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Furlough leave during an administration - the things to consider

30 April 2020 #Business Recovery & Insolvency


The Coronavirus Job Retention Scheme (“CJRS”) operates to reimburse employers for up to 80% (subject to a cap of £2,500 per month) of an employee’s salary. But what happens to furloughed employees if an employer enters into administration?

Administrators are under a duty to act in the best interests of the creditors. Under insolvency legislation, assets are distributed to the administrators first (to cover their fees), then to the secured creditors and then to unsecured creditors. So, if the administrators receive money from HMRC under CRJS this would count as assets and the administrators would need to distribute the assets in accordance with insolvency legislation.

One exception to the payment order is when an employee’s employment contract is deemed as being adopted. Under insolvency legislation employees’ working beyond 14 days during an administration will have had their contracts of employments deemed as being adopted. This is important as outstanding wages’ payments under ‘adopted’ contracts will have preference over administrators and secured creditors when assets are distributed.

In order to be eligible for CJRS employees need to remain employed by the company. Companies in administration will not be able to top up the employee’s salary as funds will be limited. Therefore, administrators will need to ask the employees to consent to a salary decrease whilst on furlough leave. If employees don’t agree to a decrease and are not dismissed within 14 days they will be entitled to receive their normal wages and be first in line to receive any assets from the companies.

The administrators of Carluccio’s Limited (in administration) had to deal with all of these issues.  The administrators wanted to let the employees’ access  CJRS. There was no money to pay the employees, they had to wait to receive the furloughed wages first then distribute these to the employees. The administrators wrote to the employees and informed them of the cash flow problems and asked whether they would agree to be furloughed, receive reduced wages during furlough leave and be paid after the administrators had received payment from HMRC. They were asking the employees to vary their employment contracts. The letter indicated that the employees who did not agree would be made redundant. Most of the employees agreed, some refused and asked for redundancy, and some simply didn’t respond. The administrators didn’t want the employees who refused or who didn’t respond to have their contracts deemed as being adopted. Consequently, they would need to terminate those employees. However, due to Covid-19 termination may not administratively possible. There could also be valid explanations as to why some employees did not respond. In light of Covid-19 and the CJRS being available,  the administrators wanted reassurance that they would not be accused of acting inappropriately if they dismissed the employees who did not respond or who wanted to be made redundant.  They also didn’t want to have any claims brought against them by the creditors for failing to act in their best interests particularly if they could not or did not dismiss employees within 14 days.

The administrators wanted reassurance from the courts on employment law (change in employment contract) and insolvency law. The administrators wanted confirmation that the consenting employees’ employment contracts had been varied in accordance with their letter. They also wanted confirmation that they would not be deemed to have adopted the contracts of those employees who had not responded and/or consented. Employment Tribunals do not have jurisdiction to deal with insolvency law, so prior to the 14 days expiring an urgent application was made to the High Court.

The High Court held that the employees who refused would be kept on their same terms and as a result would be made redundant and their contracts would be terminated. The consenting employees who responded had agreed to change their contracts and so their contracts would continue and be ‘adopted’.  As such, they were entitled to the furloughed pay. 

The employees who had not yet replied were given more time to respond.  The Judge recognised that these were not normal times and so allowed employees to revert outside of the usual 14 day period.   The Judge felt that there was a very real possibility that some of the non-responding employees had simply not received the letter. Indeed, this application was heard only a few days after the initial letter was sent to the employees. 

Those that accepted outside of the usual 14 day period were treated as ‘adopted’ from the date of the administrators’ initial letter (thereby technically within the 14 day period required under insolvency law). Those who did not respond were treated as continuing on their existing contracts. It is likely that they would, in due course, have  been made redundant.  

The High Court also held that this would not be a breach of insolvency law as payment of employees’ wages ahead of other creditors was allowed under paragraph 99, Schedule B Insolvency Act 1986.

This is a significant ruling as it is the first published judgment to consider the CJRS. This case will also provide clarity to Companies , Trade Unions and employees who may be affected by potential insolvency. Indeed, this decision was used in the recent case of Re Debenhams Retail Ltd (In Administration) [2020].

 

Clarkslegal, specialist Restructuring & Insolvency lawyers in London, Reading and throughout the Thames Valley.
For further information about this or any other Restructuring & Insolvency matter please contact Clarkslegal's restructuring & insolvency team by email at contact@clarkslegal.com by telephone 020 7539 8000 (London office), 0118 958 5321 (Reading office) or by completing the form on this page.
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This information is for guidance purposes only and should not be regarded as a substitute for taking legal advice. Please refer to the full General Notices on our website.

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Sebastian Reyes

Sebastian Reyes
Solicitor

E: Sebastian.Reyes@clarkslegal.com
T: 0118 960 4656
M: 07818 435 521

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