Employee Entitlements – What Happens When a Company is Insolvent?

In most cases of corporate insolvency, employees are owed some form of entitlements, whether contractual entitlements (such as wages or salary), or statutory entitlements (like annual leave, long service leave or redundancy pay).  They are often the creditors who are most seriously affected by the insolvency. Other unsecured creditors may have alternative income sources, while secured creditors can often exercise their security to recover the debt.

For this reason, the Corporations Act provides that all employee entitlements are payable at the time of the appointment of the liquidator and must be paid in full prior to other creditors (with the exception of some secured creditors as discussed below).

What are the priorities for different employee entitlements?

The priorities for payment of employee entitlements are generally in the order of:

  1. Wages, superannuation contributions and any superannuation guarantee charge;
  2. Leave entitlements; and
  3. Redundancy payments.

Each type of entitlement is a separate priority and must be paid in full before the next type of entitlement may be paid (for instance, all wages and superannuation in respect of all employees must be paid in full before any accrued annual or long service leave payments may be made).  Once all priority employee entitlements are paid in full, other unsecured creditors can be paid.

It is important to remember that, if workers do not fall under the definition of “employee” (for instance, they may be independent contractors), or their remuneration is not “wages” (for example, some commission, bonus or other payments), their entitlements have no priority.

Do officers of the company have the same priorities?

Whilst officers of the company may be employees, the Corporations Act treats them, and their relatives, differently.  They are “excluded employees” who only have a priority for some employee entitlements, up to a specified limit.  The rest of their claim is a non-priority debt and may only be claimed as an unsecured debt along with other creditors.  Currently, excluded employees can only claim $2,000 for wages and $1,500 for leave payments.  They can only claim redundancy pay for any period in which they were not an “excluded employee”.

If the employee continues to work after a liquidator is appointed, how does this affect the payment of entitlements?

Sometimes, a liquidator may decide to continue to trade the business after the liquidation commences, and may keep the employees working for an extra period of time.

The Corporations Act provides that employees that accrue entitlements (including wages and leave entitlements) as a result of this extra period are entitled to receive that amount as a cost in the winding up.  The liquidator must calculate the amount of the entitlement that accrued during the period the company was under liquidation, and pay that amount to the employees before declaring and distributing a dividend to creditors.

If a third party advances money to pay employee entitlements, do they have the same priority as employees?

In some situations of financial distress, a third party advances monies to a company for the purpose of paying employee wages or other entitlements.  If this occurs, and the money is used for that purpose, the third party may be able to replace the relevant employees when the priority payment is made from the dividends, up to the amount that was advanced.

Which secured creditors are paid dividends before the employee entitlements are paid?

In a liquidation, secured creditors can usually exercise their securities so that they will not be affected by the insolvency process.  However, the Corporations Act gives a priority to employees over floating charges over assets (such as stock in trade and company inventory).  The liquidator can usually use the floating assets of the company to pay employee entitlements, before paying the secured creditors in respect of the floating part of any security.

What if the employer is a bankrupt person, not a company?

If the employer is a person, or a business owned and run by a person (not a company), the Bankruptcy Act will apply.  The Bankruptcy Act contains different provisions relating to priorities for employee entitlements and different limits on those priorities.  These provisions are beyond the scope of this article.

If you require advice or assistance concerning employee entitlements upon insolvency, please contact us on 1300 676 787 for a fee-free, no-obligation discussion with one of our experienced insolvency and employment lawyers.