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The directives of the Central Government to tide over these trying times are laudable. However, many of these changes are myopic and will create problems for stakeholders in the long run.
The global COVID-19 pandemic and its consequential lockdown are having an economic ripple effect on the business of Indian citizens. To mitigate its impact, in the last tranche of economic reforms, the Central Government made numerous changes upon the Insolvency and Bankruptcy Code, 2016 (“IBC“), and its adjudicatory processes, which will have wide-ranging ramifications.
While stakeholders of the IBC are tuned to adapt to the ever-changing nature of this legislation, we must understand the rationale and impact of the changes being introduced to bandage the imminent economic effect.
Increasing of threshold to Rs 1 crore
In exercise of its powers under Section 4 of the IBC, the Central Government has raised the threshold for invoking insolvency to Rs 1 crore from the existing Rs 1 lakh.
This amendment is to mainly prevent triggering of insolvency against micro, small, and medium enterprises (MSMEs), which are struck by the lockdown hard. The government is also going to notify the special insolvency resolution framework for MSMEs under Section 240A of the Code.
However, the measure is not in line with the intent. This revision may provide relief to certain MSMEs who have financial or large operational debts. But it fails to consider the numerous MSMEs occupying the position of “operational creditors” under the IBC with claims of trade debts, salary, or wage claims, which are often lower than Rs 1 crore. This provision will relegate MSMEs to civil remedies for debt recovery and may have an effect of excluding it under the IBC. At this cost, the amendment may have successfully addressed the issue of frivolous recovery claims initiated under the grab of insolvency processes due to the seemingly low original threshold of rupees one lakh.
Moreover, this revision has also raised numerous practical uncertainties. There is no clarity on what happens to defaults in the range of Rs 1 lakh to Rs 1 crore that occurred before the outbreak. While NCLT has clarified the amendment not to be retrospective, there is a lack of clarity on the fate of operational debt claims where a demand notice has been issued, but insolvency not initiated.
Suspension of Corporate Insolvency Resolution Process (“CIRP“)
The purpose of a suspension of CIRP for a year is to avoid the potential disruptions caused to a company in case of initiation of CIRP by financial creditors, operational creditors, or the resolution applicant. However, it has collateral ramifications on all stakeholders involved. The suspension of CIRP by financial creditors under Section 7 of the IBC will leave lenders circumspect to the limited remedies available in case of default and lead to reduced avenues for raising debts.
If recourse to Section 9 is suspended, operational creditors, too, would be left in a lurch. The imposition of the suspension, coupled with the increase in the insolvency threshold, will force operational creditors to approach the already burdened civil courts.
Section 10 provides the defaulting company to submit itself to CIRP. The suspension of this provision would be counterproductive, and those who would like to seek recourse under Section 10, on account of the economic losses incurred during the pandemic, would be left remediless.
Exclusion of COVID-19 related debt from the definition of “default”
As a measure for businesses, the Central Government also intends to exclude COVID-19 related debt from the definition of “default” under the IBC, to prevent triggering insolvency proceedings. This measure, too, only benefits the defaulting corporation, with no redressal for the entity suffering the default. Moreover, this proposal does not preclude companies from initiating insolvency proceedings to create pressure and make the purported defaulting company bleed money on defending the IBC proceeding, with an additional burden on NCLTs to decide in all such cases whether the default caused was due to COVID-19.
Other COVID- related amendments
Additionally, for computation of the time-limits for activities related to CIRP and liquidation, the period of lockdown has been excluded by inserting Regulation 40C to CIRP Regulations, 2016, and Regulation 47A to the Liquidation Regulations, 2016.
The NCLT and NCLAT have introduced procedural reforms to mitigate the impact of the lockdown. They hear urgent matters even during the lockdown with prior email notifications. They have extended the interim orders till the next date of hearing. And limitation has been extended for all proceedings till the courts reopen.
Insolvency & Bankruptcy (Amendment) Act, 2020 promulgated (“IBC 2020”)
The government has come up with IBC 2020 to streamline the CIRP, protect last-mile funding, and boost investment in financially distressed sectors.
The changes put a threshold condition for initiating CIRP by the financial creditors, who are allottees under a real estate project. The amendments have also introduced a requirement to ensure the maintenance of a supply of essential goods and services and protection from the suspension or termination of critical business licenses, registrations, and government permits during the moratorium.
It also imports safeguards for successful bidders, the corporate debtors, and its assets from the offenses of the former promoters or management. Now, the central government may notify any debt to include it in the definition of interim finance.
Though these amendments under IBC 2020 have been in force since December 28, 2019, and the constitutional challenge to its provisions is still pending. Only when the courts reopen that this amendment will be tested in practice.
The directives of the Central Government to tide over these trying times are laudable. However, many of these changes are myopic and will create problems for its stakeholders in the long run.
In these circumstances, the Adjudicating Authorities—who are not only adjudicating disputes arising out of the IBC but also under the company law and the competition law disputes—must institutionalise technology. This one reform can singularly disburden the courts, optimize resources, curtail delays, and reduce operational costs.
India took decades to implement such an effective insolvency regime and improve its global ranking of doing business. This pandemic must not rewind the clock and start all over again.
Manish Jha is Partner and Vishrutyi Sahni is Associate at J Sagar Associates.