ICAEW BL · Chapter 11

Corporate and personal insolvency MCQs with Answers

10 multiple-choice questions on Corporate and personal insolvency for ICAEW BL Business Law. Try each one before revealing the answer and explanation.

1. Question 1

   Sandpiper Ltd is in a members' voluntary liquidation after its directors made a statutory declaration of solvency. The liquidator now forms the opinion that the company will be unable to pay its debts in full, with interest, within the period stated in the declaration. What happens?

   • A) The liquidation continues as a members' voluntary liquidation, but the liquidator must report the directors to the court
   • B) The liquidation automatically becomes a compulsory liquidation without any court order
   • C) The liquidation becomes a creditors' voluntary liquidation, and the creditors may nominate a liquidator
   • D) The company must be placed into administration, because a voluntary liquidation cannot continue once the company is insolvent
   Show answer & explanation

   Answer: C) The liquidation becomes a creditors' voluntary liquidation, and the creditors may nominate a liquidator

   A members' voluntary liquidation depends on a statutory declaration of solvency under s89 Insolvency Act 1986. If the liquidator forms the opinion that the company will be unable to pay its debts in full, with interest, within the stated period, s95 requires the liquidator to make a statement of affairs and seek a decision of the creditors on the nomination of a liquidator. Under s96 the winding up then becomes a creditors' voluntary liquidation. A director who made the declaration without reasonable grounds commits an offence (s89(4)). There is no automatic conversion into compulsory liquidation or administration.

2. Question 2

   Wren Ltd owes Marlow Ltd an undisputed debt well above the statutory minimum. Marlow serves a statutory demand at Wren's registered office, and Wren neither pays nor secures or compounds the debt within three weeks. Which statement is correct?

   • A) Marlow must first obtain a court judgment before it can petition to wind Wren up
   • B) Marlow can petition only if Wren has also made losses in two successive years
   • C) Marlow cannot petition, because only a company's members can seek a compulsory winding up
   • D) Wren is deemed unable to pay its debts, so Marlow can petition for compulsory winding up on that ground
   Show answer & explanation

   Answer: D) Wren is deemed unable to pay its debts, so Marlow can petition for compulsory winding up on that ground

   Section 122(1)(f) Insolvency Act 1986 allows the court to wind up a company that is unable to pay its debts. Under s123(1)(a), a company is deemed unable to pay its debts if a creditor owed more than the prescribed minimum serves a statutory demand and the company fails to pay, secure or compound the debt to the creditor's reasonable satisfaction within three weeks. Other routes include an unsatisfied execution of judgment, or proof that the company cannot pay its debts as they fall due or that its liabilities exceed its assets. No prior judgment is required, creditors may petition, and trading losses are not a ground in themselves.

3. Question 3

   Kestrel Ltd went into compulsory liquidation in 2025. Its fixed charge holder has been paid in full from its security, and the costs and expenses of the liquidation have been met. The remaining claims are: (1) a bank holding a floating charge created in 2018; (2) HMRC for VAT, and for PAYE income tax deducted from employees' wages but not paid over; (3) employees' arrears of wages and holiday pay within the statutory limits; (4) unsecured trade creditors. In what order are these claims paid?

   • A) 3, 2, 1, 4, with a prescribed part of the floating charge realisations set aside for unsecured creditors before the floating charge holder is paid
   • B) 2, 3, 1, 4, because HMRC's claims rank ahead of all other creditors
   • C) 1, 3, 2, 4, because a floating charge holder is a secured creditor and ranks ahead of preferential creditors
   • D) 3, 1, 2, 4, because HMRC is an unsecured creditor with no preferential status
   Show answer & explanation

   Answer: A) 3, 2, 1, 4, with a prescribed part of the floating charge realisations set aside for unsecured creditors before the floating charge holder is paid

   Preferential creditors are paid before the floating charge holder. Within that class, ordinary preferential debts, such as employees' wage arrears and holiday pay within the statutory limits, are paid first. For insolvencies beginning on or after 1 December 2020, certain HMRC claims, including VAT and PAYE income tax and employee NICs deducted from wages, are secondary preferential debts ranking after ordinary preferential debts. Before the floating charge holder is paid, the liquidator sets aside the prescribed part of the floating charge realisations for unsecured creditors (s176A Insolvency Act 1986). The floating charge holder is then paid, followed by unsecured creditors. HMRC's other claims, such as corporation tax, remain unsecured.

