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18 April, 2018
The Insolvency and Bankruptcy Code, 2016 (Code) was introduced in India in December 2016 to consolidate the existing legal framework and put in place a rule based and time-bound structure for insolvency resolution of companies and individuals.
The provisions relating to insolvency resolution process for companies and limited liability partnerships, were implemented on war footing to give the Government, the Reserve Bank of India (India’s central bank), and the financial creditors an additional tool to control the non-performing assets crisis that has beset the economy.
However, with the implementation of the Code, various challenges were being discovered by the creditors, the insolvency courts as well as by the practitioners of the Code. Initial challenges faced were related to admission of the applications, i.e., whether the laws of limitations are applicable to the Code, whether a home buyer is a financial creditor or a trade creditor, whether any trade creditor is eligible to file an application for admitting a defaulting debtor in the insolvency process even if there is an ‘existence of dispute’ though formal proceedings have not been initiated, whether an entity having no business presence in India, and which has supplied materials to an Indian company needs to provide a bank certificate to prove its debt and many more. Thereafter, came the second set of issues, wherein post admission, insolvency professionals started facing issues relating to powers he/she had at the time when the committee of creditors (CoC) had not been formed, issues relating to admission of claims, role of interim resolution professional who may not continue as the resolution professional after the formation of the CoC, issues relating to interim finance, whether there is a moratorium on the assets of the guarantor, and many more.
The third set of issues, and which is the most important as far as attaining the objective of the Code is concerned are the issues relating to resolving the insolvency situation of a corporate debtor.
The key issues are relating to eligibility of resolution applicants, concessions being available to the resolution applicant from various regulators in implementing the plan, trade creditors continuing to assist the corporate debtor in maintaining key supplies and a few more. Some of these issues were elevated to the insolvency courts, and to some extent such issued were handled deftly by the said courts but others relating to rescuing the corporate debtor continue to test the Code, especially in the case of the 12 big defaulters, which were mainly admitted in the months of August / September 2017.
The Government rather than being a mute spectator has stepped in to amend the law either using the ordinance route or the parliamentary process of amending the Code. However, it was felt at the policy level, a more comprehensive study needs to be conducted to identify the challenges and steps that should be taken to amend the Code to make it more effective and viable. Towards this end, the Insolvency Law Committee (Committee) was constituted by the Ministry of Corporate Affairs on 16 November 2017 to conduct a detailed review of the Code in consultation with the key stakeholders. The Committee has, vide its Report dated 26 March 2018 (Report) made several recommendations to address the issues arising from implementation of the Code and other related matters.
Some of the key recommendations made in the Report are as follows:
(1) The Code, as it stands today, permits initiation of corporate insolvency resolution process (“CIRP”) in respect of a corporate debtor on default of an amount of INR one lakh (~ USD 1,560) or above. The low threshold has opened gates for creditors, especially trade creditors, to use the Code solely as a recovery tool. The Committee observed that the Code is not meant to solely be a debt recovery tool and accordingly, it has been recommended that the minimum default amount required in order to trigger the insolvency resolution process should be raised to INR ten lakhs (~ USD 15,625) for all creditors.
(2) The question of applicability of the Limitation Act, 1963 to the Code has been deliberated upon in several judgments of the insolvency courts, i.e., the National Company Law Tribunal (NCLT) and the National Company Law Appellate Tribunal (NCLAT). The Committee noted that non-application of the law on limitation re-opens the rights of the creditors holding time-barred debts to file for CIRP as also the rights of the claimants to file time-barred claims with the Insolvency Resolution Professional (IRP)/ Resolution Professional (RP). To remove this ambiguity, the Committee has recommended that the Limitation Act, 1963 should be made applicable to the Code.
(3) The Committee noted that non-inclusion of home buyers within the definition of ‘financial’ or ‘operational’ creditors deprives them of the right to initiate the CIRP, right to be on the Committee of Creditors (CoC), and the guarantee of receiving at least the liquidation value under the resolution plan. Therefore, it has been recommended that the Code should classify home buyers of under-construction apartments as financial creditors, and amounts raised under a real estate project from a home buyer as financial debt, which would enable them to participate equitably in the insolvency resolution process.
(4) The recently introduced Section 29A of the Code provides the eligibility criteria for persons desirous of submitting a resolution plan to rescue a corporate debtor. The Committee noted that the wide scope of the said provision has led to even remotely related persons being disqualified. It has discussed that the provision should be streamlined so that only those who contributed to defaults of the corporate debtor or are otherwise undesirable are rendered ineligible. Accordingly, several carve-outs to Section 29A have been proposed including (a) restriction of applicability of the provisions to prospective investors and its connected persons only and not to person acting jointly or in concert with such person, (b) exemption to pure play financial entities from incurring disqualification on certain grounds, (c) restriction of disqualification for conviction to specified offences, etc.
(5) In order to protect the interest of micro, small and medium enterprises (MSMEs), applicability of Section 29A to such entities has been proposed to be restricted to disqualify only willful defaulters from bidding for MSMEs. It has been further proposed that the Central Government may be empowered to exempt or vary application of provisions of the Code for a certain class or classes of companies, including for MSMEs.
(6) One of the most debatable points under the insolvency law pertains to scope of moratorium in relation to the properties beyond the ownership of the corporate debtor. The Committee observed that the provisions of the Code relating to moratorium on the assets of the corporate debtor do not intend to bar enforcement of a guarantee against guarantors to the debts of the corporate debtor and recommended that the said position should be appropriately clarified under the Code.
