Loan to Employee: Severance Pay for Employee Can Offset Debt to Employer

Written by: Stjepan Lović

It is not uncommon for employers to give loans to their employees, which they usually use to cover current or extraordinary living expenses. This is especially done in smaller and family-owned companies where the relationship with employees is particularly nurtured, and loans are often given under more favorable conditions than would be the case, for example, when taking out a loan from a bank. Through a separate loan agreement, the employer and employee agree on the manner of its use, the monthly repayment amount, the due date, and the conditions for repaying the entire loan, as well as other conditions they consider necessary to fulfill the purpose of such an agreement.

Often, this agreement gives the employer the authority to withhold part of the employee’s salary until the entire loan is repaid. However, such consent is valid only if given after the occurrence of mutual claims, that is, only after the employee’s salary has been calculated and is ready for payment. Namely, according to Article 96 of the Labor Act (ZOR), the employer may not collect his claim against the employee by withholding the payment of salary or any part thereof, nor by withholding the payment of salary compensation or part of the salary compensation, and the employee cannot give consent for such withholding before the claim arises. However, it is also customary to agree that the repayment period for the loan in any case falls due at the moment the employee’s employment relationship with the employer ends.

If the employee resigns

It is common for the employee’s employment relationship to end before the moment specified in the loan agreement as the repayment deadline. The reasons for the termination of the employment relationship can be on the employer’s side or on the employee’s side, for example, if the employee finds a better-paying job, which is the most common reason for the employee’s resignation. In that case, the employer’s claim for the repayment of the loan remains unprotected because employers, due to trust in the loyalty of employees, very rarely seek other means of securing the repayment of the loan.

In such cases, the employer is forced to seek judicial recovery of the loan from the employee if the employee refuses to voluntarily repay according to the conditions of the loan agreement. If the employee resigns from the employment contract, the employer can only withhold the salaries he is obliged to pay during the notice period, but only if the notice period is prescribed in the employment contract in such cases, which cannot exceed one month.

If the employer terminates the employee

It is also not uncommon for employers to be forced, due to, for example, market disruptions, the necessity of restructuring the company, or increasing efficiency, to dismiss some employees, including those to whom they previously granted loans. This is usually a business-related termination based on which the employer, in addition to being obliged to pay the employee’s salary during the notice period, regardless of whether the employee is released from the obligation to work during that period, is also obliged to pay severance pay.

According to Article 126, paragraph 1 of the Labor Act, severance pay is a monetary amount that serves as a means of securing income and mitigating the harmful consequences of the termination of the employment contract, which the employer pays to the employee whose employment contract is terminated after two years of continuous work. Exceptionally from paragraph 1 of the mentioned article, severance pay is not granted to an employee whose employment contract is terminated for reasons related to behavior and to one who, at the time of termination of the employment contract, is at least 65 years old and has fifteen years of pensionable service.

If not otherwise determined by law, collective agreement, work regulations, or employment contract, the total amount of severance pay cannot exceed six average monthly salaries that the employee earned in the three months prior to the termination of the employment contract. Thus, the question arises whether the employer is obliged to pay severance pay to the employee to whom he has a claim due to the loan granted or whether he is authorized to declare an offset of his claim with the severance pay.

Severance pay is not salary

Although judicial practice has not yet considered this issue, there are no obstacles for the employer to declare an offset at the moment the obligation to pay severance pay to the employee arises and to reduce his claim against the employee for the loan granted by that amount instead of paying severance pay. The law stipulates that an offset is considered a way of terminating a legal obligation that arises by offsetting the debtor’s claim against the creditor’s claim that the creditor has against the debtor.

The debtor can execute an offset of the claim he has against the creditor with the one that the creditor claims from him if both claims are for money or other interchangeable things of the same kind and quality and if both are due. In this regard, in this case, the prohibition of offset from Article 96 of the Labor Act does not apply to the employer because severance pay is not considered salary or salary compensation. Then the employer is authorized to declare an offset and thus reduce or fully satisfy his claim against the employee for the loan granted.