How do creditors and other stakeholders rank on an insolvency of a debtor? Do any stakeholders enjoy particular priority (e.g. employees, pension liabilities)? Could the claims of any class of creditor be subordinated (e.g. equitable subordination)?
Restructuring & Insolvency (2nd Edition)
In liquidation proceedings, secured creditors are in a more favourable position than other creditors, since their claim ranks at the second place right after the liquidator fee.
In summary, the company’s debts shall be satisfied from its assets that are subject to liquidation in the following order:
- liquidation fees;
- secured claims;
- alimony and life-annuity payments, compensation benefits, restitutions;
- other claims of private individuals, with the exception of bonds;
- debts owed to social security funds, taxes;
- other claims;
- default interests and late charges, penalties; and
- claims of people who have a closer relationship with the debtor company.
Contractual subordination is not recognized by the liquidator or by the court.
There is no unified provision on the ranking of creditors’ claims. The provisions on the ranking of claims are spread out in several legislations.
Generally in bankruptcy, the shareholders of the debtor rank behind all of the creditors in the distribution of the proceeds of the bankruptcy estate. Any distribution they receive is in proportion to the percentage of the shares that they hold in the debtor, if there are remaining assets after distribution to the creditors.
The creditors’ claims are classified into several types, as follows:
a. Bankruptcy Estate claims (tagihan harta pailit);
The bankruptcy estate claims, also known as the post-bankruptcy claims are claims against the bankruptcy estate which arise during the bankruptcy proceedings after the bankruptcy declaration is rendered and would normally rank higher than any other type of claims, for example:
- fees of the receiver/administrator;
- costs in the liquidation of the bankruptcy estate or costs incurred in PKPU process (if commenced prior to the bankruptcy);
- expert’s fee being engaged during the proceedings;
- post-bankruptcy financing;
- lease of the bankrupt’s house or offices during the bankruptcy proceedings; and
- wages of the employees of the bankrupt debtor for the continued employment during the bankruptcy proceedings.
a. Preferred claims (tagihan preferen);
There are several types of preferred claims:
- The preferred claims that rank higher than the secured claims
The preferred claims that rank higher than the secured claims will need to be paid from the entire bankruptcy estate, including but not limited the assets of the debtor that have been encumbered by in rem security rights being held by the secured claims, ahead from the unsecured claims, for example:
- Outstanding wages (excluding severance payments and other rights) of the employees of the bankrupt debtor prior to bankruptcy declaration would rank higher than any claims
- Specific expenses stipulated by the Tax Law
- legal expenses arising solely from a court order to auction movable and or immovable goods;
- expenses incurred for securing the goods;
- legal expenses, arising solely from the auction and settlement of inheritance;
- Tax Claim, court charges which specifically result from the disposal of a movable or immovable asset (these must be paid from the proceeds of the sale of the assets over all other priority debts, and even over a pledge or mortgage), the legal charges, exclusively caused by sale and saving of the estate (these will have priority over pledges and mortgages).
- The preferred claims that rank lower than the secured creditors
Specific statutorily preferred creditors whose preference relates only to the debtor’s specific assets, as stipulated by Article 1139 Indonesian Civil Code; If the specific relevant assets are subject to in rem security rights of the secured claim, the secured claim will rank higher.
- The general preferred claims
The general preferred claims will need to be paid from the assets under the bankruptcy estate which have not been encumbered by in rem security rights being held by the secured claims, ahead from the unsecured claims.
General statutorily preferred creditors relates to the debtor’s assets in general, as stipulated by Article 1149 Indonesian Civil Code (for example: revenue authorities, outstanding rights of the employees of the bankrupt debtor other than outstanding wages, e.g.: severance payments).
b. Secured claims (tagihan separatis);
The secured claims are the claims that are secured with in rem security rights over the debtor’s particular assets, regardless of whether or not the debt being secured is the debtor’s direct debt.
c. Unsecured claims (tagihan konkuren);
The unsecured claims are the claims that are not secured with any in rem security rights and do not have any privilege being granted by the prevailing laws and regulations. They will be paid from the assets under the bankruptcy estate which have not been encumbered by in rem security rights being held by the secured claims, after the general preferred claims have been fully paid.
The subordination of the creditor’s claim of any class during the bankruptcy proceedings or the PKPU proceedings is not recognized under Indonesian law as there is no provision under IBL empowering the Commercial Court, the receiver, the administrator, or the supervisory judge with the authority to subordinate the creditor’s claim of any class.
Nevertheless, please note that IBL provides the secured creditors:
(i) that is able to prove that part of their secured claims would not be possible to be settled from the sale proceeds of the security, with a right to request the unsecured claims’ right to be granted to such part of their secured claims, without jeopardizing their privilege rights over the security;
(ii) intending to cast votes in the voting of the composition plan under the Bankruptcy Proceedings with the right to release their privilege rights under their secured claims to become unsecured claims;(iii) whose secured claims cannot be entirely fulfilled from the sale proceeds of the security to have the unpaid secured claims converted as unsecured claims.
Ranking of Creditors and Other Stakeholders and Priorities
Creditor claims on a debtor's insolvency rank in the following order:
- Super-priority claims. These include:
- valid trust claims;
- realty property taxes;
- certain deemed trusts and super-priority pension and wage claims;
- claims under the Wage Earner Protection Act;
- qualified unpaid supplier claims, commonly referred to as "30-day good claims" or "revendication claims" (these are similar to reclamation rights under the US Bankruptcy Code);
- unremitted payroll deductions; and
- court-ordered charges in CCAA proceedings and bankruptcy proceedings.
