Coronavirus Fallout: Don’t Suspend IBC, Try This Instead

Although the fine print of the amendment is yet to be released by the government, it may not be desirable to suspend rights of a party to invoke the IBC for the reasons discussed below.

Consequently, in our view, instead of suspending new insolvency filings, the government may consider adopting a nuanced approach by amending certain other provisions of the IBC with a view to ensure that the interests of borrowers/promoters as well as creditors are adequately protected.

Here are the key arguments in favour of non-suspension of new insolvency filings and a potential alternate approach.

Why New Filings Should Not Be Suspended

Firstly, there is no alternate mechanism available under Indian law to restructure all debts or liabilities of a borrower. In times like these, several companies may require restructuring of their debt/liabilities to stay afloat. The IBC suspension would take away a most powerful and in fact the only viable mechanism available to borrowers and creditors to restructure their debt and revive stressed companies.

To be clear, the Reserve Bank of India’s framework for resolution/restructuring cannot be seen as an alternate to the IBC as the RBI framework is not binding on bond holders such as mutual funds, foreign lenders, insurance companies, operational creditors and governmental authorities.

Secondly, the proposed IBC suspension deprives creditors and corporate debtors to decide on an insolvency filing based on commercial realities. Obviously this would be done to discourage frivolous filings. This suggests the government does not have faith in capabilities of various stakeholders (including government-owned banks) to take commercially prudent decisions.

If the fear is that an operational creditor or small financial creditor pushes a company into insolvency, it is prudent to remember that other financial creditors would be entitled under Section 12A of the IBC to take the company out of the IBC.

Also, a blanket suspension sends a negative signal to investors/lenders that their contractual rights or statutory rights are not sacrosanct in India and may be taken away by the government.

Nations with advanced bankruptcy regimes, such as the U.K. and the U.S., have not provided any blanket protection from insolvency filings to all borrowers. While others, such as Germany, France and Australia, have suspended insolvency flings, such suspension appears to be primarily aimed at provisions in their laws to mandatorily file for insolvency in certain situations.

Thirdly, the proposed IBC suspension would prioritise the interest of corporate debtors/borrowers over the interests of some creditors. Non-payment of dues by the corporate debtor accompanied with no scope for resolution could push several operational creditors, individuals and small businesses especially, themselves to insolvency proceedings in the near future.

Further, such suspension may potentially benefit unscrupulous promoters by taking away right of creditors to oust such promoters. Deterioration of value of assets of corporate debtor on account of such suspension due to unavailability of an alternate framework for resolution is also a major concern.

Alternate Approach

Given the concerns around a blanket suspension of IBC, the government can consider adopting a nuanced and balanced approach to protect the interest of borrowers as well as creditors affected by the Covid-19 crisis.

Section 29A disqualifies a promoter from submitting a resolution plan if borrowings of such promoter have been classified as non performing asset for a period of one year. If the intent is to protect promoters/borrowers from financial stress caused due to Covid-19 crisis, the government may exclude this crisis period, say 6-12 months, from computation of the one-year period under Section 29A.

Similarly, directors of borrower companies may be provided protection from the rigours of Section 66 of the IBC which requires director of a company to protect the interest of its creditors if such director knew that there was no reasonable prospect of avoiding insolvency. Failure of a director to comply with this section exposes a director to unlimited personal liability. Given the onerous nature of this section and reasonable likelihood of several companies being exposed to threat of insolvency due to the Covid-19 crisis, the government could consider giving immunity to directors from this provision. This will enable directors to operate with greater freedom in response to challenges posed by the pandemic. It is pertinent to mention that analogous provisions have been suspended in U.K. and Australia.

Further, the government can consider providing exclusion of six/twelve months period for the purposes of limitation period under the IBC. While the Supreme Court has already issued an order saying that the period of national lockdown would be excluded while calculating the period of limitation provided in various legislations (including IBC), as the order is limited to the period of national lockdown an exclusion of six/twelve months period by the government is desirable. The underlying idea should be to ensure that no creditor or borrower is either forced or incentivised to resort to IBC due to the Covid-19 crisis. In this regard, the RBI’s decision to extend the period of restructuring under its June 7, 2019 circular is commendable as it takes away incentives of banks and NBFCs to resort to insolvency filings.

Another measure which would be important for protection of interest of creditors would be to exclude the six/twelve months period of Covid-19 crisis while determining the claw-back period provided under the IBC for reversal of preferential, fraudulent and undervalued transactions. Currently, the IBC permits claw-back for a period of two years for related parties and one year for non-related parties.

The above discussed alternate approach would likely balance the interest of creditors as well as borrowers. Non-suspension of right to file for insolvency would also give a positive signal to investors/lenders by demonstrating that the government would not take away rights of borrowers and lenders to make appropriate commercial decisions, especially considering that the IBC is the only viable tool available under Indian laws to restructure all sorts of liabilities of a borrower.

Ramakant Rai is partner in the corporate practice at law firm Trilegal.

The views expressed here are those of the author and do not necessarily represent the views of BloombergQuint or its editorial team.