As per section 52 of Insolvency and Bankruptcy code 2016, the secured creditor shall have two options in case of liquidation
a) The secured creditor may relinquish his security interest to the liquidation estate and receive proceeds from the sale of assets by the liquidator as per section 53 (or)
b) The secured creditor may realise the security interest in the manner specified in the section.
The secured creditor in spite of having power of enforcing security interest is not allowed to do so or take any coercive action against the corporate debtor during the corporate insolvency resolution process in view of existence of provisions of moratorium. The rights of secured creditor will be restored only if the order of liquidation is passed by the Adjudicating authority.
The secured creditor has to exercise his option at the time of liquidation. Hence it is very difficult for the secured creditor to choose the best option available. But once the option is exercised, it is irreversible. Hence the secured creditor will have to make a choice and exercise the best option under the facts and circumstances of the case.
Advantages and disadvantages of both options are
|Serial number||Secured creditor relinquishing security interest to be part of collective realization||Secured creditor realizing his security interest|
|1||Secured creditor need not make any efforts for realization of asset||Secured creditor has to make sincere efforts for realization of security interest|
|2||Secured creditor will have preference in the distribution||Secured creditor can claim only for shortfall portion after realizing the security interest as unsecured creditor|
|3||Secured creditor is assured of whole amount of debt unless the liquidator realizes short fall in recovery||Secured creditor can realise the security interest faster than liquidator|
|4.||There is no chance of facing any resistance while realizing the security interest||There is a chance of facing resistance from the corporate debtor while realizing the secured asset|
The secured creditor while choosing the option of realizing the security interest, he has to perform twin functions. One is the secured creditor has to inform the liquidator about the realization of the security interest and second is the secured creditor has to identify the security and inform the liquidator .Once the secured creditor informs the security interest, the liquidator will verify the security interest from
a) Records of security interest maintained by the information utility
b) Or by such other means as may be specified by the Board.
Generally the secured creditor has to prove the security interest either from the records of information utility or certificate of registration of charge issued by the Registrar of companies or proof of registration of charge with the Central Registry of securitization asset reconstruction and security interest of India.
The secured creditor who wishes to realise the security interest has to intimate the liquidator of the price at which he wants to realise the security interest .The reason of intimating the liquidator is whether the liquidator is able to find a buyer for a price higher than the price quoted by the secured creditor. It is the obligation of liquidator to inform the secured creditor about the availability of buyer for a price higher than the price quoted by the secured creditor within 21 days of intimation of information from the secured creditor. There is an obligation on the part of buyer also. He has to purchase the property within 30 days of intimation of information from the secured creditor.
The secured creditor can realise the security interest in the manner it deems fit, not below the price intimated by him, in the following circumstances
a) Where the liquidator does not inform the secured creditor about the buyer within 21 days from the date of intimation of information from the secured creditor.
b) The identified buyer does not buy the secured asset
The cost of identification of buyer will be borne by the secured creditor if he realizes the security interest. The cost of identification will be borne by the liquidator if he fails to identify the buyer or the identified buyer fails to buy the property. But the provisions mentioned above will not applicable if the secured creditor realizes security interest either through SARFAESI Act or through Recovery of Debts and Bankruptcy Act ,1993.
Neither the code nor the regulation prescribe any time limit for the security creditor to intimate the liquidator about the realization of security interest or not .If long delay happens, it will disrupt the liquidation process.Similery if the secured creditor makes delay in selling the asset, neither liquidator can repossess the secured asset nor the Tribunal will order for sale of asset by liquidator.
Regulation 32 of the Regulations prohibits the Liquidator to sell an asset which is subject to security interest, unless the security interest therein has been relinquished to the liquidation estate. The Code, however, does not provide any timelines for opting to relinquish or exercise security interest. As there is no timeline provided for a secured creditor to convey its decision to relinquish its security interest or enforce security outside of the liquidation process, it creates uncertainty particularly in considering a Going Concern Sale.
It is reported that often secured creditors are neither confirming their relinquishment nor proceeding to sell the asset outside liquidation. Until the secured lenders intimate their decision to the liquidator, i.e., whether they wish to relinquish their security interest to the liquidation estate or not, it is difficult for the Liquidator to prepare the Asset Memorandum. Therefore, it is proposed to allow the secured creditors to intimate their decision up to sixtieth day from the liquidation commencement date.
