The news of a company filing for bankruptcy is unsettling, immediately raising concerns about job security and financial stability. Navigating this crisis requires understanding your rights and the legal structure governing employment and compensation. This information provides clarity and guidance on the complex process of corporate bankruptcy, focusing on how federal law protects wages, benefits, and job-related claims.
Understanding Corporate Bankruptcy Types and Their Impact on Employment
A company bankruptcy filing involves two primary types, distinguished by whether the company intends to continue operating or shut down entirely.
Chapter 11 bankruptcy is a reorganization process where the business remains operational while restructuring finances and debt under court supervision. Employment often continues, but it is subject to uncertainty and potential layoffs as the company streamlines operations. The goal is for the company to emerge as a viable business.
Chapter 7 bankruptcy is a liquidation where the company ceases all operations and its assets are sold off to pay creditors. A court-appointed trustee takes control, resulting in the immediate termination of employment for most workers. Any wages or benefits owed are treated as claims against the remaining assets.
Immediate Employment Status and Operations
When a company files for bankruptcy, obligations are divided into “pre-petition” (before filing) and “post-petition” (after filing). Wages earned for work performed after the filing date are considered “administrative expenses.” These are high-priority claims that the company must pay to keep operating.
If the company files Chapter 11, it is usually managed by the existing leadership, known as the Debtor-in-Possession. This entity is authorized to continue paying current employees for their post-petition work to preserve the business’s value. Employees who continue working should expect to receive regular paychecks, as these labor costs are necessary for the estate’s ongoing function.
Wages owed from the period before the bankruptcy filing are treated differently under the Bankruptcy Code’s claim priority structure. Pre-petition claims are often only partially recovered, while post-petition claims are generally paid in full. The filing date acts as the definitive marker for classifying these two obligations.
Protecting Wages, Salaries, and Unpaid Compensation
The Bankruptcy Code safeguards employees owed money from before the filing date through “priority claims.” Employees are granted a fourth-level priority for unpaid wages, salaries, or commissions under 11 U.S.C. § 507(a)(4). This priority status ensures these specific claims are paid before many other unsecured debts.
This priority covers compensation earned within 180 days before the company filed for bankruptcy or the date it ceased business. The priority claim is capped, currently set at $17,150 per individual for cases filed on or after April 1, 2025. Any wages owed above this cap are treated as a general unsecured claim, which has a lower chance of full recovery.
The definition of wages for this priority claim is broad, including base pay, vacation, sick leave, and severance pay earned pre-filing. Accrued Paid Time Off (PTO) or vacation pay is generally included within this protected priority amount.
Managing Employee Benefits and Retirement Plans
Employee benefits like health insurance and retirement plans are handled under separate federal laws, offering various levels of protection. If the employer terminates the group health plan, the Consolidated Omnibus Budget Reconciliation Act (COBRA) may be triggered. This requires the company to offer continuation coverage for a limited time. If a Chapter 7 liquidation causes the complete cessation of business operations, COBRA coverage may not be an option, requiring employees to seek other insurance.
Defined contribution plans, such as 401(k) accounts, are generally protected by the Employee Retirement Income Security Act (ERISA). ERISA requires these assets to be held in trust, separate from the company’s operating funds. The money contributed, including vested employer matching, is safe from the company’s creditors. However, the employer may stop making future matching contributions during the bankruptcy process.
Defined benefit pension plans, which promise a specific monthly payment upon retirement, are protected by the Pension Benefit Guaranty Corporation (PBGC). If the company’s plan is underfunded and terminates during bankruptcy, the PBGC assumes responsibility. The PBGC guarantees payment of vested benefits up to a maximum statutory limit, ensuring retirees receive a portion of their promised income.
Notification Requirements and Severance Pay
The Worker Adjustment and Retraining Notification (WARN) Act mandates advance notice for mass layoffs and plant closings. Companies meeting a certain employee threshold must provide 60 days’ written notice before a plant closing or mass layoff. Bankruptcy does not automatically excuse this obligation, and failure to provide notice may result in the employer owing back pay and benefits.
Exceptions to the 60-day rule exist, such as the “unforeseeable business circumstance” or “faltering company” exceptions. However, the company must demonstrate these exceptions apply and still provide as much notice as possible.
The treatment of severance pay depends on when the agreement was made relative to the bankruptcy filing. Severance promised in a pre-petition contract is generally treated as a low-priority, general unsecured claim. If severance is offered after the filing, or earned based on post-petition services, the claim may be considered an administrative expense, affording it a higher priority for payment.
The Role of the Employee in the Bankruptcy Process
Employees owed pre-petition compensation must file a Proof of Claim (POC) with the bankruptcy court to secure their financial claim. This formal document, typically Official Form 410, asserts the employee’s right to payment and is required to participate in any distribution of the company’s assets. The form requires specific information, including the amount owed for unpaid wages, benefits, and other pre-petition compensation.
Employees must pay close attention to the court-mandated deadline for filing the POC, known as the “bar date.” Missing this deadline can result in the forfeiture of the claim. In large cases, employees with similar claims may form an unofficial committee of unsecured creditors to share information and ensure their interests are represented throughout the proceedings.
What Happens Next: Reorganization vs. Liquidation Outcomes
The long-term outcome depends on whether the company successfully reorganizes or is forced to liquidate its assets. In a Chapter 11 case, a successful reorganization means the company emerges with a confirmed plan. This may involve continued employment under new terms, often with reduced workforces and modified benefits. If reorganization fails, the case may be converted to a Chapter 7 liquidation, resulting in the termination of all employees.
A common Chapter 11 outcome is an asset sale, often called a Section 363 sale, where a new company purchases the debtor’s assets. The purchasing company is not legally obligated to hire existing employees or honor pre-sale contracts, though they frequently offer new employment to the workforce. A Chapter 7 liquidation confirms the final loss of jobs as the company ceases all operations and is dismantled.