- Secured claims. These are established under the applicable provincial personal property security legislation (for example, the Personal Property Security Act in Ontario or the Québec Civil Code in Québec) and are ranked according to the legislative scheme under which they are devised.
- Preferred unsecured claims. These include:
- landlord claims for up to three months' arrears of rent and three months accelerated rent, if provided for in the applicable lease agreement;
- amounts that would been paid to a secured creditor but for the payment of wage and pension claims; and
- certain workers' compensation claims.
- General unsecured claims. These rank pari passu with each other.
Creditor claims have priority over shareholder claims. Secured creditors rank ahead of preferred and unsecured creditors other than for certain claims that are given priority under statute. In some instances, the priorities may differ depending on the type of insolvency proceeding.
A bankruptcy court in Canada may, if the circumstances warrant it, subordinate an otherwise pari passu claim to another. Although neither the BIA nor the CCAA expressly reference “equitable subordination”, section 183(1) of the BIA provides that certain enumerated courts are “invested with such jurisdiction at law and in equity as will enable them to exercise original, auxiliary and ancillary jurisdiction in bankruptcy and in other proceedings”.
Courts have been hesitant to definitively pronounce on the doctrine’s availability in Canada; nevertheless, Canadian courts have applied the doctrine both expressly or by implication.
The German Insolvency Code provides the following ranks from senior to junior:
- Third party owners, i.e. the owners of assets that do not belong to the estate. Such assets have to be surrendered to their owners.
- Costs of the proceedings, i.e. the court costs and costs of the (preliminary) insolvency administrator.
- Other liabilities of the estate (Masseverbindlichkeiten) created in the course of the insolvency administration, for example pursuant to contracts entered into by the insolvency administrator.
- General and secured insolvency claims in existence prior to the opening of the insolvency proceedings (Insolvenzforderungen).
- General insolvency claims are those existing prior to the opening of insolvency proceedings. These claims receive an insolvency quota of the proceeds generated by the liquidation of the debtor’s assets, and by realization of claw-back rights and other claims of the estate, after satisfaction of the senior ranking costs of the proceedings and the estate’s other liabilities.
- Secured claims are also general insolvency claims, but such creditors are entitled to a preferred satisfaction from the proceeds of the realization of their collateral. To the extent they remain unsatisfied after the preferred satisfaction, they are treated the same as other creditors with general insolvency claims.
- Subordinated creditors: Pursuant to Sec. 39 Insolvency Code, certain claims, in particular, certain claims for the repayment of shareholder loans and claims corresponding in economic terms to such loans as well as claims that the creditor and debtor agreed to be subordinated, are subordinated by operation of law and shall be satisfied after the claims of other insolvency creditors.
- Shareholders: Any remaining surplus after satisfaction of all creditors shall remain with the debtor or be distributed to the shareholders of a debtor that is a legal entity automatically dissolved by the insolvency and not continued by an insolvency plan.
Ranking and particular priorities:
There are three classes of creditors who rank in the following order of priority:
- secured creditors: these are creditors who have a preferential right by virtue of holding real security, namely, a mortgage bond, special notarial bond, general notarial bond (only where the creditor has taken possession of the property subject to the bond before the debtor’s liquidation), pledge, cession by way of pledge, landlord’s hypothec or lien. There is no special priority between secured creditors, since each creditor has a secured claim on a particular asset, however, if different creditors hold security over the same asset, the secured creditor that took security earlier in time will have preference. It is possible for creditors to agree to rank equally (pari passu) in which case they will be paid out proportionally. Where a secured creditor’s claim is not satisfied in full, the unpaid balance is considered a concurrent claim;
- preferential creditors: these are creditors that do not hold security for their debts, but in terms of insolvency laws, are entitled to rank before the concurrent creditors. These include employees’ remuneration and other employee related claims (e.g. pension liabilities), the South African Revenue Service and the holders of general notarial bonds (where the creditor has not taken possession of the property); and
- concurrent, or unsecured, creditors: these are creditors that do not hold security for their debts and they share in the free residue of the estate (i.e. after all secured creditors, preferential creditors and the costs of administration have been paid). Concurrent creditors are paid in proportion to the amounts owing to them.
Any proceeds remaining after the payment of concurrent creditors, must be used to satisfy the interest on concurrent claims. If all creditors are paid in full, any remaining amounts must be distributed among the shareholders pro rata their shareholdings in the company. Where shareholders are creditors by means of loan accounts, they are treated like any other creditor – secured or concurrent.
Notwithstanding the ranking as set out above, the ranking of claims under business rescue (see question paragraph 9) remains in force and effect if business rescue proceedings are superseded by liquidation.
Subordination is only possible by agreement. It can be achieved by agreement either between the debtor and the creditors, or between the creditors. If the claim is subordinated the subordinated creditor’s claim will effectively be excluded as it is a term of subordination that the claim will only be paid if all other creditors are paid in full.
