Debitoor's accounting dictionary

Bankruptcy - What is bankruptcy?

Bankruptcy is a legal term given to a person or business who is no longer able to pay back their outstanding debts.

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Declaring bankruptcy means means that you are released from your debts, and you have the chance to make a fresh start whilst ensuring that your assets are shared amongst the creditors whom you owe money to. Of course, they are certain restrictions and limitations to this.

Generally speaking, bankruptcy is a last resort option and there are a lot of insolvency steps which can be taken in order to avoid bankruptcy.

Bankruptcy vs insolvency

The main difference between bankruptcy and insolvency is that bankruptcy only legally applies to individuals (including business owners and directors), and not companies or partnerships. Insolvency on the other hand is a broader term used to describe all kinds of financial failures.

Think of the term insolvency as a tree, and bankruptcy as one of the many branches under it.

Reasons for bankruptcy

Individuals can be issued a bankruptcy order for three reasons:

  1. Individuals are unable to repay what they owe in debts (debtors petition)
  2. Creditors can make individuals bankrupt if they are owed more than £5000 (creditors petition).
  3. Insolvency practitioners can make individuals bankrupt if terms of an individual voluntary arrangement have been broken.

The bankruptcy process

Firstly, it will cost you £680 to apply to the government to become bankrupt. Once you have applied online, you will be contacted by an official receiver working for the Insolvency Service.

If your application is accepted and the adjudicator has made you bankrupt, then:

  • You will receive a copy of the bankruptcy order, and possibly be interviewed about your situation
  • Your assets will be used to pay your debts
  • You will have to follow the bankruptcy restrictions
  • Your name (and other details) will be registered and published in the Individual Insolvency Register

Through the Individual Insolvency Register you will also be able to see when you will be discharged of bankruptcy. Usually, discharge is 12 months after the adjudicator made you bankrupt.

If, however, you cancel your bankruptcy, then all your restrictions will end effective immediately, and your name and details will be removed from the Individual Insolvency Register.

Although, just like most things, bankruptcy has both its pros and cons. It might seem more scary than it actually is, and I can reassure you that bankruptcy is NOT the end of the world. Having said that, it is also not exactly the “easy” way out either.

Becoming bankrupt does not mean that you are completely tied loose from all the debts you owe. You will still have to pay these debts, but by declaring bankruptcy the amount of money you will end up having to pay your creditors will be significantly decreased.

Avoid bankruptcy in your business

One of the very first ways to avoid going bankrupt is to keep clean and accurate accounting records of every activity in your business. From the very start of your business, you should invest time and effort to keeping track your accounting and finances. You should also comply with accounting principles to ensure that you are following legal recording practices in your business (such as recording accrual payments etc).

Using an accounting and invoicing software can help you track your income and expenses, and give you a good overview of your business position at any point in time.

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