Government set up “INSOLVENCY LAW COMMITTEE” on 16th November, 2017, to make recommendations to the Government on issues arising from the implementation of the Insolvency and Bankruptcy Code, 2016, as well as on the recommendations received from various stakeholders.
The Committee was constituted with the mandate of making recommendations on:
1. Issues arising from the functioning and implementation of the Code,
2. Issues that may impact the efficiency of the corporate insolvency resolution and liquidation framework prescribed under the Code, and
3. Any other relevant matters as it deems necessary.
Important Suggestions in the Report of the Insolvency Law Committee- March 2018 are as follows:
♦ Non-inclusion of home buyers within either the definition of ‘financial’ or ‘operational’ creditors:
Multiple judgments have categorised buyers of under-construction apartments (“home buyers”) as neither fitting within the definition of ‘financial’ creditors nor ‘operational’ creditors.
It deprives them of
1. The right to initiate the corporate insolvency resolution process (“CIRP”),
2. The right to be on the committee of creditors (“CoC”) and
♦ The guarantee of receiving at least the liquidation value under the resolution plan.
In the case of home buyers, the amounts raised under the contracts of home buyers are a means of raising finance. Thus, the Committee deemed it prudent to clarify that such amounts raised under a real estate project from a home buyer fall within entry (f) of section 5(8).
The Committee concluded that the current definition of ‘financial debt’ is sufficient to include the amounts raised from home buyers/allottees under a real estate project, and hence, they are to be treated as financial creditors under the Code. However, given the confusion and multiple interpretations being taken, it may be prudent to explicitly clarify that such creditors fall within the definition of financial creditor, by inserting an explanation to section 5(8)(f) of the Code.
The Committee also agreed that resolution plans under the Code must be compliant with applicable laws, like RERA.
♦ Operational Debt:
The definition of ‘operational debt’ is key to determine the scope of ‘operational creditors’ envisaged under the Code. Section 5(20) of the Code defines an operational creditor to mean “a person to whom an operational debt is owed and includes any person to whom such debt has been legally assigned or transferred”.
It was suggested to the Committee that the definition of ‘operational debt’ under the Code must be widened to include dues payable to regulators. The Committee noted that regulatory dues were intentionally not included in the definition of operational debt. It was discussed that if any claim or obligation arises pursuant to non-payment by a corporate debtor in lieu of any goods or services provided by a regulatory body, it may be interpreted as ‘operational debt’ on a case to case basis. The Committee also noted that, regulators generally have wide ranging powers to enforce their orders and recover dues.
The Committee after due deliberation, unanimously agreed that regulatory dues need not be included in the definition of “operation debt”.
♦ Replacement of word “Payment” with “Repayment”:
The Committee decided that since the term ‘repayment’ under section 5(21) of the Code may not be suitably construed to include ‘payment’ of taxes or cesses or such other dues arising under any law for the time being in force, it must be replaced with the term ‘payment’ which has a wider and more relevant import.
♦ Related party:
The Committee was apprised of cases wherein a financial creditor holding a large portion of financial debt in the corporate debtor was excluded from the CoC on account of equity or preference shares of the corporate debtor held by it pursuant to a previous debt restructuring. Such financial creditors are presently covered within the ambit of related party.
At present, several financial creditors such as banks and ARCs fall within the ambit of the definition of ‘related party’ in relation to the corporate debtor. As a result, such creditors are debarred from participating, being represented or voting in any meeting of the CoC in accordance with the proviso to section 21(2) of the Code.
Financial creditors which are regulated by financial sector regulators and who become related parties solely on account of conversion or substitution of debt into equity shares or instruments convertible into equity shares, prior to the insolvency commencement date, shall not be considered related parties for the prohibition in the proviso to section 21(2) of the Code.
♦ Insolvency Resolution by Operational Creditor:
As per section 8 of the Code, an operational creditor is required to deliver a demand notice on occurrence of a default. Within 10 days from the receipt of the demand notice, the corporate debtor shall bring to the notice of the operational creditor the “existence of a dispute, if any, and record of the pendency of the suit or arbitration proceedings filed before the receipt of such notice or invoice in relation to such dispute”.
The decision of the Hon’ble Supreme Court in Mobilox Innovations Private Limited v. Kirusa Software Private Limited27 clarifies that the dispute must be existing prior to the receipt of the notice and can be in a form other than a pending suit or arbitration proceeding.
Thus, it was decided to amend section 8(2)(a) to replace ‘and’ with ‘or’, to be in line with the judgement of the Hon’ble Supreme Court discussed above, and the intent of the legislature.
♦ Requirement for Operational Creditors to Submit a Certificate from Financial Institutions:
Section 9(3)(c) of the Code provides that an operational creditor shall, along with the application, provide a certificate from a financial institution maintaining the accounts of the operational creditor, confirming that no payment of an operational debt has been received from the corporate debtor.
The definition of ‘financial institution’ under section 3(14) does not include foreign banks and non-scheduled banks, thus creating a void for filing of applications by creditors with bank accounts in foreign or non-scheduled banks.
The process of availing such certification may be cumbersome if the creditor has multiple bank accounts.
The Committee was of the view that the requirement provided in section 9(3)(c) be made optional and other means of proving non-payment of operational debt by corporate debtor, like records with IUs or any other such proof as may be notified by the Central Government, may be provided for.
♦ Initiation Of CIRP by the Corporate Applicant:
A corporate applicant may file an application with the NCLT to initiate a CIRP against the corporate debtor as per section 10 of the Code. Section 5(5) of the Code defines a ‘corporate applicant’ as either
1. a corporate debtor;
2. a member or partner of the corporate debtor authorised to make the application under constitutional document of the corporate debtor;
♦ an individual in charge of managing operations and resources of the corporate debtor; or
1. a person who has control and supervision over financial affairs of the corporate debtor.
