Restrictions on winding-up petitions: phasing out of temporary measures

The UK Government has announced changes to the regime for winding-up petitions. With effect from 1 October 2021, some of the protections currently afforded to businesses against aggressive debt recovery action are being phased out.

The changes are intended to avoid a 'cliff edge' for debtor companies when the current measures lapse at the end of September 2021, and have a tapering effect to avoid the flood of winding-up petitions that might otherwise be expected.

What are the current restrictions (in place until 30 September 2021)?

The current measures set a high bar for creditors seeking to issue a winding-up petition against a debtor company.

There is a blanket ban on statutory demands being used for presenting petitions and conditional restrictions on petitions that otherwise are based on a company's inability to pay its debts.

A creditor is prohibited from presenting a winding-up petition against a debtor company on the grounds that it is unable to pay its debts, unless that creditor has reasonable grounds for believing that either (i) COVID-19 has not had a 'financial effect' on the company; or (ii) the company would have been unable to pay its debts regardless of the financial effects of COVID-19. The 'financial effect' test is met if (and only if) the company's financial position has worsened in consequence of, or for reasons relating to, COVID-19.

What are the new restrictions (that will apply from 1 October 2021)?

From 1 October 2021, replacement restrictions will apply and in order to present a petition, a creditor will need to satisfy four conditions:

Condition A: the debt owed (i) must be for a liquidated amount; (ii) must have fallen due for payment; and (iii) cannot be in respect of rent or any other payment (for example insurance and/or service charges) due under a business tenancy (if the debt is unpaid by the tenant for reason of a financial effect of COVID-19);

Condition B: the creditor must have delivered a written notice to the debtor company, which seeks the company's proposal for payment of the outstanding debt (Warning Notice);

Condition C: a period of twenty-one days must have expired beginning with the delivery of the Warning Notice and without the company making a satisfactory proposal to the creditor for the payment of the debt; and

Condition D: the debt (or sum of the debts, where there is more than one) owed to the petitioning creditor must be at least GBP10,000 and where the petition is presented by more than one creditor, they must each meet Conditions A to C, with the sum of the debts owed to the creditors, being GBP10,000 or more.

No 'financial effect' test will apply except in relation to rent and any other payments due under a business tenancy. The new restrictions will be in place until 31 March 2022.

Do the new restrictions affect statutory demands?

No. The blanket ban under the current restrictions is being removed and the new restrictions do not impact the statutory demand process.

Statutory demands will once again be able to be used for the purposes of presenting a winding-up petition, albeit the actual petition will need to satisfy the four conditions.

The Government has not increased the amount required to serve a statutory demand which remains at GBP750. The threshold of GBP10,000 applies to the actual winding-up petition rather than the statutory demand – it is the first time that a base limit has been introduced for presenting a winding-up petition.

It is not a compulsory requirement for a creditor to serve a statutory demand on a debtor company before presenting a winding-up petition. However, a statutory demand is useful because, if it remains unpaid for more than three weeks, this can be used to support a winding-up petition on the grounds that the debtor company is unable to pay its debts.

Given that the time periods for a statutory demand and a Warning Notice are the same (3 weeks / 21 days) we anticipate that a creditor who is owed GBP10,000 or more will, under the new restrictions, serve a statutory demand on the debtor at the same time as the Warning Notice.

Does the new threshold apply in all circumstances?

Yes. On and from 1 October 2021, a minimum of GBP10,000 will need to be owed in all circumstances before a creditor or group of creditors can present a winding-up petition.

This is a significant change as there is currently no financial threshold for petitions based on an unsatisfied judgment debt, or on petitions where the creditor proves to the satisfaction of the court that the debtor is cashflow or balance sheet insolvent.

What is the new Warning Notice?

The serving of a Warning Notice introduces a requirement for creditors to demonstrate that they have sought to negotiate repayment of a debt, before seeking to wind a company up. The Government's aim appears to encourage and foster engagement between debtors and creditors which the current statutory demand process does not explicitly invite.

