Insolvency Is the Inability to Pay Debts As They Become Due

Written by Adam Peck Category: Nursing Homes January 23rd, 2013 2 min read

Insolvency means the inability to pay one’s debts as they fall due. Usually used to refer to a business, insolvency refers to the inability of a company to pay off its debts.

Business insolvency is defined in two different ways:
Cash flow insolvency
Unable to pay debts as they fall due.
Balance sheet insolvency
Having negative net assets – in other words, liabilities exceed assets.
A business may be ‘cash flow insolvent’ but ‘balance sheet solvent’ if it holds illiquid assets, particularly against short term debt that it cannot immediately realize if called upon to do so. Conversely, a business can have negative net assets showing on its balance sheet but still be cash flow solvent if ongoing revenue is able to meet debt obligations, and thus avoid default – for instance, if it holds long term debt. Many large companies operate permanently in this state.

Insolvency is not a synonym for bankruptcy, which is a determination of insolvency made by a court of law with resulting legal orders intended to resolve the insolvency.

Definition of inability to pay debts:
(1) A company is deemed unable to pay its debts;
(e) if it is proved to the satisfaction of the court that the company is unable to pay its debts as they fall due. This is known as cash flow insolvency.
(2) A company is also deemed unable to pay its debts if it is proved to the satisfaction of the court that the value of the company’s assets is less than the amount of its liabilities, taking into account its contingent and prospective liabilities. This is known as balance sheet insolvency.
Consequences of insolvency:
The principal focus of modern insolvency legislation and business debt restructuring practices no longer rests on the liquidation and elimination of insolvent entities but on the remodeling of the financial and organizational structure of debtors experiencing financial distress so as to permit the rehabilitation and continuation of their business. This is known as Business Turnaround or Business Recovery. In some jurisdictions, it is an offense under the insolvency laws for a corporation to continue in business while insolvent. In others (like the United States with its Chapter 11 provisions), the business may continue under a declared protective arrangement while alternative options to achieve recovery are worked out. Increasingly, legislatures have favored alternatives to winding up companies for good.

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Written by Adam Peck

Expertise: Personal Injury

Adam J. Peck, ESQ is a principal with Peck Law Group, APC. In 2008, Mr. Adam Peck received his Juris Doctorate from Whittier Law School where he graduated Cum Laude. His practice is primarily dedicated to representing Elders, Dependent Adults, along with their loved ones and family members, who have suffered horrific personal injuries.