Decoding 5th report of insolvency law committee – may 2022

Mandating reliance on Information Utility for certain Financial Creditors

  1. Time being the essence of the Corporate Insolvency Resolution Process (“CIRP“), recommendations were made by the Insolvency Law Committee (“Committee“) constituted by the Ministry of Corporate Affairs (“MCA“) for speedy disposal of cases by the Hon’ble National Company Law Tribunal (“NCLT“) . One such recommendation involved making it mandatory for the financial institutions, and such other financial creditors (“FC“) as may be prescribed by the Central Government, should be required to submit only Information Utility (“IU“) authenticated records to establish default for the purposes of admission of an application under Section 7 of Insolvency and Bankruptcy Code, 2016 (“IBC“). Where such IU authenticated records are not available, and for all other FCs, current options of relying on different documents for establishing default may remain available. 
  2. The data of January-March 2022, indicates an increasing trend in the amount of information being stored and recorded with National E-Governance Services Limited (“NeSL”), which is the only registered IU at present. As of the end of March 2022, 5.15 lakh loan records amounting to INR 6.82 lakh crores had been authenticated with NeSL.
  3. At the same time the position with respect to operational creditors (“OCs”) was also analyzed and it was recommended that at present ,making submission of only IU authenticated records  , a mandatory requirement for OCs would be an inconvenient task for them. Accordingly, keeping in view the subsequent development regarding IUs in the future, it was observed that at the stage it would be pragmatic to consider this similar requirement  be imposed for OCs likewise.

Exemptions from the Scope of the Moratorium

According to Section 14(3)(a) of IBC, the Central Government, in consultation with any financial sector regulator or any other authority, has the power to notify transactions that may be exempted from the scope of the moratorium provided in Section 14(1) of IBC and the committee in this part considered the exemption of transactions in respect of securities and related proceedings under securities law. It was observed and recommended that on a combined reading of Sections 14(1) and 14(3)(a) of IBC, the power to grant exemptions under Section 14(3)(a) of IBC only applies to the transactions related to transfer of assets or any legal right or beneficial interests by the corporate debtor.

Issues related to avoidable transactions and improper trading

Sections 43-51, 66, and 67 of IBC lay down various transactions that may be avoided by the resolution professional (“RP“) or liquidator, collectively referred to as “avoidable transactions”, and the actions that can be taken against erstwhile management for fraudulently or wrongfully trading in insolvency referred to as “improper trading”. The committee in its 2022 report mentioned this aspect from 2020 report and discussed it further under the following heads: –

Independence of proceedings for avoidance of transactions and improper trading

This recommendation was made considering the Delhi High Court judgement in  the case of Venus Recruiters Private Limited v. Union of India W.P. (C) 8705/2019 wherein the Court inter alia opined that the applications in respect of avoidable transactions do not survive beyond the conclusion of the CIRP and once the CIRP itself comes to an end, an application for avoidance of transactions cannot be adjudicated. The Committee has discussed in detail the undesirable outcomes of not allowing proceedings for avoidance of transactions and improper trading after conclusion of the CIRP process and  therefore observed that in view of Section 26 of IBC, proceedings in respect of avoidable transactions may continue beyond the timeline for the CIRP and sought an explanatory amendment to Section 26 of IBC to expressly include proceedings related to improper trading.

Manner of conducting avoidance proceedings after conclusion of CIRP
  1. The Committee should consider an amendment in the to mandate that the resolution plan should specify the manner of undertaking proceedings for avoidance of transactions and wrongful trading if such proceedings are to be continued after approval of the plan. This includes specifying details such as the person who will continue to pursue such proceedings and the manner of payment of the costs of such proceedings. 
  2. The subordinate legislation should provide a mechanism for sharing relevant details of any pending avoidable transactions and improper trading with the prospective resolution applicants. Moreover, the resolution plan should also include the manner of distribution of the recoveries made from the proceedings for avoidance of transactions or improper trading to restore the status quo prior to the occurrence of such transaction or trading with the corporate debtor. Where such details have not been provided in the plan, the Adjudicating Authority should direct the RP and CoC to include the same. 
Threshold date for look-back period

The Committee in concurrence with the UNCITRAL Legislative Guide on Insolvency Law, decided that the threshold date for the look back period for avoidable transactions under the Code should be the date of the filing of application for initiation of CIRP, i.e., the initiation date. Further, transactions from the initiation date until the insolvency commencement date should also be included in the look-back period. In this regard, suitable amendments may be made in Sections 43, 46 and 50. Further, the Code may clarify that where multiple CIRP applications have been filed and admitted regarding the same corporate debtor, the date of filing of the first such application should be considered as the ‘initiation date’.