The new restrictions prescribe the content of a Warning Notice and the method for delivery of the same. They also require that as part of a creditor's winding-up petition application, it must include a statement confirming (i) that it has sent a Warning Notice to the debtor; but also (ii) whether it has received any proposals from the debtor company, and, if it has, a summary of the reasons why such proposals are not satisfactory.

It remains to be seen whether the court will assess the veracity or look behind the creditor's reasons for rejecting any proposals put forward by a debtor or whether a creditor's given reasons will be taken at face value. In the absence of any judicial guidance, it will be at the sole and absolute discretion of the relevant creditor as to whether a debtor's payment proposal is satisfactory.

Pending any such guidance, creditors should be wary of rejecting fair, reasonable and workable proposals for punitive and/or irrational reasons. Where any proposal is rejected, we suggest that creditors fully record and minute their rationale for the same, so that they have contemporaneous evidence to support the summary reasons for rejection given in any subsequent application for a winding-up petition.

Does a Warning Notice have to be sent in all cases?

A creditor can apply to court for an order that Conditions B and C don’t apply, or otherwise that the 21-day time period referred to in Condition C be replaced with a shorter period. However, in the absence of any judicial guidance it is unclear how ready a court will be to grant any such application.

Depending on the application process (and the circumstances in which the court might be willing to hear applications on an expedited basis), we expect that in all but the most urgent cases, it will be quicker (and more cost effective) to wait the 21 days rather than apply for any dispensation.

Creditors seeking to 'beat the queue' for a winding-up hearing and expedite the winding-up process, might look to serve a notice that conforms with the requirements of a Warning Notice ahead of the new restrictions coming into force. The regulations implementing the new restrictions do not seem to preclude this.

However, in our view the serving of a Warning Notice before 1 October 2021, in order to start the 21 day time period, would not be in the spirit of the new restrictions and the premature sending of a Warning Notice risks invalidating the same and any subsequent winding-up petition. Also, until the current restrictions expire, a creditor continues to be prohibited from serving a statutory demand on which it then relies for presenting a winding-up petition.

How are Landlords and Tenants impacted by the new restrictions?

The carve out at Condition A for rent and any other payments due under a business tenancy, means that petitions cannot be presented in respect of a commercial rent debt until 1 April 2022 unless the creditor can prove that non-payment of the debt is not related to the pandemic.

Arguably the new restrictions leave commercial landlords in a worse position than they were in previously. Other creditors will, from 1 October 2021, be free to use winding-up petitions as a means of enforcement (without having to evidence that COVID-19 has not had a 'financial effect').

The risk for commercial landlords is that debtor companies prioritise repaying non-rent debt, to avoid winding-up petitions being presented against them. This could have the effect of pushing commercial landlords to the back of the queue, with a debtor company's finances depleted by the time the landlord is allowed to enforce or otherwise proceed to arbitration (under the Government's planned statutory rent arbitration scheme, intended to be implemented before Spring 2022).

The continued protection of businesses from winding-up petitions that relate to commercial rent arrears broadly aligns with the Government's announcement in June 2021 of the extension to the suspension on the forfeiture of a commercial lease and on the use of Commercial Rent Arrears Recovery (CRAR) until 25 March 2022.

Summing-up

It remains to be seen whether the easing of restrictions will open the floodgates for winding-up petitions and compulsory liquidation. Other than for landlords, whose enforcement options against tenants in arrears will remain constrained, winding-up petitions will once again be a viable tool for many creditors.

The lack of an imminent 'cliff edge' has meant that many debtor companies have delayed restructurings. The renewed threat of winding-up petitions will act as a wake-up call to companies to actively engage with creditors.

We expect that the tapering measures will push viable companies who are cash poor due to recent trading restrictions, to make use of the range of restructuring tools available to them and where appropriate to work out a rescue.

HMRC enforcement has, during the period of the pandemic, been driven largely by companies failing to engage with it, rather than just the debtor's inability to pay. It is expected that HMRC will, at least for the foreseeable future, continue to take a cautious approach. Despite the phasing out of the current restrictions, we expect that the use of winding-up petitions and terminal insolvency will remain a last resort for debt owed to the Government which accrued during lockdown or when social distancing measures were in force.