Why are more SMEs choosing liquidation over rescue?

There was a time when directors of struggling businesses would explore every possible rescue option before considering liquidation. Routes like a Company Voluntary Arrangement (CVA) or administration were often pursed, even when the likelihood of success were, let’s say, optimistic.

Now, we’re seeing a clear shift. Many SME directors are choosing to cease trading and enter CVL earlier, rather than continuing to trade in hope of a turnaround.

In part, this reflects experience. The past few years have been challenging, and many directors are taking a more realistic view of their prospects. In other cases, it’s about limiting further  risk,, particularly where there is potential for personal exposure.

Or, put more bluntly: fewer directors are willing to “gamble for resurrection.”

One of the key drivers behind this trend is the lasting impact of pandemic-era borrowing, particularly through schemes such as the Bounce Back Loan Scheme.

While these loans provided essential short-term support, they’ve also left many SMEs with increasingly stretched balance sheets. In some cases, underlying business models were already under pressure, and the additional debt has simply accelerated the inevitable.

The result? Businesses that might previously have continued trading for another year or two are now reaching a tipping point sooner.

Another key factor is the changing behaviour of HM Revenue & Customs (“HMRC”).

During the pandemic, HMRC adopted a notably supportive stance, offering time to pay arrangements and generally limiting enforcement action. That position has shifted significantly.

Not only is HMRC more active in pursuing arrears, but its status as a preferential creditor, reintroduced under the Finance Act 2020, means it ranks higher in the repayment hierarchy in an insolvency.

For SMEs already struggling with cashflow pressures, this combination can be decisive. Rising tax arrears, alongside increased pressure from HMRC, often leaves directors with limited options, making liquidation the most straightforward route.

It’s also worth noting that for some directors, liquidation may no longer represent the clean break it once did.

HMRC has increasingly made use of Joint and Several Liability Notices (JSLNs), introduced under the Finance Act 2020, which allow tax liabilities to be transferred from a company to individuals connected with it.

In practice, this means directors (and others with significant influence) can become personally liable for company tax debts in certain circumstances, particularly where there is suspected tax avoidance, evasion, or a pattern of repeated insolvencies.

While still relatively targeted, there are indications that these powers are being used more frequently, particularly as HMRC seeks to close the tax gap and address so-called “phoenix” behaviour.

For SME directors considering their options, this adds an additional layer of complexity: while liquidation may resolve the company’s position, it does not always eliminate personal exposure.

For creditors, it reinforces a broader point: HMRC’s toolkit is expanding, and its approach to recovery is becoming increasingly assertive.

At the same time, traditional rescue options are not always proving effective for smaller businesses.

CVA proposals can be costly, time-consuming, and uncertain. Creditor support is not guaranteed, and where margins are tight, there may be insufficient headroom to make a proposal viable.

Administration, meanwhile, is often not a commercially viable option for smaller companies unless there is a clear opportunity for a business sale or rescue.

Against that backdrop, CVL can often appear to be the most pragmatic option: a defined process, a clean break, and relatively speaking, fewer moving parts.

Not exactly a cheerful outcome, but sometimes the least-worst one.