4. Question 4

   Kittiwake Ltd went into insolvent liquidation. Its directors kept trading for a year after they ought to have concluded that there was no reasonable prospect of avoiding insolvent liquidation, increasing the losses to creditors. There is no evidence of dishonesty. Which statement is correct?

   • A) The directors face no liability, because wrongful trading requires an intention to defraud creditors
   • B) The court may order the directors to contribute to the company's assets for wrongful trading, unless they show they took every step to minimise potential loss to creditors
   • C) The directors are automatically guilty of the criminal offence of fraudulent trading
   • D) Only the company, and not the directors, can be liable for continuing to trade
   Show answer & explanation

   Answer: B) The court may order the directors to contribute to the company's assets for wrongful trading, unless they show they took every step to minimise potential loss to creditors

   Wrongful trading under s214 Insolvency Act 1986 is civil liability and needs no dishonesty. It applies where a director knew, or ought to have concluded, that there was no reasonable prospect of avoiding insolvent liquidation or administration. The court judges this against the standard of a reasonably diligent person with the director's general knowledge, skill and experience. The only defence is that the director took every step to minimise potential loss to creditors. Fraudulent trading requires intent to defraud, which is absent here.

5. Question 5

   Which statement about fraudulent trading under the Insolvency Act 1986 and the Companies Act 2006 is correct?

   • A) It applies only to directors and requires no dishonest intent
   • B) It is purely civil and cannot lead to imprisonment
   • C) It applies only once the company has entered administration
   • D) It requires proof that the business was carried on with intent to defraud creditors or for any fraudulent purpose, and it can give rise to both civil and criminal liability
   Show answer & explanation

   Answer: D) It requires proof that the business was carried on with intent to defraud creditors or for any fraudulent purpose, and it can give rise to both civil and criminal liability

   Fraudulent trading requires that the business was carried on with intent to defraud creditors or for any fraudulent purpose, which means real dishonesty. In a winding up or administration, any person knowingly party to it can be ordered to contribute (s213 and s246ZA Insolvency Act 1986). It is also a criminal offence under s993 Companies Act 2006, which applies whether or not the company is being wound up. Liability is not limited to directors.

6. Question 6

   Four months before Merlin Ltd went into insolvent liquidation, and while it was already unable to pay its debts, it paid in full the overdue account of its main supplier, an unconnected company. The board minutes show that it did so only because the supplier refused to deliver further stock until paid, and the directors believed the business could not keep trading without that stock. Can the liquidator have the payment set aside as a preference?

   • A) Yes, because any payment to a creditor within six months before insolvency, while the company is insolvent, is automatically a preference
   • B) Yes, but only as a transaction at an undervalue
   • C) No, because the company was not influenced by a desire to improve the supplier's position, but by the commercial need to keep receiving stock
   • D) No, because preferences can be challenged only where the creditor is a connected person
   Show answer & explanation

   Answer: C) No, because the company was not influenced by a desire to improve the supplier's position, but by the commercial need to keep receiving stock

   Under s239 Insolvency Act 1986, a payment is a preference only if the company, in deciding to make it, was influenced by a desire to put the creditor in a better position on insolvency. For an unconnected creditor this desire is not presumed and must be proved. In Re MC Bacon the court held that a company acting to secure continued supplies or finance, rather than from a positive wish to improve the creditor's position, does not have the necessary desire. The payment was within the six-month period for unconnected persons (s240), but that alone is not enough. Paying a genuine debt in full is not a transaction at an undervalue.

7. Question 7

   Twenty months before going into insolvent liquidation, Gannet Ltd granted its managing director, Fen, a floating charge to secure a loan she had made to the company three years earlier. Fen advanced no new money. At the time the charge was granted, Gannet Ltd was able to pay its debts. What is the effect on Fen's security?

