29th November 2018HMRC preferred creditor status renewal from 2020 a regressive move

H M Revenue & Customs is a significant creditor in a large number of business insolvencies and views itself as an involuntary creditor. So the recent announcement by the Chancellor in the Budget that HMRC will return to being classed as a preferred creditor from 2020 is an attempt to claw back something the government gave up back in 2002, as part of a deal with the banks negotiated at the time of the introduction of the Enterprise Act. But this feels like a regressive move. The danger behind this reform is it could have the effect of reducing bank lending to businesses, both in terms of rescue loans but also business loans more broadly.

Often banks are the first ranking creditor in a business insolvency under their fixed charge or legal mortgage, which bites on assets such as property, intellectual property and goodwill as the bank will have lent the business the money to acquire the property or develop the business in the first place. After the banks’ fixed charge come the preferential creditors, principally relating to unpaid wages and salaries, holiday pay and unpaid pension contributions.

Then the banks have a second bite at the assets under their floating charge, which will fasten on assets such as stock, motor vehicles and book debts. However, this floating charge will be subject to a fund that is to be set aside for unsecured creditors to receive a small dividend in advance of the floating charge creditors. Then at the bottom of the creditor pile are the trade and expense creditors or unsecured creditors who only rank ahead of the shareholders.

Currently, HMRC sits with the unsecured creditors in the chain in terms of who has to be dealt with in a business insolvency but obviously that means there are a number of occasions where unpaid tax and National Insurance either isn’t collected at all, or only a fraction that is owed is ever recovered.

The proposed changes to be brought in from 2020 would put HMRC effectively second after only the banks to collect on any unpaid debts. But also crucially it puts HMRC in front of the banks in terms of the collection of any floating – ie not fixed charge assets. So, essentially what the government appears to be trying to do is jump up the queue in these insolvency cases and as a result get itself a bigger slice of the cake.

In response to this change, it is highly likely banks will have to take a much closer look at their lending risk profile in light of the evidence that they would get less back if the business became insolvent. Ultimately, it could lead to much tighter business lending conditions and could stymie entrepreneurialism. The longer term effect, of course, could well be that this impacts on economic growth. It may also lead to a rush of insolvencies ahead of the new tax year in 2020, with more small businesses forced into insolvency by creditors keen to avoid being pushed of the back of the queue by the government if they wait any longer. None of this is particularly desirable.