Order of priority debts in administration

The money realised from the assets of an insolvent company is applied to meet claims of creditors in a set order of priority. By definition, an insolvent company does not have sufficient assets to pay in full all the liabilities that it owes to its creditors. A primary function of administration and liquidation is to realise the assets of the insolvent company and to distribute the assets among the insolvent company’s creditors.The Insolvency Act 1986 (IA 1986) and the Insolvency (England & Wales) Rules 2016 ​provide a statutory scheme for how an Insolvency practitioner (IP) must apply assets to meet creditor claims. The scheme puts creditors into different classes and the IP applies a descending order of priority. An IP cannot distribute asset realisations to a class of creditors until he has repaid in full the claims of all creditors in the prior ranking class.​

_{Priority of asset distribution in insolvency}

The money realised from the assets of an insolvent company is applied to meet the claims of creditors descending order of priority. When one class of creditor has been repaid in full, the remaining assets are applied to the next class (known as a pari passu distribution).​

_{First ranking claims}

Holders of fixed charges and creditors with a proprietary interest in assets. A creditor that holds a valid fixed charge over a company’s assets is entitled to the proceeds of the realisation of those assets in satisfaction of the liability due to it from the company.​

_{Second ranking claims: expenses of the insolvent estate}

The IP pays the expenses of the insolvent estate before paying any other claims. The key point of the priority of expenses include expenses incurred in the course of trading an insolvent company or preserving the assets and can rank ahead of the remuneration of the IP.​

_{Third ranking claims: preferential creditors}

After the IP has paid all the expenses of the insolvent estate, he pays the preferential debts from the remaining assets. In most cases preferential debts rank equally in the distribution. Certain claims of some unsecured creditors’ debts are given “preferential” status, such as deposits made to an insolvent bank or building society that are insured under the Financial Services Compensation Scheme.​   

_{Fourth ranking claims: holders of floating charges}

Once the IP has met all the expenses of the insolvent estate and preferential debts in full, any remaining assets subject to floating charges can be paid according to the priority of their security​. A floating charge will automatically crystallise on the insolvency date and converts from being a generic charge over a class of assets to a fixed charge over the specific assets within that class.​ A floating charge created in the 12 months before insolvency are void on the appointment of the IP except where new lending to the company takes place. This can be extended to 2 years in the case of floating charges in favour of “connected parties” (e.g a director or associate of the director). ​

_{Fifth ranking claims: unsecured creditors}

The IP pays unsecured creditors, on a pari passu basis, from any remaining assets. An unsecured creditor who has no security over any of the insolvent company’s assets must have a provable debt.​ A secured creditor not paid in full from the realisation of assets subject to its security can claim any shortfall as an unsecured claim, but these claims can only be paid from unsecured assets.​ 

_{Sixth ranking claims: shareholders}

After the repayment of all unsecured creditors in full, any remaining funds belong to the shareholders. of the company.

_{More information}

For more information or to discuss these issues please contact the Commercial Litigation Team.

 The contents of this article are for the purposes of general awareness only. They do not purport to constitute legal or professional advice. The law may have changed since this article was published. Readers should not act on the basis of the information included and should take appropriate professional advice upon their own particular circumstances.