How to deal with employees in a proposal under the Bankruptcy and Insolvency Act

With business struggling during the COVID-19 pandemic a large workforce may become a significant liability.  Terminating employees may be the only option to allow the business to survive. 

But terminating employees creates its own set of difficulties.  An employer has an obligation to give employees notice or to make payments in lieu of notice.  The obligations that are owed if many employees are terminated at the same time may be too large for the employer to pay, which creates a situation where the employer cannot afford to keep its employees but also cannot afford to terminate them.

A proposal under the Bankruptcy and Insolvency Act[i] (the “BIA”) can be a way to manage the expense of terminating employees both by reducing the amount that is paid to them and making the payments over time. 

However, because of the nature of employee claims and the very particular relationship between the employees and their employer, there are a number of issues that can arise when dealing with terminated employees. 

Dealing with potential director’s liabilities

The Employment Standards Act[ii] (the “ESA”) makes the directors of an employer corporation personally liable for certain amounts that are owed to employees.  For example, directors are personally liable for:

  1. unpaid wages including overtime pay; and
  2. Unpaid vacation pay and holiday pay.

If the employer tries to compromise these amounts in a proposal, the directors will become personally liable.  To avoid the director’s liability, the debts must be paid either before the proposal is filed or during the proposal proceedings.

Pay the director’s liabilities before filing

The ideal way to deal with these potential liabilities is for the employer to pay these amounts prior to filing the proposal.  Once the amounts are paid, there is no liability, and the directors are protected. 

Wages and overtime are generally easy to calculate however vacation pay can become a problem.  Many employers will give employees vacation time instead of vacation pay.  Employees are permitted to take time off and their salaries continue to be paid.  This satisfies the obligation to pay vacation pay. 

The problem that can arise is if employees do not take their vacation time.  The vacation pay accrues even if the employee chooses not to take time off and the directors remain liable for any unpaid vacation time.  Prior to filing the proposal, it is important to review the employer’s records to make sure that all employees have been paid all the vacation time that is owed to them.

Pay the director’s liabilities in the proposal

The second way to deal with these liabilities is to pay them as part of the proposal.  This means some employees (those with unpaid wages or vacation pay) will be paid 100% of the unpaid wages and vacation pay.  To do this, these employees have to form their own class in the proposal, and they will vote separately on the proposal. 

While it may be attractive to deal with this liability in the proposal, separate classes can create their own issue with other classes objecting to the payments to these particular employees which can affect the viability of the proposal.

Dealing with the employees’ proofs of claim

Calculating the amount owed to a terminated employee is complicated. 

First, the ESA sets out statutory minimums that must be paid to each employee.  The amount changes depending on the employee’s tenure with the employer and the total number of employees terminated within a set period of time. 

Second, in addition to the statutory minimum, there may be an obligation to give common law notice to certain employees or to make a payment in lieu of notice.  The amount will generally depend on the employee’s age, tenure, role with the employer, and the employee’s compensation.  Other factors, such as how the employee is terminated, can also affect the amount. 

Then to complicate matters further, each employee has an obligation to mitigate his or her damages by finding alternate employment.  If the employee finds alternate employment, the amount earned can be used to reduce the amount that the employer must pay.  Mitigation is dealt with in more detail in the next section. 

Letting each employee calculate his or her own claim is not ideal

Terminated employees can be left to their own devices to file individual proofs of claim.  Some employees will try to prepare a claim on their own.  Some will get “legal advice” online.  Some will hire a lawyer to calculate what they are owed.   Each claim will be calculated differently which creates two large problems.

First, the trustee will have to review each claim.  This means deciphering claims prepared with the assistance of Google LLP and assessing claims filed by aggressive lawyers.  Considering the complications in calculating how much an employee is entitled to, this will most likely mean retaining an employment lawyer to review each claim and provide an opinion to the proposal trustee.

Second, not all the claims will be the same.  Some employees will miss claims they should have made and will file proofs for less than they are really entitled to. Others will file aggressive claims for more than they are entitled to.  If the claims are allowed in different amounts and the employees discuss what they are getting, this can create animosity between the employees with some feeling they are getting cheated at the expense of others.  This may lead the employees who feel “cheated” to distrust the entire process and to vote against the proposal.

Set out the amount that will be paid to each employee in the proposal

There is a clean way to deal with this issue.  The proposal should set out a proposed amount that will be paid to each employee.  The employees do not have to accept this amount but if they do, the claim is automatically admitted.

The employer should prepare a chart which lists all the terminated employees and proposes an amount that will be paid to each employee.  This chart is attached to the proposal. 