Pursuant Article 83 of the BRBL, the payment of creditors in the insolvency proceeding must obey the following rank:
- “labor-related claims, limited to 150 minimum wages per creditor and labor accident claims;
- secured claims;
- tax claims, except for tax fines;
- special privileged claims, such as those (i) described in Article 964 of the Brazilian Civil Code, (ii) so defined in other civil and commercial laws and (iii) whose holders are vested with retention right;
- general privileged claims, (i) those under Article 965 of the Brazilian Civil Code and (ii) unsecured claims held by goods or service suppliers subject to judicial reorganization who continue to provide them normally after the judicial reorganization;
- unsecured claims;
- contractual penalties and fines for breach of a criminal or administrative law, including tax-related fines; and
- subordinated claims, such as (i) those so provided for by law or contract and (ii) the claims of partners and officers without an employment bond.”
Moreover, the following are considered with “super priority” over the credits listed above, in order of priority:
- fees payable to the trustee and his/her assistants and labor-related claims or occupational accident claims refer-ring to services rendered after the liquidation;
- sums provided to the bankrupt estate by the creditors;
- expenses for schedules, management, asset realization and distribution of the proceeds, as well as court costs of the bankruptcy proceedings;
- court costs regarding the actions and executions in which the bankrupt estate is defeated; and
- obligations resulting from valid juristic acts performed during the judicial reorganization or after the decree of liquidation (such as DIP loans).
The ranking of claims is in principle the same for both, i.e., liquidation bankruptcy and reorganization proceedings.
Secured claims are satisfied from the debtor’s assets which served as the relevant security. The remaining claims are satisfied depending on their priority. Preferential claims are satisfied first, followed by any remaining unsecured claims, and finally by subordinated claims.
Preferential claims include various administrative costs, taxes, fees, customs duties, social insurance, contributions to the state employment policy and public health insurance payments, claims of creditors stemming from agreements entered into by the debtor in possession or the insolvency trustee, and claims of the debtor’s employees stemming from their labor-law relationship with the debtor.
If the proceeds from the liquidation of the property of the estate do not suffice to satisfy all preferential claims, the remuneration and out-of-pocket expenses of the insolvency trustee shall be paid first, followed by preferential creditors’ claims (including financing of the debtor in possession), followed by the costs of maintenance and management of the estate, and then creditors’ claims in respect of child support under the law. Other preferential claims are satisfied pro rata.
Remaining unsecured claims are satisfied pro rata. Subordinated claims are satisfied according to the status and level of the subordination.
The statutory procedure for how creditors can claim the amounts owed to them is, in principle, the same for both, i.e., liquidation bankruptcy and reorganization proceedings.
Each creditor must register its claim in a due and timely manner by virtue of a statement of claims. The same holds true with respect to contingent as well as secured debts. The statement of claims must be submitted to the insolvency court on a prescribed form that has been filled in within the period of time set forth by the court in the decision on the declaration of insolvency (usually two months as of the declaration on insolvency). Failure to meet the deadline cannot be remedied. Late registrations are disregarded by the insolvency court, and such claims will not be satisfied in the insolvency proceedings. The claims must be stated in Czech Crowns, and the statement of claims must be accompanied by relevant documents to prove that they are legitimate. The insolvency trustee examines the claim submissions, drafts a list of claims, and contests disputable claims at the court review hearing. The debtor and other creditors may also contest a creditor’s claims. Contested claims are litigated before the insolvency court.
The legal rights of secured creditors are unaffected by the liquidation of a company and will be permitted to enforce their security by, for example, selling any charged asset in order to secure repayment of the sum owed (notwithstanding the automatic moratorium in place on the commencement of an official or provisional liquidation - see section 7 below). However, whilst secured creditors rarely participate in the liquidation process, in the event that the sale proceeds realised for a charged asset are insufficient to discharge the outstanding debt, a secured creditor may rank as an unsecured creditor in the liquidation for the balance of the debt.
Cayman Islands law provides for a very limited class of preferential creditors. Such preferred debts include wages accrued during the four months immediately preceding the commencement of the liquidation, payments due in respect of any medical health insurance premium and any taxes due to the Cayman Islands Government. Under the Companies Law, preferred creditors rank ahead of both unsecured and secured creditors, where the secured creditor's security is in the form of a floating charge but behind the liquidation expenses (including the liquidator's own remuneration and legal expenses).
The general body of unsecured creditors will rank pari passu in respect of their claims in the liquidation and the quantum of any distribution made to such creditors will be determined by the value of any realisations achieved by a liquidator in the liquidation.
Rights of set off and subordination are recognised under Cayman Islands law, although a creditor which extended credit to a company at a time when it had notice of a winding up petition cannot offset such a debt against the debtor company. Netting agreements relating to financial contracts (including multilateral netting) will prevail over the statutory set-off provisions.
In bankruptcy proceedings, creditors’ claims are ranked in the following order:
- estate claims (e.g. fees for trustees, administrative expenses, tax claims which became due within one year before the commencements of bankruptcy proceedings, employee compensation for their work within three months before the commencements of bankruptcy proceedings);
- superior bankruptcy claims (e.g. tax claims and employee compensation which are not estate claims);
- ordinary bankruptcy claims; and
- subordinated bankruptcy claims (e.g. interests after the commencement of bankruptcy proceedings).
In special liquidation proceedings, creditors’ claims are ranked in two categories. Claims in the first category basically correspond to estate claims and superior claims in bankruptcy proceedings. Claims in the second category basically correspond to ordinary bankruptcy claims and subordinated bankruptcy claims in bankruptcy proceedings. The first category is superior to the second category.
