1. INTRODUCTION
India has a broad financial industry that is rapidly growing due to both the expansion of already-existing financial services companies and the entry of new players. “Commercial banks”, “insurance firms”, “non-banking financial companies” (NBFCs), “co-operatives”, “pension funds”, “mutual funds”, and other smaller financial organisations make up the sector. The banking regulator recently permitted the creation of new organisations, like “payment banks”, expanding the variety of organisations operating in the market. However, commercial banks account for more than “64%” of the total assets held by the financial system in India, where the financial sector is primarily a banking sector.
The Indian government has implemented a number of reforms to liberalise, control, and develop this sector. The government and the “Reserve Bank of India” (RBI) have made a number of steps to make it easier for “Micro”, “Small”, and “Medium” Enterprises (“MSMEs”) to receive financing. These actions include establishing a “Micro Units Development and Refinance Agency” (MUDRA), introducing the “Credit Guarantee Fund Scheme” for MSMEs, and offering instructions to banks regarding “collateral requirements”. India’s capital market is clearly one of the most active in the world because to the combined efforts of the public and private sectors.
Since the “Insolvency and Bankruptcy Code”[1] was introduced in 2016, India’s insolvency rules have been developing steadily. Recent changes to the Code include expanding its scope to a particular group of “financial service providers” (FSPs). Stress experienced by FSPs as a result of escalating non-performing assets in different lenders’ portfolios intensified as a result of the “liquidity crisis” that started in India’s financial services sector in 2018. Additionally, this put a lot of strain on the finances of different lenders. Although there has been discussion about financial services providers’ debt settlement for some time, the Code’s applicability has been expanded as a result of difficulties in coming up with a solution that is acceptable to all FSP stakeholders.
“The Insolvency and Bankruptcy Code, 2016” (“IBC”), which provides a framework for the resolution of insolvency of, among other things, corporates, was enacted in 2016. Financial Service Providers” (“FSPs”) were excluded from the IBC’s jurisdiction, nonetheless. According to the IBC, an entity that is “engaged in the business of providing financial services in terms of authorisation issued or registration granted by a financial sector regulator”[2] is referred to as an FSP.
However, the Central Government still had the authority to “notify” FSPs that their “bankruptcy” and “liquidation” operations would be handled by the IBC. “Section 227”[3] of the IBC grants the Central Government this authority.
The “Power of Central Government to Notify Financial Service Providers etc.” is governed by “Section 227” of the “Insolvency and Bankruptcy Code, 2016”, which stipulates that:
“Notwithstanding anything to the contrary contained in this Code or any other law for the time being in force, the Central Government may, if it considers necessary, in consultation with the appropriate financial sector regulators, notify financial service providers or categories of financial service providers for the purpose of their insolvency and liquidation proceedings, which may be conducted under this Code, in such manner as may be prescribed.
Explanation: For the removal of doubts, it is hereby clarified that the insolvency and liquidation proceedings for financial service providers or categories of financial service providers may be conducted with such modifications and in such manner as may be prescribed.”[4]
In order to provide a framework for insolvency and liquidation proceedings of systemically important FSPs other than banks, the Ministry of Corporate Affairs notified[5] the “Insolvency and Bankruptcy (Insolvency and Liquidation Proceedings of Financial Service Providers and Application to Adjudicating Authority) Rules, 2019” (the “FSP Rules”) on November 15, 2019, exercising the authority granted under “Section 227” read with “Section 239(2)(zk)”[6] of the Code.
In addition, the “Ministry of Corporate Affairs” in consultation with the “Reserve Bank of India” (“RBI”) issued a notification on November 18th, 2019[7], stating that insolvency and liquidation proceedings for “Non-Banking Finance Companies” (which includes “Housing Finance Companies”) with assets worth at least “Rs. 500 crores” (as per the most recent audited balance sheet) must be carried out in accordance with the Code, FSP Rules, and any other applicable laws.
A framework governing the “Insolvency of NBFCs” was urgently needed because the Indian banking system has been plagued by flagrant frauds and scams as a result of the NPA problem. It may have been so that we got blessed at the eleventh-hour.
RESEARCH OBJECTIVES
To study the impact of the Insolvency and Bankruptcy Code on Financial Service Providers in the Indian Financial System.
STATEMENT OF PROBLEM
In the current times, the situation and systems of Finance and Economy has grown to a broad financial industry that is rapidly growing due to both the expansion of already-existing financial services companies and the entry of new players. Thus, it’s imperative to study the impact of the prime Code that governs Insolvency Procedures on Financial Service Providers.
