has been presented without urgent insolvency and legal advice.

A threat to issue a petition, a statutory demand and an actual winding-up petition are different stages. It is therefore important to establish precisely what action has been taken and on what date.

Can I repay money owed to a director?

Repaying a director's loan account shortly before liquidation is particularly sensitive.

Where a director has previously lent money to the company, the director may be a genuine creditor. However, once the company is insolvent, the director should not simply repay themselves in priority to other creditors.

Because a director is connected to the company, a payment to them may be reviewed for up to two years before the liquidation. Similar concerns apply to payments made to a shareholder, family member, connected business or another company controlled by the director.

Directors should not withdraw money, reimburse personal expenditure or repay their own loan account without first confirming the legal and accounting position.

Can I pay another company in the group?

Companies within the same group remain separate legal entities.

Money belonging to an insolvent company should not be transferred to a parent company, subsidiary or associated business simply because the companies share directors, employees, premises or banking arrangements.

A payment may be valid where there is a genuine debt, proper supporting documentation and a clear commercial reason. However, connected-company payments will be examined carefully, particularly where the recipient is placed in a better position than external creditors.

What if the company has already decided to enter liquidation?

Once the directors have decided that the company cannot continue and should enter a CVL, the justification for further payments becomes much narrower.

The company may still need to pay necessary expenses to protect assets, maintain insurance, secure premises, preserve records, collect debts, obtain valuations or arrange the liquidation.

However, clearing selected historic debts after the decision to liquidate is likely to be questioned.

Before making further payments, directors should provide the proposed Insolvency Practitioner with an up-to-date bank statement, details of expected receipts and a complete list of creditors. The practitioner can then advise which costs may properly be paid and which funds should remain in the company.

What records should directors keep?

Directors should retain clear evidence explaining why any significant payment was made.

This may include board minutes, cash-flow forecasts, management accounts, supplier correspondence, legal demands, payroll records, personal guarantees, contracts, bank statements and calculations showing the expected benefit from completing a contract.

The records should be prepared at the time of the decision. Directors should never create or backdate documents later in an attempt to justify a payment.

Practical examples

A construction company has almost completed a project and will receive £30,000 once the final work is signed off. Completing the work will cost £8,000 in wages and materials. Subject to reviewing the contract, payment risk and wider financial position, paying those costs may benefit creditors because it is expected to produce a substantial net receipt.

By contrast, suppose a company has £10,000 in its bank account and the director uses £8,000 to clear a supplier account that they personally guaranteed. HMRC, employees and other suppliers remain unpaid. The payment reduces the director's personal exposure and places that supplier in a better position. It is likely to be investigated as a potential preference.

What should I do before making a payment?

Before paying staff, suppliers, HMRC or any connected party, directors should understand the company's current bank balance, expected receipts, total liabilities, secured debts, personal guarantees and any legal proceedings.

They should consider whether the company can realistically continue trading, whether the proposed payment will preserve value and how it will affect creditors as a whole.

The commercial reason for the payment should be recorded clearly, and advice should be obtained from a licensed Insolvency Practitioner before any significant or selective payment is made.

Early advice does not automatically mean that the company must close immediately. It often gives directors more options and helps ensure that decisions are properly informed and documented.

Getting advice from Parker Walsh

Deciding which bills can be paid is one of the most difficult issues facing directors of an insolvent company. Staff may need their wages, suppliers may be threatening to stop work and HMRC may be considering enforcement action.

There is rarely a universal answer. The company's cash position, prospects, assets, creditor priorities, personal guarantees and legal proceedings must all be considered.

Molly Monks F.I.P.A of Parker Walsh is a licensed Insolvency Practitioner with more than 20 years' experience advising directors of financially distressed companies. Parker Walsh can review the proposed payments and explain what can be paid, what should be retained and whether a Creditors' Voluntary Liquidation or another option is appropriate.

Our initial advice is free, confidential and provided directly by our in-house team.

Frequently Asked Questions

Can I run the normal payroll before liquidation?

Possibly. Paying normal wages for genuine work may be appropriate where the work benefits creditors and forms part of a properly considered trading or closure plan. Greater care is required where there is insufficient money to pay everyone or where directors, relatives or selected employees are treated differently.

Can I pay employees before HMRC?

There is no universal rule requiring HMRC to be paid before employees. The directors must consider the nature of each liability, the company's available funds and the effect of the payment on creditors generally.

Can I pay a supplier who is threatening court action?

Possibly, but the threat alone is not enough. The payment should have a genuine commercial justification and should preserve value or benefit creditors as a whole.

Can I pay HMRC to stop a winding-up petition?

Potentially, but urgent advice is required. The company should establish whether the business is viable, whether the payment will genuinely stop enforcement action and whether using the funds in that way is in the interests of creditors.

Can I repay myself for expenses?

Not automatically. Genuine business expenses may be owed to the director, but the director is still a creditor. Repayment shortly before liquidation may be investigated as a preference and should be reviewed before payment.

What happens if a payment is found to be a preference?

The liquidator may seek repayment from the recipient or apply to court to restore the position. Depending on the circumstances, the payment may also form part of the liquidator's review of the directors' conduct.

FAQs

What counts as the "onset of insolvency" for preference purposes?

It is a specific legal date used to calculate the look-back period, and it can differ depending on which insolvency procedure the company later enters. An Insolvency Practitioner will calculate the correct date for a particular case.

Can a preference claim be brought against a former director?

Yes. A payment made to someone who was a director or connected party at the time of the payment can still be reviewed, even if they have since left the company.

Do directors have to take legal advice before every payment?

Not every payment requires formal advice, but any significant, unusual or selective payment should be checked with a licensed Insolvency Practitioner first. This helps protect both the company and the director personally.

What happens to unpaid supplier invoices once liquidation begins?

Unpaid invoices become claims in the liquidation, and suppliers rank as creditors alongside others such as HMRC and employees, subject to any security or preferential status they hold.

Can directors agree a payment plan with creditors instead of liquidating?

Sometimes, depending on the company's prospects and the willingness of creditors. Options such as a Time to Pay arrangement or a Company Voluntary Arrangement may be available, and an Insolvency Practitioner can advise which route fits the circumstances.

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