RSM calls for re-think of plan to restore Crown Preference while SMEs and lenders already feel financial strain

RSM is calling for a re-think of HMRC plans to restore Crown Preference. The leading audit, tax and consulting firm feels the move puts SMEs and lenders under further financial pressure at a time when they are particularly stretched by the pandemic.

From 1 December 2020, arrears of Crown debts (unpaid VAT, PAYE, employee National Insurance Contributions and CIS deductions) will obtain secondary preferential status. This means they will rank ahead of some debts secured by lenders, reducing cashflow for businesses and increasing personal exposure for guarantors.

The Finance Bill 2019-21 recently received Royal Assent and HMRC will again become a secondary preferential creditor. Many involved in restructuring and insolvency have campaigned against this, fearing adverse consequences for businesses, their lenders and their owners.

The government first announced its intention to revise the status of Crown taxes in insolvency proceedings in the 2018 Budget, after previously abolishing them in 2003. According to HMRC ‘When an organisation goes insolvent, the taxes that it temporarily holds on behalf of its employees and customers may be used to pay other creditors rather than be spent on public services’.

The government views the move as a fair approach which balances the interests of the creditors and the Exchequer, which relies on those taxes to fund public services. HMRC estimates the change will raise around £185m a year for the government.

The creditors most impacted by the change are those HMRC will now supersede, principally ‘floating charge’ secured lenders, who lend against moving asset classes, such as stock, as well as unsecured creditors. This includes pension schemes, some employee claims and the company’s suppliers or customers, which may include small businesses and consumers. The extra money HMRC gets will come from what would otherwise have been repaid to these creditors.

Tyrone Courtman, Director, Restructuring Advisory, RSM said: ‘Floating-charge lending, such as asset-based lending or invoice-discounting is a common form of business finance for many SMEs. These changes will make floating-charge lending riskier. In the event of insolvency, if there are outstanding Crown debts, these will be paid first, leaving little prospect of any return to other creditors through the insolvency process. Consequently, lenders may be less willing to continue lending without the provision of additional security, such as the insistence on personal guarantees from directors.’

This change comes at a critical time for businesses and their lenders. Businesses grappling with the impact of the pandemic on finances and the uncertainties surrounding future revenues, will have to adapt to the ‘new’ normal, which itself will come at a cost and stretch many businesses to breaking point.

Tyrone Courtman concludes: ‘At a time when businesses need all the support they can get, many lenders will be reassessing funding availability against Crown debts inflated by the government’s VAT deferral scheme, and contemplating getting in first ahead of the changes in status. Many will not survive. The extra money HMRC gets as part of the changes, estimated at £185m by 2022/23, is likely to be far outweighed by the damage to the UK economy, therefore an urgent rethink is required.’