Reality facing mSME companies

Rescued companies now face reality of major debt overhang - Independent.ie

The above link is to an interesting article in today’s Irish Independent from Jon Ihle about the challenges facing Companies as we emerge from Covid-19 and government supports end and the need to face up to the reality of debt overhang from

• Warehousing taxes with Revenue
• Taking loan breaks
• Took temporary payment deals with landlords and suppliers

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This is something that we in Friel Stafford (along with other restructuring/ insolvency practitioners have been flagging as a coming issue for a while.?In his article, Jon notes

?“SME balance sheets were badly damaged by two years of economic disruption, as firms put off paying taxes, took loan breaks and worked out temporary payment deals with landlords and suppliers”?

?“It makes sense for the banks, which have taken very conservative provisions already, to allow for some further forbearance, while Revenue tends to be pragmatic in granting repayment extensions.?

But landlords and suppliers can’t afford to be indefinitely generous.”?

?“Ultimately, that means any systemic repayment problems in the SME sector will be coming back to the State’s balance sheet, either in terms of loan arrears at State-owned banks or in the form of tax defaults.”?

?The unfortunate truths are that

Businesses who were pre Covid challenged due to business or sector fundamentals are likely to relatively quickly return to a difficult trading state as the supports are curtailed.

There will be a “catch up” as many companies who would have succumbed to insolvency in 2020 and 2021 but survived due to the government and creditors supports return to trading normality. (Some companies will have used the supports as a Covid dividend and pivoted to a sustainable business model – but they will be a minority)

?In this respect, fully believe that Quarter 4 this year is when we will see traction in the Insolvency market gain pace.?

Banks priority will their obligations to the central bank. We fully expect them to bundle and sell on challenged loans to investment funds to keep their balance sheet solvency ratios at a suitable level.?

?As we have seen repeatedly in the personal debt sphere, these funds will accelerate the need to “deal” with debt.

Deals will be possible in many cases; however, poor business and company fundamentals will lead for some to company receivership and liquidations.

The effect Warehousing of Revenue debt will bite companies, directors, and the state itself.?

1. Companies that were struggling with cash flow issues and discharging Revenue obligations, will find it “doubly” difficult when trying to discharge current and legacy revenue debt.
2. ?Directors need to be particularly aware of potential implications for them

• ?Section 997 (a) of the Taxes Consolidation Act 1997 can become an issue. Under this section a director or employee of a company who holds a material interest (i.e., more than 15% of the share capital of the company) cannot claim credit for taxes deducted if they have been warehoused and not paid over to Revenue by the company / employer. Notwithstanding the limited liability status of the company this legislation in effect overreaches the limited liability protection and can result in a personal tax liability for the directors
• ?For companies who had accumulated and were accumulating Revenue debt PRE Covid-19 and who continued to trade during the pandemic whilst availing of debt warehousing there could be significant issues.
• If these companies fail with significant revenue debt incurred from pre covid and during the pandemic, and the States position is worsened the directors can fully expect the Revenue Commissioners to be concerned as to the grounds which a company continued to trade, warehouse tax, and worsen the States position.
• There could be implications for the possible restriction of company directors and / or being made personally liable for the debt through reckless trading.

3. Revenue themselves are facing an issue in terms of their priority in a liquidation.

• ?Section 621 of the Companies Act 2014 provides that certain Revenue debts are considered preferential creditors. However, the implication of warehousing means that in some cases Revenues preferential status (due to the aging of the liability) may be eroded and the debt may be unsecured falling behind floating charge holders and being part of the general pool of creditors. Instead of receiving a large (or maybe full dividend), Revenue’s dividend may be heavily diluted or end up being none.
• Revenue will continue to look at those companies which availed of supports (and perhaps should not have).?We fully expect to see companies be challenged and perhaps face significant repayments.

?It is an imperative that Directors of companies who are likely to feel the hangover / aftereffect of the withdrawal of company supports take stock and consider their options.

?The implications for directors including restriction / disqualification, personal liability through personal guarantees to banks & property owners or actions for unfair preference / reckless trading, or personal tax exposure are real and, in many cases, could be significant.

Government have helped with the supports during the pandemic. They have help with the enactment of the SCARP legislation (www.scarp.ie) which is designed as a low-cost alternative to examinerships for micro and small companies. Examinership stays a possibility for larger business.

It is our experience that those who act early have a better chance of formulating a plan to survive (because nothing in business is black and white and many times the first plan needs tweaking!).

?If you or a client need advice on corporate restructuring, SCARP, Examinership, or liquidation, please do not hesitate to call me on our free insolvency helpline on 01-661 4066 or contact me by email on [email protected]