   • A) The charge is valid, because the company was able to pay its debts when it was granted
   • B) The charge is invalid except to the extent of any new value given, because it was granted to a connected person within two years before the onset of insolvency, and for a connected person the company's solvency at the time is irrelevant
   • C) The charge is valid, because the period for challenging floating charges is 12 months
   • D) The charge is invalid and Fen's loan is extinguished
   Show answer & explanation

   Answer: B) The charge is invalid except to the extent of any new value given, because it was granted to a connected person within two years before the onset of insolvency, and for a connected person the company's solvency at the time is irrelevant

   Under s245 Insolvency Act 1986, a floating charge granted to a connected person, such as a director, within two years before the onset of insolvency is invalid except to the extent of new value (money paid, goods or services supplied, or debts discharged) at the same time as or after its creation. For an unconnected person the period is 12 months, and the charge is caught only if the company was then unable to pay its debts or became so as a result; for a connected person that condition does not apply (s245(4)). Fen gave no new value, so the charge is invalid. Her loan still exists, but she is an unsecured creditor.

8. Question 8

   An administrator is appointed over Heron Ltd. In what order of priority must the administrator pursue the statutory purposes of administration?

   • A) Rescue the company as a going concern; failing that, achieve a better result for creditors as a whole than a winding up; failing that, realise property to distribute to secured or preferential creditors
   • B) Pay the floating charge holder in full; then rescue the company; then distribute to unsecured creditors
   • C) Achieve the best possible return for shareholders; then rescue the business; then pay creditors
   • D) Realise property for secured creditors; then rescue the company; then pay preferential creditors
   Show answer & explanation

   Answer: A) Rescue the company as a going concern; failing that, achieve a better result for creditors as a whole than a winding up; failing that, realise property to distribute to secured or preferential creditors

   Schedule B1 paragraph 3 of the Insolvency Act 1986 sets a hierarchy of purposes. The first is to rescue the company as a going concern. If that is not reasonably practicable, the aim is a better result for the creditors as a whole than in a winding up. Only if neither is practicable may the administrator realise property to distribute to secured or preferential creditors, without unnecessarily harming creditors as a whole. Shareholder returns are not a statutory purpose.

9. Question 9

   Lorcan, a self-employed builder, proposes an individual voluntary arrangement (IVA) to his creditors. Which statement about the approval and effect of an IVA is correct?

   • A) It needs the unanimous approval of all creditors before it can bind anyone
   • B) It binds only the creditors who voted in favour
   • C) It is imposed on creditors by the court after a bankruptcy order is made
   • D) It is approved if at least 75% in value of the creditors voting support it (subject to safeguards on connected creditors), and it then binds every creditor who was entitled to vote
   Show answer & explanation

   Answer: D) It is approved if at least 75% in value of the creditors voting support it (subject to safeguards on connected creditors), and it then binds every creditor who was entitled to vote

   An IVA is approved if at least 75% in value of the creditors voting are in favour, but not if more than half of the total value of the unconnected creditors admitted for voting vote against it (Insolvency (England and Wales) Rules 2016, r15.34). Once approved, it binds every creditor who was entitled to vote, or would have been if they had had notice, whether they voted for or against or did not vote (s260 Insolvency Act 1986). It is a voluntary alternative to bankruptcy, so it is not imposed by the court after a bankruptcy order, and unanimity is not required.

10. Question 10

    Under the Insolvency Act 1986, when is an individual who has been made bankrupt usually discharged from bankruptcy, assuming no order suspending discharge is made?

    • A) Only when all creditors have been paid in full
    • B) Automatically, three years after the bankruptcy order
    • C) Automatically, one year after the bankruptcy order
    • D) Only when the court grants a discharge on the bankrupt's application
    Show answer & explanation

    Answer: C) Automatically, one year after the bankruptcy order

    Under s279 Insolvency Act 1986, a bankrupt is automatically discharged one year after the bankruptcy order. The court can suspend discharge if the bankrupt fails to cooperate. Discharge releases the bankrupt from most bankruptcy debts, but the trustee keeps control of the property already vested in the estate. A bankruptcy restrictions order may extend restrictions in cases of misconduct.