By: Shuchi Agrawal and Tejaswini Tripathy (ALA Legal, Advocates and Solicitors)
Since its inception, the Insolvency and Bankruptcy Code, 2016 (hereinafter referred to as “the Code”) has ushered in a new financial culture, which is responsive and vibrant. The Code has yielded positive outcomes by way of bringing in a systematic and institutionalized framework in restructuring of stressed assets from the debt-ridden economy.
Prior to the Insolvency and Bankruptcy Code (Second Amendment) Act, 2018, there was no clarity regarding the rights of home-buyers, either as financial creditors or as operational creditors under Code. Due to this lack of clarity regarding the position of home buyers in the Code, they were deprived of, firstly, the right to initiate the corporate insolvency resolution process (“CIRP”), secondly, the right to be on the CoC, and thirdly, the guarantee of receiving at least the liquidation value under the resolution plan. This ambiguity enabled real estate developers to continuously evade the claims of home-buyers.
Even the courts have opted for divergent views regarding the status of home buyers within the Code. On one hand in the case of Nikhil Mehta v. AMR Infrastructure, MANU/NL/0124/2017, they have been classified as ‘financial creditors’ and in the other hand in the case of Col. Vinod Awasthy v. AMR Infrastructure Ltd., Delhi, CP No. (IB)-10(PB)/2017, they were categorized as neither fitting within the definition of ‘financial’ nor ‘operational’ creditors. Therefore, the said ambiguity was not even resolved by judicial pronouncements.
Considering the absolute need to categorize these home buyers, the Insolvency Law Committee in March, 2018 was constituted. The March 2018 Report of the Insolvency Law Committee noted that amounts raised under home buyer contracts is of significant amount, which contributes to the financing of construction of an asset in the future and thus, recommended that home buyers should be treated as financial creditors. The Committee also noted the fact that significant confusion had arisen regarding the status of buyers of under-construction apartments as creditors under the Code. The Report concluded that the current definition of ‘financial debt’ was sufficient to include the amounts raised from home buyers. However, to end the confusion and multiple interpretations the Report felt prudent to explicitly clarify that the home buyers would fall within the definition of financial creditor, by inserting the appropriate explanation in Section 5(8)(f) of the Code.
On the recommendation of the Insolvency Law Committee, the Code was amended by the Insolvency and Bankruptcy (Second Amendment) Act, 2018 wherein these home buyers were specifically included within the definition of “financial creditors” by inserting an “Explanation” clause under Section 5(8)(f) of the Code.
The constitutional validity of the said explanation was challenged before the Hon’ble Supreme Court by the builders/ developers in the case of Pioneer Urban Infrastructure Ltd. v. Union of India. The Bench comprising of Justice Rohinton Nariman and Justice Surya Kant observed that home buyers were always subsumed within the category of Financial Creditors since the inception of the Code under Section 5(8)(f) and the insertion of the explanation to that effect is merely clarificatory in nature.
However, the said dispute arose again when the Insolvency and Bankruptcy Code (Amendment) Ordinance, 2019 (hereinafter referred to as “Ordinance”) was brought into force. By virtue of Section 3 of the Ordinance, three provisos were inserted in Section 7 of the Code. In respect of the home buyers second and third proviso are relevant and the same are extracted as follows:
“In section 7 of the principal Act, in sub-section (1), before the Explanation, the following provisos shall be inserted, namely:—
Provided further that for financial creditors who are allottees under a real estate project, an application for initiating corporate insolvency resolution process against the corporate debtor shall be filed jointly by not less than one hundred of such allottees under the same real estate project or not less than ten per cent. of the total number of such allottees under the same real estate project, whichever is less:
Provided also that where an application for initiating the corporate insolvency resolution process against a corporate debtor has been filed by a financial creditor referred to in the first or second provisos and has not been admitted by the Adjudicating Authority before the commencement of the Insolvency and Bankruptcy Code (Amendment) Ordinance, 2019, such application shall be modified to comply with the requirements of the first or second provisos as the case may be within thirty days of the commencement of the said Ordinance, failing which the application shall be deemed to be withdrawn before its admission.”
In terms of second proviso a pre-condition in the nature of a threshold has been imposed on the home buyers. As per the said condition an application under Section 7 can be initiated by allottees under a real estate project (“Home buyers”) only when such application is filed jointly by a minimum of 100 home buyers or 10% of the total number of home buyers in the same real estate project. That is to say by way of such proviso a single home buyer was barred from initiating CIRP against the defaulting developer.
By way of third proviso (inserted by way of Section 3 of the Ordinance) all the pending applications which were not admitted by the NCLT before the coming into force of the Ordinance, shall be modified to comply with the conditions mentioned in the Second proviso within 30 days of the Ordinance and failing which the application shall be deemed to be withdrawn. Thus, the conditions mentioned in the second proviso have been given retrospective operation. Such retrospective application of the provision would largely impair the rights of the home buyers whose applications were pending for admission before the NCLT.
The imposition of such an unreasonable restriction on the home buyers has again reduced their status for being eligible to initiate the insolvency process under the Code. The buyers are hindered from reaping the benefits of the Code as being covered under the class of Financial Creditors. Therefore, the ambit of explanation to Section 5(8)(f) which specifically includes the home buyer within the definition of “Financial Creditors” has grossly been reduced, thereby rendering it completely ineffective and redundant.
Moreover, it seems that the above Ordinance has been brought in a hurried manner specifically when the Insolvency and Bankruptcy (Second Amendment) Bill, 2019 containing the said amendment was referred to the Standing Committee by the Hon’ble Speaker of Lok Sabha, few days back, for their recommendations and report. Moreover, no specific quantifiable data and statistics were placed on record before promulgating such Ordinance.
Further, the Ordinance does not provide for any remedy in case one of the home buyers withdraws from application filed before the NCLT thereby reducing the no below the said threshold. This situation would certainly jeopardize the interest of all of the remaining home buyers.
The condition brought by way of the second proviso is manifestly arbitrary and prejudicial especially when the ordinary financial creditor is allowed to file an application before the NCLT against the defaulting corporate debtor if the claim is of Rs. 1 lakh and on the contrary, the home buyer whose debt amount in most cases is more than Rs. 50 lakh is debarred from triggering the Code. More so the Hon’ble Supreme Court has also in various pronouncements emphasized that the interest of the home buyers should be safeguarded under the Code.
Currently, the Section 3 of the said Ordinance which imposes the minimum threshold on the home buyers for initiating the insolvency process, is under challenge before the Hon’ble Supreme Court in the case of Manish Kumar v. Union of India, via a writ petition bearing No. 26/2020 on the grounds of being violative of fundamental rights guaranteed under Articles 14 and 21 of the Constitution. The Hon’ble Supreme Court in the above case vide its order dated 13.01.2020 has maintained status quo of all the pending applications till further orders.
Therefore the position of home buyers as financial creditors under the Code is once again under serious ambiguity because of the above Ordinance. Now, the fate of these home buyers will only attain finality after the Hon’ble Supreme Court renders its decision in the above writ petition.
 Banikinkar Pattanayak, Bankruptcy Code: Are homebuyers secured financial creditors?, FINANCIAL EXPRESS (15th March, 2019, 15:15 PM), https://www.financialexpress.com/market/exclusive-bankruptcy-code-are-homebuyers-secured-financial-creditors-read-builder-agreement-carefully/1241276/