The priority of shareholders is the lowest both in bankruptcy proceedings and special liquidation proceedings. Japanese law does not have a rule of equitable subordination.
Secured creditors (aside from floating charge holders) rank outside the liquidation, and may realise their security notwithstanding the appointment of a liquidator. However, secured creditors who participate in the liquidation process by voting in respect of their secured debt are deemed to have forfeited their security.
The Companies Act also provides that the following classes of debt have priority over all unsecured debts in the following order:
a. the costs and expenses of the winding up;
b. wages and salaries of employees (up to a prescribed limit);
c. retrenchment benefits (up to a prescribed limit);
d. work injury compensation under the Work Injury Compensation Act;
e. contributions to employee’s superannuation or provident funds;
f. remuneration in respect of vacation leave; and
g. tax and goods and service tax.
In addition, items (a), (b), (c), (e) and (f) in the list above will be paid in priority over the claims of any floating charge holders. Where there are insufficient assets to satisfy any one class of debts, the debts within the same class are paid out on a pari passu basis.
Any residual assets of the company remaining after payment of all secured, preferred and unsecured creditors will be divided amongst the company’s shareholders, first in accordance with the terms of their preference shares, and then equally amongst the ordinary shareholders.
British Virgin Islands
In general, the following priorities apply:
- Set-off: An unsecured creditor may be able to take advantage of statutory set-off provisions where there is mutuality between credits and/or debts to the extent that there are any funds of the debtor’s in its hands. In addition, netting agreements continue to be enforceable, save in cases of fraud or misrepresentation.
- Secured creditors: secured creditors can enforce against their collateral notwithstanding the supervening liquidation, and may also add interest to their security, subject to the note at 3 below.
- The costs and expenses of the liquidation: this includes the liquidator’s remuneration (sanctioned, if necessary). If the assets of the company that are not subject to any security interest are insufficient to pay the liquidator’s costs and expenses and the preferential claims, those two classes of claim take priority over any floating charge, and will be paid out of the assets subject to the floating charge. Any remaining assets may be applied towards satisfying the floating-charge-holder’s claim: section 208 IA.
- Preferential creditors: this class comprises—
(i) the wages and salary of present and past employees in respect of the period of six months immediately before the commencement of liquidation up to US $10,000,
(ii) accrued holiday pay in respect of the period before the commencement of liquidation up to US $10,000,
(iii) any amount due by the debtor to the BVI Social Security Board in respect of employees’ contributions deducted from the employee and in respect of employers’ contributions payable for six months immediately before the commencement of the liquidation,
(iv) any amount due in respect of pension contributions or medical-insurance contributions payable in the period of twelve months immediately before the commencement of the liquidation, including amounts deducted from employees, up to the amount of US $5,000 per employee,
(v) sums due to the government of the Virgin Islands in respect of any tax, duty (including stamp duty), licence fee, or permit, up to the total amount of US $50,000, and
(vi) sums due to the Financial Services Commission in respect of any fee or penalty up to the total amount of US $20,000.
Preferential claims rank equally between themselves, and if the assets of the company are insufficient to pay them all in full, they are paid rateably.
- All other unsecured creditors’ claims.
- Subordinated claims: a creditor may acknowledge or agree that in the event of a shortfall of assets he will accept a lower priority in respect of a debt than that which he would otherwise have under the IA, that acknowledgment or agreement takes effect.
- Post-commencement interest: any creditor in a liquidation is entitled to claim interest on its debt in respect of the period after the commencement of the liquidation. Payment of post-commencement interest will be made out of any surplus that remains after all claims in the liquidation have been paid in full before being applied for any other purpose.
- Members: Any surplus remaining after paying the costs and expenses of liquidation and the claims and interest must be distributed among the members of the company in accordance with their rights under the company’s memorandum and articles of association. If the company has preferential shares and ordinary shares, distribution among members will reflect this.
• How do creditors and other stakeholders rank on an insolvency of a debtor? Do any stakeholder enjoy particular priority?
The order of priority of the creditors is governed by the Danish Insolvency Act.
According to the order of priority, costs and fees related to the administration of the estate are covered first.
Next costs related to a vain restructuring attempt or vain attempts at an overall arrangement with the debtor’s creditors prior to the insolvency are covered.
Employees’ claims are covered next.
Next claims are covered that concern duty on goods that are subject to duty, eg alcoholic and tobacco goods.
Next, the unsecured creditors are covered, eg an ordinary receivable based on an invoice, tax and VAT claims etc.
Finally, claims for interest after the issue of the insolvency order, gifts and fines are covered.
Creditors that hold a charge or another type of security over the debtor’s assets are covered separately as the proceeds from the sale of the charged asset go directly to the secured creditor.
In the bankruptcy of a debtor, the debtor’s assets are required to apply towards payment of bankruptcy expenses and collective debts in the first place, and then towards settlement of other debts in the sequence of employees’ claims, social insurance premiums payable, taxes due, and ordinary claims. Any late-payment penalties arising from unpaid taxes are ordinary claims if the penalties are imposed before the court accepts the bankruptcy application, or they are not considered as bankruptcy claims at all if imposed after the acceptance of the application. Holders of security interests have a priority right to compensation over certain assets. According to the minutes of the meeting of PRC courts on trial of bankruptcy cases, punitive claims, such as civil punitive damages, administrative fines and criminal fines, as well as claims unduly arising between affiliated companies, are subordinate to other ordinary claims.