RESEARCH QUESTIONS
1. What was the pathway of the evolution of the framework of Financial Service Providers?
2. What was the impact of the IBC before the introduction of FSP Rules, and what are the effects presently?
3. How intricate is the structure of FSPs, and does the IBC govern all aspects or leaves some room for flexibility?
RESEARCH METHODOLOGY
The research is primarily conducted through analysis of Secondary Sources such as Cases, Statutory Instruments, Regulations, Bills, and Foreign precedents, in addition to commentaries and opinions of academicians.
2. SCOPE & EXTENT OF FINANCIAL SERVICE PROVIDERS UNDER THE IBC
The boards of “Srei Infrastructure Finance” and “Srei Equipment Finance” were replaced by the Reserve Bank of India in October 2021 as a result of “governance problems” and the failure of these businesses to fulfil their loan repayment commitments.[8] The IBC was purported to be used by the RBI to start its insolvency proceedings.
The RBI used the authority granted to it by “Section 45-IE”[9] of the “RBI Act”. The provision grants RBI the authority to appoint an “administrator” and “supersede” the board of directors of NBFCs. The “Finance Act of 2019”[10] revised the RBI Act to give the RBI a larger role in managing NBFCs under challenging circumstances. It was anticipated that the insolvency would be handled in a manner similar to the IBC process used with DHFL.
What distinguishes an NBFC from a bank and a non-financial company, as well as how is the NBFC resolution framework different from that of banks and non-financial companies?
It’s that “Unsophisticated households” are given “high-intensity guarantees and promises” from banks that they will get their money back with “interest”. In that they frequently borrow from experts who are believed to be able to think critically, take calculated risks, and bear loss when business plans do not work out as expected, NBFCs are similar to non-financial enterprises. Compared to NBFCs, banks have a different “resolution mechanism”. Banks have a “deposit insurance mechanism” in place to shield those “Unsophisticated households”. The statute gives RBI the authority to seize control of a bank and sell it to a buyer if a “default” is about to occur.
In terms of the “Indian” legal framework, an NBFC differs from banks as well as non-financial businesses that offer goods and services. NBFCs have a different bankruptcy framework than non-financial companies, whose insolvency is controlled by the IBC. A “Committee of Creditors” oversees the IBC’s resolution procedure. IBC ignores the “shareholders” and the “Board of Directors” (BoD) of a failing firm and turns over management to the “Committee of Creditors”. The firm’s fate is decided by the creditors, who also follow the IBC’s prescribed order for resolving the claims of various kinds of “creditors”.
The RBI does not have to wait for a real default to occur in the NBFC framework. The procedure is comparable to the “bank resolution process” in this regard. Additionally, once RBI intervenes, it has broad authority and cannot forecast how it would resolve disputes under the law.
2.1. EVOLUTION OF A “FRAMEWORK”
In the case of “M/s Jindal Saxena Financial Services Private Limited v. M/s Mayfair Capital Private Limited”[11], the treatment of “non-banking financial companies” (NBFCs) within the purview of “financial service providers” (FSPs) came into question. According to the “National Company Law Tribunal” (NCLT), a company’s registration as an NBFC does not automatically entitle it to be considered as one, and as a result, all transactions made would fall under the functional purview of FSP. However, the “National Company Law Appellate Tribunal” (NCLAT) reversed the decision to bring NBFCs under the IBC’s purview in “Randhiraj Thakur v. M/s Jindal Saxena Financial Services”[12], holding that organisations that hold the status of a non-banking financial company under the Reserve Bank of India (RBI) regime will not be regulated by the IBC mechanism. When the “Reserve Bank of India (Prudential Framework for Stressed Assets) Directions, 2019” were released on June 7, 2019, the RBI did so in accordance with its legal authority.”
Countries all throughout the world saw the necessity for a unique structure for the resolution of banks, insurance companies, and systemically important corporations following the global financial crisis of 2008.[13] It was acknowledged that a bank cannot survive under typical insolvency procedures. In the case of banks, the regulator cannot wait until banks fail to meet their payment obligations to depositors or until a systemically important financial institution has really failed and had repercussions across the nation. While a payment default could initiate a typical bankruptcy action.
In India, the “Financial Sector Legislative Reforms Commission” (“FSLRC, 2011–2015”) recommended a “specialised resolution mechanism” and establishment of a “Resolution Corporation” that will have powers of “prompt resolution” and make extremely “intense promises” to consumers, including “banks”, “insurance companies”, and “systemically important” financial firms.[14] This recommendation was made in recognition of the fact that the failure of banks and insurance companies can be extremely disruptive for consumers and could pose systemic risk concerns for the economy as a whole. Back in 2015, there was a distinction in the FSLRC’s thoughts between this specialised resolution framework for select financial organisations and the standard bankruptcy legislation for all other firms.
