Understanding Insolvency and Bankruptcy Code

Opinion---Sherry-Oommen

Entrepreneurship is considered as a key driving force behind economic growth. A budding entrepreneur is expected to know laws, rules and regulations for the effective management of business. Yet, failure among startups is not entirely uncommon in a fiercely competitive market where every opportunity to undercut an opponent is pursued. An uncomfortable but relevant question every entrepreneur should ask is what will be the impact if the enterprise fails?

While laws regulating the functioning of businesses, such as Companies Act, have been the subject of frequent legislative interference, the Insolvency laws in India are indeed ancient; namely the Presidency Towns Insolvency Act, 1909 and Provincial Insolvency Act, 1920.

These archaic laws have now been repealed, and 11 other laws have been amended, with the notification of the Insolvency and Bankruptcy Code, 2016 (Code) in the Gazette on May 28, 2016, where after it came into force. With regard to liquidation of businesses, the Code represents the fourth generation of reforms, after the previous enactments of Sick Industrial Companies Act (1985), The Recovery of Debts Due to Banks and Financial Institutions Act (1993), and the SARFAESI Act (2002).

Application of the Code

The Code is envisaged as a mechanism for insolvency, liquidation, voluntary liquidation or bankruptcy of businesses, including Companies, Limited Liability Partnerships (LLPs), Partnership Firms, Individuals and any other body as may be notified.

Institutional Actors

The Code aims to create a mechanism for institutionalising the insolvency process and a new class of qualified Insolvency Professionals who will be licenced to operate under the aegis of a new agency – Insolvency Professional Agency (IPA). These newly-formed IPAs will themselves be registered under the Insolvency and Bankruptcy Board of India (Board). The Code also authorises the creation of ‘Information Utilities’ (IUs) which would store information pertinent to the indebtedness of companies in electronic databases.

Adjudicating Tribunals and Appellate Authorities

For Companies and LLPs, the adjudicating authority is the National Company Law Tribunal (NCLT). Appeals from NCLT shall be made in the National Company Law Appellate Tribunal (NCLAT). Recently, the NCLT and the NCLAT have been constituted by the Central Government with effect from June 1, 2016. For Individuals and Partnership Firms, the Debt Recovery Tribunal (DRT) shall be the adjudicating authority, and appeals shall be made in the Debt Recovery Appellate Tribunal (DRAT).

Structure of Corporate Insolvency Process

While the insolvency process is broadly similar for all entities involved, we shall explain the corporate insolvency process, as its impact is vital.

Creditors:  There is a clear-cut distinction between ‘Financial Creditor’ and ‘Operational Creditor’ under Section 2. The distinctions ought to be carefully perused as the procedures to be followed are slightly different. While a ‘Financial debt’ is a debt in the normal sense, ‘Operational debt’ means a claim in respect of the provision of goods or services or a debt in respect of the repayment of dues.

Demand Notice: For Operational Creditors, upon the event of a default, a notice of demand is required to be sent to the debtor as provided under Section 8 of the Code. If payment is not made in 10 days from the date of delivery of notice, an application may be filed by the Operational Creditor before the NCLT. Financial Creditor may directly file an application under Section 7 upon default before NCLT. The date of admission is known as the Insolvency Commencement Date.

Interim Insolvency Professional: Within 14 days from the Insolvency Commencement Date, the NCLT will appoint an Interim Insolvency Professional or Interim Resolution Professional, as provided under Section 16 of the Code. The Interim IP has a term of 30 days. Upon appointment, he/she will take charge of the affairs of the debtor and perform certain tasks, of which the most important is the constitution of the Committee of Creditors under Section 18.

Creditors’ Committee: Within seven days of the constitution of the Committee of Creditors, a meeting ought to be held. In the meeting, by way of a 75 per cent majority, the creditors may either confirm the Interim IP as an IP, or appoint another IP.

Duties of the IP: The IP, upon confirmation or re-appointment, as the case may be, will prepare an information memorandum. Based on this memorandum, the Applicant will prepare a Resolution Plan, which will have to be approved by the Creditors’ Committee.

Adjudicating Authority: The NCLT may either approve or reject the Resolution Plan. If approved, the Resolution Plan is considered binding.

Liquidation Process: If the Insolvency fails for any reasons under the Code such as rejection by NCLT or failure to approve the Resolution Plan within 180 days by the Creditors’ Committee, or if the Creditors’ Committee decides to liquidate the assets by a 75 per cent majority at any point of time, the liquidation process will be initiated. If the NCLT passes an order for liquidation, the IP shall act as the liquidator. Appeal against such liquidation order of NCLT is extremely time-bound, and will be entertained only on very limited grounds.

Conclusion

Any healthy startup ecosystem will allow viable and adaptable businesses to thrive, while accommodating speedy course correction for entrepreneurs who want to explore other opportunities. In combination with the much-delayed GST, the Code is part and parcel of a concerted attempt to improve the ease of incorporating, managing and liquidating a business in India, which would meaningfully impact FDI inflows into the country.

(The author is Head, Tax and Corporate Laws, Nash Capital Partners, Kochi; www.nashcp.com)