Fate of claims of workmen and employees of an entity under insolvency – By Prakash K. Pandya, Insolvency Professional

Fate of claims of workmen and employees of an entity under insolvency

– By Prakash K. Pandya, Advocate, Mediator and Insolvency Professional

It is of common knowledge that entities dragged under the Insolvency and Bankruptcy Code 2016 (the IBC), may find resolution from resolution applicant or its management may make settlement. And in the absence of either, the entity goes into liquidation. In this backdrop, it is vital to know what happens to the claims of workmen and employees of an entity under the IBC.

Firstly, it is necessary that workmen and employees file their claims with the Interim Resolution Professional (IRP). Where no claims are filed by workmen and employees, and if the resolution plan is received and approved (without providing for any payment to workmen and employees) then such debts stand extinguished[1].

For the purpose of this write-up, claims of employees and workmen[2] of an entity under the IBC, are broadly classified into 3 categories, namely, claims for a period prior to commencement of Corporate Insolvency Resolution Process (the CIRP), claims for a period covered during the CIRP and claims for the liquidation period i.e. for period commencing from the date of order of liquidation passed by the Adjudicating Authority / NCLT (the AA).

Let’s examine their fate in each of the said 3 categories:

1. Claims of employees and workmen for the period prior to commencement of CIRP of Corporate Debtor

Unpaid dues of workmen and employees for a period prior to passing of order of commencement of CIRP by the AA:

(a) Where Resolution Plan is received

The amount that the workmen and employees of the CD shall be entitled to receive against the amount of their claims admitted by IRP / Resolution Professional (RP), is covered under section 30(2)(b) of the IBC. It means that under the resolution plan, workmen and employees shall be entitled to receive the higher of the following amounts:

  1. Amount of the average liquidation value (as per the valuations of two valuers appointed by the RP), if were to be distributed as per section 53 of the IBC; or
  2. Amount of resolution plan (total value offered under the resolution plan), if were to be distributed as per section 53 of the IBC.

Hence, it is important that RP and valuers keeps the valuation confidential[3] and is only disclosed by the RP at the time of consideration of Resolution Plan by the Committee of Creditors (the COC) after receipt of undertaking from them about its confidentiality[4].

(b) Where liquidation of the Corporate Debtor is ordered by the AA

In such an eventuality (which is in majority of the cases), admitted claims of workmen and employees needs to be bifurcated into two categories:

  1. Claim for gratuity, provident fund, and pension; and
  2. Claim for wages and salaries.

As regards the claim for provident fund, pension fund and gratuity fund, the same shall not form part of the liquidation estate assets of the CD, as provided under section 36(4)(a)(iii) of the IBC[5]. To put it simply, the same shall be payable in full out of the existing funds of the CD and in case of shortfall, out of the funds that the liquidator may realise by sale of liquidation assets and/or business of the CD.

And as regards claim for wages and salaries, the same falls under Section 53(1)(f) of the IBC[6]. Meaning that workmen and employees gets funds towards their claims for a period prior to CIRP only if there remain any funds in the hands of the liquidator, after paying the following:

  1. cost of CIRP and liquidation,
  2. claims of secured creditors (only those who have surrendered their security to the liquidator for realisation) pari passu with claims of workmen for a period of 24 months prior to the passing of liquidation order by the AA,
  3. dues of employees for a period of 12 months prior to the passing of liquidation order by the AA,
  4. debts of unsecured creditors; and
  5. amount due to Government (Central and State) for a period of 2 years prior to the passing of liquidation order by the AA pari passu with balance amount which secured creditors could not recover by enforcing security (i.e. unpaid amount of those secured creditors who did not surrendered their security with the liquidator).

Obviously, the chance of getting any amount by workmen and employees towards their wages and salaries is meagre.

2. Claims of employees and workmen for the period covered during the CIRP

(a) Where resolution plan is received

The amount that the workmen and employees of the CD shall be entitled to receive against the amount of their claims admitted by IRP / RP is covered under section 30(2)(b) of the IBC. Please refer para 1(a) above.

(b) Where liquidation of the Corporate Dbetor is ordered by the AA

Workmen and employees need to submit their claim with respect to their dues for the CIRP period, with the liquidator. However, it is essential that RP should have managed the operations of the CD during CIRP period as a going concern AND the workmen and employees need to prove to the liquidator that they actually worked during the CIRP period of the CD for the purpose of inclusion of their claim in the CIRP cost[7]. If the same is admitted by the liquidator, then workmen and employees are entitled to be paid in full for the work done and services rendered during CIRP period u/s.53(1)(a) of the IBC, i.e. in priority to any other claims.

