A defined hierarchy of creditors exists when a company enters insolvency, with secured creditors being at the top, and first in line for payment once the Insolvency Practitioner’s fees have been met. Unsecured creditors, on the other hand, rank near the bottom of the list.
A secured creditor is generally a bank or other asset-based lender that holds a fixed or floating charge over a business asset or assets. When a business becomes insolvent, sale of the specific asset over which security is held provides repayment for this category of creditor.
Unsecured creditors can include suppliers, customers, HMRC and contractors. They rank after secured and preferential creditors in an insolvency situation. Preferential creditors are generally employees of the company, entitled to arrears of wages and other employment costs up to certain limits.
Secured creditors fall into two subcategories:
- those with a fixed charge on an asset(s) of the business
- those with a floating charge
A fixed charge may be held over a specific asset which was financed by the lender. Business premises, vehicles, or machinery and equipment may have been purchased in this way, with the charge being registered at Companies House.
Another common example is when a factoring company has been used to provide an injection of cash. They ‘buy’ your sales ledger, which is the asset over which the charge is held.
A floating charge means that in the event of insolvency, the creditor holding the floating charge (as long as it was registered after 15 September 2003) will be placed further down the hierarchy for payment.
Registering a floating charge provides the lender with some security for the loan, but not on a specific asset as with a fixed charge.
This category includes HMRC, suppliers, contractors and customers. Unsecured creditors are one of the last groups to be paid, being placed above the shareholders of the company. It is often the case that this group receives little money, if any, from the distribution of assets once all other creditor groups have been paid.
This could be why unsecured creditors sometimes feel they have little involvement or influence during insolvency, when compared with secured and preferential creditors. They are consulted during the initial stages, however, when a creditors’ meeting is called to provide them with formal notification of the company’s financial position, and to vote on the appointment of an Insolvency Practitioner.
Begbies Traynor is available for appointment in insolvency. We have local offices, and offer a free initial consultation.
Examples of secured and unsecured creditors
- Banks are the major creditors in this group, often holding a fixed charge on property or other business assets.
- An invoice factoring company that has effectively ‘bought’ your sales ledger holds a fixed charge over the book debts in their control.
- Lenders with a charge over assets such as inventory, equipment and machinery.
The defining feature of a secured creditor is the fact that their money is recouped by selling the asset in question during the insolvency process. When business is running smoothly and a company is solvent, the fact that security is held over your premises may not appear to be a problem.
It is only when a company runs into trouble financially and struggles to pay its bills, does the presence of a secure creditor become a threat to its very existence.
When realising assets in insolvency, status is the main difference between secured and unsecured creditors. Secured creditors are generally paid in full from the sale of the asset over which they hold the charge, after the liquidator’s costs have been met.