What Is a Phoenix Company and Are They Legal?

Phoenix companies are businesses that have reformed in the wake of administration or liquidation. The old company is shut, while a new one – with the same members, products, and services – takes its place. The term “phoenix company” is derived from the mythical Greek bird, which rises from the ashes upon its death.

For many, phoenix companies are viewed as a legitimate second chance for business owners who’ve fallen on hard times. To others, they’re viewed as a way for directors to dodge their debts to company creditors. This makes phoenix companies a particularly controversial subject in the world of insolvency.

So – are phoenix companies legal? What are the restrictions? And are they a good thing for those involved?

Are Phoenix Companies Legal?

Although they’re frowned upon by many, phoenix companies are perfectly legal, so long as the correct regulations are followed.

There is nothing in UK law prohibiting directors and shareholders from taking a second shot at success following an insolvency. Employees are also not prohibited from working in a phoenix “successor” company.

Instead, members looking to reopen their business simply need to operate in accordance with the proper legal guidelines. These guidelines are in place to protect creditor interests and stop new companies from being exploited as a vehicle to avoid debt.

What Are the Restrictions?

Directors of insolvent companies have a fiduciary duty to place the interests of creditors first. Acting in a way that undermines this duty, instead prioritising the interests of themselves or the company, can leave directors facing civil or criminal charges. As such, directors of “phoenixing” companies should bear the following restrictions keenly in mind.

You Cannot Undersell or Hide Company Assets

For directors intending to “phoenix” their company, underselling or hiding assets may initially seem to be a good idea; they can purchase or retrieve the assets after the liquidation, saving them from having to purchase the assets at full market value.

However, all insolvency procedures – whether it be an administration or a liquidation – require the insolvency practitioner to carry out an investigation into the conduct of directors. This investigation will look back at the past 2 years. If any evidence is found of undersold or unaccounted assets, directors could face accusations of misfeasance, wrongful trading, or even fraudulent trading.

If found liable or guilty, directors could be made personally responsible for company debts, issued with large fines, disqualified from future directorship, or face imprisonment.

Directors should have their assets evaluated by an auctioneer or a Chartered Surveyor. A log of purchases and sales should also be kept in order to avoid confusion.

You Cannot Reuse the Company Name

Restrictions laid out in the Insolvency Act 1986 state that you cannot reuse a company’s name for 5 years after it has undergone insolvent liquidation. This doesn’t just apply to the reuse of the exact same name, but names that are similar or suggest association. For example, if your business was called “ABC Ltd”, you couldn’t simply call your new business “ABCD Ltd”.

Reuse of the same name can be seen as an attempt to mislead company creditors as to the status of the business. As a result, failure to use a distinctive new name could result in directors being made personally liable for company debts, fined, or imprisoned.

You Shouldn’t Recklessly “Phoenix” Companies

The recent Finance Act of 2020 has introduced further measures to dissuade deceptive phoenix companies. The legislation allows HMRC to hold company directors jointly and severally liable for Company tax arrears if certain criteria are met:

The director has had 2 or more failed companies in the last 5 years
The director now has another company
The businesses all offered similar products or services
The companies had more than £10,000 in joint tax arrears or had failed to submit tax returns

While this is targeted at companies who are “phoenixing” for tax-avoidance purposes, directors could still find themselves caught out if they were to run into repeated company failure.

What Is a Pre-Pack Administration?

Most companies are brought back from insolvency through a process known as pre-pack administration. This is where the sale of a business is agreed upon before the administrator is formally appointed. Once the administrator is appointed, the sale takes place very quickly.

This is opposed to regular administration, wherein it may take a while to find a buyer, or the company may end up going into liquidation or a CVA.

There are other ways of phoenixing a company, however; directors may buy their business back from a standard administration or from a liquidation. Regardless of the route used, there are a variety of financial risks carried by the process.

What Are the Risks of Phoenix Companies?

No matter which way you slice it, reviving a company from the ashes is an expensive process, which carries serious financial risk.

Personal Insolvency

Unless you can get some investment to facilitate the purchase of your company, you’ll have to use your personal funds. This may be supplied with your savings or by a loan. If your business then fails again, leaving you unable to keep up with personal payments, you could end up going bankrupt.

It should be noted, however, that a business doesn’t have to be purchased upfront – it could be bought via a deferred payment or a purchase agreement

Employee Handover Costs

Any employees who have not been made redundant during the process of restarting the company will have their contracts transferred to the new phoenix business. These employment contracts will be granted protections under the TUPE Act.

TUPE stipulates that the new employer must respect the terms of the previous contract or they will risk breach of contract. These protections are indefinite.

The company can change these contracts on economic, technical, or organisational grounds. However, if the justification isn’t deemed to be sufficient, employers could be on the receiving end of a tribunal.

HMRC Demands

In order to protect its position, HMRC is likely to push for an upfront payment of National Insurance arrears. Some companies won’t be able to foot this bill alongside other reopening costs.

Get In Touch Today

If you’re the director of an insolvent company and wish to resume trading, you should get in touch with an insolvency practitioner as soon as possible. Our expert team can guide you towards the right solution for you and your business.

Get in touch today to arrange a free consultation.