How to address insolvency

The actions to be taken to address potential insolvency will depend upon how far into actual insolvency the charity or not for profit organisation is.

If adequate financial reporting systems are in place and the trustees/committee understand the numbers being presented to them then it is likely the risk of insolvency will be foreseen or at least highlighted at an early stage.

Where the systems are inadequate or the trustees/committee do not hold the requisite skills, experience or external support to understand the numbers then it may be a threat of legal action or cessation of supply (e.g. electricity, brewery) that highlights the insolvent position. When this happens time pressures are much greater as a resolution is needed immediately.

The most important first step, irrespective of how insolvent your organisation might be is to not panic and not take any action before seeking advice. The Charity Commission recommends in its own leaflet that trustees seek specialist advice at an early stage from an Insolvency Practitioner. Doing so will not only significantly increase the chance of the charity surviving, but you will feel reassured and reduce your risk of personal liability for not acting in accordance with your statutory or fiduciary duties. Kevin Lucas is Lucas Johnson’s charity and not for profit specialist and will answer any queries you have. You can contact him today on 0330 900 2000.

Clearly understanding the financial position is the next most important step. You will need to know your current position and the short term outlook. This will identify the current or impending deficit or cashflow difficulty that needs to be overcome.

Looking at valuable or significant assets and whether there are loans already secured against them may identify where finance could be raised. Looking at significant overhead costs and considering whether they can be reduced quickly will highlight where cost and cashflow savings could be made in the short, or possibly long, term. It is unlikely in the short term you will be able to identify, apply for and receive a new grant or source of income, but the most obvious sources should be looked into. Similarly it is unlikely you will be get urgent reassurance over your ability to use a permanent endowment.

Managing cashflow is the next most important step. Making sure debtors (if applicable) are paying as early as possible and ensuring creditors are not paid earlier than they need to be will aid immediate cashflow. Next, look at negotiating a schedule of payments for any arrears over a period that you can afford.

Speak openly to creditors who are pressing you or threatening legal action. Few will want to be responsible for the closure of a charity and the threats/action taken to date will be because they are following standard procedures or are in the dark about your organisation’s position. Do not worry that speaking openly will result in an acceleration of action on their part, it is possible for a skilled Insolvency Professional to defray this threat through discussion, negotiation or utilising the preventative statutory measures (moratorium) available to him.

Eventually you will need to take a course of action that you may not find desirable, but will be in the overall best interests of all concerned. When the point of insolvency has been reached and a formal insolvency process is needed, which you take will depend on how insolvent your organisation is, what is causing it to be insolvent (e.g. a pension fund deficit or continually declining donations or sales) and what the future looks like.

The gap between identifying approaching insolvency and taking formal insolvency action is the time where trustees are at greatest risk. Action must be taken to ensure the position does not worsen and any action must be planned for, clearly recorded and reviewed. It is likely more frequent meetings will be needed and careful recording of the stance of each trustee on decisions reached by a majority will be needed.

Your organisation’s status will also impact on what options are available. More information on the various statuses can be found by clicking on the following
Unincorporated
CIO
Limited
CIC
Industrial & Provident
Friendly Society

In an unincorporated charity it will be the trustees who are faced with potential personal insolvency claims. At this stage it is very likely that fragmentation of the previous cohesive board of trustees will occur as each tries to protect their own personal position. This is sometimes unavoidable, but most will initially be prepared to listen to external professional advice and a good adviser can normally get agreement to work towards a common plan.

In an incorporated organisation it will be the organisation itself that faces insolvency and not the individual committee members or trustees, unless they have been involved in any fraud or breaches of duty, or have given personal guarantees. Unlike an unincorporated organisation it is rare for boards of trustees or management committees to fragment as personal wealth is not at risk.