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What is wrongful trading? Am I trading wrongfully?
We are often asked what this means because directors have talked to their accountants, advisors, insolvency practitioners or a man in the pub. They may have said "be careful if your company is insolvent then you will be guilty of "wrongful trading"!
Often this is simply not true, based on poor and incomplete knowledge and often scaremongering! The simple explanation is this:
Is the company insolvent? If yes then the directors must act properly and responsibly. If they do not act properly or the way any reasonable person would have acted, then this may possibly be seen as acting wrongfully or trading whilst insolvent. If wrongful trading is proven, then the directors can be made personally liable for the company's debts from the time they knew the company was insolvent.
The tests for wrongful trading actions include:
- Not filing Annual Returns for the company at Companies House.
- Not filing annual or audited accounts at Companies House.
- Not operating the PAYE scheme correctly, failing to pay PAYE and NIC when due, building up arrears.
- Not operating the VAT scheme correctly, building up arrears.
- Taking excessive salaries when the company cannot afford them.
- Taking credit from suppliers where there was no "reasonable prospect" of paying the creditor on time.
- Willfully piling up debt.
- When in a hole keeping digging!
Please note you don't have to tick all of the above tests to be at risk of wrongful trading!
Formal insolvency procedures
Wrongful trading can only apply in terminal insolvency and can only be commenced after a formal insolvency event. What is a formal insolvency event? For example Creditors Voluntary Liquidation, Administration, Administrative Receivership or Compulsory Liquidation. Wrongful trading does not apply in Company Voluntary Arrangements, Trading Out, Refinancing.
What if there is no insolvency event?
These actions may occur even though the company may not enter any formal insolvency. If that happens, then be very careful! Keep records of why returns were not filed on time. Write careful minutes of board meetings and shareholders meetings. Keep them safe. In future they may help protect you as a director. The common sense answer to wrongful trading is – if your company is insolvent and you know it – DON'T KEEP DIGGING THE HOLE! Take advice from us immediately on 0800 9700539.
What does not operating the PAYE/VAT scheme actually mean?
Not paid the deductions of PAYE and NIC across to HM Revenue & Customs? Well, as you will now know that is something that they do not like! Basically, its tax payer's money and the collectors are there to collect it.
HMRC (what was the Inland Revenue and HM Customs & Excise previously as separate government organisations) now has a central database and can spot slow payments or missed payments much more quickly now.
If your company is not paying PAYE & NIC on time then it is probably insolvent, so see our guide to "Is our company Insolvent". Non payment of tax is a failure to comply with the tax legislation and also signifies publicly (loud and clear to HMRC) that the company is potentially insolvent. So, you need to act properly and deal with this serious threat to your company.
Remember that if the company is terminally insolvent you may be personally liable for the debts, if you continue to trade. whilst doing nothing about the problems that it faces.
Wrongful trading can be a real problem where ongoing tax arrears are building up and the company and enters insolvent liquidation. So, act carefully, keep notes of any decisions and always write down the names of people you speak to at HMRC. Take advice from experts, above all act promptly, as delay may just lead to more problems for you as directors.
What are the available options?
- Time to Pay Deal with Tax and VAT. Why not use our expert programme, written by our MD Keith Steven? We guarantee you'll get a time to pay deal with HMRC or your money back.
- Trading out, - Visit this guide to how to deal informally with the problem. This can avoid formal approaches like voluntary liquidation, CVA, compulsory liquidation and administration.
Some important tips
- Don't wait until legal actions have been taken against the company to ask for a "time to pay" deal with HMRC.
- Try to plan the cashflow of the business well in advance - you have a legal obligation to be able to meet cashflow requirements! If the directors do not think the company has sufficient cash to trade, they should consider their obligations and options and plan a way forward.
- Don't be too ambitious in planning repayment; you will have bad months as well as good, so be careful with the cashflow forecasts.
- Worried about legal actions? go to this page for more details.
- Be realistic about your expectations -ask for 18 months to pay back PAYE, knowing that you will probably get 6-9 months at most.
- Ask for 6 months for VAT.
- If your cashflow forecast says you cannot afford that fast a repayment programme, then consider a company voluntary arrangement - CVA.
We think that, if the company is viable but insolvent, this is the most powerful way of dealing with a serious cashflow problem and tax arrears (which proves insolvency). Important tips,
- HMRC supports well proposed CVA's!
- The company does not have to pay back all of the debt.
- Directors remain in control
- Do Nothing! Are you serious? This may lead to: Bailiffs, Sheriffs, walking possession, distraint and more worry - see here for How to deal with Legal Actions and formal insolvency like Creditors Voluntary Liquidation, Administration, Administrative Receivership.