The “Bankruptcy Legislative Reforms Commission” created this “standard” bankruptcy legislation, which also respected this division: Some financial resolution issues are resolved through the “FSLRC Resolution Corporation”, while all other issues are handled by the IBC.
2.2. AN “INTERIM” FRAMEWORK
As we discussed in the introduction to this paper, at first, the IBC did not include “Financial Service Providers” in its purview. However, Section 227 of the IBC gave the government the authority to put financial service providers or certain categories of “financial service providers” under the IBC’s jurisdiction after consulting with the financial sector regulator. The guidelines created in 2019 outline the process for “financial service providers” going bankrupt. The central government announced in November 2019 that “non-banking finance companies” (which include “housing finance companies”) with assets of Rs. 500 crore or more would be subject to the laws.
The RBI began insolvency proceedings against “DHFL” in 2019 in accordance with the change made under the RBI Act and the IBC Rules.[15] It was the first financing company that the RBI has used its unique IBC authority to submit to the “National Company Law Tribunal”.
The insolvency resolution procedure is thus started under the new NBFC resolution framework at the appropriate regulator’s request and “application”. The NCLT selects an “administrator” for financial service providers accepted into insolvency proceedings based on a “proposal” from the regulator. The administrator assumes control of the business, decides whether to accept or reject creditors’ claims, and manages the “liquidation” process.[16] The administrator is obligated to ask the regulator for a “no-objection” on the people who will take over the “management” of the “financial service provider” after accepting a “resolution plan”. The IBC and RBI Act modifications were implemented as a “stopgap measure” to address the insolvency of a few financial service providers before the enactment of a more comprehensive framework.
2.3 MORATORIUM UNDER THE NEW FRAMEWORK
“Customary Practice under the Code”
The Adjudicating Authority shall, by its order, upon the acceptance of an application under Sections “7”, “9”, or “10” of the Code, declare a moratorium under “Section 14” of the Code, which shall take effect as of the date of the admission of the application for the beginning of CIRP. A corporate debtor cannot be the subject of new or ongoing legal action once a moratorium has been established.
“The process under the FSP Rules”
On and from the date the application for the start of CIRP is filed, there will be an “extra interim moratorium” on FSPs. The “temporary ban” will last until the application is approved or denied. The moratorium outlined in Section 14 of the Code shall be in effect following the Adjudicating Authority’s admission of the CIRP application’s initiation.
Additionally, during the “interim-moratorium”, CIRP, and liquidation procedures, “Rule 5(b)(ii)”[17] of the FSP Rules prohibits the suspension or termination of the “licence” or “registration” that allows the FSP to conduct business as a provider of financial services (unless an opportunity of being heard has been provided to the liquidator).
2.4. LIQUIDATION AND RESOLUTION PROCESS UNDER THE NEW FRAMEWORK
Conventional Practice under the Code
Every financial creditor of the corporate debtor must be represented on the committee of creditors, which is established by the interim resolution professional in normal insolvency cases after the collection of all claims accrued against the corporate debtor and the determination of its financial position. The resolution plan would next need to be authorised by the Committee of Creditors under “Section 30” of the Code and then by the Adjudicating Authority under “Section 31” of the Code before being presented by the resolution applicant to the resolution professional.
The FSP Rules’ procedure
A resolution plan must specifically include “a statement demonstrating how the resolution applicant satisfies or intends to satisfy the requirements of engaging in the business of the financial service provider in accordance with the laws in effect at the time, in addition to acting in accordance with all other provisions pertaining to resolution plans incorporated under Code, according to the FSP Rules.”
The “Committee of Creditors” must approve the resolution plan, underscoring its importance. In order to do this, the Administrator must ask the relevant regulator for a “No Objection Certificate,” which will be granted subject to “Section 29A” of the Code’s requirements if the regulator deems it to be “Fit and Proper” and meets other conditions. It is assumed that “no objection” has been granted when a relevant regulator does not reject “no objection” on an application submitted within “forty-five working days” of receiving such an application.
Liquidation Procedure under FSP Rules
“Rule 7” of the FSP Rules states that while dealing with FSPs, the Code’s liquidation requirements must be enforced in full. There have, however, been very few alterations made.
The licence or registration that allows the FSP to operate as a provider of financial services “may not be stopped or revoked during the liquidation process”, and the adjudicating authority must provide the relevant regulator with a “chance to be heard” before approving the FSP’s liquidation and dissolution.
