A small change in the law at the start of December will have big consequences for lenders and corporate borrowers.
Lenders enforcing floating charges after 1 December 2020 will rank behind unpaid VAT, PAYE, Employee NICs and certain other government payments including Student Loan deductions and Construction Industry Scheme deductions.
This means that money previously available for creditors in an insolvency will now go to HMRC instead. This will be a significant concern to lenders looking at the value of their security.
Importantly, the new rules will apply to all debentures and not just those entered into after 1 December 2020.
The Government describes the rationale for this change in the law as:
“When a business enters insolvency more of the taxes paid in good faith by its employees and customers, and temporarily held by the business, will go to fund public services rather than being distributed to other creditors.”
In many ways (excluding Student Loans which did not exist at the time), this is similar to how the law operated before the Enterprise Act 2002 took away the old Crown Preference, but there are some important changes.
Interestingly, there is no limit on how far back HMRC can claim for payment. It is not just the taxes in the run up to the insolvency that are captured by the crown, but all taxes that the business may not have paid. Under the old rules, there was a limit.
In further bad news for floating charge holders, the amount of the prescribed part (which is the money set aside for unsecured creditors) has been increased by £200,000 to £800,000, which further reduces the money available for the floating charge holder.
These changes do not affect fixed charges and so, wherever possible, well-advised lenders will be looking to put documents and processes in place to improve the chances of their security being classified as fixed rather than floating.
Lenders should also be taking a close look at financial covenants and closely monitoring the borrower’s payments to HMRC. Lenders may also take the opportunity to look at the rest of their security package, including possibly personal guarantees, to reduce their reliance on the floating charge element of their security.