Each employee can file a claim in any amount he or she choose but if he or she files a claim in the amount that is set out in the chart then the claim is automatically admitted with no further review.  Employees are free to file higher claims, but no employee should feel “cheated” because there is a floor set to the claims.  The process is also transparent because all employees can see what the employer proposes to pay to all other employees.

Hire an employment lawyer to calculate what each terminated employee should be paid

The first step to implementing this process is for the employer to retain an employment lawyer.  The employment lawyer will review all the relevant information for each employee to come up with the statutory ESA amount that is owed and a range for the common law amount.  Because of the numerous factors that come into calculating the common law entitlement, the result is always a range, not a specific number.  I usually use the midpoint as the amount that is proposed to be paid out to the employees.  This seems to be a reasonable compromise between the interests of the employees, the employer, and other creditors.

It might seem like more effort to hire an employment lawyer to review all the employee claims right away than it would be to review the claims as they are filed.  In my experience this is not the case.  It is relatively easy for an employment lawyer to calculate the amounts for each employee.  Reviewing someone else’s’ calculation and explaining why it is not acceptable to disallow the amount is a much more involved process.

Set all the information out in a chart that is attached to the proposal

Now that the employer has calculated an amount for each employee, the information can be put into a chart that lists each employee, the statutory minimum that is proposed to be paid to each employee and the common law amount that is proposed to be paid to each employee.  The chart should also set out the notice period that the employee is entitled to.  Splitting the common law and statutory amount and including the notice period is important because of the employee’s obligation to mitigate.  This is explained in more detail in the next section.

The proposal can set out the amounts that are proposed to be paid to the employees, but the employees can not be required to accept these amounts.  There are two reasons for this. 

First, the BIA permits creditors to prove their claims. It does to permit the debtor to dictate to the creditor the amount of the claim. 

Second, the employer and its employment lawyer may get the calculation wrong.  The employee has to be permitted to file a proof of claim in a larger amount and the proposal trustee has to review it to ensure that the employee receives what the employee is entitled to receive.

The proposal will have to contain language that says that the employees can file any proof of claim.  If the proof of claim is in the amount set out in the chart, then the claim will be admitted.  If the claim is in a higher amount, then it will be reviewed by the trustee. 

An example of the language for the clause in the proposal

There is no prescribed language.  In the past I have used the following language:

  1. The employer has estimated the claims of each former employee on the chart attached as Schedule “A” to this Proposal.  Each former employee is entitled to file a prof of claim in any amount they feel they are entitled to with supporting documentation.
  2. The proposal trustee shall either admit or value each claim of each former employee as follows:
    1. Any claim made in accordance with Schedule “A” will be admitted by the proposal trustee as filed, subject to the obligation to mitigate.
    1. Any claim made in an amount greater than the amount set out in Schedule “A” for that former employee will be reviewed by the proposal trustee and may be allowed or disallowed, in part or in whole, by the proposal trustee.

Dealing with the employee’s obligation to mitigate

Employees, like all creditors, have an obligation to mitigate their damages.  Mitigating damages means taking reasonable steps to reduce the amount that is owed to the creditor. 

For many creditors, such as trade creditors or unsecured lenders, mitigation is not an issue.  The trade creditor is owed the amount of its invoice.  The lender is owed the amount of the loan.  There is nothing that a trade creditor or a lender can do to reduce the amount that they are owed. 

Employees are different because they can, and are required to, mitigate.  Employees can take steps to find new work.  Once the employee finds new work, the amount of the employee’s claim in the proposal should be reduced by the amount that the employee earns from the new employment.

However, mitigation is not as simple as just reducing the amount of the claim by the amount of the new earnings.   The employee is entitled to be paid the ESA minimum and any severance pay regardless of when or whether the employee finds new employment.  This amount is not reduced.  Only the extra common law amount is reduced by the new income.

Setting out the ESA minimum, the common law payment and the notice period

This is why, when preparing the chart which is attached to the proposal and which sets out what is proposed to be paid to each employee, it is important to separate out the ESA minimum and the common law payment.  The ESA minimum is always paid but the common law payment can be reduced.

This is also why it is important to keep track of the notice period and not just the amounts that each employee will be paid.  The amount that the employee will be paid is based on the notice that the employee should have received that his or her employment will be terminated.  The amount that an employee is paid out of the proposal is only reduced if the employee finds employment during that notice period.  The notice period will be different for each employee since, like the amount that is paid in lieu of notice, it depends on many factors such as the employee’s position, age, and tenure and potentially other factors such as how the employee was terminated.