In the Schedule II, in the Form D – Proof of Claim Form by financial creditors, the secured creditors may intimate their decision whether they wish to relinquish their security interest or not. Non-communication of such decision would imply that they have relinquished their security interest.
It is noted that in practice, most secured creditors do not relinquish their security interest. Instead, they only authorise the Liquidator to sell their secured assets on their behalf and distribute the proceeds to them in accordance with the waterfall provided. This is a market practice that has been followed in the prior regime as well and is one that lenders appear comfortable with.
Where the secured creditors decide to realize their security interest, the workmen would recover lesser amount or nothing depending upon the realisation during the liquidation process.
There is a need to incorporate certain changes in section 52 of the Code on the lines of section 529 (1) of the Companies Act, 1956 or in the Regulations to protect the dues of workmen. The said section entitled the Liquidator to recover the cost of preservation of security if the secured lenders sell assets independently. The secured creditor was liable to pay his portion of the expenses incurred by the Liquidator for the preservation of the security before its realisation by the secured creditor.
In Regulation 21 of the Regulations if a secured creditor, instead of relinquishing his security and proving for his debt, proceeds to realise his security, he shall be liable to pay his share of the expenses incurred by the Liquidator for the preservation of the security before its realisation by the secured creditor. Though this clause was recommended by Draft committee but it was not included in the regulation.
Similarly, if a CD has only secured assets and all security holders decide to realise their security interests outside the liquidation assets, there will be no liquidation proceeds and hence there will be no resource to meet the liquidation costs. It is necessary to provide that the liquidation costs must be met out of proceeds from sale of secured assets whether these are sold as part of liquidation asset or security interests are realised outside.
It is proposed to provide in the Regulations that when a secured creditor proceeds to realise its security interest, it shall:
(i) Contribute its dues under sub-regulation (2) of regulation 21A within 90 days of the liquidation commencement date.
(ii) Pay the excess of realisable value, as estimated by a registered valuer, of the security interest over the admitted claim within 180 days of the liquidation commencement date, even if the security interest has not been realised.
(iii) if the secured creditor fails to contribute to liquidation estate within 90 days or 180 days as the case may be, the asset will be transferred to the Liquidation Estate
In the case of Sanaa syntax private ltd, the important questions are discussed. The details are
The Corporate Insolvency Resolution Process of Sanaa Syntex Private Limited (the Corporate Debtor) began on 22.08.2017, pursuant to admission of Section 7 application by a Financial Creditor State Bank of India. The Corporate Debtor could not be revived and Liquidation order was passed on 19.07.2018. Consequently, Liquidator was appointed.
The Miscellaneous Application has been preferred under section 60(5)(c) of I&BC by the said Liquidator,
And the reliefs sought under this application are as under:
i. Directions to SBI that in case they want to opt out of liquidation, no contravention of Section 35(1)(f) take place.
ii. The Respondent Bank to give an undertaking to the liquidator that it shall not sell the mortgaged property to any person who is not eligible to be a Resolution Applicant, in case they realise their security interest on their own;
SBI to ensure all sums due to any workman or employee from the provident fund, pension fund and gratuity fund be paid first out of monies realised from selling mortgaged assets by SBI in terms of Section 36(4)(a)
(iii), when SBI exercises its rights U/s 52 of the Code and such dues should not be made a part of the liquidation estate U/s 53.
The liquidator submits that SBI, the Respondent Bank wishes to stay out of liquidation U/s 52 of the Code and realise its security interest on its own. Hence, the mortgaged properties shall not be a part of the Liquidation estate. The Applicant further submits that there is a suspicion that the Respondent bank may sell the secured assets to the erstwhile promoters/directors which is in contravention of S. 29A and S. 35(1)(f). It is stated that the provisions of the Code cannot be construed or misinterpreted in such a way that the defaulting promoters get a back-door entry to buy their own assets and defeat the very spirit of the Code of not allowing defaulting promoters and connected persons to participate in the liquidation process.
Further, the applicant seeks that since the EPF dues do not form part of the liquidation estate, therefore, SBI to undertake that the payment of EPF dues will be made first in terms of provisions of section 36(4)(a)(iii) of the Code from the monies realised by SBI from selling its mortgaged assets of Corporate Debtor.
