When a company files for bankruptcy, employees face significant uncertainty regarding outstanding pay. Whether employees receive money owed depends heavily on several factors within the legal process. The payment of wages and benefits is governed by specific rules within the bankruptcy code, which dictate how the employer’s limited assets are distributed among creditors. Understanding the legal position of an employee and the types of compensation owed is key to navigating this transition.
Employee Status in Bankruptcy Proceedings
When a company files a bankruptcy petition, it becomes a “debtor,” and the court issues an automatic stay, halting all collection efforts. Employees owed unpaid wages, commissions, or benefits from before the filing date—known as “pre-petition” claims—are transformed into creditors. This means employees cannot sue the employer in a regular court; instead, they must participate in the bankruptcy proceedings.
The US Bankruptcy Code grants employees a special status as “priority creditors.” This designation means their claims for certain types of compensation must be paid before many other unsecured claims, such as those held by general trade vendors or bondholders. This priority is limited, however, in both the dollar amount and the time frame in which the compensation was earned.
Types of Compensation and Their Treatment
The treatment of an employee’s claim depends on the specific type of compensation owed.
Priority Claims
Wages, salaries, and commissions earned but unpaid before the bankruptcy filing are given the highest level of priority treatment. This category is explicitly covered by the statutory priority claims section of the bankruptcy code, making recovery more likely. Accrued Paid Time Off (PTO) or vacation pay is also included in this high-priority category if company policies or state laws treat it as earned wages. The qualifying PTO amount is aggregated with unpaid wages and subject to the same statutory dollar cap.
Lower Priority Claims
Severance packages usually receive a lower priority status than earned wages. If the severance agreement existed before the filing, the claim is often classified as a general unsecured claim, meaning it is among the last to be paid and may receive only a small fraction. However, if the company requires an employee to continue working after the filing and then terminates them, the resulting severance may be considered an “administrative expense,” granting it a much higher priority. Unreimbursed business expenses incurred pre-petition are also typically relegated to the lower-priority general unsecured creditor class.
The Impact of Bankruptcy Chapters on Employee Pay
The specific bankruptcy chapter filed significantly impacts the likelihood and timing of employee payments.
Chapter 7 Liquidation
In a Chapter 7 liquidation case, the company immediately ceases operations, and a trustee is appointed to sell all non-exempt assets to pay creditors. Employees are terminated, and their payment relies entirely on the funds generated by the asset sale. Recovery of pre-petition wages is often delayed, as the trustee process can take many months or years. Wages earned by employees retained to assist the trustee are paid as high-priority administrative expenses.
Chapter 11 Reorganization
Chapter 11, known as reorganization, allows the company (the Debtor in Possession) to continue operating its business. Wages earned after the company files for Chapter 11—known as “post-petition” wages—must be paid normally and on time, as they are considered administrative expenses with the highest priority. Pre-petition wages owed before the filing are still subject to the priority claims process, but the likelihood of payment is often higher than in Chapter 7 if the company successfully restructures.
Understanding Priority Claims for Wages
The statutory priority claim, detailed in Section 507(a)(4) of the US Bankruptcy Code, assigns a high-ranking status to claims for wages, salaries, and commissions, including vacation, severance, and sick leave pay. Funds from the debtor’s estate must be used to pay these claims before funds go to lower-ranking unsecured creditors.
The priority status for an individual worker is subject to two statutory limitations.
Dollar Cap
The claim only receives priority treatment up to a certain dollar limit, which is periodically adjusted. For cases filed on or after April 1, 2025, the maximum dollar amount for a priority wage claim is $17,150 per individual.
Time Limit
The compensation must have been earned within the 180-day period immediately preceding the date the company filed for bankruptcy or the date the business ceased operations, whichever occurred first.
Any amount owed that exceeds the dollar cap or was earned outside of this 180-day window reverts to the status of a general unsecured claim. These lower-priority claims are paid only after all priority claims have been satisfied in full, often resulting in only a small percentage recovery.
What Employees Should Do Immediately
Employees should immediately take steps to formally document all outstanding amounts owed by the company. This documentation should include:
Pay stubs
Employment contracts
Time sheets
Records of accrued paid time off or unreimbursed business expenses
The most important action is to file a Proof of Claim form with the bankruptcy court or the appointed trustee before the court-set deadline, often called the “bar date.” Failing to file this formal document on time may prevent the recovery of unpaid compensation. Employees should monitor all communications from the court or trustee, as they are responsible for sending information to known creditors. Employees should also actively monitor court filings and official notices regarding the case status, deadlines, and proposed plans for reorganization or liquidation. If the amount owed is substantial or the situation is complex, consulting with a state labor department or an attorney specializing in bankruptcy or employment law can provide necessary guidance.