When companies borrow money, a lender such as a bank can take out fixed charges and or floating charges as security. Which of the charges will apply depends on whether the asset is tangible or intangible. These charges can affect a company if it becomes insolvent and unable to honour the arrangement.
What is a charge on a company?
When a company applies for funding or borrows money through a loan or a commercial mortgage, the lender will often insist on some form of security, protecting the lender’s investment should anything happen to the company. Charges can also be attached to assets, which can vary over the company’s life and are consequently harder to quantify.
A charge can crystallise should the following ‘trigger events’ occur:
- The lender seeks debt recovery options for a defaulted payment
- An official receiver is appointed
- The company undergoes a liquidation
- The company receives a winding-up petition
What is a fixed charge?
If a company borrows money from a financial institution such as a bank to pay for a new company asset, fixed charges are secured against either that or an existing, tangible company asset. Doing so protects the creditor if the company fails to repay.
Assets covered by fixed charges can include:
Assets with a fixed charge are registered at Companies House and cannot be sold without the creditor’s permission. If the company cannot repay, the creditor can retake the asset to sell and recoup the cost. The exact terms should be clarified in the debenture’s supporting documentation. This position over a set asset puts secured creditors with fixed charges at the top of the payment hierarchy during liquidation.
What is a floating charge?
While fixed charges apply to tangible company assets, floating charges apply to intangible assets.
Assets covered by floating charges can include:
- Works in progress
- Raw materials or stock
- Unfactored debts
- Cash at the bank
These assets’ intangible nature often means there is nothing physical to reclaim. As such, they are further down the payment hierarchy, repaid after creditors with fixed charges and the company’s preferential creditors. The asset’s value may change over time, and the company doesn’t need permission from the creditor to sell or dispose of it.
What can you do about fixed and floating charges?
If your company becomes insolvent, fixed and floating charges cannot be included in formal repayment arrangements such as a Company Voluntary Arrangement (CVA). Those arrangements only cover a company’s unsecured debts. If your company is suffering to repay multiple creditors, speak to us for free, impartial advice with no obligation. We can assess your circumstances and help you decide the best course of action for your company.
Floating charge holders can also force a limited company into administration if it defaults on the agreement.
- How fixed and floating charges work in liquidation
If your company enters a Creditors Voluntary Liquidation (CVL), your creditors with fixed charges are the first in line for repayment after the licensed insolvency practitioner takes their fee. At this point, floating charges will crystalise and need repaying as well. Regardless of which charge the secured creditors hold, they must be repaid before the company’s unsecured creditors.
More on Creditors Voluntary Liquidation
Creditors such as lenders and financial institutions often apply fixed and floating charges as a form of security. The charges protect creditors’ investments and themselves from losing money should the debtor company default on the repayments. Fixed charges are often applied to tangible, identifiable company assets, while floating charges relate to intangible assets. Floating charges crystalise if the company defaults on its repayments, undergoes liquidation or receives a winding-up petition, and the creditor needs repaying.
What are secured and unsecured creditors?
Secured creditors can hold both fixed and floating charges over a company. They can have both fixed and floating charges, or either. However, those with fixed charges have a higher preference in the payment hierarchy and are the first to receive any funds if the company is liquidated. Secured creditors with floating charges are further down, receiving payments after preferential creditors. Unsecured creditors are often suppliers, customers, and contractors. They have no charges over company assets, tangible or intangible, and may receive less in liquidation.
More differences between secured and unsecured creditors
What are preferential creditors?
Preferential creditors consist of company employees, and from December 1st, 2020, HM Revenue & Customs. A company’s preferential creditors are paid after secured creditors with fixed charges in the payment hierarchy but before secured creditors with floating charges.
More information on preferential creditors
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