On perusal of the prayers made in this application, three pertinent questions come up for consideration of this Bench:
i. Whether SBI, the Financial Creditor is legally entitled to stay out of liquidation?
ii. Whether there is any bar on the Secured Creditor to sell the assets to erstwhile promoters/directors of the Corporate Debtor, if the secured creditor opts out of liquidation? Or Whether S. 29A is applicable to liquidation proceedings in a situation when the Secured creditor realises the security interest on its own?
iii. Whether the Secured Creditor exercising his right U/s 52(1)(b) of the Code has to make payment of workmen’s dues out of the amount realised from the sale of such secured assets as the EPF/workmen’s dues, which do not form part of the liquidation estate?
To answer these questions, it is worth to examine Section 52 , hence reproduced herein below:- “52. Secured creditor in liquidation proceedings:
(1) A secured creditor in the liquidation proceedings may— (a) relinquish its security interest to the liquidation estate and receive proceeds from the sale of assets by the liquidator in the manner specified in section 53; or (b) realise its security interest in the manner specified in this section.
(2) Where the secured creditor realises security interest under clause (b) of sub-section (1), he shall inform the liquidator of such security interest and identify the asset subject to such security interest to be realised.
(3) Before any security interest is realised by the secured creditor under this section, the liquidator shall verify such security interest and permit the secured creditor to realise only such security interest, the existence of which may be proved either— (a) by the records of such security interest maintained by an information utility; or (b) by such other means as may be specified by the Board.
(4) A secured creditor may enforce, realise, settle, compromise or deal with the secured assets in accordance with such law as applicable to the security interest being realised and to the secured creditor and apply the proceeds to recover the debts due to it.
(5) If in the course of realizing a secured asset, any secured creditor faces resistance from the corporate debtor or any person connected therewith in taking possession of, selling or otherwise disposing off the security, the secured creditor may make an application to the Adjudicating Authority to facilitate the secured creditor to realise such security interest in accordance with law for the time being in force.
(6) The Adjudicating Authority, on the receipt of an application from a secured creditor under sub-section (5) may pass such order as may be necessary to permit a secured creditor to realise security interest in accordance with law for the time being in force.
(7) Where the enforcement of the security interest under sub-section (4) yields an amount by way of proceeds which is in excess of the debts due to the secured creditor, the secured creditor shall— (a) account to the liquidator for such surplus; and (b) tender to the liquidator any surplus funds received from the enforcement of such secured assets.
(8) The amount of insolvency resolution process costs, due from secured creditors who realise their security interests in the manner provided in this section, shall be deducted from the proceeds of any realisation by such secured creditors, and they shall transfer such amounts to the liquidator to be included in the liquidation estate.
(9) where the proceeds of the realisation of the secured assets are not adequate to repay debts owed to the secured creditor, the unpaid debts of such secured creditor shall be paid by the liquidator in the manner specified in clause (e) of sub-section (1) of section 53.”
On careful reading of the above provisions, it is implicit that the rights of a secured financial creditor are protected by giving him an option to take away the assets secured with him out of liquidation.
In such a scenario, the secured creditor has a liberty to realise its security interest on its own. All that has to be seen by the liquidator at this juncture is that whether the secured creditor is complying with the provisions of above subsection 3 of section 52 i.e. the records of such security interest maintained by an information utility and whether the Secured Creditor is complying with Regulation 37 of the IBBI (Liquidation Process), Regulations, 2016:
“Regulation 37. Realization of security interest by secured creditor
(1) A secured creditor who seeks to realize its security interest under section 52 shall intimate the liquidator of the price at which he proposes to realize its secured asset.
(2) The liquidator shall inform the secured creditor within twenty one days of receipt of the intimation under sub-regulation (1) if a person is willing to buy the secured asset before the expiry of thirty days from the date of intimation under sub-regulation (1), at a price higher than the price intimated under sub-regulation (1).
(3) Where the liquidator informs the secured creditor of a person willing to buy the secured asset under sub-regulation (2), the secured creditor shall sell the asset to such person.
(4) If the liquidator does not inform the secured creditor in accordance with sub-regulation (2), or the person does not buy the secured asset in accordance with sub-regulation (2), the secured creditor may realize the secured asset in the manner it deems fit, but at least at the price intimated under sub-regulation (1).
(5) Where the secured asset is realized under sub-regulation (3), the secured creditor shall bear the cost of identification of the buyer under sub-regulation (2).