When a company is wound up, the statutory distribution waterfall in Australia generally provides that secured creditors are paid first in priority to unsecured creditors. There is an exception to this for employee entitlement claims. During a receivership, winding up (or under a deed of company arrangement), the entitlements of employees have priority over the proceeds available from a realisation of assets subject to a circulating security interest (formerly a floating charge). The remuneration, costs and expenses of insolvency practitioners appointed will also be afforded priority over all creditors’ claims, including employees.
There is no concept of equitable subordination under Australian law and shareholder loans generally rank equally with unsecured claims. The only shareholder claims that are subordinated to unsecured claims are:
(a) claims for a debt owed to a shareholder in that person‘s capacity as a shareholder; and
(b) claims arising from the buying, holding, selling or other dealing in shares of the company.
Otherwise, the relationship between creditor groups is very much a feature of contract and Australian courts will generally give effect to whatever contractual arrangement and/or structural subordination arrangements a company and its creditors have agreed to, even where doing so leaves whole creditor groups out of the money.
The general principle of a bankruptcy is that all creditors must be treated equally (paritas creditorum); proceeds of the bankruptcy estate will be distributed to the creditors pari passu. This principle does not apply to three groups of creditors: creditors of the bankruptcy estate (e.g. the trustee’s fees, new debts following the bankruptcy date and claims that relate to the performance of existing agreements), creditors with special preferences (e.g. mortgagees and pledgees), and creditors with general preferences (e.g. employees, tax debts, social security debts).
There is no equitable subordination. Few courts have, however, decided to subordinate a creditor’s claim if unlawful conduct by such creditor is established (under the abuse of rights doctrine).
In bankruptcy, the assets of the bankrupt will form the bankruptcy estate, from which the trustee will make distributions to the creditors, pursuant to their statutory ranking. Below is a summary of the ranking of claims in a Dutch bankruptcy.
- Secured creditors: Secured creditors are in principle not affected by a bankruptcy insofar it concerns their recourse on the asset which is secured for their benefit.
- Estate and preferred creditors: Before the ordinary creditors, certain preferred creditors (designated by law) will be paid out of the bankruptcy estate in full (insofar possible). These preferred creditors include the Dutch Tax Authorities, any employees of the relevant entity and the trustee himself for his salary.
- Ordinary creditors: Claims of creditors rank pari passu, except for the estate, preferred and subordinated claims. This means that these ordinary creditors will be paid out of the available funds in the bankruptcy estate (after estate and preferred creditors are paid out), pro rata to the amount of their claim.
- Subordinated creditors: Whether a certain claim is subordinated will have to follow from the relevant agreement from which the claim follows. Subordinated claims will be paid after ordinary claims are fully paid. We do not have equitable subordination in the Netherlands, although there has been recent discussion on this.
- Providers of equity: If all creditors are paid in full and there are remaining funds in the bankruptcy estate, these will be distributed to equity providers of the entity. Clearly, any distribution to equity providers is very rare.
The absolute priority rule under the U.S. Bankruptcy Code requires that creditors are paid before shareholders in accordance with their respective priorities. Thus, secured creditors are entitled to recovery before unsecured creditors, and unsecured creditors are entitled to recover over shareholders. However, the Bankruptcy Code does provide that certain stakeholders with general unsecured claims are entitled to priority payment. Those claims include administrative expenses (including judicial fees and costs), employee wages earned in the 180 days prior to a bankruptcy filing, unpaid contributions to employee benefits plans earned in the 180 days prior to a bankruptcy filing and certain prepetition taxes. The Bankruptcy Code also affords certain claims a “superpriority” status, such as claims for failure to provide adequate protection and claims on account of postpetition financing. Finally, certain provisions of the Bankruptcy Code provide protection for certain creditors such as aircraft financiers, and contain safe harbour provisions to allow derivative contract counterparties to exercise setoff rights and liquidate or terminate contracts after the commencement of the proceeding.
The court may change the treatment of certain creditors’ claims through equitable subordination, recharacterization or substantive consolidation. Equitable subordination subordinates the claim to other similarly situated claims, thus lowering the claim’s priority, if it is shown that the claim holder engaged in wrongful conduct that resulted in harm to other creditors. In the case of recharacterization, the court allows a claim on account of its substance rather than its form (i.e. if claims have attributes that suggest it should be characterized differently). Finally, a court may substantively consolidate an estate, combining the assets and liabilities of more than one debtor, which may eliminate intercompany claims or change relative recoveries or structural priority between the claimants of the various entities.
Insolvency proceedings are concluded with distribution of the company value to the different claimholders in the selected assets of the debtor. The value distribution follows a predetermined rank order. Creditors’ ranking is, however, very complex to describe since it will depend on many factors. However, the priority rules of claims payment are generally the following: (i) employee-related claims (AGS – Association pour la gestion du régime de garantie des créances de salariés) benefit from a preferential status (“superprivilège des salariés”); (ii) costs of the insolvency proceedings; (iii) post-petition claim benefit from a statutory privilege (“new money” priority); (iv) claims secured through security interests over immovable property, specific security interests over movable property, in particular security interests to which a lien (droit de retention) is attached; (v) claims that have arisen after the judgment opening the insolvency proceeding and which are necessary to conduct the proceeding, and all other claims according to existing priority rules.
During liquidation proceedings, claims secured by a mortgage, by a pledge with retention of title or by a registered lien over property, plan or equipment, rank ahead of post-petition claim.