Curbing submission of unsolicited resolution plan and revision of resolution plans

  1. During CIRP, the RP is required to publish an invitation for Expression of Interest (“EoI“) calling prospective resolution applicants to submit their EoI. After the EoIs are submitted, the RP issues a request for resolution plan (“RFRP“) which provides the deadline for submitting the resolution plan. The committee has also considered instances, wherein, additional resolution plans are submitted after the deadline in RFRP, or resolution plans are submitted on an unsolicited basis without the consent of the RP or committee of creditors (“CoC“), or resolution plans are received by RP after the deadline stipulated in EoI and RFRP. The Committee decided that the regulations should clearly lay down a mechanism for reviewing late submissions of or revisions to resolution plans. The  Committee also recommended suitable amendments  be made in IBC to ensure that the procedure provided in the regulations has due sanctity. 
  2. The Committee agreed that the Insolvency and Bankruptcy Board of India (Insolvency Resolution for Corporate Persons) Regulations, 2016 (“CIRP Regulations“) may allow the CoC to opt for a Swiss challenge method1 for considering plans and revisions to plans submitted after the deadline in the RFRP. Through this challenge method, the CoC may consider any unsolicited plans or revisions based on a decided criteria that is based on the commercial viability of the plan. It was also recommended that the CIRP Regulations may require the CoC to mention, in RFRP, the number of revisions, the last date by which any plans or revisions may be submitted, a reasonable time-period in RFRP for submission of resolution plans in order to reduce the number of defaulters.

Timeline for approval or rejection of resolution plan

Since IBC articulates completing CIRP process within the stipulated time limits, the Committee observed that one of the many reasons of delay is also due to the pending approvals of a resolution plan by NCLT being the last step in the CIRP process. To remedy the same, the Committee agreed that amendments should be made to Section 31 of IBC to provide that NCLT has to approve or reject a resolution plan within 30 days of receiving it. This 30-day time shall be subject to the overall time-period specified for the completion of CIRP under Section 12 of IBC. Further, where NCLT has not passed an order approving or rejecting the resolution plan within such 30-day time, it may be required to record reasons in writing.

Standard of conduct for CoC

The Committee recommended that it would be suitable for Insolvency and Bankruptcy Board of India (“IBBI“) to issue guidelines providing the standard of conduct of the CoC while acting under the provisions governing the CIRP, pre-packaged insolvency resolution process and fast track insolvency resolution process. To empower IBBI to issue such guidelines, the Committee recommended appropriate amendments may be made to Section 196 of IBC. Further, the Committee discussed that the MCA may consult with relevant financial sector regulators to frame an appropriate enforcement mechanism for the standard of conduct.

Stakeholders Consultation Committee

In this segment of the report the Committee made observations with respect to the Stakeholders Consultation Committee (“SCC“) constituted by the liquidator. The Committee made recommendations that currently there is no need of statutorily encoding and maintaining the provisions relating to SCC. The Committee after considering the UNCITRAL Legislative Guide on Insolvency Law, insolvency laws in UK, Canada and Australia concluded that Section 35(2) of IBC may be suitably amended to provide that the liquidator must mandatorily consult with SCC to ensure that the SCC is able to provide commercial inputs on functions of the liquidator as well as conduct oversight over the liquidation process. The manner requiring such consultation may be provided in the subordinate legislation.

