Introduction
The financial state of a person or entity being unable to pay off bills and debts to the creditors is known as insolvency. If a corporate person is the debtor, that is unable to pay the foresaid debts and bills, then it is corporate insolvency. Insolvency can lead to insolvency resolution proceedings, which may result in liquidation of all the assets of the debtor to pay the outstanding debts. When a judicial authority acknowledges the state of insolvency of a person or an entity, it declares the person or entity bankrupt. Thus bankruptcy is a legal declaration of the state of insolvency. In this essay, discussions on the laws that govern insolvency and bankruptcy have briefly been introduced & an attempt to track its evolution has been made. In addition, the ever rising challenges faced by these laws and how they are interpreted by the courts are also discussed. Special adjudicating authorities set up for the spectrum of insolvency and bankruptcy, their growth, shortcomings and where they need improvement in the nascent period is also pointed out. Insolvency issues in the contemporary times, especially in a global pandemic like Covid-19 has been discussed. This is a new branch of law which is still in its developmental stages. With every passing day, the cases under insolvency increase with issues that have no remedies for in the statute. And since it is still in the initial stages, there are not many trained professionals or adjudicating authorities to help with resolving the issues, thus resulting in the piling up of pending cases. The branch of law that deals with insolvency is constantly growing and constantly figuring all the grey areas out with every new case that is filed. This law, in order to speed up the resolution process to some extent, works on a time bound basis. Time bound – Finishing the process within a specified period of time. However, in the latest amendment, the Hon’ble Supreme Court ruled that in exceptional cases extensions can be claimed from the concerned adjudicating authority. Because, the interest of the litigant should be more important than the time spent on legal proceedings.
Page Contents
Laws Governing Corporate Insolvency
Before Insolvency and Bankruptcy Code:
Several laws like Sick Industrial Companies (Special provisions), Act, 1985 to The Recovery of Debts due to Banks and Financial Institutions Act, 1993 (RDDBFI), The Provincial Insolvency Act, 1920, The Presidency Towns Insolvency Act, 1909, The Code of Civil Procedure, 1908, and the The Securitization and Reconstruction of Financial Assets and Enforcement of Securities Interest Act, 2002 (SARFAESI) were enacted before IBC to solve complex insolvency issues. Though these acts started off appreciably, down the lane it failed to serve certain purposes of its enactment. Due to this, a need for a new law which caters to all the issues related to insolvency was required. Thus, the Insolvency and Bankruptcy Code 2016 was enacted. Objectives of the foresaid pre IBC Insolvency laws:
Sick Industrial Companies Act 1985 – It was enacted to identify sick1 industrial establishments, check if its rehabilitation is feasible and reinstate its life, if feasible or aid its closure, if otherwise.
RDDBFI 1993 – It was enacted to establish tribunals like the Debt Recovery Tribunal (DRT) & other appellate tribunals to deal with the dues owed by debtors to banks and financial institutions (creditors). The Provincial Insolvency Act 1920 – It was enacted to consolidate all laws relating to insolvency. It was repealed because the Government had to frame rules for Bankruptcy.2
The Presidency Towns Insolvency Act 1909- It was enacted to amend the laws of insolvency in the presidency towns (Madras, Bombay and Calcutta).3 Code of Civil Procedure 1908 – Rule XXII of the code gave guidance to when a plaintiff becomes insolvent. This however does not apply to the case where the Defendant is insolvent.
SARFAESI 2002 – This rule enabled the banks and other financial institutions (creditors) to sell auction the assets of defaulted debtors to recover their dues. Need for a separate law for the insolvency aspect In India, it took about 4.3 years4 (average) to resolve insolvency and affiliated issues. This was inter alia because of three major reasons-
