Following a recent change affecting creditors of companies in financial difficulty, will HMRC continue to accept a Company Voluntary Arrangement (CVA)?
FPM Director Seamas Keating explains the criteria for assessing CVA proposals.
What happens when a company enters a Company Voluntary Arrangement?
A Company Voluntary Arrangement (CVA) is a rescue process introduced more than 30 years ago to enable companies in financial difficulty to enter into a legal arrangement with their creditors for the settlement of their debts over a fixed period of time.
In a CVA, a company’s creditors are treated differently depending on whether they are preferential or unsecured. A preferential creditor’s debt cannot be fully or partially written down without the creditor’s agreement. To be approved, the CVA requires 75% support from the company’s unsecured creditors.
Why are Company Voluntary Arrangements in the news?
Currently, there are fears that a recent change affecting the Company Voluntary Arrangement (CVA) treatment of tax debts could spell the end for the CVA business rescue process.
So, what’s changing? Until recently, HMRC was an unsecured creditor in a Company Voluntary Arrangement. However, under a change introduced on 1 December 2020, an element of HMRC debt now has preferential status while taxes collected by third parties (e.g., VAT, PAYE, and Employees NIC) have secondary preferential status. In effect, this means that tax debts must be paid before unsecured creditors and floating charges.
How does this affect creditors?
HMRC’s new preferential status greatly enhances their role in the potential acceptance and success of a Company Voluntary Arrangement. Meanwhile, the new treatment of tax debts will potentially have significant consequences for lenders, banks, and unsecured creditors. The full effect of the change has yet to be seen as it was delayed due to the business supports introduced in response to the COVID19 pandemic. However, as these supports expired on 1 April 2022, it is likely there will now be an increase in creditor winding up petitions.
What criteria will HMRC use when assessing a Company Voluntary Arrangement?
Traditionally, HMRC tended to take a favourable view of proposals made by companies with a good compliance history provided the proposed CVA was feasible and fair to creditors. While new criteria published in July 2021 re-emphasise this willingness to consider fair and feasible proposals, it is clear that HMRC expect all preferential creditors to be paid in full before any dividend is made available to unsecured creditors. In effect, this means that a commercial restructuring plan using the CVA rescue process can be rejected if HMRC refuse to write down their preferential debt.
What if there are no funds left for unsecured creditors?
Where all of a company’s available funds are required for repayment of HMRC preferential debt, it is not commercial to ask unsecured creditors to accept the Company Voluntary Arrangement. Therefore, in situations where the funds available for restructuring are limited, it may not be possible to formulate a realistic CVA proposal. That said, one possible solution may be to negotiate a longer ‘Time to Pay’ arrangement with HMRC so as to facilitate the CVA.
Will HMRC accept a partial write-down of tax debt?
Unfortunately, a CVA proposal formulated with a reduced return to HMRC so as to reserve some return for unsecured creditors will not be approved by HMRC as it falls outside their published criteria even though the proposal, if accepted, could result in a better outcome for all parties.
Can a Company Voluntary Arrangement be forced on creditors?
Whilst the terms of a CVA cannot be forced upon creditors, the Government’s December 2020 Act includes provision for a Court-approved restructuring plan which can be forced on all classes of creditors in a scheme of arrangement. In theory, this presents a potential solution to overcome the difficulties mentioned above however the Court process is costly which means it is likely that only larger corporates will avail of this option.
Outlook for CVAs
At the time of writing, the impact of the new CVA rules remains to be seen. For now, all we can say for sure is that regardless of whether or not HMRC will accept a CVA, the recent changes will make it more difficult to formulate effective restructuring proposals for SMEs.
So, to answer the question we posed to our Restructuring & Recovery Team at the outset of this article – ‘Will HMRC accept a CVA?’ —It appears that fair and reasonable proposals will be accepted provided preferential creditors are paid in full before any dividend is made available to unsecured creditors.