Contribution by Secured Creditors

  1. During liquidation proceedings, a secured creditor has an option to realize its security interest under Section 52 of IBC, rather than relinquishing it to the liquidation estate for distribution in terms of Section 53(1) of IBC. Where the secured creditor realizes their security interest, the amount of CIRP costs is required to be deducted from the proceeds of the realization. Such proceeds are required to be transferred to the liquidator and will be included in the liquidation estate. The Committee recommended that Section 52(8) of IBC may be amended to state that where the secured creditor realizes its security interest outside the liquidation process, the amount payable towards the workmen’s dues, as it would have shared in case it had relinquished its security interest, shall be deducted from the proceeds of such realization. 
  2. The Committee recommended that Section 52(8) of IBC should be amended to require a secured creditor, who stepping out of the liquidation process, to pay the liquidator for any expenses incurred by the liquidator for the preservation and protection of the security interest before its realization. The rationale underlying this requirement is that such amounts for preservation or protection of the security interest would have been borne by the secured creditor had no liquidation process been ongoing. Since a secured creditor choosing to realize its security interest is stepping out of the liquidation process, such secured creditor should be liable for expenses related to its security interest as it would have if the liquidation process was not initiated. 
  3. The Committee recommended that Section 52 of IBC should be amended to provide that where the secured creditor fails to make the required contributions, his security interest shall be deemed to have been relinquished and considered to be a part of the liquidation estate. Further, it recommended that where such security interest has been realized, the proceeds of realization will be also considered to be a part of the liquidation estate.

Voluntary Liquidation process

  1. Regarding the voluntary liquidation process (“VLP“) of a limited liability partnership (“LLP“), the Committee observed that there are adequate provisions which provide for VLP of a corporate person which includes both a company and an LLP, so there is no need to make a special amendment for VLP of an LLP which is just a technical formality for the current matter in hand.
  2. The Committee also made recommendations on the midway termination of the VLP process and provided that a mechanism for terminating the VLP before dissolution should be provided in IBC. Such a mechanism would ensure that termination is not undertaken on an ad hoc basis and procedural requirements for termination are statutorily encoded. The Committee decided that the corporate person should pass a special resolution for terminating the VLP. Where the corporate person owed any debts to creditors on the date of such resolution, approval of creditors representing two-thirds in value of such debt should also be availed. Within seven days of the requisite approvals, the liquidator should inform the IBBI and the Registrar of Companies (“RoC“) that the VLP is terminated. 
  3. Pursuant to this, the VLP will be deemed to have been terminated on the date on which such information is provided to the RoC and the term of the liquidator will come to an end. The allied procedural requirements about informing the IBBI regarding the termination of VLP would be provided by the subordinate legislation.

Operationalizing the IBC fund

The Committee noted that the current design of the IBC Fund does not incentivize contributions to it and provides very limited ways of utilizing the amounts contributed to the fund so there is a need to amend Section 224 of IBC to allow the Central Government to prescribe a detailed framework for contribution to and utilization of the IBC Fund by providing for various sources, incentives, and mandates to make relevant contributions.

Additional changes

There should be an appellate mechanism for orders issued under Section 220 of IBC by IBBI and its disciplinary committee. Such appeals may be filed with the Appellate Tribunal. Further, to have a more comprehensive and optimal framework for rules and regulations, Sections 239(1) and 240(1) of IBC may be amendments to provide that the rules and regulations may be made for carrying out the objectives of IBC.

Our Views

The present report are efforts by the MCA to achieve the objections of IBC and to remove certain snags and hitches in the procedure. The Report addresses various issues particularly pertaining to the avoidance application which required discussion and clarity since the judgment of Delhi High Court in Venus Recruiters (supra) which has created confusion among RPs and CoCs. It has regularly been seen that most of the avoidance applications fail to conclude before the CIRP process or approval of resolution plan. Therefore, an explanation to Section 26 of IBC as recommended by Committee will throw some light on the said issue. Further, the manner of dealing of avoidance application after the resolution plan is approved is also prudent to be decided since it is only RPs chasing the creditors or resolution applicants to continue with such applications.

Further, the recommendation regarding extension of the look back period beyond the date of filing and admission in section 43 and 45 of IBC arise due to delay in admission of petitions for initiating CIRP by NCLT, in certain cases it is seen that NCLTs have taken more than 2 years from the date of filing of a petition, in such cases, the transactions pertaining to preferred and undervalued escape the garb of actions by RP.

Taking a holistic view of the recommendations of the Committee, it is to be seen that the Committee has certainly focused on improving issues pertaining to VLP. Undoubtedly, IBC has transformed economic legislation in six years of its time span and as stated in the Report, the Committee has endeavored to improve the efficiency of CIRP and liquidation keeping in mind the objective of time bound process and maximization of value, thus, in the coming year we may witness certain clarifications by the legislation put certain issues to rest.

1 Defined by Insolvency and Bankruptcy Board of India in the discussion paper on 27 th August 2021