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Record-breaking storm brings some relief to parched California. A rescue can maximise the return for creditors. A rescue often involves selling a business free of its liabilities to another party and using the proceeds of sale to pay its creditors.
The cash flow or short-term liquidity test shows whether a charity has sufficient easily accessible resources available to meet all of its liabilities as they fall due and to continue to meet them in the short term. Simply, can the charity pay its debts when they fall due for repayment?
The balance sheet test focuses on the overall asset position of a charity. It will show whether the charity has enough assets fixed and current to meet all of its actual and anticipated liabilities. The balance sheet test is not normally sufficient on its own to determine whether a charity is insolvent and is normally applied together with the cash flow or short term liquidity test.
There are a number of other indicators that a charity might be running the risk of insolvency. It is not possible to provide a comprehensive list as the situation will vary from one charity to another, but listed are some questions that trustees might find useful to ask themselves.
The answers to these questions ought not to be looked at in isolation. Further detailed analysis would be required before any conclusions on solvency could be made. If the trustees consider that their charity might not be able to continue to operate due to its financial situation, they should:. These are generally considered to be, in effect, separate charities with their own trusts governing expenditure and can only be used for the purposes for which they were given see section 3.
Depending on the terms under which they were given, some unspent restricted income funding may need to be returned to the funders. Yes, but only if great care is exercised. Despite failing the tests referred to at a particular point in time and therefore appearing insolvent, an organisation may, depending on the precise circumstances, continue as a going concern and not be forced to wind up. Charities may, in the short term, have to operate over and above agreed credit terms, or to resort to short-term financing, whilst they await an expected influx of cash.
For example, this may arise when there are administrative delays in the payment of a grant. However, directors of charitable companies will need to ensure that the company does not continue to trade if they knew or ought to have concluded that there was no reasonable prospect that the company would avoid insolvent liquidation.
This is known as wrongful trading and if proved in court can entail personal liability for the directors. Trading while insolvent may not necessarily be wrongful if there is a reasonable prospect of avoiding insolvent liquidation.
The commission recommends that the trustees of any charity that appears to be insolvent take professional advice before any remedial action is taken. A charity can approach an independent insolvency practitioner, but should consider contacting their own auditor or professional accountant first if they have one. Their auditor or accountant may be able to recommend an insolvency practitioner who specialises in charities.
The Insolvency Service website includes a database of all insolvency practitioners. If effective financial management and controls are in place, then insolvency may be prevented or foreseen in its early stages. It is in the gap between the identification of approaching insolvency and the actual commencement of insolvency proceedings that the trustees should take action in order to rectify the position.
In the case of an unincorporated charity this point will be where the trustees are actually faced with the possibility of personal liability. The commission recommends that appropriate professional advice is taken at an early stage because corrective action needs to be carefully considered and planned. Such advice should be in writing, and any remedial action suggested should be monitored along with new or revised budgets and cash flows.
The accuracy of these will depend on reliable financial information, which will now be of even greater importance. In exercising control over this process the trustees are advised to meet more frequently and record key decisions, including the reasons for the decisions and any arrangements made.
The steps that the trustees can consider taking to deal with issues such as shortage of income and the establishment of more effective structures and procedures will depend on the nature of each individual charity and the reasons for the financial difficulties it faces. The following are 2 key areas for consideration by the trustees and under each are suggestions for the type of action that might be appropriate.
Care should be taken that any funds raised are sufficiently unrestricted to pay the existing creditors. This course of action should only be taken if it is certain that such income will actually be received. This might be the case where a settlement from a sizeable legacy is anticipated or a property is being sold. In addition, in some circumstances it may be difficult to get a loan at all.
The agreement of a secured lender would be needed if assets have a charge over them. However a secured lender would be unlikely to give consent to a disposal to pay off other creditors. Administration is a court procedure that gives a company some breathing space from any action by creditors - in effect it is a rescue process. When a company goes into administration, an administrator is appointed to act in the interests of all the creditors of the company and attempt to rescue it as a going concern.
When facing potential insolvency, charities can consider entering into an arrangement with their creditors as a rescue mechanism to avoid compulsory liquidation or winding up. The nature of the arrangement will depend on whether it is incorporated or not. The directors would need to apply to the court with the help of an authorised insolvency practitioner, who would supervise the arrangement and pay the creditors in line with the accepted proposals.
