What Happens to Employees During Bankruptcy?

The insolvency and bankruptcy process can be challenging for all parties involved, including employees. While employees are not directly responsible for the financial troubles of their employers, they can face significant consequences during a corporate insolvency resolution process (CIRP) or liquidation. The Insolvency and Bankruptcy Code (IBC) provides certain protections for employees to safeguard their wages, benefits, and rights. However, the outcome for employees often depends on whether the company is successfully restructured or liquidated.

What Happens to Employees During Bankruptcy?

During the bankruptcy process, employees' roles and entitlements are subject to the decisions made by the Resolution Professional (RP) or the liquidator, as well as the legal framework set out by the Insolvency and Bankruptcy Code (IBC). Here’s how it typically unfolds:

During Corporate Insolvency Resolution Process (CIRP)

• Continued Employment: Employees may continue working during the CIRP, especially if the resolution plan includes the revival or restructuring of the company. However, if the company is not able to pay wages, employees may not be compensated immediately.
• Priority of Claims: Under the IBC, employee wages and dues (including unpaid salaries and severance pay) are given priority over other unsecured creditors. Employee claims are generally paid after secured creditors but before shareholders and other unsecured creditors in case of liquidation.
• Employee Dues: Employees have a right to be paid for their work. However, if the company is undergoing restructuring or liquidation, they may have to file claims with the Resolution Professional for unpaid dues.
• Impact on Benefits: Employees may lose certain benefits during the CIRP, depending on the resolution plan. For example, if the company is sold to another entity, the new owners may decide to change the terms of employment.

In Case of Liquidation

• Termination of Employment: If the company is liquidated, employees are typically terminated. In this case, the liquidator will manage the dissolution of the company's assets and distribute proceeds to creditors, including employees.
• Payment of Salaries and Severance: Employees are entitled to claim unpaid salaries, severance pay, or retrenchment compensation from the liquidation process. These claims must be made within a specified time period.
• Employee Rights in Liquidation: Employees are given certain rights under the IBC. Their claims for unpaid salaries, gratuity, and severance pay are treated as part of the liquidation estate and must be prioritized before other unsecured claims, such as those of shareholders or unsecured creditors.

Role of the Insolvency Professional

Resolution Professional (RP)

The Resolution Professional plays a crucial role in managing the company during the CIRP. They are responsible for preserving the value of the company, engaging with creditors, and working on the resolution plan. They also have the duty to ensure that employee rights, such as salaries and benefits, are considered during the process.

Liquidator

In cases where liquidation occurs, the liquidator is responsible for distributing the company’s assets and paying creditors, including employees. The liquidator must prioritize employee claims according to IBC guidelines.

Legal Protections for Employees During Bankruptcy

Priority in Payment

As per the IBC, employees’ claims for unpaid wages are considered a priority and are paid before other unsecured creditors in the event of liquidation. However, the exact amount they can claim will depend on the available assets after settling secured creditors’ claims.

Wages and Benefits

Employees are entitled to their unpaid wages and other benefits (such as provident fund, gratuity, and severance pay) during the insolvency proceedings, as long as these claims fall within the legal limits and timelines defined under the IBC.

Rights of Workmen and Employees

The IBC provides specific provisions for workmen and employees, who are given special attention under the code. For instance, workmen’s dues (e.g., wages) up to a period of 24 months are given top priority in liquidation proceedings.

Employee Provident Fund (EPF) and Gratuity

In the case of liquidation, employees' claims related to their Provident Fund (PF) and gratuity are also prioritized, and these amounts are paid out from the company’s assets as per the law.

Common Threats to Employees During Bankruptcy

Non-Payment of Wages

Employees may face delayed or non-payment of wages if the company is not able to generate enough funds during the CIRP or liquidation process.

Termination and Loss of Employment

In cases of liquidation, employees are likely to be laid off as the company winds down operations. This results in the loss of income and job security for many employees.

Reduction in Benefits

If a resolution plan leads to the company being sold to another firm, employees may lose certain benefits such as insurance, pensions, or long-term bonuses, depending on the new owner’s terms.

Legal Protections and Consumer Actions

File Claims

Employees should file claims for unpaid wages and benefits with the Resolution Professional (RP) during the CIRP. In the case of liquidation, claims should be made to the liquidator.

Representation and Advocacy

Employees may approach labor unions or legal advisors to ensure their rights are protected during the bankruptcy proceedings. Employee representatives can also advocate for the settlement of dues.

Example

Suppose a company, XYZ Ltd., enters insolvency proceedings due to financial mismanagement. During the CIRP, employees continue working, but their salaries for the last two months remain unpaid. After a few months, the company is liquidated.

Steps employees should take:

• File Claims: Employees should file claims with the Resolution Professional or Liquidator for unpaid wages and other benefits within the prescribed time limit.
• Check Priority: Employees’ dues will be prioritized according to the IBC, meaning their claims for unpaid wages will be considered before unsecured creditors.
• Severance and Benefits: Employees should ensure that their severance and any retirement benefits like Provident Fund (PF) and Gratuity are claimed.