Process For FSP’s Voluntary Liquidation
According to “Rule 8” of the FSP Rules, the laws pertaining to the corporate debtor’s voluntary liquidation procedure must apply “mutatis mutandis” to the voluntary liquidation process of an FSP with the following modifications:
In accordance with “Section 59” of the Code, FSP is required to get the prior consent of the Appropriate Regulator in order to begin the voluntary liquidation process. An affirmation that the authorisation referred to in “clause (a)” of “sub-section (3)” of “Section 59” of the Code has been received must be included in the affidavit in question. Prior to making a decision to dissolve an FSP, the adjudicating authority must provide the competent regulator with a chance to be heard.
2.5. INFERRING THE LINK BETWEEN “NBFCs” AND “FSPs”
2.4.1 Exclusion of FSPs did not leave NBFCs outside the purview
The definition of “financial services” under IBC does not per se include NBFCs (except the ones “accepting deposits”). The nature of the business the NBFCs are involved needs to be considered. The same is reinstated by the order passed by the NCLT principal bench, New Delhi in the case of “M/s Jindal Saxena Financial Services Pvt. Ltd. V. M/s Mayfair Capital Pvt. Ltd.”. The Court in this case held that the fact that the “applicant-respondent” is registered as an NBFC would not be sufficient to assume that all transactions irrespective of their nature and character would be regarded as the activity of a financial service provider. However, in the case of NCLAT held in –“Randhiraj Thakur, Director, Mayfair Capital (P) Ltd. Vs. M/s. Jindal Saxena Financial Services (P) Ltd.” is not a Corporate Person.
The NCLAT held that if the entire scheme of the IBC is seen, it will be evident that the Code is to consolidate and amend the laws relating to reorganization and insolvency resolution of “corporate persons”, “partnership firms” and “individual” in a time-bound manner. It is a “self-contained” Code which is “exhaustive” in nature when it comes to reorganization and insolvency resolution. However, an exception had been carved out while enacting the Code that the “financial service providers” have been kept outside the purview of the Code. Being a consolidating legislation, only those acts are permitted which are mentioned in the Code and it cannot be made applicable to “financial service providers” including “non-banking financial institutions” and “MFI’s banks”, which have been kept outside the purview of the Code. Even though the NCLAT reversed the order passed by NCLT, maintaining the stance an NBFCs among other should be treated as a Financial Service provider, an NBFCs can have several activities of which all don’t fall under the test of a financial service provider like NBFCs can “buy goods”, “take properties on lease”, “avail professional services”, etc. CICs or investment companies apart from providing financial services. Hence, to construe that NBFCs on the grounds of being a FSPs are excluded from the purview of IBC without testing the activities NBFCs are involved in, would not fall under the definition of financial services under section 16 of IBC.
The corporate debtors, who were described as “corporate persons” who “owed a debt to any person” under “Section 3(8)”[18] of the Code, are expressly covered by “Part II” of the Code. Additionally, the definition of a “corporate person” under “Section 3(7)”[19] of the Code excluded “financial service providers”. The phrase “non-banking financial company” was not defined in the Code; instead, FSP was described in Section 3(17) of the Code as “a person engaged in providing financial services” and “a person who has been authorised or registered by a financial sector regulator.”
Since entities that provide financial services fall under the category of FSPs, “Section 3(16)”[20] of the Code defines the range of “financial services”, which primarily are “accepting of deposits”, “safeguarding and administering assets consisting of financial products, belonging to another person, or agreeing to do so”, “effecting contracts of insurance”, “offering, managing or agreeing to manage assets consisting of financial products belonging to another person”, “rendering or agreeing, for consideration, to render advice on or soliciting for the purposes of–– (i) buying, selling, or subscribing to, a financial product; (ii) availing a financial service; or (iii) exercising any right associated with financial product or financial service”, “establishing or operating an investment scheme”, “maintaining or transferring records of ownership of a financial product”, “underwriting the issuance or subscription of a financial product”, or “selling, providing, or issuing stored value or payment instruments or providing payment services”.
The examination of the aforementioned activities leads to the conclusion that, given the encompassing character of the definition of “financial services”, “NBFCs” may occasionally be regarded as “FSPs”. The legislation from “Section 3(17)”[21] of the Code is intended to cover essential and important economic operations, such as those of “capital market intermediaries”. The health of these organisations is crucial to ensuring the stability and resilience of the financial systems since they depend on public trust, which is directly tied to the operation of the money and capital markets.
3. INTRICACIES OF THE FRAMEWORK: SALIENT FEATURES
3.1. CHALLENGES IN THE “RESTRUCTURING” AND “RESOLUTION” OF FINANCIAL SERVICE PROVIDERS
Due to their group structure, FSPs have several distinct characteristics and difficulties that only they would have to handle in the event of “restructuring: or “insolvency”. FSPs have complex debt and “equity capital”, and restructuring or reorganising these takes a lot of regulatory engagement and clearances.
