SC overreach undermines the purpose of IBC

By Sonam Gupta, Bharucha & Partners
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The Supreme Court in Dena Bank (now Bank of Baroda) v C Shivakumar Reddy held that a money decree or adjudication of a claim creates a fresh cause of action for a financial creditor to initiate the corporate insolvency resolution process (CIRP) against a corporate debtor. This has created a new mode for executing decrees and judgments, and allows the Insolvency and Bankruptcy Code, 2016 (IBC), to be used for coercive recovery.

Sonam Gupta, Bharucha & Partners
Sonam Gupta
Partner
Bharucha & Partners

In 2011, Kavveri Telecom Infrastructure Limited (KTIL) borrowed INR450 million (USD6 million) from Dena Bank (bank). After KTIL defaulted on its payments, its account was declared a non-performing asset (NPA) in 2013. The bank rejected KTIL’s request to restructure the loan and, in 2017, obtained a recovery certificate from the Debts Recovery Tribunal (DRT) for the monies KTIL owed. The recovery certificate remained unsatisfied, but, rather than filing for execution, the bank applied in 2018 to the National Company Law Tribunal (NCLT) for a CIRP in respect of KTIL.

KTIL contended that the limitation period expired three years after the issue of the NPA certificate. The bank then amended its application and filed additional documents including KTIL’s accounts, the DRT proceedings and one-time settlement (OTS) proposals. The NCLT allowed the application, holding that KTIL’s acknowledgement of its debt in the OTS proposals extended the period of limitation. However, the National Company Law Appellate Tribunal (NCLAT) set aside the order, holding that the bank had maliciously sought to execute the order of the DRT instead of facilitating KTIL’s insolvency resolution or liquidation. The NCLAT also held that the OTS proposals did not extend the limitation period. The bank appealed to the Supreme Court.

Relying on section 7(5) of the IBC, the Supreme Court held that the bank’s application was maintainable having been filed within three years of the first acknowledgement of liability, when KTIL partially paid the outstanding interest in 2014. Further, KTIL’s accounts reflected the amounts owed to the bank as debts. In the court’s view, a fresh cause of action had arisen when the DRT issued the recovery certificate.

This decision may have far-reaching consequences. Permitting a decree holder to proceed under the IBC as a financial creditor may encourage other such creditors, both financial and operational, to initiate CIRPs to recover monies instead of filing execution proceedings. This is contrary to the IBC’s underlying purpose of facilitating the corporate debtor’s revival and recovery under the supervision of a resolution professional.

The Supreme Court did not hold that a decree or judgment must have attained finality. This may impinge on the corporate debtor’s right of appeal against such a decree or judgment. In the absence of a clear direction from the court, it is uncertain how the NCLT and the NCLAT should rule if a judgment debtor applies to initiate a CIRP while appeal proceedings against that decree are pending. If a judgment debtor or decree holder may initiate CIRP proceedings before the decree becomes final, this could result in severe adverse consequences for a corporate debtor.

The judgment may also lead to operational creditors applying to the NCLT for a CIRP on the grounds of parity. The judgment did not confirm that the nature of the underlying debt determines the class of creditors to which the decree holder belongs. Therefore, operational creditors may seek to be classified as financial creditors by virtue of being judgment debtors.

The IBC is not meant to be an alternative method for creditors to recover monies due from delinquent borrowers. It was the legislative intent to discourage the frivolous initiation of CIRPs, as is clear from the amendments made to the IBC in 2020, introducing a higher threshold for real estate allottees seeking to initiate CIRPs. The Supreme Court’s decision is ambiguous and may lead to creditors misusing the IBC. The decision creates an undesirable overlap between the IBC and debt recovery laws.

The Supreme Court should have set conditions for decree holders to apply to initiate CIRPs. It should have held that a decree-holder may only apply under the IBC once the decree has become final, and that the nature of the underlying debt determines whether the decree-holder is a financial creditor or an operational creditor.

Sonam Gupta is a partner at Bharucha & Partners. Kshitiz Rao, an associate, also assisted with the article

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