A Supreme Court ruling has given personal insolvency a fresh start in India | Mint

A Supreme Court ruling has given personal insolvency a fresh start in India

The process of adjudication envisaged for an initiation of corporate insolvency and RP appointment is not applicable to the initiation of personal insolvency.
The process of adjudication envisaged for an initiation of corporate insolvency and RP appointment is not applicable to the initiation of personal insolvency.

Summary

  • We may now see repayment plans being placed before creditors to resolve personal insolvency even as promoters get a chance to wipe their slates clean for fresh beginnings.

The introduction of corporate insolvency under India’s Insolvency and Bankruptcy Code (IBC), 2016, was a watershed moment. It transformed the debtor-creditor relationship in India. Till August 2023, 26,518 applications for the insolvency resolution of companies with defaults on debt worth 9.33 trillion were withdrawn before their admission, according to data from the Insolvency and Bankruptcy Board of India (IBBI). The threat of losing ownership has changed the behaviour of debtors, many of which are opting for pre-IBC-process deals to resolve distress.

When personal insolvency provisions were introduced in December 2019, personal guarantors challenged the notification at the Supreme Court (SC) in Lalit Kumar Jain vs Union of India. While upholding the notification, the SC in May 2021 held that the liability of such a guarantor is not discharged on the discharge of the company, paving the way for initiation of insolvency resolution proceedings for guarantors.

A further challenge was mounted at the SC on the constitutional validity of Sections 95 to 100 of the IBC. Its focus was the appointment and role of a resolution professional (RP) before adjudicatory hearings by the National Company Law Tribunal or Debt Recovery Tribunal (NCLT/DRT). The RP is required to recommend whether to admit or reject the application, after which the NCLT/DRT makes a judicial determination of the appropriate choice. The main grounds of that attack were: (a) violation of natural justice on account of a lack of debt determination by a judicial body and no hearing being offered before an RP’s appointment; (b) invasion of privacy, since the RP is empowered to seek information from third parties; and (c)personal insolvency being distinct from corporate in the context of RP appointment and a hearing before the admission of an application. The SC dismissed the challenge in Dilip B. Jiwrajka vs Union of India. Some of the key findings are:

Natural justice not violated: A full-fledged evidentiary hearing is not necessary in every case. The RP collates and compiles the information or explanation furnished by the debtor and third parties, as relevant to the application, and submits a report to the NCLT/DRT along with non-binding recommendations. It cannot be assumed that a creditor-nominated RP has any bias. The pre-adjudication RP report is an example of legislative calibration; else, our tribunals will be swamped with applications, some on tiny defaults. An RP appointment has no adverse civil consequences, unlike a declaration of ‘fraud’ by banks under RBI’s circular. While adjudicating on the application after receipt of the RP’s recommendation, the NCLT/DRT must provide a hearing to the debtor, thereby meeting the test of natural justice.

Right to privacy not violated: The right to privacy is subject to reasonable restraints. The RP’s power to seek information from third parties is circumscribed, as what is sought cannot be of a roving nature, but must relate to the application. This creates a balance between the right to privacy and the legitimate objects of the statute. Therefore, the RP’s power to seek financial information relevant to the application does not impinge upon privacy.

Corporate and individual insolvency resolutions differ: These are distinct processes. The process of adjudication envisaged for an initiation of corporate insolvency and RP appointment is not applicable to the initiation of personal insolvency. The RP has a much wider role in corporate cases than in personal insolvency. No provision empowers the RP to take over the assets or business of an individual.

Personal insolvency in India existed earlier under the Provincial Insolvency Act, 1920, and Presidency Towns Insolvency Act, 1909. However, these were used by debtors for personal protection and rarely by creditors, given the judicial delays, etc. Dilip B. Jiwrajka changes personal insolvency.

What does it mean for creditors? It has become routine for corporate resolution plans to let creditors retain the right to proceed against personal guarantors and access promoter collateral to recover more money and reduce the haircut imposed. However, in the absence of a personal insolvency regime under the IBC, this right was restricted by the same concerns and issues as the debt resolution regime previously (such as a backlog in courts leading to delays, litigious promoters, etc). As an outcome, we may see repayment plans being placed before creditors to resolve personal insolvency. The institution of simultaneous corporate and personal insolvency can give us a comprehensive solution to the problem of defaults and address linkages between corporate and personal insolvency (such as the assignment of debt by creditors under a resolution plan, availability of property owned by a promoter for company use, and subrogation of the guarantor).

What does it mean for promoters? They get an avenue to settle past dues and start afresh with greater certainty of outcomes. Indian promoters who have given guarantees could now spend less time on litigation and seize this opportunity to arrive at settlements and implement repayment plans. The successful implementation of pay-back programmes may enable these promoters to re-access credit markets (after a cooling-off period). This will enable them, and in some family-business cases their next generation, to participate more in India’s growth story.

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