The proposal will have to contain language that gives the proposal trustee the right to reduce the amount that will be paid to the employees.  Again, there is no prescribed language.  In the past I have used the following language:

  1. If a former employee obtains new employment during the notice period:
    1. The former employee shall immediately notify the proposal trustee of the amount that the former employee has or expects to earn during the notice period; and
    1. The common law entitlement of any former employee shall be reduced by the amount earned by that employee from the new employment during the notice period.

This language contemplates reducing each Former Employees claim by the full amount they earn.  However, there is no specific rule that requires the common law claim to be reduced by all of the new income.  Doing this can create a disincentive to the employees to find new employment.  The employees may also feel that the employer is benefiting from them finding new work. 

To deal with these issues, in the past I have reduced the common law entitled by half of the new earnings.  This way the claims are reduced to recognize the obligation to mitigate, but the employees still benefit from finding new employment.

Ensuring that employees advise the proposal trustee of new employment

The proposed language above creates an obligation on the employee to notify the proposal trustee of any new employment and the amount earned from the new employment.  If there are still concerns about the employees not notifying the proposal trustee, the proposal can require the employee to swear a statutory declaration before each dividend payment.  The statutory declaration would state that the employee has not found new employment or if he or she has found new employment, the amount that the employee earned from this new employment.

Dealing with WEPPA

For most creditors, the employer will be one of many debtors that owe the creditor money.  A trade creditor will supply to many businesses.  The trade creditor can afford not to be paid on one account.  A lender will lend to many borrowers.  One unpaid loan will not affect the viability of the lender.

Each of these creditors would prefer to be paid immediately, but each of these creditors can also afford to wait.  If the choice is between a smaller but quicker payment in a bankruptcy or a larger payment over a longer period of time in a proposal, the creditor will often prefer the larger payment and the delay will be a factor, but not a definitive factor, in deciding if the proposal makes economic sense.  The creditor can afford to wait to be paid the larger amount down the road. 

Employees often need money immediately

Employees are different.  While other creditors usually have many sources of revenue, for an employee the employer will usually be the only or the main source of income.  A proposal to pay a large sum of money over a long period of time with payments starting months down the road is just not workable.  The employee needs money now to live.  The employee cannot afford to wait to get a large sum of money down the road.

Employees may want to bankrupt the employer to get paid faster

The Wage Earner Protection Program Act[iii] and the Wage Earner Protection Program (the “WEPP”) that it establishes creates an added complication.  WEPP is a government program that provides payments to employees whose employment was terminated because of the employer’s bankruptcy or receivership.  Under the program, an employee can receive up to approximately $7,000.  The payment is made directly to the employee by the WEPP, and the program then files a claim in the bankruptcy or receivership.  From the employee’s perspective, the payment is immediate. 

WEPP only applies to bankruptcies and receiverships.  Payments under the program are not available to terminated employees whose employer files a proposal.  A proposal has to provide creditors (including employees) with a greater recovery than a bankruptcy would however the proposal can, and usually does, stretch the payments out over a long period of time. 

However, because of very particular circumstances of employees, receiving more later is often worse than receiving something now.  This can create an incentive for employees to vote against the proposal in order to cause an automatic bankruptcy of the employer and a payment under the WEPP to the employee.

Pay the employees the amounts they would receive under the WEPP in the proposal

To avoid this incentive, the proposal can provide for an immediate payment to the creditors of the amount that employees would receive under the WEPP.  The amount will be relatively small compared to the total claims and does not increase the total that the creditors are paid, but it means that employees are not disadvantaged by the proposal and are not motivated to vote against the proposal to have access to the WEPP.

Takeaway

Employees are not the same as other creditors.  They have particular rights that other creditors don’t have.  They have a different relationship with the employer compared to other creditors.  They will know each other and be able to organize in ways that other creditors often will not. 

Because of these factors, employees should not be dealt with like any other creditor.  Treating them like any other creditor can significantly increase the employer’s costs of completing a proposal and can jeopardize the proposal altogether.  By considering these particular rights and sensitivities that employees have, the employer can maximize the chances of filing a successful proposal.

Wojtek Jaskiewicz is a commercial litigation and insolvency lawyer with WeirFoulds LLP.  If you have any questions about filing a proposal, dealing with employee claims, or insolvency in general, contact Wojtek Jaskiewicz at wjaskiewicz@weirfoulds.com or visit our website at www.WeirFoulds.com.


[i] R.S.C., 1985, c. B-3

[ii] S.O. 2000, c.41

[iii] S.C. 2004, c.47, s. 1

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