Solvency has a precise legal meaning in the UK. A company is solvent if it passes both of the following tests set out in the Insolvency Act 1986:
- Cash-flow solvency: The company can pay its debts as and when they fall due.
- Balance-sheet solvency: The value of the company's assets exceeds the value of its liabilities, including contingent and prospective liabilities.
Failing either test does not automatically mean a company must enter insolvency proceedings, but directors have significant legal duties once a company approaches insolvency, and trading while insolvent can lead to personal liability in some circumstances.
Why solvency matters when applying for finance
Lenders assess solvency as part of any credit decision. A balance sheet where liabilities outweigh assets, or management accounts showing an inability to meet near-term obligations, will heavily influence a lending decision and the terms offered. Demonstrating clear solvency — through up-to-date filed accounts and recent management information — strengthens an application.
Director duties near insolvency
Once a company is, or is likely to become, insolvent, directors must act in the interests of creditors rather than shareholders. Taking on new borrowing when the company cannot reasonably expect to repay it can constitute wrongful trading. Independent legal advice is strongly recommended in these circumstances.
We lend only to UK limited companies and LLPs, and the loan is to the company with no director personal guarantee. As business finance outside the consumer-credit regime, it is not covered by the Financial Ombudsman Service or FSCS.
See also: What does current ratio mean for my company?, What is debt restructuring for a limited company?.