An FSP can raise money by issuing several “bond” and “loan” kinds. These include, but are not limited to, “perpetual bonds”, “Tier-1 bonds”, “Tier-2 bonds”, and “external commercial borrowing”. Additionally, FSPs raise a sizable sum of money from the public markets, which makes any restructuring, reorganisation, or resolution a more difficult procedure. In addition to the difficulties associated with restructuring an FSP’s “liabilities”, the process of allocating assets in accordance with the restructuring – including overcoming difficulties resulting from asset due diligence – creates an unusual situation for restructuring, reorganisation, and resolution, particularly when the “assets” and their “valuation” themselves become in question.
The more stakeholders there are, the more complicated the resolution process will be, as is the general rule for any restructuring, reorganisation, or settlement. For FSPs, this is of utmost importance because it affects the public’s interests in numerous ways, including “deposits”, “bonds”, “equity holders”, and “customers”. Other FSPs are also significant players in the process because they frequently participate in “securitization transactions” in addition to liabilities. Because FSPs have a variety of obligations, the process of restructuring, reorganising, and resolving FSPs is somewhat unusual.
3.2. HOW THE EXTENSION OF THE CODE TO COVER FSPs INTRODUCED KEY DEVIATIONS FROM “GENERAL” INSOLVENCY LAWS?
First, typically, a “financial creditor”, an “operational creditor”, or the “business debtor” itself could have started insolvency procedures under the Code. Given the significance of FSPs in maintaining the stability of India’s financial markets, it was only sensible to make sure that a decision like starting insolvency proceedings is only made after receiving sufficient justification and approval from the relevant FSP regulator. An application submitted by the competent regulator will be treated the same way as one submitted by a financial creditor.
Second, an “administrator” is chosen to carry out all tasks that would typically be handled by an “interim resolution professional” or “resolution professional” (IRP/RP) under the Code. The relevant “regulator” appoints the administrator.
Third, an “advisory committee” is to be established in addition to the “administrator” and the “committee of creditors” as and when they are established, to help and counsel the administrator on the resolution process. Within 45 days of the insolvency commencement date, this advisory council must be formed.
Fourth, In contrast to regular insolvency proceedings under the Code, an “interim moratorium” under “Section 14(1)” of the Code[1] starts as soon as the “insolvency application” is filed against the FSP, and a “moratorium” starts as soon as the insolvency case is admitted. There is no interim moratorium for non-FSPs in this process, which distinguishes it from the “standard procedure”. A moratorium under “Section 14” is only imposed when the insolvency application under the Code is admitted.
Finally, fifth, “Third-party assets” are explicitly separated for non-FSPs during the corporate bankruptcy resolution procedure from the “assets” taken over by the “resolution professional”. This may not be as clear-cut for FSPs, though, as the FSP may have engaged in a number of securitization and “debt assignment operations”. The MCA has given a system for dealing with third-party assets to ensure that all third parties’ “rights” are respected in order to solve this issue and take into account the “true sale” nature of these transactions.
3.3. Current India’s Scenario Under Moratorium
A. Yes Bank Under Moratorium
The Central Government declared a moratorium[22] in respect of Yes Bank Limited (“Yes Bank”) under Section 45(2) of the Banking Regulation Act, 1949, effective from 5 March 2020 to 3 April 2020[23], after considering an application by the RBI made under Section 45(1) of the Banking Regulation Act, 1949. This was done in light of the bank’s rapidly deteriorating financial situation in relation to liquidity, capital, and other critical parameters, as well as the absence of a viable alternative.
In accordance with the moratorium order, the RBI, working in coordination with the Government, appointed Mr. Prashant Kumar, a former director general and chief financial officer of State Bank of India (SBI), as administrator for a period of thirty days, and further prohibited Yes Bank from paying any depositors more than Rs. 50,000 during the moratorium.[24] Any amount over Rs. 50,000 can only be used for the aforementioned purposes with special permission from the RBI, such as paying for a foreign education, paying for a medical emergency, and paying for a family member’s marriage, provided that the amount so permitted to be paid out of the balance lying to the depositor’s credit does not exceed Rs. 5,00,000/- (Rupees Five Lakhs only) or the actual balance lying in the depositor’s account, whichever is less. The bank’s depositors have been guaranteed by RBI that their interests would be completely protected.
The stated moratorium will end on March 18, 2020, as a result of the notice issued by the Government of India on March 13, 2020, titled “Yes Bank Ltd. Reconstruction Scheme, 2020” (hereinafter referred to as the “Scheme of Reconstruction”).
According to the Prevention of Money Laundering Act of 2002, Mr. Rana Kapoor, the founder of Yes Bank, has been detained by the Enforcement Directorate. A report regarding the unusual loans that Yes Bank made to 44 (forty-four) firms, which totaled Rs. 34,000 Crores in non-performing assets, has also come to light in relation to the money laundering allegations.
