Insolvency and Bankruptcy Proceedings Explained
Insolvency vs. Bankruptcy Proceedings
Case 3 is about insolvency and bankruptcy proceedings. The basic distinction is very important: insolvency is the economic problem, while bankruptcy or insolvency proceedings are the legal process used to deal with that problem.
Defining Insolvency, Debtors, and Creditors
Insolvency means that the debtor cannot regularly pay its debts. The debtor is the person or company that owes money. The creditor is the person or company that is owed money. Insolvency may be actual or imminent:
- Actual insolvency means the debtor cannot pay debts when they are due.
- Imminent insolvency means the debtor expects that soon it will not be able to pay regularly and on time.
Types of Insolvency Processes
There are two types of insolvency processes:
- In a voluntary insolvency process, the debtor starts the proceedings by filing a petition before the Commercial Court.
- In a compulsory insolvency process, a creditor starts the proceedings.
Once the debtor knows it is insolvent, it must apply for insolvency proceedings within two months. Here, “apply” means filing a formal petition before the court.
The Court Petition and Declaration
The procedure begins with a petition to the Commercial Court. The court examines the documents and decides whether to declare insolvency proceedings. If the court declares them, the proceedings officially start. The declaration is published in the Public Insolvency Register and in the Boletín Oficial del Estado (BOE), so creditors and third parties are informed.
Role of the Insolvency Administrator
The court appoints an insolvency administrator. This person supervises or manages the process, analyzes the debtor’s assets and debts, prepares reports, and protects creditors’ interests. The insolvency administrator must be qualified, independent, and not affected by incapacity, incompatibility, or prohibition. They must act diligently and may be liable if they cause damage.
Effects of the Proceedings
Effects on the Debtor
The insolvency proceedings have effects on the debtor:
- In voluntary insolvency, the debtor may keep management powers, but under the supervision or authorization of the insolvency administrator.
- In compulsory insolvency, the debtor’s powers may be suspended and replaced by the insolvency administrator.
The business activity does not automatically stop, but the debtor must provide books and documents.
Effects on Creditors
There are also effects on creditors. Creditors cannot act individually as before. Their claims enter the masa pasiva, which is the group of debts and claims against the debtor. Creditors must communicate their claims, individual actions may be limited or suspended, and the claims are listed and classified.
Understanding Masa Activa and Reintegration
The masa activa is the group of assets and rights of the debtor that can be used to pay creditors. It includes money, property, machinery, stock, or rights against third parties. If the debtor carried out harmful transactions before insolvency, such as selling an asset too cheaply to a friend, those are considered detrimental acts to the aggregate assets. The insolvency administrator can use reintegration actions to recover assets or value for the insolvency estate.
Classification of Creditor Claims
The insolvency administrator must prepare a report, normally within two months. The report identifies the assets, debts, creditors, and the financial situation of the company. Creditors’ claims are classified into three categories:
- Special preference claims: These have priority, usually because they are secured, such as a mortgage or pledge.
- Ordinary claims: These are normal unsecured debts, such as supplier invoices.
- Subordinated claims: These are paid last, such as late claims, penalties, certain interests, or claims of related persons.
Proposal of Composition vs. Liquidation
The debtor and creditors may try to reach a proposal of composition. This is an agreement to avoid liquidation and reorganize the payment of debts. It includes a payment plan, explaining how and when creditors will be paid. Creditors must accept it, the creditors’ meeting discusses and votes on it, minutes are prepared, and the court must approve the composition.
If the debtor fulfills the final composition, creditors are paid according to the payment plan. If the debtor breaches the composition, liquidation may be opened. Liquidation is used when the company is not viable or when the composition fails. It means selling the debtor’s assets and paying creditors as far as possible.
Fortuitous vs. Guilty Insolvency
At the end, the insolvency may be classified as fortuitous or tortious/guilty:
- Fortuitous insolvency means it was caused by external factors and is not attributable to directors or owners.
- Tortious or guilty insolvency means the insolvency was caused or worsened by wrongful conduct, such as hiding assets, keeping false accounts, or reckless management.