1. Courts had enough pending cases that catering to newer cases was difficult and delayed.
2. Bankruptcy framework was not lucid, due to which confusion as to how the issue can be resolved was caused.
3. Lack of professionals, infrastructure and expertise in this spectrum.
These shortcomings called for a separate law, adjudicating authority and a set of professionals to deal with insolvency and related problems. So in December 2015, Insolvency and Bankruptcy Bill was introduced. On 5th May 2016, it was passed by Lok Sabha. A week later, on 11th May 2016 it was passed by Rajya Sabha and at last on 28th May 2016 it received the assent of President.5 So this code was passed by the Parliament in May 2016 and it came to effect from December 2016
After Insolvency and Bankruptcy Code 2016
After the enactment of the Insolvency and Bankruptcy code 2016, insolvency issues now had a separate set of rules to guide and aid them. This code applies to individuals and companies. No civil court has the power to decide issues falling under this code. Debt Recovery Tribunals (DRT), National Company Law Tribunal (NCLT) and National Company Law Appellate Tribunal (NCLAT) have jurisdiction over IBC cases. The code provides:
Insolvency Professionals who are intellectually equipped to deal with insolvency cases
Insolvency Professional Agencies where the professionals are registered, examined and given a code of conduct
Information Utilities which has all financial information of the debtors like the record of debt, liabilities and defaults
Adjudicating authorities like NCLT, NCLAT and DRT to fasten the resolution process Insolvency and Bankruptcy Board of India that consists of representatives of Reserve Bank of India, and the Ministries of Finance, Corporate Affairs and Law to regulate the provisions of the code and instruct the professionals, agencies and information utilities set up under the code.
Procedure for Resolving Insolvency Under This Code: IBC
Works on resolving insolvency issues on a time bound mechanism. It gives 180 days6 for the parties to resolve the issue. If required, an extension of 90 days will be given by the adjudication authorities, making it a total of 270 days (however, Supreme Court in 2019 held that extensions over the prescribed days can be given in exceptional cases7). During this period, any legal action by the creditor against the debtor is prohibited. In Innoventive Industries v ICICI bank Ltd, it was held that, the moratorium will cease to exist from the date of liquidation order8. Insolvency professionals constitute a Committee of Creditors9 who lent money to the corporate debtor to decide a resolution plan if they think that the company’s recovery is feasible. They can even change the repayment schedule or sell the assets of the company to revive debts. If a decision is not taken within the specified number of days, the company goes into liquidation. If the company goes into liquidation, the insolvency professional governs the process. The assets of the debtor company are sold and are distributed in the following manner:
1. Insolvency Resolution costs
2. Secured Creditors
3. Unsecured Creditors
4. Dues owed to the Government
5. Priority Shareholders
6. Equity Shareholders10
Major Challenges Faced by the Insolvency and Bankruptcy Code
The Insolvency and Bankruptcy Code was initially introduced in 2016. It has gone through several amendments and changes through the past 5 years as the cases under this spectrum increased, giving birth to issues that had no solution(s) for, in the 2016 Act. The latest judicial pronouncement of this code is the Insolvency and Bankruptcy Code, 2020 which came into effect from the 5th of June, 2020. It is still developing every day with every case that is being filed under this code which is aiding confusions in its right interpretation.
Regardless of the amendments in the code, it still faces a few challenges like-
1. TIME FRAME / DEADLINE
Corporate Insolvency Resolution Process (CIRP) is a time bound mechanism for creditors to initiate recovery actions for the debt that has not been repaid by the corporate debtor. Section 12 of the code provides 180 days from the date of application filed by the creditors to the CIRP to resolve an insolvency issue. The time period to complete the process can be extended up to 90 Days by the adjudicating authority if a resolution for extension is passed with a 66% vote of the voting share, in the meeting of creditors. Section 4 of the
Insolvency and Bankruptcy Amendment Act 2019 states that the proceedings should mandatorily be completed within 330 days of its commencement, but the Hon’ble Supreme Court in the case of Committee of Creditors of Essar Steel India Limited through Authorized Signatory vs. Satish Kumar Gupta & Ors, CIVIL APPEAL NO. 8766-67 OF 201911, held that the proceedings must
be completed within 330 days but in exceptional cases, extension of time can be granted by the NCLT and NCLAT. It struck down the word “mandatorily” from the section in the interest of the litigant. But since the number of NCLT benches are very less in comparison to the cases that are being filed, it is difficult to complete the process within 330 days. Companies with a large number of creditors have issues in functioning of the committee of creditors.