B. DHFL Insolvency Proceedings
The “FSP Circular provides for RBI as the appropriate regulator to initiate CIRP against NBFCs with an asset size of Rs. 500 Crores or more. Following the FSP Circular, RBI on 20th November, 2019 exercised its powers under Section 45 IE 5(a) of the RBI Act, 1934 owing to governance concerns and defaults by DHFL in meeting various payment obligations led to decision of superseding the board of directors of DHFL and appointing Mr. R. Subramaniam kumar, ex-MD and CEO of Indian Overseas Bank as the Administrator.”
A three-member advisory committee to help the Administrator of Dewan Housing Finance Corporation Limited (“DHFL”) in the performance of his duties was announced by RBI on November 22nd, 2019. The members are Shri N S Kannan, Managing Director and CEO, ICICI Prudential Life Insurance Co. Ltd., Dr. Rajiv Lall, Non-Executive Chairman, IDFC First Bank Ltd., and Shri NS Venkatesh, CEO, Association of Mutual Funds in India. It is significant to note that the RBI has incorporated representatives from banks, insurance firms, and mutual funds with this participation.
Further On November 29, 2019, the RBI used its authority granted by the FSP Rules to file a request with the NCLT in Mumbai to begin a CIRP against DHFL in accordance with Sections 227 and 239(2)(zk) of the Code as well as Rules 5 and 6 of the FSP Rules. Interim Moratorium started as soon as the CIRP application was submitted against DHFL. DHFL was the first FSP that CIRP was launched against as a result. In the case of Reserve Bank of India v. Dewan Housing Finance Corporation Limited, specifics of DHFL’s default were given.
With effect from November 29, 2019, the aforementioned Order accepted the RBI’s application and imposed a moratorium under Section 14 of the Code. On December 4th, 2019, the Administrator issued a request for claims from the corporate debtor, DHFL, and under Section 21(6A)(b) of the Code listed public depositors as a class of creditors. As of 28.01.2020, there were about Rs. 1,032,328 Crores worth of claims made by creditors and claimants, according to the list of claims that was published on the corporate debtor’s website. Additionally, on December 30, 2019, the Committee of Creditors gave DHFL permission to start disbursing loans at a rate of 500 billion rupees per month.
C. PMC Bank Crisis
Punjab “and Maharashtra Cooperative Bank Limited (PMC Bank) has been facing regulatory actions and investigation over alleged irregularities in certain loan accounts. Loans given to financially stressed real estate player Housing Development & Infrastructure (HDIL) are at the centre of the investigation. The crisis at PMC Bank first came to light on 24 September 2019 when RBI announced moratorium on the activities of the PMC Bank for initial six months and also limited the amount a customer could withdraw from their account from Rs. 40,000 to Rs 50,000[25].Enforcement Directorate has filed a money laundering case in the PMC Bank scam and have also taken the founders of the PMC Bank under its custody.”
3.4. International Perspective in Relation to FSPs
A. Framework in United States of America
Dodd-Frank Act of 2010 is the resolution framework in the USA for systemically determined enterprises, whereas US Bankruptcy Code governs bankruptcy there. Financial institutions that are controlled by the Dodd- Frank Act, such as banks, insured deposit-taking institutions, brokers, dealers, investment firms, and insurance companies, are subject to its provisions.[26] According to Title II of the Dodd-Frank Act, “failure and resolution under otherwise applicable Federal or State law would have substantial detrimental implications on financial stability in the United States” applies to bank holding companies and several other financial businesses. OLA has the authority to liquidate financial institutions so that taxpayer funds are not used to support them, which might have a negative impact on the US economy.
While under the US Bankruptcy Code, depending on the situation, the entities may file a petition for relief under a number of different chapters of the Code. The two most well-known chapters are Chapters 7 for entity liquidation and Chapter 11 for entity restructuring.
The following are some of the resolution techniques that are often used:
Purchase and Assumption Transactions: These transactions involve a healthy institution (often referred to as the acquirer) buying some or all of the assets of a failing bank or thrift and taking over some or all of the liabilities, including all insured deposits. They are the most popular method for resolving failing banks. As part of the P&A transaction, the acquirer often pays a premium to the FDIC for the assumed deposits, which reduces the overall resolution cost. Occasionally, an acquirer may get help from the Federal Deposit Insurance Corporation (“FDIC”) as insurer to complete the deal.
