Employee Benefits in Case of “Bankruptcy” or Liquidation of the Company

“Bankruptcy” is a commonly terms by business owners in the event of non-viability of their business. Such term is not used in Philippine setting although there is an equivalent concept which is insolvency.

However, Article 110 of the Labor Code recognizes the scenario of “bankruptcy” is so claimed by the employer. This is discussed in the context of liquidation.

Technically, bankruptcy in the US contemplates three different scenarios. They are found in Chapters 7, 11, and 13 of the United States Bankruptcy Code.

Chapter 7 is the most common type of bankruptcy also known as straight or liquidation bankruptcy. This gives a fresh start by discharging debts that cannot be repaid through the liquidation of the debtor’s assets.

Chapter 11 bankruptcy is primarily for companies, allowing them a break on paying their debts in order to restructure, come up with new terms for paying their creditors, and become profitable again. While Chapter 13 bankruptcy is also known in the US as a Debtor in Possession Bankruptcy. This allows the individuals to keep from liquidating their property.

The Labor Code context of “bankruptcy” pertains to liquidation or the sale of employer’s property to satisfy the debts due.

When liquidation happens, the workers have first preference  as regards their unpaid wages and other

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monetary claims. The said “bankruptcy” or liquidation should be declared by the court or should be judicial in character. The employees cannot invoke preference by mere extra-judicial declaration of bankruptcy by the employer.

For instance, if the employer notifies their employees that he is bankrupt, it cannot be the basis for the workers to immediately assert and enforce payment. Court order of the fact of liquidation proceeding is necessary as shown by the liquidation order.

The right to preference given to workers under Art. 110 cannot exist in any effective way prior to the time of its presentation in distribution proceedings. [Development Bank of the Philippines vs. NLRC, G.R. No. 108031 March 1,

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1995]. Without the judicial liquidation it would be premature to enforce the worker’s preference.

Usually, the employer who extrajudicially declares bankruptcy intends to terminate the employees with obvious direction of closing down the business. The employees receive the impression that they will not be paid any separation pay.

Under Article 298 of the Labor Code, as amended, when employees are terminated because of closure or cessation of business not due to serious business losses or financial reverses, the separation pay shall be equivalent to one (1) month pay or at least one-half (1/2) month pay for every year of service, whichever is higher.

However, if the employer closes the business due to serious losses or financial reverses then there is no liability to pay separation pay following the rulings of the court in North Davao Mining vs. NLRC [G.R. No. 112546 March 13, 1996]. The Supreme Court (SC) held where, however, the closure was due to business losses, the Labor Code does not impose any obligation upon the employer to pay separation benefits, for obvious reasons. Indeed, one cannot squeeze blood out of a dry stone. Nor water out of parched land.

In Reahs vs. NLRC [G.R. No. 117473. April 15, 1997], the SC held that the rule is that in all cases of business closure or cessation of operation or undertaking of the employer, the affected employee is entitled to separation pay. This is consistent with the state policy of treating labor as a primary social economic force, affording full protection to its rights as well as its welfare.

The exception is when the closure of business or cessation of operations is due to serious business losses or financial reverses; duly proved, in which case, the right of affected employees to separation pay is lost for obvious reasons.

But if the claim of bankruptcy, insolvency, or liquidation is not true or fraudulent, then the termination of employment cannot be validly anchored on Article 298 of the Labor Code. Hence, the termination will be illegal and the employer shall be accordingly liable.