India’s Insolvency and Bankruptcy Code, 2016: a long-awaited legislative framework to manage bad debts

August 2016 | LEGAL & REGULATORY | BANKRUPTCY & RESTRUCTURING

Financier Worldwide Magazine

While the Indian economy is growing at a healthy speed of 7 percent to 7.5 percent, difficulties in the resolution of corporate insolvencies in a timely manner is becoming a major drag on the economy, resulting in banks in India reeling under huge bad debts. There has been a significant push for an effective legislative framework to resolve insolvency cases in a time bound manner. Considering this, the Indian parliament has recently passed the Insolvency and Bankruptcy Code, 2016 (Insolvency Code), which is expected to be implemented soon. The Insolvency Code provides for a defined timeframe for resolution of insolvencies and liquidation of corporates. It also provides for the establishment of a separate regulatory and adjudication framework which will be responsible for controlling and monitoring the resolution of insolvencies and liquidation.

The need for Insolvency Code

The legislative framework in India has long lacked a cohesive and comprehensive single law to deal with insolvencies. Multiple laws and regulations dealing with these subjects resulted in complexities in processes, overlapping of jurisdictions of multiple judicial forums and unreasonable delays in effective outcome. In fact, as per a recent World Bank report, the average time to resolve insolvency in 2014 was over four years in India. Further, only Indian banks and big financial institutions were ‘armed’ under the country’s previous debt recovery laws, a large section of non-banking financial companies, foreign lenders and other creditors were left at the mercy of civil courts for recovery of their debts where an outcome takes years. The Department of Financial Services, in its report of companies under liquidation as on 31 October 2015, observed that there were 1479 pending winding up cases for more than 20 years. A single law was required to overcome these issues and therefore parliament enacted the Insolvency Code so as to bring all stakeholders under one forum for the purposes of handling insolvencies and liquidation within strict timelines under transparent processes.

Institutional framework under the Insolvency Code

Under the Insolvency Code, the government will set up an Insolvency and Bankruptcy Board of India (IBBI). The IBBI will perform the role of a regulator for insolvency and bankruptcy matters with powers to frame regulations to implement the Insolvency Code. The IBBI will have regulatory oversight over insolvency professional agencies, insolvency professionals and informational utilities.

The National Company Law Tribunal (NCLT) will act as adjudicating authority with quasi-judicial powers. The insolvency resolution and liquidation processes will be monitored and overseen by NCLT. An appeal against the orders of NCLT will lie in the National Company Law Appellate Tribunal, from which appeals can be filed before the Supreme Court of India.

The insolvency professional agencies registered with the IBBI, will, under the oversight of the IBBI, develop the framework and guidelines required to be adhered to by insolvency professionals. Those insolvency professionals enrolled with the insolvency professional agencies and registered with the IBBI will play the role of facilitator during the insolvency process and act as liquidator in liquidation process. Huge faith has been reposed in the insolvency professional agencies and the insolvency professional under the Insolvency Code for effective implementation of the Insolvency Code.

The information utilities will act as repositories of credit information with regard to financial dealings of the corporate borrower. These will collect, collate, authenticate and disseminate financial information from listed companies and financial and operational creditors of companies. Information utilities will require registration with the IBBI.

Insolvency resolution process

Speed is the fulcrum of an effective resolution of credit default and restructuring. The Insolvency Code provides for a time bound insolvency resolution and restructuring process. It sets a timeline of 180 days with one time extension of 90 days for initiation and completion of the insolvency process from the date on which the insolvency application is admitted by NCLT. The insolvency process in relation to a corporate debtor upon a credit default by the corporate debtor can be triggered by its financial or operational creditor or the corporate debtor itself by making an application to NCLT. Upon receipt and verification of the application, NCLT will admit the application triggering the insolvency resolution process. NCLT will: (i) appoint an insolvency professional to coordinate the resolution process and manage the corporate debtor during the insolvency resolution process; (ii) call for submission of claims from all creditors; and (iii) declare a moratorium in relation to the corporate debtor. The insolvency professional will prepare an information memorandum and assist the financial creditors and the stakeholders to draw up a comprehensive resolution plan with respect to the corporate debtor. The resolution plan is required to be approved by 75 percent of the financial creditors. If a resolution plan cannot be agreed upon within the said timelines, a liquidation process vis-à-vis the corporate debtor will be initiated.

Liquidation process

Upon expiry of the resolution period in the absence of a resolution plan, NCLT will pass an order of liquidation of the corporate debtor. Once the liquidation process is set in motion, NCLT will take over all pending and future legal proceedings relating to the corporate debtor and its assets. The liquidation will be carried out by the insolvency professional in the capacity of a liquidator, who will receive claims in a time bound manner, compile details of assets of the corporate debtor and put a plan for liquidation of assets and settlement of claims. The claims will be settled in the order of priority provided in the Insolvency Code. Siphoning of assets by promoters has been a major issue in any debt recovery. To deal with this, the IBBI will have power to undo preferential, undervalued or fraudulent transactions undertaken up to two years prior to the initiation of the insolvency resolution process.

In the liquidation process, secured creditors have been granted the right to either choose to enforce their security interest or relinquish it for the liquidation estate. If a secured creditor relinquishes its security interest, it stands above the unsecured creditors in the order of priority. If a secured creditor decides to enforce its security interest, the secured creditor will rank below unsecured debts due to financial creditors for the remaining debt which cannot be recovered from the security interest. NCLT will facilitate recovery of security in the event the secured creditor faces resistance from the corporate debtor or any other person.

Debt recovery laws

Indian banks and specified financial institutions have special rights under the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest, 2002 (Securitisation Act) and the Recovery of Debt Due to Banks and Financial Institutions Act, 1993 (DRT Act). Under the Securitisation Act, these lenders can enforce their security interest and realise the proceeds without the intervention of the court. Under the DRT Act, these lenders can approach the Debt Recovery Tribunals (DRTs) for recovery of their debt by attachment of the property of the corporate debtor. These lenders will continue to have these rights after implementation of the Insolvency Code. A financial creditor will have the discretion to initiate insolvency resolution processes under the Insolvency Code or it can directly enforce its rights under the Securitisation Act and the DRT Act. However, any such enforcement action will be subject to the moratorium, if the insolvency resolution process is initiated by any other person.

Cross-border insolvency

The Insolvency Code enables the government to enter into bilateral arrangements to deal with the cross-border implications of insolvencies. These arrangements will work on principles of reciprocity. This will enable regulatory and judicial outreach to overseas assets of a corporate debtor or guarantor through cooperation between NCLT and overseas courts. The Insolvency Code provides only enabling framework and much has been left to regulatory framework and bilateral arrangements.

Conclusion

The Insolvency Code is a legislation of supreme importance. It is expected to help in overcoming existing legislative and judicial hurdles in the restructuring of corporates and also to give legislative backing to the restructuring schemes which banks are currently resorting to under contractual frameworks with corporate debtors in accordance with guidelines from the Reserve Bank of India. This will also ease the liquidation process. The success of the Insolvency Code will, however, depend on two important factors: (i) the functioning of the institutional framework, i.e., the IBBI, NCLT, the insolvency professional agencies, insolvency professional and information utilities; and (ii) the comprehensiveness of the rules and regulations to be framed by the government and the IBBI.

Ajay Shaw is a partner and Ashish Pahariya is a manager at DSK Legal. Mr Shaw can be contacted on +91 22 6658 8000 or by email: ajay.shaw@dsklegal.com.

Ajay Shaw and Ashish Pahariya

DSK Legal