The Committee noted that a requirement for approval by shareholders or partners of the corporate debtor which is a company or an LLP, as the case may be, may be essential as CIRP is a significant event for a corporate debtor which may also lead to its liquidation.
The Committee felt that the shareholders or partners, as the case may be, must be given the power to approve initiation of CIRP by a corporate applicant and a provision mandating approval by them may be inserted.
Since the Committee has recommended a shareholder approval to be taken for filing an application for CIRP by the corporate applicant, to this extent, shareholders will be aware of this action. Representations were received by the Committee that the Code must mandate the corporate applicant to intimate all stakeholders, especially its shareholders and financial creditors regarding filing of CIRP by itself, and commencement of CIRP.
♦ Last Date for Submission of Claims:
The Committee deemed it fit to explicitly provide in the Code that the IBBI has the power to specify the last date for submission of claims, to provide for further flexibility in streamlining the timelines within the CIRP in relation to submission of claims.
♦ Trigger Of CIRP by Financial Creditors:
The Code defines a “financial creditor” to mean a person to whom a financial debt is owed and includes a person to whom debt has been legally assigned or transferred. The highlighted issue was whether a guardian, administrator, executor, or debenture trustee65 of a financial creditor are permitted to file for insolvency of the corporate debtor under the Code.
It may be noted that the jurisdiction of the NCLT is not restricted to deal with insolvency of corporate debtors only on application of the financial creditor, and not their authorised representatives.
Therefore, the Committee reached a consensus that the intent of the Code was not to bar a guardian of a financial creditor, administrator or executor of estate of a financial creditor or debenture trustee and the like to trigger insolvency of a corporate debtor, and be a part of the CoC. Thus, it was agreed that an explicit amendment to the definition of financial creditor may not be required as the above-mentioned entities are not financial creditors per se, however, relevant amendments to the sections relating to CoC in the Code and CIRP Rules may be made such that the authorised representatives may be permitted to (i) file application on behalf of the financial creditor, and (ii) may attend and vote in the meetings to the extent of the voting share of the financial creditor and as per their instructions. Further, an enabling provision to notify other entities who may file an application on behalf of financial creditors may be provided for in the Code.
♦ Voting Share Threshold for Decisions of the CoC:
Section 21(8) of the Code provides that all decisions of the CoC shall be taken by a vote of not less than 75 percent of the voting share of the financial creditors. Regulation 25(5) read with regulation 26 of the CIRP Regulations provides that if all members of the CoC are not present, an option to vote through electronic means must be provided.
It was represented to the Committee that the high threshold of 75 percent of voting share of financial creditors for decisions of the CoC was proving to be a road-block in the resolution process. Effectively, as a result of the high threshold, blocking the resolution plan and other decisions of the CoC, was easier than approving these.
After due deliberation and factoring in the experience of past restructuring laws in India and international best practices, the Committee agreed that to further the stated object of the Code i.e. to promote resolution, the voting share for approval of resolution plan and other critical decisions may be reduced from 75 percent to 66 percent or more of the voting share of the financial creditors.
♦ Eligibility to Submit a Resolution Plan:
Section 29A was added to the Code by the Amendment Act. Owing to this provision, persons, who by their misconduct contributed to the defaults of the corporate debtor or are otherwise undesirable, are prevented from gaining or regaining control of the corporate debtor.
A person shall not be eligible to submit a resolution plan, if such person, or any other person acting jointly or in concert with such person” suffers from any of the infirmities stated in clauses (a) to (i) or “has a connected person not eligible under clauses (a) to (i).”
If the latter interpretation is taken, this provision would be applicable to multiple layers of persons who are related to the resolution applicant even remotely. Further, ARCs, banks and alternate investment funds which are specifically excluded from the definition of ‘connected person’ provided in section 29A may be caught by the term ‘person acting jointly or in concert with such person‘. The Committee felt that section 29A was introduced to disqualify only those who had contributed in the downfall of the corporate debtor or were unsuitable to run the company because of their antecedents whether directly or indirectly
Accordingly, the Committee felt that the words, “if such person, or any other person acting jointly or in concert with such person” in the first line of section 29A must be deleted.
This would clarify that section 29A is applicable to the resolution applicant and its connected person only. Further, in order to ensure that anyone who acts with a common objective along with the resolution applicant to acquire shares, voting rights or control of the corporate debtor is required to pass the test laid down in section 29A
It was brought to the Committee’s attention that given the nature of business undertaken by ARCs, scheduled banks and Alternate Investment Funds, overseas financial institutions, and entities such as Investment Vehicles, registered Foreign Institutional Investors, Registered Foreign Portfolio Investors and Foreign Venture Capital Investors (“Financial Entities“), they are likely to be related to companies that are classified as non-performing assets (“NPA”) and consequently be disqualified under section 29A. The Committee agreed that such pure play Financial Entities must be exempt from the disqualification in clause (c) of section 29A of the Code which debars persons who have an NPA account or control or are promoters or in the management of a corporate debtor that is classified as an NPA account from being resolution applicants.
The World Bank Doing Business’ Index 2018 recognized the sustained efforts and commitment of the Government of India as this year India became one of the top 10 ‘improvers’ in the rankings released by the World Bank. However, improving on the Doing Business rankings is not an easy task, especially for an economy that is as large and complex as India’s. Drafting a new piece of legislation is only the start. The more significant challenge is ensuring that the law is implemented in its true spirit. This can be achieved by periodically evaluating the law, especially when it is in its initial stages and practical challenges in implementation emerge.