2. INSUFFICIENT BENCHES
As of September 2019, there were 10860 cases pending before the NCLT. At present India has 16 NCLTs12 and 21, 259 NCLT cases were pending as of December 202013. The purpose of NCLTs and a separate code for Insolvency issues is to speed up the resolution process. But the rate at which the IBC cases are increasing, defeats the very purpose of introduction of IBC and NCLTs.
3. INSUFFICIENT INSOLVENCY PROFESSIONALS
A person in order for him to be an Insolvency Professional needs to be –
- A chartered accountant or
- a company secretary or
- a cost accountant or
- an advocate with 10 years experience
- or a graduate with 15 years experience.
Insolvency and Bankruptcy Board of India also conducts an Insolvency examination which has to be passed. Hence a resolution professional or Insolvency professional lacks expertise or experience in managing a company due to which his or her ability can be questioned. Currently there are only 897 registered resolution professionals in India14.
Judicial Interpretation of IBC
1. Timeline – In Committee of Creditors of Essar Steel India Limited through Authorised Signatory vs. Satish Kumar Gupta, the Hon’ble Supreme Court struck down the mandatory timeline given in section 4 of the IBC Amendment act 2019 and ruled that the process for insolvency should terminate before 330 days, but the NCLT and NCLAT can give an extension in exceptional cases. Because, time taken in judicial proceedings should not affect the interest of the litigant.
2. Committee of creditors (CoC) – In the above stated case, the Hon’ble Supreme Court empowered the CoC by ruling that the CoC is the principle authority in deciding if the corporate debtor can be restored to life or liquidated, after the insolvency proceedings are terminated.
3. Functions of Resolution Professionals – The applicant as per section 30(2) of the code should present a resolution plan, which will be produced before the CoC for approval15. The role of the resolution professional should be to examine the plan and produce it to the CoC regardless of it contravening the law or otherwise. In Arcelormittal India Private Limited Vs. Satish Kumar Gupta & Others16, the Supreme Court held that, the resolution professional cannot make any decisions based on his opinion, but to just inspect the plan before producing it to the CoC. He does not have the power to decide if the plan is violates any provision. He should report the plan to the CoC irrespective of the nature of it i.e, contravening to the provisions of law or not.
4. Financial creditors v/s Operational creditors – In Swiss Ribbons Pvt. Ltd. & another vs. Union of India & Others17, the exclusion of Operational creditors from the CoC was raised violative of Article 14 of the Indian Constitution. The Supreme Court with the help of Insolvency law committee and the Bankruptcy Law Reforms Committee18, pointed out the main distinction between the two as the ability of financial creditors in determining the ability of the corporate debtor to work successfully. It also held that, the agenda of the CoC is to evaluate the probability of success of the resolution plan and financial creditors are intellectually equipped to serve the purpose, whereas operational creditors are only concerned with payment for their goods and services. Thus, the exclusion of operational creditors from the CoC was ruled not violative of Article 14.
5. Disqualification of people from submitting resolution plans- Under section 29A (c), a person can be disqualified from submitting a
resolution plan only after the submission of the plan. If the person paid all the debts and dues before submitting the plan, then he can be disqualified. In Swiss Ribbons Pvt. Ltd. & Another vs. Union of India & Others19 , the constitutional validity of Section 29 A (j) r/w the definition of related parties was questioned. The Supreme Court upheld the constitutional validity of the section.
Special Framework for MSME Due to COVID 19
The MSME sector, which employs a big part of our country, is collateral damage to the measures that has been taken by the Indian Government to control and contain the Covid 19 pandemic. The Government issued an ordinance which suspended the initiation of fresh insolvency proceedings20 starting from March 25 th 2020 for a period of six months which can be extended to one year. This decision was taken to protect the Micro, Small and Medium enterprises from the financial problems shot by the Covid 19 outbreak. Also banks and non banking financial companies extended moratorium to its borrowers parallel to this ordinance. The ordinance would not apply to defaults before March 25th 2020. The Government increased the minimum threshold for applications under IBC to Rs. 1 Cr from Rs. 1 lakh.21 This would aid the small businesses under the pandemic pressure. The Chairperson of IBBI, M S Sahoo proclaimed that “A special insolvency resolution framework for MSMEs under section 240A of the Code is at an advanced stage of preparation”22 . He also mentioned the innovative evolution that is happening with insolvency laws to cater rising needs. To speed up the resolution process, provisions for pre-packaged (pre-pack) corporate insolvency resolution plan is going to be added, wherein a restructuring plan would be agreed upon in advance between the company and its creditors. M S Sahoo assures that there would not be any injustice done to the creditors because this suspension does not exonerate all defaults of the debtor. It excuses a firm from insolvency during the Covid 19 period only. The suspension was extended twice. First time was in September 2020. Extension was put from September 2020 until December 2020. And in December 2020, through another ordinance, the Government announced another extension of suspension until March 25th 2021. The Government had power to extend the suspension of the sections 7, 9 and 10 of the Insolvency and Bankruptcy code, if necessary, for up to 1 year. MSME has contributed to the country’s GDP by a share of around 30.3% in the financial year 2019. It is the primary source of employment for majority of the Indian crowd. So, the special framework would help MSME to function smoothly. The more it flourishes, the more demand which ultimately results in more employment opportunities. Thus, it also contributes to a lower rate of unemployment in India.
