Return of the Crown Preference – what does that mean for qualifying floating charge holders?

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There is no doubt that the coronavirus outbreak has had a devastating impact on businesses in the UK. With the second lockdown set to transition into more severe county-wide tiers, concerns about long term survival are setting in.

Difficult conversations were already taking place and the words ‘insolvency’ and ‘restructuring’ are contenders for the word of the year in 2021. The collapse of the Arcadia group and its likely knock-on effect for Debenhams and the retail supply chain have recently brought the reality for creditors into sharp focus. And there’s more bad news for creditors with the restoration of HMRC’s status as a secondary preferential creditor kicking in today (1 December).

Until now, HMRC was an unsecured creditor – last in the queue in the order of priority when a company became insolvent. It was demoted to this position under the Enterprise Act 2002 with the aims of making the insolvency process fairer overall for all creditors and encouraging a rescue culture amongst failing companies.

From 1 December, HMRC moves up the creditor hierarchy to become a secondary preferential creditor for the purpose of recovering sums due for VAT, PAYE, Employees’ NI Contributions, Construction Industry Scheme Deductions and student loan payroll deductions. However, it remains an unsecured creditor for the recovery of other taxes owed by the business, such as Employers’ NI Contributions and Corporation Tax.

In practice, the change means that where HMRC is a creditor, its preferential claims will be paid in full before unsecured creditors and qualifying floating charge holders, the latter being predominantly banks. As such, there are serious fears within the insolvency profession that the banks will take a more cautious approach to lending, whilst HMRC will be emboldened to push debtor businesses into an insolvency process, knowing that it is more likely to be paid. HMRC does have a duty to recover unpaid taxes after all.

The upshot of all this is that the cost of lending and availability of refinancing opportunities will be reduced as banks and major lenders take a more cautious approach to lending. This comes at exactly the time when businesses need all the support they can get and is hardly a recipe for the rescue culture this economy will need coming out of the pandemic. Add to this the lifting of the moratoria on winding up petitions and landlord action, the end of the furlough scheme and the end of the Business Rates holiday and you have a recipe for failure. Any business owners and stakeholders considering their turnaround or rescue strategy will need to work hard in the coming weeks to prepare.