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Insolvency Impact and Employee Rights

At this time, due to unstable economic conditions, a lot of corporations, whether public or private, may suffer from financial insolvency or liquidity problems.

There are several reasons why corporations may become insolvent. There is no clear-cut rule for determining the insolvency of corporations, yet there are several legal tests that may
be used to determine the insolvency of the corporation.

Corporation Insolvency

Nevertheless, to determine insolvency, courts generally rely on the following tests:

  • The balance sheet test; whether the value of the corporation’s assets exceed its
  • The cash flow test; whether the corporation has enough cash flow to meet its
    financial obligations as they become due
  • The unreasonably small capital test; whether the corporation has enough capital
    to carry out its business operations and pay its debts in the future.

Consequences of the Insolvency

The insolvency of the corporation threatens not only the shareholders or directors of the corporation but also the employees of the corporation in the form of failure to fulfill the corporation’s
obligation to remunerate them accordingly.

Therefore, under the meaning of section §300 of The Delaware General Corporation Law (Title 8, Chapter 1 of the Subchapter XI. Insolvency; Receivers and Trustees): In the event of a corporation becoming insolvent, either a resident corporation in the state or a foreign corporation conducting business within the state, the employees who have been working for the corporation regularly will have the right to a lien on the corporation’s assets. This lien will be for the amount of wages that the corporation owes to them up to 2 months’ salary. This payment of wages will have priority over any other debts that the corporation may have. However, the term “employee” in the context of section §300 does not include the officers of the corporation.

Guarantees for Employees in Case of Insolvency

Thus, in the case of a corporation becoming insolvent, the Employees of the present corporation are provided with a secured lien on the assets of the corporation in the amount of up to two months of their salaries. It is important to note, that the term “employee” does not include any of the “officers” of the corporation, so only employees for wages have priority.

Difference Between the Officers and Employees

On the other hand, the Delaware Court of Chancery has held that the director is an “officer” of the corporation. Neither does it qualify as an “employee” within the meaning of section 300. Despite receiving compensation for the regular services rendered to the company in the form of a paycheck.

To be able to differentiate the “director”, “officer” and “employee”, it is important to add them to the bylaw during the formation of the corporation or afterward through an amendment to the bylaws by defining provisions regarding their authority and rights officers should be formally created for a corporation before anyone can hold the latter, otherwise the holder of the position would not be an officer, but an employee with the job title that includes the word “officer” (for example Chief Technology Officer).

Contact Attorney Today

In conclusion, navigating the complexities of corporate insolvency can be a daunting task. Especially when it comes to understanding the implications for employee rights and distinguishing between officers and employees. If you find yourself in a situation where your corporation is facing financial insolvency or liquidity problems, it is crucial to seek legal guidance from an experienced attorney specializing in corporate law.

Feel free to contact us for a consultation at 310.943.1171.

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