(6) Where the secured asset is realized under sub-regulation (4), the liquidator shall bear the cost of incurred to identify the buyer under sub-regulation (2).
(7) The provisions of this Regulation shall not apply if the secured creditor enforces his security interest under the Securitization and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (54 of 2002) or the Recovery of Debts and Bankruptcy Act, 1993 (51 of 1993).”
However, Sub-regulation (7) of the above said Regulation 37 (Liquidation Process) mentions that the provisions of regulation 37 shall not apply if the secured creditor enforces his security interest under SARFAESI Act, 2002 or RDDB Act, 1993.
The question is whether secured creditor can come out of the clutches of liquidator?
Reliance can be placed on the decision in the matter of International Coach Builders Ltd. V. Karnataka State Financial corporation, order dated 05.03.2003, passed by the Hon’ble Supreme Court, wherein It was held that the consent of the official liquidator has to be taken by the secured creditor in order to realise the mortgaged properties, and if he does not consent, the secured creditor may move the company court for appropriate directions to the official liquidator. Therefore, the option of opting out of the liquidation estate was always given and opens to the secured creditors.
Whether the bar U/s 29A not to sell the secured assets to the erstwhile promoters/directors can be imposed on a secured creditor who exercises option U/s 52(1)(b) of the Code.
As far as s. 52 is concerned, the scope is limited to grant rights to a Financial Creditor for sale of a property. Naturally, that right should not give permission to a Financial Creditor to sell that property to a defaulter/promoter/director. Therefore, it is necessary as well as need of the hour to read the rights enshrined U/s 52 along with the proviso of subsection (f) of S. 35(1) as well as S. 29A of the Code.
The legislative purpose is provisions of Section 29A continue to be applicable to liquidation. Consequently, provisions are ought to apply to the secured Financial Creditors if they exercise their option to liquidate an asset independently. Hence that the secured creditor availing its option U/s 52 of the Code should not sell the assets to the erstwhile promoters/directors
(iii) Another question is whether the secured creditor is liable to pay the EPF dues in priority out of the proceeds of sale of secured assets in view of Section 326 of the Companies act, 2013.
Section 36(4) states that “ The following shall not be included in the liquidation estate assets and shall not be used for recovery in the liquidation:— (a) assets owned by a third party which are in possession of the corporate debtor, including— (i) assets held in trust for any third party; (ii) bailment contracts; (iii) all sums due to any workman or employee from the provident fund, the pension fund and the gratuity fund; (iv) other contractual arrangements which do not stipulate transfer of title but only use of the assets; and (v) such other assets as may be notified by the Central Government in consultation with any financial sector regulator;”
The present position is that Sec 53 of the Code gives the waterfall mechanism for distribution of proceeds from the sale of assets of the Corporate Debtor. S. 53 (1)(b) states that after meeting the CIRP and liquidation cost, second priority will be given equally to (i.) workmen’s dues for the period of two years preceding the liquidation commencement date and,( ii). the debts owed to a secured creditor in the event such secured creditor has relinquished security in the manner set out in section 52(1)(a). Therefore, workmen’s dues or EPF dues are placed in the waterfall mechanism and are not to be paid as per S. 326 of the Companies Act, 2013 because of S. 238 of the Code which gives overriding provisions to the insolvency Code and secondly, S. 326 as of now stood de-notified. While drafting Sec 53 of the Code the Hon’ble legislatures have taken due care by acknowledging the existence of Sec 52 in the code, hence, in Sec 53(1)(b)(ii) it is prescribed that although the debts shall rank equally between workmen’s dues and secured creditors only in a situation when the secured creditors have relinquished security for liquidation under section 52 of the Code.
To make it more clear the interpretation of Sec 53(1)(b)(ii) of the Code is that if the secured creditors do not relinquish the charge over the secured assets but exercise their option to liquidate a secured asset by exercising option U/s 52, then it is mandated that the workmen’s dues and the debt of secured creditor shall not rank equally.
In the matter of Precision Fasteners V. EPF, wherein it was held that “All sums due to any workman or employee from the provident fund, pension fund and gratuity fund, shall not be a part of the liquidation estate and shall not be used for recovery in liquidation”
It was remarked by Tribunal in one case that the EPF dues are the liability of the Corporate Debtor which has to be paid by the liquidator as per S. 53 of the Code, and not by the secured creditor out of the proceeds from the sale of secured assets if exercised their option U/s 52(1)(b) of the Code.
