It's never good news for employees when their employer files for Chapter 7 bankruptcy. For the company, it's a strategy move that can have its debts discharged without having to repay creditors. Unlike Chapter 11, where a business reorganizes and continues to run, a Chapter 7 filing means the business is done. It must have its assets sold to pay creditors before the bankruptcy court relieves it of any debt. Employees, just like other creditors, are paid according to the priority of their claim.
Once a Chapter 7 is granted, the debtor is free to start over. That means little to the employees looking for anything owed to them by that company. Since the employees are essentially considered a creditor, they must be paid from the money in the bankruptcy estate. If the fund is dry, the employee may walk away with less than what he's due or nothing at all.
Unsecured Priority Debts
Employee wages are among the first priorities in the Chapter 7 bankruptcy process. The United States Bankruptcy Code places wages in the unsecured priority debts category, or debts not secured by collateral such as a home or a car. Unsecured debt is paid with assets from the bankruptcy estate instead of collateral. In many cases, those assets come from the sale of the company's nonexempt property. That means employee wages will get paid before such things as the company's credit card debt.
Unsecured priority debts are paid in the order of priority, which is laid out by the Bankruptcy Code. Court-ordered spousal or child support comes first. Administrative bankruptcy expenses and post-petition unsecured claims also rank ahead of employee wages on the priority scale. The money for wage settlement comes from whatever is left after the others are paid off. That's why some employees may end up with little or nothing.
The debtor must list any amounts he owes to employees for wages, vacation pay and sick pay. In addition, the debtor is on the hook for money owed to independent contractors who earned at least 75 percent of their total earnings from the debtor. These claims are only part of the bankruptcy if the wages were earned within 180 days before the Chapter 7 filing, or within 180 days from the time the business stopped running.
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