When a small business files for bankruptcy, what happens to employees? Will they still have their jobs? Will the business be required to pay their employees? Small business bankruptcy can be incredibly scary for both small businesses and their employees.
Here's what happens under the bankruptcy code to employees after small businesses file for bankruptcy to get help with their business debt.
Business Bankruptcies: Reorganization or Liquidation
The bankruptcy code provides two types of business bankruptcies: reorganization or liquidation. The type of small business bankruptcy chosen determines what happens to employees and whether their outstanding wages will get paid by the business.
A reorganization bankruptcy allows a small business to reorganize its business operations. The small business must create a repayment plan that addresses their business debt.
Chapter 11 is a type of reorganization bankruptcy. With a reorganization bankruptcy, the business remains open. While the business may need to make some tough decisions to reduce expenses and improve profitability, it does get to continue its operations which allows it to keep many of its employees working and paid.
Within a reorganization bankruptcy, business debts are broken down into categories:
- priority claims
- secured claims, and
- unsecured claims.
Priority claims are claims that are paid in full as part of the repayment plan. They come first, hence the term "priority." Wages owed are treated as priority claims to ensure that they are paid.
By contrast, a liquidation bankruptcy is chosen when a small business does not have the means to remain open and pay on its business debts.
Chapter 7 bankruptcy is an example of liquidation bankruptcy. With this type of bankruptcy, the small business will not stay open. Unfortunately, the employees will be out of work. Whether the employees will be paid for any owed wages depends on whether there are assets that can be liquidated.
What About Laid Off Employees & Small Business Bankruptcy?
If an employee was laid off and remained unpaid before the small business filed bankruptcy, the process to collect the money owed is different than that for current employees. An employee who was laid off before the small business bankruptcy was filed, and to whom the benefits are owed, becomes a creditor. There is no guarantee that a payment will be made. If payment is made, there is no guarantee that the employee will receive everything that they were owed. Only money classified as wages under the bankruptcy code is considered priority claims. Wages include:
- Hourly pay
- Vacation pay
- Severance pay
- Sick leave pay
Additionally, priority status only applies to wages that were earned within 180 days before the bankruptcy was filed and only up to $13,650 per employee. An unpaid commission that was earned within the last 12 months that is at least 75% of the employee's income may also qualify as a priority claim. However, it could also be categorized as an administrative claim.
Does Small Business Bankruptcy Really Help Small Businesses?
In 2019, the Small Business Reorganization Act was passed in an effort to help streamline the small business bankruptcy process. Its goal was to make it less expensive and faster for small businesses to get through the process and pay off their business debts. However, the Small Business Reorganization Act only applies to small businesses with debts of less than $2,725,625. It also includes:
- The appointment of a bankruptcy trustee to oversee the small business bankruptcy process as well as the progress made on the plan of reorganization.
- A streamlined reorganization process for small businesses. Businesses do not have to seek approval votes for their plan from their creditors. However, they must create their plan of reorganization within 90 days of filing for bankruptcy.
- There is no longer a requirement to provide the "new value" of the business to retain their equity interest in their business. Instead, they must create a plan that treats business debts in a fair and equitable manner that uses their projected disposable income toward their payments.
- Small business debtors can now modify a mortgage secured by a residence if the underlying loan was not used to purchase the residence and it was primarily used in connection with the small business.
- There is no longer a requirement for small businesses to pay administrative expense claims.
Is Bankruptcy Right for Your Small Business?
If you're an Oklahoma small business owner and you're wondering if bankruptcy is the best option, schedule a free consultation with the Law Offices of B. David Sisson. Depending on your needs and abilities, you could be able to keep your business operating. Bankruptcy code could help you gain control over your business debts and give your business another chance at profitability. Don't wait! Schedule your free consultation now to learn if small business bankruptcy is right for you.