Single Point Entry: The FDIC will be appointed as receiver of the ultimate parent holding company of the financial group under the Single Point Entry System following the failure of the firm and the conclusion of the appointment procedure outlined in Title II of the Dodd-Frank Act. The assets of the collapsed financial firm, including its investments in and loans to subsidiaries, will be transferred into a bridge financial company when the main holding company is put under receivership. This newly established bridging finance firm will enable the business to carry out the systemically important functions.
B. Framework in United Kingdom
After the Banking (Special Provisions) Act of 2008 was repealed, the Banking Act of 2009 went into effect in February 2009[27]. It outlines the administrative procedures for UK banks, building societies, and investment banks. In order to make it easier for the Bank of England (Financial Services Authority) and Treasury to resolve insolvency concerns related to the banks and other financial institutions, the Banking Act of 2009’s Special Resolution Regime (“SRR”) provides for Bank Administration and Bank Insolvency.
In accordance with Section 7 of the Banking Act, several crucial SRR powers must first be initiated. They are dual, and both requirements must be met. First, in order for the bank to meet its “threshold requirements,” it must be failing or soon to collapse. Second, it must not be improbable that the bank will take any actions (other than maybe through the SRR) that would allow it to once again meet the threshold requirements.
The SRR[28] has three pre-insolvency stabilisation instruments, the first two of which can be used by the Bank of England and the third by the Treasury in the event that a bank is experiencing financial difficulty.
a. The sale of the bank, in whole or in part, to a private sector buyer (PSP).
b. Selling off a portion or all of the bank to a bridge bank. (The Bank of England owns and runs the business Bridge Bank.)
c. Transferring bank shares to a Treasury nominee or a business that is entirely controlled by the Treasury.
As a way to resolve the insolvent Bank, the UK SRR gives the authorities the authority to divide up a bank and implement a Partial Property Transfer (PPT). The PPT powers closely resemble, in particular, the US strategy. The FDIC creates a “receivership” in which the remaining assets and liabilities are deposited when it uses its authority to transfer some of the assets and liabilities (including financial contracts and derivatives) of a failing bank to a PSP or a bridge bank. The receivership procedure and the bank administration process that takes place in a PPT under the UK SRR are remarkably similar. In both situations, crucial resources that couldn’t be transferred may be utilised to maintain the PSP or bridge bank as needed, and assets could be shifted between the two organisations to increase the likelihood that as much of the failing bank’s assets would be sold as a going concern at a premium.
C. Framework in Japan
To maintain the stability of Japan’s financial system, the Financial Services Agency (FSA), a financial sector regulator, is in charge of overseeing the banking, securities and exchange, and insurance industries. The Minister of State for Financial Services oversees the operation of the agency through the Commissioner. It is in charge of overseeing both the Certified Public Accountants and Auditing Oversight Board and the Securities and Exchange Surveillance Commission. The framework to address the financial crisis in Japan is provided by the Deposit Insurance Act (Act No. 34 of 1971). Articles 59, 102, and 126 detail how to handle financial institution distress crises10. There are three sorts of financial institutions in Japan: locally systemic institutions, national institutions, and globally systemic institutions. There are early action tools, mainly for smaller banks, through supervision in accordance with a procedure called prompt corrective action. Small banks turn to general insolvency proceedings on a stand-alone basis if preventive efforts fail. Larger banks, however, are obliged to develop a viability plan that should include reorganising the company’s operations and enhancing the capital structure and management system.
Three possible actions are offered by general insolvency proceedings: bankruptcy, corporate reorganisation, and civil rehabilitation (liquidation).
4. CONCLUSION
The Ministry of Corporate Affairs has referred to the Rules as a temporary instrument to address the approaching crises. However, many people, especially their creditors who are now further empowered by a quicker resolution procedure and subsequent asset distribution mechanism under the “waterfall” of Section 53, are welcoming the inclusion of NBFCs under the IBC system. NBFCs will continue to be considered “financial institutions” for the purposes of Section 45-I(c) of the Reserve Bank of India Act 1934, but the abundance of judicial options frees creditors from being forced to rely only on the RBI to settle any disputes.
On the contrary, given their significant position in an economy that depends on a vital investment mechanism, mistrust develops when bankruptcy procedures are initiated against the FSP regime’s necessary participants. Therefore, it could be argued that the economy cannot be allowed to collapse in order to protect the interests of the creditors because doing so could eventually put the public’s overall interest, which is also the main stakeholder in these financial institutions, in danger if the insolvency proceedings against even a single FSP succeed. Primarily speaking, the final liquidation of an FSP conglomerate may not have any effects on the general public, but it may trigger a chain of events that is harmful to the shared goals of the investors and other stakeholders in the national economy.