(7) Noting that the high threshold of 75 per cent of voting share of financial creditors for decisions of the CoC was proving to be a road-block in the resolution process, the Committee has recommended that voting thresholds should be reduced to 66 per cent in case of critical decisions such as approval of resolution plan, extension of CIRP, appointment of RP, etc. and to 51per cent in case of routine decisions like raising of interim finance, creation of security interest on the properties of the corporate debtor, etc.
(8) The provisions of the Code permit withdrawal of an application for initiating CIRP on a request made by the applicant before its admission. The Committee agreed that once the CIRP is initiated, it is no longer a proceeding only between the applicant creditor and the corporate debtor but is envisaged to be a proceeding involving all creditors of the debtor. Accordingly, a recommendation has been made to amend the relevant rules to provide for withdrawal from CIRP post-admission, if the CoC approves of such action by 90 per cent voting share.
(9) With respect to the issue of obtaining approvals / clearances from regulatory authorities for implementation of the approved resolution plan, the Committee discussed that it would be desirable to amend the Code to provide for a timeline within which necessary approvals are required to be obtained. Accordingly, the Committee recommended to provide a maximum time limit of one year for obtaining relevant approvals (30 days in a typical case of approval of combinations by Competition Commission of India) unless the relevant law prescribes for a longer time period.
(10) In view of the difficulties faced by a corporate debtor having a large number of financial creditors such as debenture holders, public depositors, etc. in ensuring participation by all CoC members in the meetings, a need was felt by the Committee to mandate representation in meetings of security holders, deposit holders, and all other classes of financial creditors which exceed a certain number, through an authorized representative. It was further discussed that for other classes of creditors which exceed a certain threshold in number, like home buyers or security holders for whom no trustee or agent has already been appointed under a debt instrument or otherwise, an insolvency professional (other than the IRP) shall be appointed by the NCLT on the request of the IRP.
(11) In order to create a link between the insolvency resolution processes of the corporate debtor and its corporate guarantor, it has been proposed that suitable amendments may be made to the Code to provide for the same NCLT to deal with the insolvency resolution or liquidation processes of both the entities.
(12) With a view to provide for further flexibility in streamlining the timelines within the CIRP in relation to submission of claims, it has been proposed that the IBBI should be given the power to specify the last date for submission of claims.
(13) Regarding supply of essential goods or services to the corporate debtor during the moratorium period, the Committee was of the view that for determining goods and services essential for a particular business, there should be some flexibility in the Code. Accordingly, IRP/RP should be required to make an application to the NCLT for decision in this regard.
(14) It has been recommended that the requirement for obtaining certificate from the financial institutions by the operational creditors be made optional and other means of proving non-payment of operational debt by corporate debtor may be provided for.
Our Views:
The ILC Report is a consequence of continuous endeavors of the Government towards achieving ease of doing business in the country. It is heartening to see that the Government is deeply involved and is making a genuine effort to make the Code effective and workable. Many recommendations such as increasing the threshold for making application for initiating CIRP to INR ten lakhs (~ USD 15,625), applicability of limitation laws, relaxation of eligibility conditions for restructuring MSMEs, excluding assets of guarantor to the debts of a corporate debtor from the scope of moratorium, and right to withdraw an application for initiating CIRP on approval of CoC by voting share of 90 per cent, may assume a crucial role in the success of the Code.
We understand that certain key challenges continue to be present in the Code. We are of the view that the role of the insolvency court should not be extended to matters relating to business / rescue of the corporate debtor. Some of the recommendations relating to extending the role of the insolvency court may lead to delays in attaining the objective of the Code, i.e., rescuing the corporate debtor. For instance, to decide whether a supplier is supplying essential goods or services, the insolvency court will be required to be involved. We understand that this matter should be left to the better judgement of an insolvency professional and the CoC. In the event of contradictory views, the insolvency courts may be approached but not at the first instance itself.
The recommendation relating to classification of home buyers as financial creditors may not be the best solution to protect such home buyers, especially keeping in view that home buyers of under construction properties are already protected under other laws such as the newly enacted Real Estate (Regulation and Development) Act, 2016, which is already in effect in 27 Indian states and Union Territories and is evolving as the law which protects home buyers. The Code may provide additional protection to home buyers by ensuring that the resolution plan would provide either the capital paid by such home buyers together with financing costs, if any, are returned or completed homes are required to be delivered within a specified time. As per the Report, home buyers will fall within the relevant entry in the liquidation waterfall under the Code. However, the Committee has not clarified the grade they will be placed at in the waterfall mechanism. In our view, in the event of liquidation, home buyers should be placed higher than the unsecured creditors and be given a priority status at par with secured creditors and workmen’s dues so that they can get their money back along with the financing cost incurred by them.
Taking a holistic view of the recommendations of the Committee, we understand that the Code will further evolve if some of the key changes are implemented within a short time frame. Further, as stated in the Report, this may not be the culmination of efforts on part of the Government but just an interim step to rectify some imminent challenges being faced under the Code. In the weeks to come, we will be witnessing the outcome of the rescue process of the twelve big assets which are undergoing the rescue process. The results of these processes together with new challenges which are emerging in the implementation of the Code, including cross-border insolvency situation, we expect FY 18-19 to be a defining moment as far as insolvency law and corporate insolvency resolution is concerned in India.
For further information, please contact:
Souvik Ganguly, Partner, Acuity Law
al@acuitylaw.co.in
