Since December 2020, HMRC has ranked ahead of floating charge holders for VAT, PAYE and CIS. It quietly changed the value of a lender's security, and most facility papers have never been revisited.
In December 2020 the ranking of creditors in an insolvency changed, and a good deal of lending documentation has never caught up with it.
HMRC regained preferential status for certain taxes. Not the full preference it held before 2003: this is a secondary preferential claim, but enough to reorder the queue in a way that matters to anyone relying on a floating charge.
What actually changed
The distinction is between taxes a company collects on behalf of others and taxes it owes in its own right.
| Preferential | Remains unsecured |
|---|---|
| VAT | Corporation tax |
| PAYE income tax | Employer’s National Insurance |
| Employee NICs | Interest and most penalties |
| Student loan deductions | |
| CIS deductions |
The logic is that the first group was never the company’s money. It was withheld from employees, subcontractors and customers and held for the Crown.
Where it sits in the queue
Working down the order of priority on a floating charge realisation:
- Fixed charge holders, out of their charged assets
- Expenses of the insolvency
- Ordinary preferential claims, principally employee wage arrears and holiday pay, within statutory limits
- HMRC’s secondary preferential claim: the taxes above
- The prescribed part, set aside for unsecured creditors
- Floating charge holders
- Ordinary unsecured creditors
The change inserted an entirely new tier at position 4, above the floating charge and above unsecured creditors.
The bit that catches lenders out
There is no time limit on the preferential claim.
Ordinary preferential claims are capped, both in amount and by reference to a period. HMRC’s secondary preferential claim is not. The whole of the qualifying arrears ranks ahead of the floating charge, however long they have been accruing.
The practical consequence is uncomfortable. A company that agreed a Time to Pay arrangement three years ago, and has been quietly running a VAT and PAYE balance ever since, has been steadily converting a lender’s floating charge recovery into a Crown preference, without any covenant being breached, and often without the lender’s monitoring picking it up.
By the time an insolvency crystallises the position, the deduction is fixed and there is nothing to be done about it.
What this means in practice
For lenders. Two things. First, the value of a floating charge is not what the asset schedule says it is; it is that figure less the HMRC preferential claim, and that claim is invisible in most covenant packages. Second, and more usefully, the HMRC balance is one of the best leading indicators of distress there is. A company using tax money as working capital is telling you something well before its management accounts do.
We would treat the HMRC position as a monitored metric in its own right: the actual arrears, the existence and status of any Time to Pay arrangement, and whether it has been broken before. See our work with lenders.
For directors. Using VAT and PAYE as short-term funding was always risky. It is now more so, because the arrears cannot be diluted by an insolvency in the way other creditors’ claims are, and because HMRC’s improved recovery prospects have made it a more willing petitioner. If your HMRC balance is growing, that is the point to take advice, not once enforcement starts.
For unsecured creditors. The pool available to you shrank. Where a company has significant tax arrears, an insolvency that would once have produced a modest dividend may now produce nothing at all beyond the prescribed part.
For anyone lending against a floating charge in a labour-intensive or VAT-heavy business. Recruitment, construction, hospitality and care all carry structurally high PAYE and VAT balances. The gap between headline security and real recovery is widest exactly where those sectors are concerned.
A closing thought
None of this is new law any more: it has been in force for over five years. What is striking is how much lending documentation, and how many credit papers, still model floating charge recoveries as though 2020 never happened.
If you would like us to look at a specific position and tell you what the security is realistically worth after the Crown has taken its share, get in touch. There is no charge for that conversation.
This article is general guidance and is not a substitute for advice on a specific matter. Please see our disclaimer.