It is generally considered that creditors secured under the Financial Collateral Law and mortgagees are outside of the bankruptcy process, which means that they are not, in principle, subject to ordinary distribution and priority rules.
For all other creditors, the order of priority payments during a bankruptcy proceeding is as follows:
- Creditors of the bankrupt estate (bankruptcy expenses)
- Secured preferred creditors (except as provided above):
- Preferred creditors with a general preferential right
- Legal fees incurred in the creditor’s interest
- Super-preferential employee claims (i.e. employee claims over the last six months of employment; claims related to termination of employment contracts)
- Employees’ contribution to social security
- Tax authority claims
- Employers’ contribution to social security
- Other preferential claims
- Creditors with a non-bankruptcy proof contractual or judicial security
- Lessor’s claims
- Pledgee’s claims (except as provided above)
- Costs of preserving assets
- Unpaid price of equipment used in the debtor’s industrial undertaking
- Other preferential claims
- Preferred creditors with a general preferential right
- Ordinary unsecured creditors
Shareholders are treated as subordinated creditors unless they have other contractual arrangements in place as creditors. Luxembourg law does not recognise the concept of equitable subordination.
Liquidators are able to set aside, or apply to the Court to have set aside, the following transactions:
- Voidable transactions – transactions that were entered into while the company was insolvent, within the two year period before the liquidation application was made, and which allow the creditor to receive more than it would have in the liquidation.
- Voidable charges – charges that were given while the company was insolvent, within the two year period before the liquidation application was made and which did not secure money actually advanced or paid, or the actual price or value of property sold or supplied to the company, or any other valuable consideration given in good faith by the recipient of the charge.
- Transactions at an undervalue – the liquidator may recover from the creditor the difference in value between the value given by the company and the value received by the company as a result of a transaction that occurred while the company was insolvent and within the two years before the liquidation application was made.
- Transactions with directors or other related parties for inadequate or excessive consideration – the liquidator may claim back from a director or related party in relation to the transaction, the amount by which the consideration received by the company was exceeded by the consideration it gave, provided the transaction occurred within the 3 years before the liquidation application was made.
- Securities and charges given by the company to a director or related party if the Court considers that it is just and equitable to set the transactions aside, taking into account the circumstances in which the charge was created, the conduct of the director or related party and any other relevant circumstances. There is no requirement to prove that the company was insolvent at the time the security or charge was given.
- Dispositions that prejudice creditors– dispositions made without receiving reasonably equivalent value in exchange and with the intent of defeating creditors can be reclaimed from a creditor. A six-year limitation period applies from the date the disposition is made.
- Distributions to shareholders that were made at a time when the company failed the solvency test.
A six year limitation period applies from the time when the distribution was made.
A transaction will not be set aside if the third party creditor received the payment in good faith, in circumstances when a reasonable person in the creditor's position would not have suspected and the creditor did not suspect that the company was or would become insolvent, and that the creditor gave value to the company (value can be given before or after the creditor received payment) or changed its position in the reasonably held belief that the transfer was valid and would not be set aside.
A similar good faith defence is available to shareholders who did not know that the company failed to meet the solvency test at the time that a distribution was made.
A liquidator also has the power to disclaim onerous property, which includes unprofitable contracts and property of the company that is unsaleable, or not readily saleable, or that may give rise to a liability to pay money or perform an onerous act. Persons suffering loss as a result of the disclaimer can claim for that loss in the liquidation.
The order of reimbursement of the creditors is strictly provided by the law. Thus, if amounts of money resulted from the sale of an asset that is the object of a mortgage are distributed to the creditors, the payment order is the following: i) the procedure expenses, including the sale fees, the costs that have been paid in advance for the preservation of the asset, the insolvency practitioner’s fee, ii) the secured creditors’ receivables arisen during the insolvency procedure, iii) secured creditors’ receivables. If amounts obtained from the sale of assets that are free of any encumbrances are distributed, the order of payment of the receivables is the following: i) procedure fees and expenses, including the expenses necessary for the preservation and administration of the assets from the debtor’s estate for continuation of business ii) the receivables deriving from financing granted in the insolvency period iii) salary receivables iv) the receivables arisen from the continuation of the debtor’s activity, after the date of opening of the insolvency procedure v) budgetary receivables vi) unsecured receivables vii) subordinated receivables.
Secured claims are satisfied directly out of the net proceeds from the realisation of the collateral. Should the proceeds not be sufficient to satisfy the claim of the secured creditor, the remainder of the claim ranks as an unsecured and non-privileged claim.
Unsecured claims are divided into three classes. Insofar as corporate debtors are concerned, the first class consists of certain employee claims up to a maximum amount of currently CHF 148,200 per employee as well as certain pension related social security claims, the second class includes claims of various contributions to social insurances and all other claims are comprised in the third class. Claims in a lower ranking class will only receive dividend payments once all claims in a higher ranking class have been satisfied in full and claims within a class are treated on a pari passu basis.
Subordination may result from a contractual subordination or an equitable subordination:
- Contractual subordination comes in two forms, i.e. (i) in the form of a deep subordination within the meaning of Art. 725 para. 2 CO where the creditor has agreed to come 'last in row' and (ii) in the form of a bilateral subordination (Nachrang) which only benefits selected creditors. The treatment of the former category is well established under Swiss law whereas the treatment of the latter category is disputed in an insolvency context.
