Are company debts written off when a company is closed?

The directors of companies with debts often ask us whether the debts will be written off when they close the business. Understandably, they want to be sure of their position and are worried that the company’s debts could pass to them personally.

In most cases, the simple answer to their question is yes. Limited company debts are usually written off when the business is closed. But there are a few caveats. Firstly, you have to close the company in the right way. You also have to meet your legal duties as the director of an insolvent business. Those are both things we can help you with.

There can also be issues with personal guarantees and overdrawn director’s loan accounts that can lead to company debts passing to the directors. Here we discuss all those issues so you know what to expect.

When liquidating an insolvent company, the creditors are paid in a strict order as set out in the Insolvency Act 1986.

• First, the secured creditors with a fixed charge over an asset are paid from the proceeds when that asset is sold. 
• Then it’s the preferential creditors like employees and HMRC for unpaid VAT, PAYE and National Insurance contributions.
• Next are secured creditors with a floating charge, which is security taken over a class of assets, such as stock. 
• Then it’s unsecured creditors like suppliers, landlords and utility companies. 
• Finally, it’s unsecured creditors that are connected to the company. An example could be a loan from a family member or money owed to one of the shareholders.   

The liquidator must pay each group of creditors in full before they can move on to the next. That means there’s often little or no money to pay the unsecured creditors. In practice, that means unsecured creditors, such as landlords, suppliers and utility providers, and unsecured bank debts like overdrafts, are often partly written off or written off in full. 

Many businesses are struggling to repay the Bounce Back Loans they accessed during the pandemic. As unsecured loans, they can also be written off when a company is closed.

As we’ve said, limited company debts are usually written off when a company is closed. However, there are some circumstances when the directors can become personally liable. 

You try to dissolve the company

The informal Strike Off procedure (also known as Voluntary Dissolution) is the cheapest way to close a limited company, but you cannot dissolve a company with debts. If you try to, your creditors can object to your application and the process will be suspended until you have resolved their claims. 

Even if you successfully dissolve an insolvent company, your creditors can still reinstate the business and make claims for the money they’re owed. Your actions are also likely to be investigated and you could become personally liable for the company’s debts.

You fail to meet your duties as a company director

Your legal duties change when a company becomes insolvent. Instead of promoting the company’s success for the benefit of its shareholders, you must focus on maximising the interests of your creditors.

As part of the liquidation, the Insolvency Practitioner will investigate your actions as a director in the build-up to and during the company’s insolvency. If they find examples of misconduct or wrongful trading, you could become liable for some or all of the company’s debts. 

Examples of unlawful conduct include:

• Continuing to trade an insolvent company despite knowing it has no realistic prospect of making a recovery
• Showing a preference to particular (often connected) creditors by making payments to them and not others
• Selling company assets at less than their market value and reducing the return available to creditors as a result
• Mismanaging company funds or paying dividends when there are insufficient profits to do so
• Trading with the deliberate intention of defrauding your creditors, such as taking credit you know the company cannot repay

You give personal guarantees

You can also become personally liable for any debts you have personally guaranteed. When the company becomes insolvent, the lender or supplier can call in the guarantee and pursue you through the courts to repay the debt. 

You have an overdrawn director’s loan account 

If you take money from the company that’s not in the form of a dividend or salary and do not repay it, your director’s loan account becomes overdrawn. In liquidation, the Insolvency Practitioner will expect you to repay the money to the company to boost the funds available to the creditors.

If you are worried about whether your company’s debts will be written off when you close it, please contact our team as soon as possible. Our company closure experts will assess your business, advise you on the most appropriate closure method and guide you through the process from start to finish. We’ll also explain the steps you can take to protect your position.