Additionally, the inclusion of FSPs under the IBC regime may prove to be harmful to the code’s effectiveness given the massive amount of litigation that has followed its enforcement and the fact that its main selling point of providing creditors with a quick resolution process is hardly tenable. For instance, the Supreme Court of India recently reaffirmed the constitutional validity of homebuyers within the scope of the IBC in Pioneer Urban Land and Infrastructure Limited v. Union of India.[29] The eventual inclusion of FSPs within its purview may present infrastructure challenges for the NCLT, which is already overburdened with cases and does not currently have a basic collection of precedents to quickly resolve the litigations.
The statutory intent behind the IBC’s implementation, which was to discourage parties from moving the NCLT and avoid litigation altogether and, in turn, to persuade the corporate debtors to reach an agreement with their specific committee of creditors, is further raised by expanding its scope. The IBC-FSP regime will ultimately require a well-formulated statutory mechanism, which could be achieved in one of two ways: either by solidifying the provisions under the IBC as the only available remedy or with a tedious overhaul and subsequent revival of the FRDI.
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[1] The Insolvency and Bankruptcy Code 2016.
[2] The Insolvency and Bankruptcy Code 2016, s 3(17)
[3] The Insolvency and Bankruptcy Code 2016, s 227
[4] ibid.
[5] ‘MCA notifies Insolvency and Bankruptcy (Insolvency and Liquidation Proceedings of Financial Service Providers and Application to Adjudicating Authority) Rules, 2019 (Rules)’ (Ministry of Corporate Affairs, 15 Nov 2019) <https://ibbi.gov.in/uploads/press/c8661fa3ee5b9d40ca4f4e21eec5b05f.pdf>
[6] The Insolvency and Bankruptcy Code 2016, s 239(2)(zk)
[7] ‘Notification’ (Ministry of Corporate Affiars, 18 Nov 2019) <https://ibbi.gov.in/uploads/legalframwork/7bcd2585a9f75b9074febe216de5a3c1.pdf>
[8] Special Correspondent, ‘RBI supersedes Srei Infrastructure Finance, Srei Equipment Finance boards’ The Hindu (Mumbai, 04 Oct 2021)
[9] Reserve Bank of India Act 1934, s 45-IE
[10] The Finance (No. 2) Act 2019
[11] C.P. No. (IB)-84(PB)/2017
[12] Company Appeal (AT) (Insolvency) Numbers 32 and 50 of 2018
[13] Susan Lund, ‘A decade after the global financial crisis: What has (and hasn’t) changed?’ (McKinsey & Company, 29 August 2018) <https://www.mckinsey.com/industries/financial-services/our-insights/a-decade-after-the-global-financial-crisis-what-has-and-hasnt-changed> accessed 23 September, 2022
[14] Financial Sector Legislative Reforms Commission, Report of the Financial Sector Legislative Reforms Commission (Govt. of India, March 2013) <https://dea.gov.in/sites/default/files/fslrc_report_vol1_1.pdf>
[15] ‘RBI begins bankruptcy proceedings against DHFL, sends stressed NBFC to NCLT’ Business Standard (Bengaluru, 29 Nov 2019) <https://www.business-standard.com/article/economy-policy/rbi-begins-bankruptcy-proceedings-against-dhfl-sends-stressed-nbfc-to-nclt-119112900772_1.html>
[16] Dheeraj Wadhawan Vs. The Administrator Dewan Housing Finance Corporation Ltd.,
Company Appeal (AT) (Insolvency) No. 785 of 2020 & 647 of 2021.
[17] Bankruptcy (Insolvency and Liquidation Proceedings of Financial Service Providers and Application to Adjudicating Authority) Rules 2019, Rule 5(b)(ii)
[18] The Insolvency and Bankruptcy Code 2016, s 3(8)
[19] The Insolvency and Bankruptcy Code 2016, s 3(7)
[20] The Insolvency and Bankruptcy Code 2016, s 3(16)
[21] The Insolvency and Bankruptcy Code 2016, s 3(17)
[23] http://egazette.nic.in/WriteReadData/2020/218653.pdf.
[24]https://indianexpress.com/article/business/banking-and-finance/yes-bank-crisis-rana-kapoor-arrested-bad-loans-6307485/
[25] ]https://www.pmcbank.com/pdf/RBI-NOTICE.pdf.
[26] https://www.theglobaltreasurer.com/2009/03/03/the-banking-act-2009-an-overview/
[27] https://www.lexisnexis.com/uk/lexispsl/restructuringandinsolvency/document/393781/58HS-SWC1-F18C-C2XN-00000-00/Special_resolution_regime_for_banks_and_building_societies_overview
[28] https://www.imes.boj.or.jp/research/papers/english/17-E-02.pdf
[29] Pioneer Urban Land and Infrastructure Limited v. Union of India 2019 SCC 1005
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