Unpaid Salary Claims in Insolvency

Introduction

Unpaid salary claims in insolvency arise when an employer-company becomes insolvent and employees have outstanding wages, salaries, bonuses, gratuity, compensation, or other employment-related dues.

Under Indian insolvency law, employees and workmen are treated as a distinct class of creditors for several purposes. The Insolvency and Bankruptcy Code, 2016 (IBC) contains specific provisions concerning employee and workmen dues, particularly in relation to the distribution of liquidation proceeds.

The principal provisions are Sections 53, 36, 30 and 31 of the IBC, depending upon whether the company is undergoing liquidation or resolution.

1. Status of Employees as Creditors

An employee with unpaid salary generally has a claim against the corporate debtor.

Under Section 53 of the IBC, the distribution of liquidation proceeds follows a statutory waterfall.

The relevant distinction is between:

• workmen's dues, and
• employees' dues other than workmen's dues.

Section 53 places workmen's dues for the preceding 24 months in the same priority category as debts owed to secured creditors who relinquish their security interest.

Certain employee dues that do not fall within the workmen's category receive a lower priority under the statutory waterfall.

2. Workmen's Dues

The IBC gives particularly important protection to workmen.

Under Section 53(1)(b), workmen's dues for the period of 24 months preceding the liquidation commencement date rank alongside the relevant secured-creditor claims.

The term "workmen" is connected with the definition contained in the applicable labour legislation.

Therefore, when calculating a claim, it is important to determine whether the employee legally falls within the category of a "workman."

3. Employees Other Than Workmen

Employees who do not qualify as "workmen" are also entitled to submit claims against the corporate debtor.

However, their claims are treated differently in the liquidation waterfall.

Under Section 53(1)(f), debts owed to employees other than workmen receive a lower statutory priority than workmen's dues.

Thus, the IBC does not treat every employment-related claim identically.

4. Salary During the Insolvency Resolution Process

Unpaid salary can also arise after commencement of the Corporate Insolvency Resolution Process (CIRP).

Where employees continue working during CIRP, their wages and salaries may constitute expenses necessary for maintaining the corporate debtor as a going concern.

Such expenses may qualify as insolvency resolution process costs, depending upon the facts and the applicable regulations.

This distinction is important because CIRP expenses receive priority over ordinary creditor claims when the resolution plan is implemented or liquidation proceeds are distributed.

5. Employee Claims Under a Resolution Plan

Where the corporate debtor is successfully resolved rather than liquidated, employee claims are dealt with according to the resolution plan approved under the IBC.

The resolution plan must comply with the statutory requirements of the IBC, including Section 30(2).

The Supreme Court has repeatedly held that once a resolution plan is approved in accordance with the Code, its treatment of claims is governed by the statutory insolvency framework.

Therefore, an employee cannot necessarily recover the entire contractual salary merely because it was originally payable under the employment agreement.

Important Case Laws

1. Jet Aircraft Maintenance Engineers Welfare Association v. Ashish Chhawchharia & Ors. (2022)

The Supreme Court considered claims of employees and workmen in the insolvency resolution of Jet Airways.

The case involved questions concerning treatment of employee/workmen claims under the resolution process.

The Court examined the interaction between employee claims and the resolution plan.

Principle: Employee and workmen claims must be dealt with within the statutory framework of the IBC and the approved resolution plan.

2. Swiss Ribbons Pvt. Ltd. v. Union of India (2019)

The Supreme Court examined the constitutional validity and structure of the IBC.

The Court recognised the importance of the insolvency framework in balancing the interests of different classes of stakeholders.

Principle: The IBC establishes a structured mechanism for resolving insolvency and balancing competing creditor interests rather than treating all claims identically.

This is relevant to unpaid salary claims because employees' claims are governed by the statutory classification and priority structure of the Code.

3. Committee of Creditors of Essar Steel India Ltd. v. Satish Kumar Gupta (2019)

The Supreme Court extensively examined the treatment of different classes of creditors under a resolution plan.

The Court emphasised the importance of the commercial wisdom of the Committee of Creditors, subject to the statutory requirements imposed by the IBC.

Principle: Once a resolution plan satisfies the requirements of the IBC, courts generally do not substitute their own assessment of how the commercial distribution should have been structured.

For employees, this means that the amount payable under an approved resolution plan may differ from the original contractual amount claimed.

4. Ghanashyam Mishra and Sons Pvt. Ltd. v. Edelweiss Asset Reconstruction Co. Ltd. (2021)

This is one of the most significant Supreme Court decisions concerning the effect of an approved resolution plan.