- The concept of equitable subordination is being discussed primarily for shareholder and certain other affiliated parties' loans where funds were made available to a corporate debtor in a financial distress situation where no other third party financing would have been available. If admitted, an equitable subordinated claim would be treated in the same way as a claim subject to deep subordination.
The priory order between the stakeholder is generally as follows:
- First ranking tax charges – the tax authorities may have first priority charges, mainly with respect to real estate, requiring repayment prior to distribution of the proceeds of a sale.
- Secured creditors and owners of title retention assets – a secured creditor may be able to foreclose its collateral independently from the insolvency proceedings, as set forth in Section 2 above. The same provisions applies in recovery and re-arrangement proceedings to owner of assets under retention of title agreements.
However, a floating charge will be subject to payment to priory creditors, as set forth below.
- Priority creditors – certain debts and creditors will have priority, as follows:
(a) Insolvency proceedings fee and expenses.
(b) Certain amount of unpaid wages to employees or loans granted to the company for the payment of wages up to certain amounts.
(c) Amounts deducted from wages and not paid yet to the income tax assessor.
(d) Certain unpaid local tax and fees to the Registrar of Companies within the 12 months prior to the commencement of insolvency proceedings.
(e) Certain taxes to the state imposed within one year prior to the commencement of insolvency proceedings and one-year rental payments.
- Unsecured creditors – generally all other creditors shall rank equally.
- Shareholders – shareholders may only be entitled by virtue of their shareholdings to the residual value left after repayment of all debt.
Debts to shareholders, not arising by virtue of their shareholdings, shall not be subordinated in the absence of special circumstances justifying such subordination. Such special circumstances exists where if it is found by the court that the shareholders used the company in order to deceive any person or discriminate a creditor, in a way, which is harmful to the company's purpose or by taking unreasonable risk to its ability to repay its debt. In such circumstances, the court may order the subordination of the company's debt to its shareholders to other debts of the company.
Furthermore, under the Securities Law, 1968 ("Securities Law"), a controlling shareholder who holds public bonds of the corporation in distress (as defined therein), will generally not be entitled to receive payment of the liabilities owed to him by the corporation until after the corporation has discharged, in full, its debts to other holders of public bonds, unless the controlling shareholder has held such bonds since they were first issued. Alternatively, if there was a different settlement or arrangement between the creditors of the corporation duly approved in accordance with such provisions.
Under the Israeli court's ruling, the shareholders has very little effect on the approval of a creditor's arrangement, especially when it was not clearly demonstrated that any residual value will remain after repayment of all debts. The new Insolvency Law specifically determines that the shareholders meeting shall only be asked to approve the arrangement if the company's assets allows for the full repayment of all past debts.
In addition, the obligor and its creditor can agree among themselves, usually through inter-creditor agreements, of the order of repayment of debt or ranking of collaterals, and may give public disclosure and possessory protection to such ranking through registration in the appropriate registry.
Debts which are secured by a mortgage or fixed charge will be satisfied from the proceeds of sale of the property secured (rule 73 Companies (Winding-Up) Rules 1982). The liquidator, however, will review the security and monitor the sale process since any excess amount a secured creditor recovers will be payable to the liquidation estate for distribution to stakeholders. If the proceeds from the sale of the property do not fully satisfy the debt secured, the creditor will be an unsecured creditor for the remainder of the debt.
Creditors and shareholders are paid in the following priority:
- Costs of insolvency proceedings: costs and expenses incurred in the company's winding-up, including the liquidator's remuneration.
- Sums due to employees under their employment contracts.
- Preferred payments, including:
a. unpaid taxes;
b. contributions to occupational pension schemes; and
c. liability for worker’s compensation.
- Debts secured by a floating charge.
- Unsecured debts.
- Debts due to shareholders in their capacity as shareholders.
- Any residual value or equity after all valid creditor claims have been satisfied in full will be returned to shareholders pari passu according to their shareholdings.
Each category must be paid in full before payment of creditors in the subsequent category. Creditors in the same category rank equally among themselves but a company can enter into an agreement with its creditors, prior to the commencement of a liquidation, under which certain debts are contractually subordinated to other debts.
In an Irish corporate insolvency, proceeds are generally distributed in the following order:
- if the receiver/liquidator is appointed to a company that has been in examinership, the fees, costs and expenses of the examiner will rank prior to all other claims, including those of a fixed charge holder;
- the costs and expenses of the receiver/liquidator, including with respect to all taxes, including capital gains tax (“CGT”), arising on the sale of the fixed charge assets, rank ahead of the fixed charge holders;
- the fixed charge holders are entitled to the net proceeds of the sale of the fixed charge assets (after the costs and expenses of the receiver) up to the value of the secured debt - any surplus debt can be claimed by the charge holder as an unsecured creditor;
- if the receiver/liquidator is appointed to a company that has been in examinership, any liabilities of the company that have been certified by the examiner as having been necessarily incurred to enable the formulation of a Scheme of Arrangement with respect to the company will rank ahead of all creditors other than fixed charge holders;
- certain social insurance deductions collected by the company from employees in respect of employees (known as “super-preferential creditors”) are considered to be held on trust for the Irish Revenue Commissioners;
- the costs and expenses of the receiver/liquidator, including with respect to all taxes, including CGT, arising on the sale of the floating charge assets, rank ahead of preferential creditors and the floating charge holder; and
- certain claims of statutorily preferred creditors will rank ahead of and be paid in priority to the floating charge holder, including (a) employees’ salaries and unpaid holiday entitlements, (b) unpaid taxes and employers' social insurance contributions, (c) pensions contributions and (d) commercial rates rank ahead of and paid in priority to the floating charge holder.
