Severance Payments: Can I Lose Them If My Employer Goes Bankrupt?

“Capitalism without bankruptcy is like Christianity without hell.”

– Frank Borman

ACTUAL CASE HISTORY: Time and again, in difficult economic cycles, we have been asked this question by many of our clients. Each of the economic contractions our economy has experienced in 2003, 1998, 1993, 1987, 1982 (and others) has seen many people given severance packages by their employers. It’s bad enough to lose your job; it’s doubly bad to then lose your severance. Is that what happens when an employer declares bankruptcy?

Last month, thousands of Lehman Brothers employees were in this very predicament. For several months, confidence in Lehman’s viability had waned; over those same several months, concern about losing jobs and severance packages among Lehman employees only grew. Lehman Brothers’ bankruptcy filing on September 15, 2008, affected tens of thousands of then-current and former Lehman employees. Unfortunately, in coming months many thousands more will probably receive severance packages, and many will fear losing them in bankruptcy. So, what is the answer to the question posed?

LESSON TO LEARN: When a company files a petition in Bankruptcy Court for protection from its creditors, anyone owed severance is considered just that: one of those creditors. As a general rule, if you are owed severance monies, and your employer files for bankruptcy protection, you will be treated just like any other “unsecured creditor.” This is the group of creditors who are last to be paid, if they are paid at all, in a bankruptcy. Employees owed severance will likely lose whatever severance monies have not been paid as of the date of the bankruptcy court filing, or close to all of that amount. Unsecured creditors – including those owed severance – usually receive only pennies on the dollar owed, and it might even take years to collect. However, there are certain exceptions to this general rule, and certain steps you can take to lessen your chances of being “hurt” in this way.

WHAT YOU CAN DO: Here are some things you can do if you are concerned that your employer may seek bankruptcy protection before you have received all of your severance:

1. Request a “lump sum” payment”: Many severance agreements offer departing employees the option of receiving their severance either (a) over an extended period of time, or instead, (b) in one lump sum. Usually only those who take “serial” payments (that is, over a series of pay periods) are also entitled to continuation of employee-paid (or subsidized) health care. In this circumstance it may well serve your interests to “take the money and run,” because if your employer then files for bankruptcy protection, you won’t receive the health care payments anyway.

2. Sign and accept your severance agreement as soon as possible: Most severance agreements provide that you have 21 days to consider and accept the agreement’s terms. Some agreements provide employees as much as 45 days to accept the agreement. Once you complete your severance negotiating, you should have no reason to delay acceptance of your package. Moving fast to accept may help, as the sooner you begin to collect your monies, the sooner you will have collected all of your monies. As the old saying goes: “A bird in the hand is worth two in the bush.” It is directly applicable to this circumstance.

3. You might seek to become an “administrative expense”: After a company seeks bankruptcy court protection, someone still has to “run the store.” The bankruptcy court appoints a Trustee to oversee the company, either while it reorganizes itself to become profitable again, or while it winds down its operations. In either event, the Trustee will need people to operate or wind down the company in a manner that promotes the highest value to stakeholders. The Trustee has the right, even the responsibility, to retain the employees he or she needs, even to give them bonuses, or severance, all subject to Court approval. Expenses of these efforts are called “administrative expenses,” that is, costs of administering the bankrupt company. If you are one of those who the Trustee will need to retain, a person necessary or valuable to the process, your payments might become “administrative expenses.” The “cool” thing about administrative expenses is that they get paid first – absolutely first – in bankruptcy, which is a near 100% probability. Consider whether you are, or could become, a likely candidate to be chosen to stay on by bankruptcy Trustee.

4. Understand that payment of an “ERISA-qualified” severance plan may be yours to keep, regardless: A small minority of employer severance plans are “ERISA-qualified,” which generally means that the monies are not the company’s monies, but contributed by the company held by someone else in trust. These monies are handled entirely separately from the company’s own funds. These funds are not generally affected by bankruptcy. Some employers provide two weeks of ERISA-qualified severance, and then more non-ERISA severance to be earned by employees when they sign a release. You would be wise to inquire with your HR department to see if you might have some rights to any ERISA-qualified, non-forfeitable severance monies.

5. Understand, too, that the Bankruptcy Court can take back payments to “Insiders” – including severance payments already made, for as much as one full year: Every now and then company “insiders” know that bankruptcy is coming, and prior to the bankruptcy, pay themselves large amounts for special bonuses, or new severance, or any other special rewards. Understand that the Bankruptcy Court and its Trustee have the legal authority to go back in time for up to one full year, and to take back any such payment to “insiders” that were not paid in the usual course of business, such as salary, health insurance, and expense reimbursement. If you are an “insider,” and have received a “special payment” from a near-bankrupt company, you have a valid concern that they may be “clawed back” by the Court.

SkloverWorkingWisdom™ emphasizes smart negotiating – and navigating – for yourself at work. Negotiation of work and career issues requires that you be prepared for almost anything, even your employer “disappearing overnight,” no matter how “bedrock” it seems today.

Always be proactive. Always be creative. Always be persistent. Always be vigilant. And always do what you can to achieve for yourself, your family, and your career. Take all available steps to increase and secure employment “rewards” and eliminate or reduce employment “risks.” That’s what SkloverWorkingWisdom™ is all about.

A note about our Actual Case Histories: In order to preserve client confidences, and protect client identities, we alter certain facts, including the name, age, gender, position, date, geographical location, and industry of our clients. The essential facts, the point illustrated and the lesson to be learned, remain actual.

Please Note: This Newsletter is not legal advice, but only an effort to provide generalized information about important topics related to employment and the law. Legal advice can only be rendered after formal retention of counsel, and must take into account the facts and circumstances of a particular case. Those in need of legal advice, counsel or representation should retain competent legal counsel licensed to practice law in their locale.

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