The Court held that once a resolution plan is approved under Section 31 of the IBC, claims that are not part of the approved resolution plan are generally extinguished, subject to the statutory framework.

Principle: After approval of a resolution plan, creditors cannot ordinarily pursue claims that were not provided for in the approved plan.

This principle is highly relevant to employees who have unpaid salary claims.

5. Vijay Kunar Jain v. Standard Chartered Bank (2019)

The Supreme Court examined the statutory requirements governing resolution plans and the protection of stakeholders.

The decision reinforces that resolution plans must comply with the mandatory requirements of the IBC.

Principle: Distribution under a resolution plan must satisfy the minimum statutory protections prescribed by the IBC.

6. Moser Baer Karamchari Union v. Union of India (2019)

The Supreme Court dealt with issues concerning employees and workmen in the insolvency context of Moser Baer.

The case illustrates the difficulties faced by employees when an employer enters insolvency and the importance of the statutory treatment of workmen's and employees' claims.

Principle: Employee and workmen claims must be considered within the insolvency process rather than being dealt with entirely outside the IBC mechanism.

7. Alchemist Asset Reconstruction Co. Ltd. v. Moser Baer India Ltd. (2018)

The Supreme Court dealt with the operation of the IBC and the insolvency process concerning Moser Baer.

The judgment reinforced the mandatory character of the insolvency framework and the consequences of commencement of insolvency proceedings.

Principle: Once the statutory insolvency process is triggered, claims and proceedings concerning the corporate debtor must be dealt with consistently with the IBC framework.

6. Priority in Liquidation

A simplified representation of the relevant Section 53 waterfall is:

The exact statutory wording and conditions of Section 53 should be applied to the particular insolvency case.

7. Salary Claims and Limitation

Employees should not assume that an unpaid salary claim can be filed indefinitely.

The Limitation Act, 1963, as applicable to proceedings under the IBC, can become relevant.

The limitation period and the date from which limitation runs depend upon the nature of the claim and the proceeding being pursued.

Therefore, an employee should preserve:

• appointment letter;
• salary slips;
• bank statements;
• attendance records;
• employment contract;
• termination letter;
• emails/messages concerning unpaid salary;
• provident-fund records;
• gratuity records;
• computation of outstanding dues.

8. Role of the Resolution Professional

When CIRP begins, the Resolution Professional (RP) collects and verifies claims submitted by creditors.

An employee or workman should submit the employment-related claim in the prescribed manner and provide supporting documents.

The RP may:

1. verify the employment relationship;
2. examine payroll records;
3. verify the amount claimed;
4. determine the admitted amount;
5. classify the claim appropriately; and
6. include the claim in the insolvency process according to the applicable provisions.

A disagreement concerning admission or classification may be subject to the remedies available under the IBC.

9. Salary vs. Other Employment Dues

Not every employment-related payment necessarily receives identical treatment.

Examples include:

• unpaid monthly salary;
• wages;
• bonus;
• overtime;
• gratuity;
• leave encashment;
• compensation;
• reimbursement of expenses;
• provident-fund-related amounts.

Their treatment can depend upon the nature of the claim, applicable legislation, period for which it arose, and whether the amount constitutes an insolvency-process expense.

10. Key Legal Principles

Principle 1 — Employees can be creditors

An employee with unpaid contractual or statutory dues can submit a claim in the insolvency process.

Principle 2 — Workmen receive special statutory treatment

The IBC specifically provides a higher priority for qualifying workmen's dues for the prescribed period.

Principle 3 — Not every employee has the same priority

The distinction between workmen and other employees is important under Section 53.

Principle 4 — Post-CIRP wages can receive special treatment

Amounts incurred for keeping the corporate debtor operating during CIRP can potentially qualify as insolvency resolution process costs, depending upon the circumstances.

Principle 5 — Approved resolution plans have binding effect

Once a resolution plan is approved under Section 31, creditors generally cannot pursue claims inconsistent with the approved plan.

Principle 6 — Documentation is important

Employees should preserve documentary evidence establishing both the employment relationship and the amount outstanding.

Conclusion

Unpaid salary claims in insolvency occupy an important position within Indian insolvency jurisprudence. The IBC attempts to balance employee protection with the broader objective of insolvency resolution.

The most important distinction is between workmen's dues and dues of employees who are not workmen. Workmen's dues for the specified 24-month period receive a relatively high priority under the liquidation waterfall, while other employee claims occupy a different position.

At the same time, where the company undergoes successful resolution rather than liquidation, employee claims are governed by the approved resolution plan and the mandatory requirements of the IBC. Consequently, the original contractual salary amount does not necessarily determine the amount ultimately recoverable in insolvency.