All claims in one category receive full payment before the balance is distributed to the creditors in the next category. When proceeds are insufficient to meet the claims of one category in full, payments for that category are distributed on a pro rata basis.
In a receivership, where there are secured creditors that have prior ranking security over some or all of the assets over which the receiver has been appointed, the receiver must apply the proceeds in accordance with the ranking of the debt, notwithstanding that he or she may have been appointed by a junior-ranking secured creditor.
Whilst creditors, including shareholders, may contractually agree to subordinate their debt claims to those of other creditors or classes of creditors, and such contracts will be enforced by the Irish Courts, Irish law does not have a concept of “equitable subordination” that would be imposed on any class of creditor, including a shareholder that is also a creditor.
On the insolvency of a debtor, proceeds from the realisation of assets must be distributed by an insolvency practitioner, in simple terms, as follows: firstly, to fixed charge holders; secondly, in payment of the administrator/liquidator’s fees and expenses; thirdly, to preferred creditors; fourthly, to floating charge holders; fifthly, to unsecured creditors; sixthly, as post-petition interest on all unsecured debts; and finally, to the shareholders.
Preferred creditors include certain employee claims and contributions to pension schemes. In addition, a “prescribed part” of the proceeds realised from floating charge assets must be set aside and made available to satisfy unsecured debts. This is calculated as 50% of the first £10,000 of net floating charge realisations plus 20% of anything thereafter, up to a cap of £600,000.
There is no concept of equitable subordination in England and Wales.
The proceeds obtained from the liquidation of the assets of the insolvent entity will be applied to make payments to creditors in the following order of priority:
First, labor claims for salaries and severance for the calendar year immediately preceding the insolvency judgment (the “Insolvency Judgement”).
Second, claims derived from financing incurred for the management of the estate of the insolvent entity or financing that is indispensable to maintain the ordinary operations of the company and the necessary liquidity during the insolvency proceeding (“DIP Financing”), in each case, as approved by the Mediator or by the Insolvency Court.
Third, liabilities and obligations of the estate of the insolvent entity (i.e. management costs, fees and expenses incurred after the Insolvency Judgment is issued).
Fourth, costs and expenses derived from judicial and extrajudicial proceedings for the benefit of the insolvency estate.
Fifth, amounts paid to secured creditors as described below.
Sixth, labor claims (different than those described in first paragraph) and tax claims.
Seventh, claims of creditors that qualify as “privileged” under Mexican commercial laws (e.g. creditors that are entitled to retain an asset until payment is made), but only to the extent of the value of the respective privilege.
Eighth, claims of unsecured creditors.
Ninth, claims of (a) subordinated creditors, and (b) creditors that are related parties of the insolvent entity (“Subordinated Creditors”).
Notwithstanding the foregoing, claims of secured creditors would be paid on a “super-priority” basis up to the amount of the respective collateral, and only the following claims would have priority over the amount of such collateral:
First, labor claims for salaries and severance for the calendar year preceding the issuance of the Insolvency Judgment.
Second, litigation expenses related for the defense or recovery of secured assets.
Third, necessary expenses for the repair, maintenance and disposition of the secured assets.
The SIA qualifies the credits according to the following classes:
Credits against the estate: these are the credits that accrue after the DIP and which will be satisfied in accordance with their maturity. As an example: claims of the worker´s salaries of the last 30 days of work prior to insolvency proceeding being declared or the court costs and expenses arising from assisting and representing the debtor will be classified as credits against the state (art.84 .2 .SIA).
Insolvency credits: these are the credits that accrue before the DIP.
- Credits with special preference: this type of credits are those that are granted by an immovable or movable property. These credits shall be satisfied in the liquidation of the encumbered asset. Only in the event that exists excess amounts after the credits with especial preference have been paid, this excess will be destined to pay others credits (art. 90 SIA).
- Credits with general preference: Article 91 of SIA establishes the cases when certain credits will have this consideration, for example the relevant amounts for tax and Social Security withholdings owned by the insolvent debtor in fulfilment of legal obligation. This credits will be satisfied once the credits against the estate are be paid.
- Subordinated credits: article 92 of the SIA establishes the cases when credits will be qualified as subordinated, for example, the credits whose ownership corresponds to a person with a special relation with the debtor or claims for fines and other monetary penalties. These credit only will be paid once all the credits will be satisfied.
- Ordinary credits: credits that cannot be classified according to the above criteria, will be classified as ordinary credits.
Portuguese law establishes four classes of credits: secured, preferential, non-secured, and subordinated. Secured credits are those with security over seized assets up to the value of such assets. Preferential credits are those that grant a right to be preferentially paid up to the value of the assets over which such preference exists. Subordinated credits are those that will be settled only after the non-secured creditors have been fully paid. The subordinated credits are listed in the CIRE and include, namely, any credits held by "connected entities" with the insolvent company, provided that such special connection existed at the time the credit was granted (eg. shareholders loans). All other credits are non-secured.
In any event, the credits related to the insolvency proceeding take precedence over all credits and generally are followed by Tax Authority credits, Social Security credits and in some cases by employees’ credits.