Who gets paid and when during liquidation?
When a company goes into liquidation, the process of distributing its remaining assets to creditors is a critical and often complicated part of winding up the business. One of the key steps in this process is determining the priority of creditors — who gets paid first and who gets paid last.
Liquidation
Liquidation refers to the process of closing down a company, realising all available assets and pursuing any recovery actions to pay off its creditors. It is typically triggered when a company can no longer pay its debts, or its members resolve to end a company’s existence.
A liquidator is appointed to oversee this process, which includes gathering the company’s assets, selling them, and distributing the proceeds to creditors.
Order of priority in distribution of funds
Once the liquidator has sold off the company’s assets and pursued all recovery actions available, the funds are distributed according to the priority of claims prescribed in section 556 of the Corporations Act 2001. This order ensures financial obligations afforded with statutory priority are dealt with first. Here’s how it generally works:
Payments prior to declaring a dividend
Liquidation Costs and Fees
The first priority is to cover the costs of the liquidation process itself. This includes the liquidator’s fees¹ and other expenses associated with the process, including preserving and selling the assets and carrying on the business, and professional costs such as legal fees. These costs are paid before any creditors receive payment.
The applicant creditor’s costs
In a Court Liquidation, the applicant creditor incurs legal fees and other expenses in initiating the winding up proceedings. These costs are paid from the available funds in the liquidation, in priority of other creditors. This priority does not extend to the outstanding debt owing to the applicant creditor. These costs may receive priority even when the Court did not make an order.
Secured Creditors
Secured creditors with perfected security interests have a claim over specific assets of the company, such as a loan secured by property. The liquidator will sell the secured assets to pay the secured creditors. If there are any funds remaining after secured creditors are paid, they will go to the next class of creditors. If the debt exceeds the value of the asset, the secured creditor may prove for the shortfall as an unsecured creditor.
Dividends declared
Priority Unsecured Creditors
This category is comprised of employees who are owed unpaid wages, superannuation contributions, and certain employee entitlements like leave entitlements and redundancy pay. The employee creditors are given priority over general unsecured creditors, and their claims are paid from any funds available after the secured creditors are paid. However, there are exceptions to this rule in circumstances where the security only extends to circulating assets.
Unsecured Creditors
The remaining funds are distributed to general unsecured creditors, including any shortfall to secured creditors. These creditors include suppliers, customers, and other businesses to whom the company owes money. Because unsecured creditors don’t have collateral or priority, they often recover only a small portion of what they’re owed.
Payments to Members / Shareholders
If any funds remain after all creditors have been paid (which usually only occurs in a Members Voluntary Liquidation), the remaining assets are distributed to the shareholders of the company. Shareholders are last in the priority order because they take on the risk of the company’s failure. Shareholders will not receive any funds in a liquidation if the company’s debts outweigh its assets.
When there aren't enough funds
In many liquidations, there are insufficient funds to pay all creditors in full. In this case, creditors receive a percentage of what they are owed, based on the priority order.
Each class of claims must be paid in full before the next category is paid.
Final thoughts
The liquidator is responsible for ensuring that the liquidation is conducted fairly and transparently. They will communicate regularly with creditors throughout the process.
Understanding the order of creditor priority in liquidation is essential for anyone involved in the business, whether as an employee, a creditor, a shareholder, or an advisor. The process ensures that those with the highest priority are paid before others, while still giving every creditor a chance to recover some of the debt owed to them.
If you are involved in a liquidation or suspect your company may be or may become insolvent, it’s crucial to seek professional advice and guidance, as the process can be complex, and each case may have unique circumstances.
Further reading
For further information on the topic of circulating assets and employee entitlements please refer to our article: Recoveries, the bank vs unsecured creditors
¹Where the next category, applicant creditor’s costs, exists they will receive a priority over liquidator fees but not liquidator expenses.
