Insolvency is the state of being unable to pay the money owed, by a person or company, on time; those in a state of insolvency are said to be insolvent. There are two forms: cash-flow insolvency and balance-sheet insolvency. Cash-flow insolvency is when a person or company has enough assets to pay what is owed, but does not have the appropriate form of payment. For example, a person may own a large house and a valuable car, but not have enough liquid assets to pay a debt when it falls due. Cash-flow insolvency can usually be resolved by negotiation. For example, the bill collector may wait until the car is sold and the debtor agrees to pay a penalty. Balance-sheet insolvency is when a person or company does not have enough assets to pay all of their debts. The person or company might enter bankruptcy, but not necessarily. Once a loss is accepted by all parties, negotiation is often able to resolve the situation without bankruptcy. A company that is balance-sheet insolvent may still have enough cash to pay its next bill on time. However, most laws will not let the company pay that bill unless it will directly help all their creditors. For example, an insolvent farmer may be allowed to hire people to help harvest the crop, because not harvesting and selling the crop would be worse for his creditors. It has been suggested that the speaker or writer should either say technical insolvency or actual insolvency in order to always be clear - where technical insolvency is a synonym for balance sheet insolvency, which means that its liabilities are greater than its assets, and actual insolvency is a synonym for the first definition of insolvency (" Insolvency is the inability of a debtor to pay their debt."). While technical insolvency is a synonym for balance-sheet insolvency, cash-flow insolvency and actual insolvency are not synonyms. The term "cash-flow insolvent" carries a strong (but perhaps not absolute) connotation that the debtor is balance-sheet solvent, whereas the term "actually insolvent" does not.
1 Technical definitions
5.1 Australia 5.2 Canada 5.3 India 5.4 South Africa 5.5 Switzerland 5.6 Turkey 5.7 United Kingdom 5.8 United States
6 See also 7 References 8 Further reading 9 External links
Cash-flow insolvency involves a lack of liquidity to pay debts as they
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In the United Kingdom, the term bankruptcy is reserved for individuals. Insolvency is defined both in terms of cash flow and in terms of balance sheet in the UK Insolvency Act 1986, Section 123, which reads in part:
123.-(1) A company is deemed unable to pay its debts --- (a) if a creditor (by assignment or otherwise) to whom the company is indebted in a sum exceeding £750 then due has served on the company, by leaving it at the company's registered office, a written demand (in the prescribed form) requiring the company to pay the sum so due and the company has for 3 weeks thereafter neglected to pay the sum or to secure or compound for it to the reasonable satisfaction of the creditor,... (2) A company is also deemed unable to pay its debts if it is proved to the satisfaction of the court that the value of the company's assets is less than the amount of its liabilities, taking into account its contingent and prospective liabilities... — Insolvency Act 1986, Section 123 (Part IV, Chapter VI), p. 68.
A company which is insolvent may be put into liquidation (sometimes
referred to as winding-up). The directors and shareholders can
instigate the liquidation process without court involvement by a
shareholder resolution and the appointment of a licensed Insolvency
Practitioner as liquidator. However, the liquidation will not be
effective legally without the convening of a meeting of creditors who
have the opportunity to appoint a liquidator of their own choice. This
process is known as creditors voluntary liquidation (CVL), as opposed
to members voluntary liquidation (MVL) which is for solvent companies.
Alternatively, a creditor can petition the court for a winding-up
order which, if granted, will place the company into what is called
compulsory liquidation or winding up by the court. The liquidator
realises the assets of the company and distributes funds realised to
creditors according to their priorities, after the deduction of costs.
In the case of Sole Trader Insolvency, the insolvency options include
Individual Voluntary Arrangements and Bankruptcy.
It can be a civil and even a criminal offence for directors to allow a
company to continue to trade whilst insolvent. However, two new
insolvency procedures were introduced by the
Insolvency Act 1986
Administration is a procedure to protect a company from its creditors
in order for it to be able to make significant operational changes or
restructuring so that it could continue as a going concern, or at
least in order to achieve a better outcome for creditors than via
liquidation. In contrast to
One particular type of Administration that is becoming more common is
called pre pack administration (more information under administration
(law)). In this process, immediately after appointment the
administrator completes a pre-arranged sale of the company's business,
often to its directors or owners. The process can be seen as
controversial because the creditors do not have the opportunity to
vote against the sale. The rationale behind the device is that the
swift sale of the business may be necessary or of benefit to enable a
best price to be achieved. If the sale was delayed, creditors would
ultimately lose out because the price obtainable for the assets would
In addition to the above-mentioned corporate insolvency procedures, a
creditor holding security over an asset of the company may have the
power to appoint an insolvency practitioner as administrative receiver
or, in Scotland, receiver. The process, latterly known as
administrative receivership or, in Scotland, receivership, has existed
for many years and has often resulted in a successful rescue of a
company's business via a sale, but not of the company itself. Since
the introduction of the collective insolvency procedure of
Administration in 1986, the legislators have decided to set a shelf
life on the administrative receivership or, in Scotland, receivership
procedure and it is no longer possible to appoint an administrative
receiver or, in Scotland, receiver under security created after 15
In individual cases the bankruptcy estate is dealt by an official
receiver, appointed by the court. In some cases the file is
transferred to RTLU (OR Regional Trustee Liquidator Unit) that will
assess your assets and income to see if you can contribute towards
paying costs of bankruptcy or even discharge part of your debts.
^ Graeme Pietersz. "Moneyterms Investment Definitions".
^ Fundamentals of Corporate Finance, Ross-Westerfield-Jordan, 10th e,
^ Graeme Pietersz. "Moneyterms Investment Definitions".
^ Downes, John, and Jordan Elliot. Goodman. Dictionary of Finance and
Investment Terms. Hauppauge, NY: Barron's Educational Series, 2003.
Insolvency Act 1986, Section 123
Mańko, Rafał. " Cross-border insolvency law in the EU" (PDF). Library Briefing. Library of the European Parliament. Retrieved 21 February 2013.
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