Insolvency procedures: winding up part 6, Inability to pay debts

There are a number of ways in which the company can be shown unable to pay its debts for the purpose of making a compulsory winding up order to liquidate the company. These are set out in section 123 of the Insolvency Act 1986.

The typical starting point before issuing such a winding up petition is to serve a statutory demand. That is a written demand in a specified form sent by a creditor to whom more than £750 is owed. It has to be served at the registered office of the company, require the company to pay that sum and the company has to be given a full 21 days after service to comply with the demand. The form is a prescribed one and the contents of the statutory demand have to comply with various requirements set out in rules 4.4-4.6 of the Insolvency Rules 1986 (including information showing how the debt is said to arise, the consequence of non-compliance and as to how the alleged creditor can be communicated with). If there is a defect in the demand then it is a question of the nature of the defect and the consequences as to whether the demand will be regarded as one which gives effect to the entitlement to issue a winding up petition.

There is only a failure to comply with the demand if there is a neglect to pay. Neglect does not mean failure but failure to pay without a reasonable excuse. Therefore if the company disputes that the debt is due, there will be no presumption of insolvency arising from a failure to make the payment. Of course whether the debt is properly disputed depends upon the circumstances. The test is often described as whether there is a substantial dispute or bona fide dispute. The court is not going to undertake a trial in order to decide whether the debt is due.

For example let us say an alleged debtor puts forward a supposed defence. On behalf of the company director may say that certain facts exist. That director may argue certain legal consequences from the facts. In general unless it is obvious that even if the facts are true that there is no defence then no winding up order can follow. Very rarely if it is obvious that the facts alleged must be nonsense (for example if someone had written a letter before putting in evidence saying that they were going to lie in order to try and avoid a winding up, it would be likely that that evidence would be regarded as unreliable, although of course it is always possible that the person would dispute having written the earlier letter and if it was signed in order to resolve that dispute there might have to be expert handwriting evidence) the winding up might be allowed to proceed notwithstanding a dispute. There may also be issued about the extent of the dispute. If the allegation is that the company owes £100,000, then a potential defence as to £90,000 will not avoid a winding up unless the £10,000 is paid or there is some genuine reason for not paying it.

Sometimes there can be an issue as to the nature of the defence. Some forms of defence give rise to what is known as set off. This is a fairly complicated topic but it means that it affects the demand itself. In other words if it is something which can be set off (such as another debt) then instead of there being a liability on one side and a liability on the other, there is only a balance. Sometimes however there are potential claims which could not be set off, but which could lead to the debt eventually being wiped out and ordinarily the court would not allow a winding up to proceed in those circumstances.