Court crams down HMRC in the latest SME Restructuring Plan
There has been very little to indicate how HMRC might approach a restructuring plan (RP), following HMRC’s preferential status being restored in 2020.
The reinstatement of HMRC as a preferential creditor potentially makes CVAs non-viable if HMRC do not support, but what about RPs? RPs introduced for the first time, the ability for the court to ‘cram down’ creditors who vote against it.
In the recent case of Houst, this is exactly what the court did, cramming-down (and therefore binding) HMRC to the terms of the plan even though HMRC voted against it.
But, how did the court justify exercising its cram down power in light of HMRC’s preferential status?
Firstly, it is necessary to understand why HMRC voted against the plan. The reasons were set out in an email:
“HMRC will not relinquish this status in order to provide a dividend to unsecured creditors. We appreciate that this may be problematic with regards to creditors of this category, and we understand that our dividend is likely to be less in liquidation. However, with the reinstatement of HMRC as a secondary preferential creditor at the end of 2020, this is a position we are not willing to compromise on and will insist this be honoured in all circumstances, regardless of whether this disadvantages unsecured creditors.”
A fairly telling email given that it indicates that HMRC is not willing to compromise its position as preferential creditor in any case, even though as here, they expected to be paid less if the RP was not sanctioned.
Cram Down Considerations
The court can sanction a plan when creditors do not approve it using its cross-class cram down power under section 901G. In deciding whether to do so, the court will consider
(Condition A) If the restructuring plan is sanctioned, would any members of the dissenting class be any worse off than they would be in the event of the relevant alternative? This is often described as the “no worse off” test.
(Condition B) Has the restructuring plan been approved by 75% of those voting in any class that would receive a payment, or have a genuine economic interest in the company, in the event of the relevant alternative?; and
(General Discretion) In all the circumstances, should the Court exercise its discretion to sanction the restructuring plan?
The evidence submitted by the company supported that HMRC would recover more under the RP than in a pre-pack recovering likely 20p/£, rather than 15p/£ if the company went into administration. Therefore, the court was satisfied that HMRC would be ‘no worse off’ than in the relevant alternative.
As a helpful reminder, a creditor wishing to oppose valuation evidence should (as per Smile Telecoms) produce its own evidence, and if necessary expert evidence. Here HMRC had not sought to do that.
In terms of Condition B, the only creditor that had a genuine economic interest in a pre-pack was the Bank and it had voted in favour. As such, Condition B was satisfied.
Even if Conditions A and B are satisfied the court can still refuse to sanction.
Therefore, why did the Court exercise its general discretion to sanction the plan, when the cross-class cram down power would be a departure from the order of priorities in an administration?
The RP proposed by Houst provided for payments to creditors that departed from the usual order of priorities as follows:
If the company were to enter administration, HMRC would rank behind the Bank and receive £15p/£, compared to the Bank that would receive 7p/£.
Under the plan, although HMRC would receive more (20p/£), the Bank’s position would be significantly improved and it would receive a greater share of the restructuring surplus (than HMRC), increasing its dividend to 27p/£.
In addition, under the RP the unsecured creditors would also receive a dividend, when in administration they would receive nothing. In administration, the dividend to unsecured creditors would have been available to HMRC.
Nevertheless, this was not fatal to the RP
Justification for Departure from Priorities
The court found that the justification provided by the company for why the Bank would be allocated more in the RP and why unsecured creditors would receive a dividend was weak – it was the least the Bank was prepared to accept and unsecured creditors were potential future trading partners/funders.
However, balanced against the following factors the court was prepared to exercise its general discretion and sanction the plan:
the surplus available in the RP would be generated by the injection of new monies allowing the company to trade. The surplus would not be an asset in the administration, and therefore assets were not being applied in a manner inconsistent with the order of priorities in administration;
only HMRC was disadvantaged. It had notice of the RP and although voted against it, HMRC did not attend the hearing to oppose it or argue against sanction. HMRC’s stance not to relinquish preferential status seemed to be a general policy one or at least, not one taken with specific regard to the circumstances of the case;
HMRC had not engaged with the company, and for example sought to negotiate a better deal;
the RP provided a better outcome to HMRC than administration and the court assumed that HMRC would therefore prefer to receive a greater dividend in the RP than less in administration; and
although a creditor might wish to place the Company into a formal process to allow investigations to be carried out, HMRC had not suggested that this is what they wanted and the company’s insolvency appeared to be pandemic related rather than because of anything that might justify investigation.
The outcome of Houst demonstrates that in the right circumstances HMRC can be crammed down, but whether this means in the future that HMRC might support an RP if the dividend payment is more in an RP, or take a more robust approach and appear and positively oppose sanction to protect its preferential status, we will have to wait and see.
Certainty the email produced to the court in this case suggests that HMRC might do the latter.