Solvency is the ability of a business to meet its financial obligations as they fall due, the threshold between a business that is financially viable and one that is technically insolvent.

A business is solvent when its assets exceed its liabilities and it can pay its debts as they become due. Insolvency is not synonymous with bankruptcy. A business can be insolvent and continue operating, but doing so creates legal obligations and personal exposure for directors that most do not fully appreciate.

Two tests apply under Canadian insolvency law. The cash flow test: can the business pay its debts as they come due? The balance sheet test: does the value of assets exceed the value of liabilities? A business can fail the cash flow test while passing the balance sheet test, illiquid but not technically insolvent by the balance sheet standard. Both tests matter because different legal consequences attach to different states of insolvency, and directors who continue trading while a company is insolvent can face personal liability for debts incurred in that period.

Solvency is a legal concept with personal consequences for directors that goes beyond accounting. See how Wefinx approaches Virtual CFO services.

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