The Insolvency Act introduced a new procedure to enable a small company to obtain a moratorium where a CVA is proposed. If a company is already in administration, liquidation or administrative receivership, it is already protected from the actions of creditors by these procedures and so would not need to seek a moratorium.
In addition, a moratorium is not available where a company currently has a CVA in place or has already had a moratorium in the previous 12 months and the proposed CVA did not come into effect or ended prematurely. It is possible for the trustees of an unincorporated charity facing insolvency to enter into an informal arrangement with their creditors. Such an arrangement falls outside the provisions of the insolvency act.
If the arrangement is legally binding, it will only bind those creditors who are party to the agreement. Trustees should take appropriate professional advice before entering into such an agreement. If the rescue mechanisms described in this section are not possible, then liquidation or winding up is the last resort.
The court will not normally order the compulsory liquidation of a charitable company on the ground of inability to pay debts until after a creditor has either:.
In these circumstances the creditor can petition the court to wind up the company. Once a charitable company is being wound up, whether voluntarily or compulsorily, it is placed under the management of an insolvency practitioner as liquidator. It is then too late for the directors to take action of their own to bring the charity out of insolvency. Members of charitable companies can voluntarily place the company into liquidation.
Although unincorporated charities cannot be compulsorily wound up, their trustees may face legal demands from creditors in relation to liabilities that they have incurred on behalf of the charity. This means that there is more likelihood that sufficient property will remain in the charity to cover the costs of meeting the debts and liabilities they have incurred in the administration of the charity.
Charity trustees have a duty to act in the interests of their charity and protect and safeguard its assets. They must exercise proper financial management and compliancy with the law, including insolvency law. The legal position of charity trustees in an insolvent situation varies according to the legal structure of the charity see section 5. Where a charity has been incorporated under the companies acts, the company is itself normally liable for the debts which the directors have incurred on its behalf.
Charitable companies are normally limited by guarantee and the members of the company will have no liability for the debts of the company beyond the usually nominal amount of their guarantee. However there are certain limited circumstances involving fraud, transactions at an under value, wrongful trading or breach of trust where directors may face personal liability and trustees should take professional advice on this issue. If someone acts as a director of a charitable company while disqualified from doing so, he or she becomes directly liable to creditors for any liabilities of the company incurred while he or she is involved in its management.
This applies whether or not he or she has been formally appointed as a director. Full details of such matters are in the Company Directors Disqualification Act Acting as a trustee while disqualified is also an offence under s. As mentioned in section 3. Only liabilities which have been properly incurred in the administration of the particular trust can be met out of the trust property.
Any director, liquidator etc who is responsible for committing the charitable company to such a breach of duty could be in breach of his or her fiduciary duty towards the charity.
They could, therefore, be liable to make good a loss of its trust property. Where a liability has been properly incurred by the trustees of an unincorporated charity, but the charity does not have sufficient assets to meet the liability, those trustees are likely to have to meet the shortfall personally. How this liability is to be shared between the trustees can depend on the terms of the agreement that gave rise to it, but normally the creditor will be able to sue any of the trustees for the whole liability.
A trustee who has to pay more than their share may claim a fair contribution from the other trustees. This means, in effect that any liability will be shared equally between those of the trustees who can be found, and who have the means to pay, unless they agree otherwise among themselves.
As long as the decision to incur a liability on behalf of the charity was properly made in accordance with its governing document, then each and every trustee shares the responsibility for that liability unless the terms of the agreement incurring the liability specify otherwise.
In most circumstances both the responsibility and the right to reimbursement remain even after a trustee has retired but note that this is not the case when the liability stems from a contract of employment - any claims against the trustees under that contract are against the trustee body as it stood at the time the contract was breached.
The concern for trustees is that, in the absence of any relevant insurance, they will have to meet any debts and liabilities out of their own pocket if the charity cannot meet them. No, when someone dies owing a debt, the debt does not go away. That person pays any debts from the money in the estate, not from their own money. Generally, no one else is legally obligated to repay the debt of a person who has died, but there are exceptions to this rule.
For example:. If there was no joint account, co-signer, or other exception, only the estate of the deceased person owes the debt. To find an attorney, you can contact a lawyer referral service in your area and ask for an attorney with experience in consumer law , estate or probate matters, debt collection defense, or the Fair Debt Collection Practices Act.
Some attorneys may offer free services, or charge a reduced fee.
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