The legal sector is facing a period of significant change:
- new entrants are expected to enter the market and put pressure on existing suppliers
- the Jackson review of personal injury and the abolishing of referral fees will change the way that many firms operate
- much legal aid work is being removed from scope and rates are being reduced
- the economy is still struggling to recover and the volume of transactional work has much reduced.
As a result, many law firms are experiencing increasingly uncertain times. Some are seeking professional support at an early stage and are turning their businesses around, others are struggling on alone.
When their business is in financial difficulties often equity partners will hope for an upturn in work that never comes and creditors become increasingly impatient for payment. A final demand from HMRC in connection with failure to pay PAYE and/or VAT is commonly what prompts the equity partners to consult an insolvency practitioner.
A thorough review of the legal framework of the business is required together with an analysis of its assets, liabilities, income and expenditure. If the business cannot continue to trade because of its excessive liabilities then consideration should be given to the saleability of the goodwill and client base.
LLPs
In the case of Limited Liability Partnerships (LLPs), the insolvency regime is largely the same as for Limited Companies. LLPs are allowed to:
- propose a voluntary arrangement;
- apply to enter administration;
- resolve to enter voluntary liquidation; or
- be wound up by the court.
Administration is usually only going to be worthwhile for a Limited Liability Partnership if the firm has a business which someone is willing to buy. In the case of a professional practice, given regulatory issues and the practical point that a professional practice in administration will rapidly lose its clients and goodwill administration is likely to have to involve a “pre-pack”, in other words a sale will have to be agreed with a buyer prior to and be completed on the commencement of the administration.
Partnerships
In the case of a partnership, the partners are jointly and severally liable for the liabilities of the partnership. In these circumstances, a Partnership Voluntary Arrangement (PVA) may allow a partnership to continue to trade with regular contributions being made out of trading income, for the benefit of unsecured creditors. The unsecured creditors are bound by the terms of the PVA therefore cannot pursue the partners individually. In the case of smaller firms, interlocking Individual Voluntary Arrangements (IVAs) may be used. However one must remember that if one IVA fails then this will also adversely affect the interlocking IVAs. Consideration has to be given as to how the partners’ professional regulatory body will react to PVA/IVAs; in particular whether that body will permit the partners to continue in practice after PVA/IVAs are in place. Clearly this is crucial and a decision of the regulator must be sought before any steps are taken, particularly regarding ongoing trading, or the objectives of the PVA/IVA may be unachievable. Sometimes therefore the equity partners may have to accompany their PVA with a “merger” with another firm, in which they can be “supervised” in their professional work by partners who are not the subject of an insolvency regime. This is particularly common where the practice needs to continue to hold client money.
Salaried and fixed share partners
A PVA, with or without IVAs, may, depending on the terms proposed, put an end to the salaried and fixed share partners’ exposure to liability for the firm’s debts. However, creditors may not accept the PVA/IVAs, or if they do accept them, the PVA/IVAs may fail because the firm and/or the partners find themselves unable to comply with the agreed terms.
Salaried and fixed share partners may well be exposed to creditor claims. Although they may not be classed as true partners, they may still be liable to creditors under section 14(1) of the Partnership Act 1890 (holding out). Such liability depends not only on whether they have been held out as partners, but also on whether the creditors concerned have relied on them when advancing credit to the firm. It is most important therefore that salaried and fixed share partners are aware of the implications for themselves of their Firm entering into a formal insolvency process.
Armstrong Watson can help you
This article gives a flavour of the issues that need to be addressed when a law firm finds itself in financial difficulties. In order to achieve the best outcome for creditors and all classes of partner it is vital that specialist advice is sought at the earliest opportunity. There are many options. The Legal Sector team at Armstrong Watson has the knowledge and experience built up over a number of years to help you in these difficult times.
Andy Poole is the Legal Sector Director at Armstrong Watson Chartered Accountants, head of the firm’s UK-wide legal sector team, specialising exclusively in advising solicitors and law firms.