Conclusion
Thus, corporate insolvency after the enactment of Insolvency and Bankruptcy code has been so far dealt efficiently. To increase the efficiency, more tribunals can be instated. Apart from this, the recruiting criteria for the registered professionals can be relaxed. Now that, new insolvency laws are a work in progress, hopefully the future of insolvency resolutions is going to be much faster, cheaper and efficient. Insolvency is caused because of a low capitalization, over trading and over leveraging inter alia. If the problem is kept under control in the roots, it would not grow to be a dispute in the first place. A proper balance between the incentives and disincentives is what an insolvency law should aim for, along with a friendly creditor debtor relationship. And hopefully, the new legal framework for the MSMEs end insolvency issues in more resolutions than liquidations, because as Brian Sandoval said-
“Unemployment, foreclosures, bankruptcy – the cure is not more government spending, but helping businesses create jobs”.
END NOTES
1 The act defined a sick industrial unit as one that had existed for at least five years and had incurred accumulated losses equal to or exceeding its entire net worth at the end of any financial year
2 https://www.business-standard.com/article/economy-policy/provincial-insolvency-act-needs- to-be-repealed-for-the-bankruptcy-rules-
118100801054_1.html#:~:text=The%20government%20will%20have%20to,including%20those%20for%20corporate%20guarantors.&text=While%20rules%20for%20insolvency%20unde r,bankruptcy%20are%20yet%20to%20come.
3 https://indiankanoon.org/doc/1622833/
4 https://www.prsindia.org/theprsblog/insolvency-and-bankruptcy-code-all-you-need-know
5 https://en.wikipedia.org/wiki/Insolvency_and_Bankruptcy_Code,_2016
6 Section 4 of the Insolvency and Bankruptcy Code 2016
7 CIVIL APPEAL NO. 8766-67 OF 2019
8 AIR 2017 SC 4084
9 Section 21 of the Insolvency and Bankruptcy Code 2016
10 https://www.prsindia.org/theprsblog/insolvency-and-bankruptcy-code-all-you-need-know
11 https://blog.ipleaders.in/challenges-interpretation-insolvency-bankruptcy-code-2016/
12 https://en.wikipedia.org/wiki/National_Company_Law_Tribunal#:~:text=The%20tribunal%
20has%20sixteen%20benches,at%20Kolkata%20and%20five%20at
13 https://www.livemint.com/news/india/over-21-250-cases-pending-before-nclt-at-end-of-
december-2020-11612810900359.html
14 https://ibbi.gov.in/ips-register/view-ip/2?page=2
15 Section 30(3) of the Code
16 [(2019) 2 SCC 1]
17 [(2019) 4 SCC 17]
18 https://ibbi.gov.in/BLRCReportVol1_04112015.pdf
19 [(2019) 4 SCC 17]
20 Sections 7,9 and 10 of the Insolvency and bankruptcy code
21 https://www.livemint.com/news/india/proposed-ibc-changes-to-benefit-small-businesses-resolutions-to-see-a-dip-11589702539843.html
22 https://economictimes.indiatimes.com/small-biz/sme-sector/special-insolvency-resolution-framework-for-msmes-at-advanced-stage-ibbi-chief/articleshow/77180706.cms
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