And where liquidator adjudicates that the RP has not run the business of the CD as a going concern during CIRP OR where the workmen and/or employees have not done any work during the CIRP period when the CD was a going concern, then:-

  1. the dues of workmen, to the extent admitted by liquidator, is payable u/s.53(1)(b) of the IBC, i.e., it is paid pari passu with the admitted claims of secured creditors (only those who have surrendered their security to the liquidator for realisation). And workmen dues are restricted to a period of 24 months prior to the passing of liquidation order by the AA[8]. Further, it is paid from the balance funds left after paying fully the CIPR cost and the liquidation cost.
  2. And, claims of employees, to the extent admitted by liquidator, is covered u/s.53(1)(c) of the IBC, i.e., it is restricted to a period of 12 months prior to the passing of liquidation order by the AA. It is paid from the balance funds left after paying fully: the CIRP cost and the liquidation cost AND the claims of secured creditors (who have relinquished security u/s.52 IBC) pari passu with admitted claims of workmen for 24 months prior to liquidation commencement date.

3. Claims of employees and workmen for the liquidation period

The order of liquidation of the CD shall be deemed to be a notice of discharge to the officers, employees and workmen of the CD, except when the business of the CD is continued during the liquidation period by the liquidator[9]. Thus, only when liquidator continues business of the CD after liquidation order, there may be claims of workmen and employees for the work done / services rendered during such period. The amount due to workmen and employees for their work done and services rendered during liquidation period falls within the definition of the ‘liquidation cost’[10]. And the liquidation cost is payable in full u/s.53(1)(a) of the IBC, i.e. in priority of any other claim.

Delay in competition of CIRP or passing of liquidation order, affects claims of workmen and employees

As noted above, Section 53(1)(b) and (c) of the IBC refers to a period of 24 months for workmen’s due and 12 months for dues of employees of the CD, respectively. Said period of 24 months / 12 months is to be counted from the date of passing of liquidation order by the AA.

If the approval of resolution plan (considering provisions of Section 30(2)(b) of the IBC) or the liquidation order (considering section 53(1)(b) and (c) of the IBC) is not made within the time frame of 180+90 days[11] or 330 days[12], then amongst others, the workmen and employees of the CD suffers the most. This is so, inter alia, on the grounds that – (i) the amount that workmen and employees may get is linked with the liquidation value [u/s.30(2)(b) and u/s.53(1)(b) and (c)]; and (ii) value of assets of the CD gets deteriorated with passage of time and thus lesser amount remains in the hands of liquidator to distribute – which can be paid after the assets are sold and money is realised (rarely CD will have sufficient liquid funds). And in case of resolution plan, until the same is approved by the AA, workmen and employees need to wait.

 

Reference:

[1] Ghanashyam Mishra & Sons (P) Ltd. v. Edelweiss Asset Reconstruction Co. Ltd., (2021) ibclaw.in 54 SC

[2] It may be noted that the term ‘workman’ means workman as defined u/s.2(s) of the Industrial Disputes Act (per section 3(36) of the IBC). And the term “workmen’s dues” has been assigned the same meaning as u/s.326 of Companies Act 2013 (per Explanation (ii) to Section 53 of the IBC).

[3] Regulation 35(3) of the Insolvency and Bankruptcy Board of India (Insolvency Resolution Process for Corporate Persons) Regulations, 2016

[4] Regulation 35(2) ibid.

[5] This issue has been recently considered in part by the Honourable Supreme Court of India in Sunil Kumar Jain versus Sundaresh Bhatt reported at (2022) ibclaw.in 23 SC. Sec.36(4)(a)(iii) of the IBC – PF, pension and gratuity remains outside of liquidation estate and payable in priority to waterfall mechanism u/Sec.53 of the IBC.

[6] As operational creditor, r/w Sec.5(20) and (21) of the IBC.

[7] As held by the Honourable Supreme Court of India in Sunil Kumar Jain versus Sundaresh Bhatt reported at (2022) ibclaw.in 23 SC, considering provisions of Sections 5(13) and 20 of the IBC. It is stated in the said judgement that when the CD was a going concern during the CIRP and wages/salaries of workmen/employees who did not do any work, shall not be included automatically in the CIRP cost.

[8] Period of 24 months prior to liquidation commencement, is the maximum period for which workmen may get paid. Practically, where CIRP period exceeds 24 months and thereafter liquidation order is passed by the AA, then workmen get paid for 24 months prior to liquidation order and hence such period can be less than the CIRP period! Conversely, where liquidation order is passed within 24 months of CIRP commencement date, then workmen may get paid for the entire CIRP period as well as for partial period falling prior to CIRP commencement.

[9] Section 33(7) of the IBC.

[10] Section 5(16) of the IBC r/w Regulation 2(1)(ea) of the Insolvency and Bankruptcy Board of India (Liquidation Process) Regulations, 2016.

[11] Section 5(14) r/w Sec.12(3) and its first proviso – IBC.

[12] Second proviso to Sec.12(3) of the IBC.

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