If your business fails and you have existing debts, you too could end up confronting the prospect of personal insolvency. If you find yourself in such a situation, you need to be fully aware of the options available to you and your liabilities. Below are a few key points to help you make important decisions.

While many small business owners choose limited company status that will offer them less financial liability by establishing a separate legal entity, sole traders and partners are personally liable for their business debts. However, because shareholders of a limited company are only liable to the nominal value of the shares that they hold, proprietors or directors of a company will usually be expected to sign personal guarantees if the balance sheet is not strong enough to cover the risk posed to the creditor. As such, should the company become insolvent, the creditor can turn to the proprietor to recover their monies.

While bankruptcy is one way of dealing with debts that cannot be paid, it is a very serious matter. An Individual Voluntary Arrangement (IVA) is one formal alternative that has less consequence and may be more suitable for someone wishing to remain in business.

So, what is bankruptcy and what is an IVA?

Due to the Enterprise Act 2002, through bankruptcy, an indebted individual is freed from their debts within 12 months of the bankruptcy order being made. During that period the bankruptcy is investigated, bankruptcy restrictions apply and assets are dealt with.

An IVA is a legally binding agreement between the individual and creditors to repay a percentage of the total amount owed. Monthly payments are typically made for five years, or a lump sum settlement is reached, after which time the individual is cleared of all debts.

Both an IVA and bankruptcy are intended to maximise the return to the creditors and give the indebted individual an opportunity for a fresh start, albeit some way down the road.

Choosing between bankruptcy and an IVA is not always easy and neither should be taken lightly. Careful consideration should be given to personal objectives, business objectives and the financial position of the individual and the foreseeable future of any existing business.

By Martin Huckle