Obligation of secured creditor in case of winding up of the company
The obligation of secured creditor while realizing the security while the company is undergoing winding up process under SARFAESI Act as well as Recovery of Debts and Bankruptcy act 1993 are discussed here under Obligation of secured creditor under SARFAESI Act 2002
Section 13(9) in The Securitization and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 deals with the matter
13(9) In the case of financing of a financial asset by more than one secured creditors or joint financing of a financial asset by secured creditors, no secured creditor shall be entitled to exercise any or all of the rights conferred on him under or pursuant to sub-section (4) unless exercise of such right is agreed upon by the secured creditors representing not less than three-fourth in value of the amount outstanding as on a record date and such action shall be binding on all the secured creditors:
Provided that in the case of a company in liquidation, the amount realized from the sale of secured assets shall be distributed in accordance with the provisions of section 529A of the Companies Act, 1956 (1 of 1956):
Provided further that in the case of a company being wound up on or after the commencement of this Act, the secured creditor of such company, who opts to realize his security instead of relinquishing his security and proving his debt under proviso to sub-section (1) of section 529 of the Companies Act, 1956 (1 of 1956), may retain the sale proceeds of his secured assets after depositing the workmen’s dues with the liquidator in accordance with the provisions of section 529A of that Act:
Provided also that the liquidator referred to in the second proviso shall intimate the secured creditors the workmen’s dues in accordance with the provisions of section 529A of the Companies Act, 1956 (1 of 1956) and in case such workmen’s dues cannot be ascertained, the liquidator shall intimate the estimated amount of workmen’s dues under that section to the secured creditor and in such case the secured creditor may retain the sale proceeds of the secured assets after depositing the amount of such estimated dues with the liquidator:
Provided also that in case the secured creditor deposits the estimated amount of workmen’s dues, such creditor shall be liable to pay the balance of the workmen’s dues or entitled to receive the excess amount, if any, deposited by the secured creditor with the liquidator:
Provided also that the secured creditor shall furnish an undertaking to the liquidator to pay the balance of the workmen’s dues, if any.
Explanation.—For the purposes of this sub-section,—
(a) “record date” means the date agreed upon by the secured creditors representing not less than three-fourth in value of the amount outstanding on such date;
(b) “Amount outstanding” shall include principal, interest and any other dues payable by the borrower to the secured creditor in respect of secured asset as per the books of account of the secured creditor.
Obligation of secured creditor under Recovery of debts and bankruptacy act 1993
As per section 31B. Priority to secured creditors. –
Notwithstanding anything contained in any other law for the time being in force, the rights of secured creditors to realise secured debts due and payable to them by sale of assets over which security interest is created, shall have priority and shall be paid in priority over all other debts and Government dues including revenues, taxes, cesses and rates due to the Central Government, State Government or local authority.
Explanation. – For the purposes of this section, it is hereby clarified that on or after the commencement of the Insolvency and Bankruptcy Code, 2016, in cases where insolvency or bankruptcy proceedings are pending in respect of secured assets of the borrower, priority to secured creditors in payment of debt shall be subject to the provisions of that Code.]
As per section 325 of the companies Act 2013, the security of every secured creditor shall be deemed to be subject to a pari passu charge in favour of the workmen to the extent of the workmen’s portion therein, and, where a secured creditor, instead of relinquishing his security and proving his debts,opts to realise his security,—
(i) the liquidator shall be entitled to represent the workmen and enforce such charge;
(ii) any amount realised by the liquidator by way of enforcement of such charge Shall be applied ratably for the discharge of workmen’s dues; and
(iii) so much of the debts due to such secured creditor as could not be realised by him or the amount of the workmen’s portion in his security, whichever is less, shall rank pari passu with the workmen’s dues for the purposes of section 326.
The value of the security of a secured creditor of a company is Rs. 1,00,000. The total amount of the workmen’s dues is Rs. 1,00,000. The amount of the debts due from the company to its secured creditors is Rs. 3,00,000. The aggregate of the amount of workmen’s dues and the amount of debts due to secured creditors is Rs. 4,00,000. The workmen’s portion of the security is, therefore, one-fourth of the value of the security, that is Rs. 25,000.
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