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This page provides a brief overview of some of the areas you will need to think about in relation to serious financial difficulties and insolvency. There are also links to practical advice and guidance to help you to find your way through the common options.
If your charity finds itself heading for serious financial difficulties, then having a clear understanding of your duties and obligations is essential, as it allows you to think about recovery plans and prepare for closure or merger. This is especially true for the trustees of a charity as they are legally responsible for the organisation and have obligations in relation to its solvency.
The Charity Commission also provides useful general guidance in CC12: Managing a charity’s finances: planning, managing difficulties and insolvency
If you think your organisation is facing serious financial difficulties then, wherever possible, you should take professional advice. This is because it is possible to break the law even while trying to do the right thing. Getting advice early means you are more likely to develop an effective recovery plan or managed closure.
NCVO cannot offer advice on insolvency as we are not lawyers or insolvency experts. The Charity Finance Group (CFG) is a charity who specialise in advising charities on financial management knowledge and skills.
These specialist providers offer professional advice on a fee-paying basis:
You may also wish to seek legal advice to make sure you are meeting your obligations.
Bates Wells, the charity and non-profit specialist legal firm, has launched its new Decision Tool for voluntary organisations facing financial difficulty, for organisations who are unsure of their next steps.
There is no legal definition of insolvency, but in practice there are two tests, either of which might indicate insolvency:
When assessing the two tests set out above it is essential that you get accurate and timely financial management information. You will need to be familiar with this information and be able to spot whether issues are ‘one-off’ or signs of impending problems or tends. The finances should mirror what you know and what is reported about the activities of the organisation.
Signs to look out for are things like a pattern of:
Any of which might be indications that you need to take some action.
It is a lack of immediate cash to pay debts that most often causes expanding organisations to falter. Developing a cash flow forecast will help you see when you may have a shortfall and how to handle this. A cash flow forecast can be developed by mapping out:
The nature of the net-assets and funds held by a charity will require careful consideration when assessing your financial position and mapping your cashflow forecast. You need to think about the funds according to the restrictions on their use:
Once you have assessed your financial position you will be presented with one of the options below. Even if you pursue one of these options its helpful to understand at what point you may need to look at the alternatives.
The Charity Commission have guidance on how to close a charity . The process to wind up your organisation will be different depending on:
You can find further guidance on assessing your charity’s financial position against the insolvency tests here:
No organisation should take on a debt that it does not reasonably expect it can pay. Even when you are doing valuable work with the best of intentions, you always need to be aware of your duty to suppliers and the other people your organisation owes money to. This can be difficult for charities where it might seem contrary to the interests of your beneficiaries, but, in a situation where there is a danger of insolvency, the law looks to protect the rights of your creditors, and to treat them fairly. For incorporated organisations there are strict rules about who you can make payments to once you have identified, or reasonably ought to have known, that you might not be able to pay everyone.
For this reason, as as a trustee, you must consider whether or not your organisation is a ‘going concern.’ This means that there is an underlying assumption that the organisation will continue in operational existence for the foreseeable future, and that it has neither the intention nor the need to liquidate or materially reduce the scale of its operations.
The obligations and implications of insolvency for trustees depends in part on the legal status of your organisation .
Boards concerned about the potential for insolvency, or financial difficulties, should meet regularly to manage the situation and record all key decisions along with the reasons for them. A reliable record of decisions is essential in these cases.
Below are some of the main areas of responsibility trustees need to be aware of because they can occur in insolvency and expose board members to personal liability. More detail can be found in Crowe’s guidance note on Charity and Insolvency .
Wrongful trading is when an incorporated entity has carried on taking on debts (eg employing staff) even when you knew, or ‘ought to have known‘ that there was no reasonable prospect of being able to pay (‘avoiding insolvent liquidation‘). Even if you didn’t intend to defraud them, you can stumble into wrongful trading.
Fraudulent trading is similar but occurs when a director allows the incorporated entity to carry on, with the intention of defrauding creditors. It is much stronger than wrongful trading, therefore it carries stronger penalties.
If you are an incorporated entity then once you are in a situation where insolvency is on the cards, you must be extremely careful about who you make payments to. This is because you must preserve the organisation’s money so it can be shared out fairly among everyone you end up owing money to. This includes cases where paying out money might advance your charitable purpose.
All trustees, regardless of legal form, can also always incur personal liability for what is called a ‘breach of trust’. This includes activity such as operating outside the charity’s objectives, using funds for non-charitable purposes, or unauthorised payments to trustees. It is essential that trustees follow the governing document and take steps to safeguard the charity’s funds.
Last reviewed: 18 January 2022Help us improve this content
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