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Is it better to be employed by a Company or an Individual when insolvency strikes?

Is it better to be employed by a Company or an Individual when insolvency strikes?

One of the first questions we are asked when insolvency strikes is “Will the employees recover their outstanding entitlements?”.

Fortunately, the Fair Entitlements Guarantee (FEG) Scheme has enabled us to answer that in most cases an employee’s outstanding entitlements are safeguarded in the event of insolvency.

Most people are now familiar with the FEG Scheme, which covers certain unpaid employee entitlements for eligible employees who lose their jobs due to the insolvency (Liquidation of Bankruptcy) of their employer.

Noteably-

  • FEG does not cover superannuation or sick leave.
  • FEG only covers Australian citizens or holders of permanent visas or special category visas that allow the holder to stay and work in Australia at the time their employment ended.

Individuals will not be classed as eligible employees for FEG purposes if they were engaged as a contractor or they were a director of the company or a relative of the director in the 12 months before the Liquidation.

FEG will cover employees who may have lost their jobs (provided they did not resign) in the 6 months before their employer’s Liquidation or Bankruptcy. Accordingly, even though these employees are not employed at the date we are appointed as Liquidators or Bankruptcy Trustees, they can still be eligible under this scheme.

FEG is utilised where there are insufficient or limited funds in the Bankrupt Estate or Liquidation to satisfy the outstanding entitlements.

Strangely enough, the priorities afforded to outstanding employee entitlements in a Bankruptcy versus a Corporate Liquidation are quite different.

Priorities Afforded Employee Entitlements in a Liquidation

Section 556 of the Corporations Act 2001 outlines the priorities of employee entitlements in a Liquidation as follows:

  1. Wages and Superannuation (section 556 (1) (e)).
  2. Leave Entitlements (section 556 (1) (g)).
  3. Retrenchment Payments (section 556 (1) (h)).

Excluded Employees (Directors or their relatives) are only entitled to a priority for wages and superannuation to be capped at $2,000 and for leave entitlements to be capped at $1,500.

The balance of any entitlements owed to these parties becomes an unsecured claim in the Liquidation. For example, if a director is owed $5,000 in wages and $5,000 in annual leave, their priority claim is $3,500 as detailed above and the balance of $6,500 is considered their unsecured claim.

Priorities Afforded Employee Entitlements in a Bankruptcy

Section 109 of the Bankruptcy Act 1966 outlines the priorities in a Bankruptcy, as follows:

  1. Wages, Superannuation and SGC currently (indexed in accordance with the CPI) capped at $4,450 (section 109 (1) (e)).
  2. Leave Entitlements (section 109 (1) (g)).

Under the Bankruptcy Act, there is no capping for eligible or excluded employees. They receive the same priorities despite potentially being a relative of the Bankrupt.

FEG

In the event the entitlements of an employee cannot be covered in either a Liquidation or a Bankruptcy, FEG will remit payment of these entitlements subject to the conditions outlined earlier. FEG then subrogates into the employees’ place in the Liquidation or Bankruptcy in the event of a future dividend.

Under the FEG scheme employees can claim as follows:

  1. Unpaid Wages – up to 13 weeks.
  2. Unpaid Annual Leave and Long Service Leave.
  3. Payment in Lieu of Notice – up to 5 weeks.
  4. Redundancy Payments – up to 4 weeks per full year of service.

What is the Practical Impact?

To illustrate the differences, let us look at an example where at the date of Liquidation or Bankruptcy you were owed $10,000 in employee entitlements in relation to outstanding wages.

In a Liquidation where there were sufficient funds to satisfy this claim, you would receive a dividend of $10,000 for your outstanding wages. If you had to claim through FEG, then subject to your $10,000 being less than or equal to 13 weeks of wages, you would receive the full balance of $10,000.

In a Bankruptcy where there were sufficient funds to satisfy this claim, your priority payment for wages would currently be capped at $4,450. The balance of $5,550 would be considered an unsecured claim.

Interestingly, if the Bankrupt Estate did not have sufficient funds to satisfy outstanding employee entitlements and your claim was processed through FEG you may receive the full $10,000 from FEG. FEG, however, would only stand in your place for a capped priority dividend of $4,450 for wages and the balance of $5,550 would be considered an unsecured claim. As an excluded employee in a Bankruptcy, you would receive a capped priority entitlement for wages of $4,450 versus in a Liquidation your priority dividend for wages would be capped at $2,000 and FEG would not pay anything in this situation (Liquidation).

If you had annual leave outstanding, you were an excluded employee and there were funds available, in a Bankruptcy, you would receive all your leave entitlements in full versus a capped priority entitlement of $1,500 for leave entitlements in a Liquidation.

If you or your clients require advice on how employees may be impacted by insolvency, call our confidential assist line on 1800 246 801.

Article written by Anne Meagher, SV Partners QLD.

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