During difficult economic times it is not uncommon for companies to face an array of monetary hardships, and in some cases, be compelled to or voluntarily take steps towards wind up the affairs of the business. Indeed, company directors and business owners have positive obligations under Australian Corporations Law to prevent insolvent trading. Whilst in some situations, the financial woes of an organisation can be saved through various forms of borrowing and other debt arrangements, this is not always the case. Current statistics indicate that approximately 10,000 companies go broke in Australia each year. When a company becomes insolvent and cannot meet its debt obligations, what happens to its employees, and any employee entitlements that are unpaid?
The law in Australia is fairly complex in circumstances where a company is insolvent or apprehends that it may become so. In many circumstances, prior to liquidation, a company may be placed into what is known as Administration. However, if liquidation is required then what usually occurs by way of appointment of a liquidator, is the orderly winding up of a company’s financial affairs. It involves realising the company’s assets, cessation or sale of its operations, distributing the proceeds of realisation among its creditors and distributing any surplus among its shareholders. There are three types of liquidation processes in Australia:
- court appointed liquidation;
- creditors’ voluntary liquidation; or
- members’ voluntary liquidation.
What does this all mean for employees?
In most cases, the liquidation of a company results in the necessity for the liquidator to terminate the employment of most employees. In most cases, there are a number of employees, however, whose services are retained for a short period of time to assist in the winding up of the company. For the employees who lose their employment, the legal reason for the termination is redundancy. In effect, the role for which the employee was employed, no longer exists because the company itself is being wound up. Legally, the employees would therefore be entitled to notice and a redundancy payment (assuming they have been employed for more than 12 months).
If there are funds left over after the payment of the fees and expenses of the liquidator and other secured priority creditors, employees are typically entitled to be paid their outstanding entitlements in priority to other unsecured creditors. Priority employee entitlements are grouped into classes and paid in the following order:
- outstanding wages and superannuation;
- outstanding statutory leave entitlements (including annual leave and, where applicable, long service leave); and
- severance pay.
Each class must be paid in full before the next class is paid. If there are insufficient funds to pay a class in full, the available funds are paid on a pro rata basis and the next class will be paid nothing. If after the payment of secured creditors and the liquidator’s fees, there is no available funds to distribute, employees may be entitled to make a claim under the Federal Government’s Fair Entitlements Guarantee (“FEG”).
Employees who are owed entitlements after losing their job because their employer went insolvent or into liquidation may be able to receive financial assistance from the Australian Government through FEG. FEG is a legislative scheme introduced by the Fair Entitlements Guarantee Act 2012 (Cth), which replaced the General Employee Entitlements and Redundancy Scheme.
Through FEG, employees may be able to claim:
- unpaid wages – up to 13 weeks’
- unpaid annual leave and long service leave entitlements;
- payment in lieu of notice – up to five weeks; and
- redundancy pay – up to four weeks per full year of service.
It is important to note that unpaid superannuation guarantee contributions cannot be claimed and a director of the company or a relative of the director of the company within 12 months prior to liquidation cannot make a claim through the scheme.
For employees who are retained for a period by the liquidator, the continuation of their employment is usually on the same terms and conditions as they enjoyed prior to the appointment of the liquidator. In such circumstances, the liquidator takes on the liability for paying the employee’s legal entitlements for the period from the date of their appointment. It is important for both the liquidator and employee to ensure that they are clear as to what the terms of their employment actually were prior to the appointment. This is often not clearly articulated and may give rise to a proper claim by the employee against the liquidator for entitlements in addition to the basic entitlements owed under the Fair Work Act 2009 (Cth) (“FW Act”).
Warning to employers using liquidation to escape paying employee entitlements
The Fair Work Ombudsman (“Ombudsman”) in a recent speech on 27 July 2016 stated that she would be relying upon expansive accessorial liability provisions in the FW Act to recover back payments and penalties from individuals, directors and company officers. The Ombudsman stated that in particular, her office would focus its efforts on business owners who liquidate their companies to prevent the proper payment of employees, and then seek to hide behind the corporate veil to curtail their obligations to pay their staff.
In this regard, in the recent decision in Fair Work Ombudsman v Step Ahead Security Services Pty Ltd & Anor  FCCA 1482 the judge ordered a Director and his company to pay more than $308,000 in civil penalties, the largest amount achieved by the Ombudsman in Queensland with respect to underpayment claims made by employees. In this case, the director was personally ordered to pay a penalty of $51,400 and the company penalised a further $257,000. This is significant, in circumstances where the underpayment claim was only worth $22,779.72. The Court also found both the Director and company jointly and severely liable for the underpayment amount. The Court made its determination largely on the basis of the Director’s conduct in winding up previous businesses in order to avoid the proper payment to employees of their entitlements.
In view of the Ombudsman’s firm warning to continue to push the limits of the accessorial liability provisions in the FW Act in circumstances where employers disingenuously undertake winding up activities to avoid paying employee benefits and entitlements, there is a real risk in using insolvency other than for a proper purpose. That risk is now even more real given the Court’s willingness to impose greater civil penalties including on individuals personally.
We often advise companies and directors in relation to their employment obligations, and have worked closely with organisations to achieve harmonious outcomes for staff in circumstances where the business no longer has the means to continue trading. If you wish to discuss any aspect of this article or require specialist advice or assistance in relation to an employment law issue, please do not hesitate to contact us.
This alert is not intended to constitute, and should not be treated as, legal advice