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ANALYSING THE LAW OF INSOLVENCY AND BANKRUPTCY IN INDIA
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ANALYSING THE LAW OF INSOLVENCY AND
BANKRUPTCY IN INDIA
AUTHORED BY - ARYAMAN ACHANTA
School of Law, Christ University
Abstract
This research paper looks at the
evolution and efficacy of bankruptcy and insolvency laws in India, with a
particular emphasis on the change from fragmented laws to the comprehensive
Insolvency and Bankruptcy Code (IBC) of 2016. The Insolvency and Bankruptcy
Code (IBC) was enacted to bring together disparate insolvency laws and create a
structured, time-bound process for handling bankruptcy matters. The Companies
Act of 1956, the Sick Industrial Companies Act of 1985 (SICA), the SARFAESI Act
of 2002, and the RDDBFI Act of 1993 were among the several acts that made up
India's legal framework for insolvency prior to its enactment. This led to
lengthy court proceedings, inefficiencies, and financial hardship for
creditors. The paper examines how the IBC changed the way insolvency was
handled, putting more emphasis on distressed enterprises' rehabilitation than
on liquidation. Additionally, the paper offers an analysis of the current
regime with pre-IBC frameworks, focusing on the effects of the IBC on investor
confidence and economic recovery as well as procedural reforms and
creditor-debtor dynamics. In conclusion, the research highlights ongoing issues
such as ambiguity in the requirements for filing for insolvency and constraints
in institutional structures, suggesting areas for future reform
Introduction
Insolvency refers to the state of an
individual or entity whose assets are insufficient to pay off his debts.
Insolvency is expressly used to denote the inadequacy of a party to pay his
debts due during the course of business[1].
On the other hand, bankruptcy refers to the legal status of an individual or
entity unable to pay his debts to creditors[2].
The bankruptcy process begins when a petition is admitted in a court or
appropriate authority and the assets of the debtor are evaluated to pay the
creditors. Bankruptcy is merely the formal declaration of insolvency under law.
The purpose of the formal process of insolvency and bankruptcy is to ensure
that creditors are safely paid their dues and are reimbursed for the money they
put into the company, at the same time provide the debtor an opportunity to
revive their company and continue their course of business. Liquidation is only
considered when a resolution cannot be settled. A systematic procedure of
resolution and rehabilitation for struggling companies is to be accounted for
in a legal system, in order to effectively disburse the parties concerned,
whereas an uncodified and fragmented system will only create confusion and
hardship for parties. This research paper seeks to identify the effectiveness
and problems of insolvency and bankruptcy laws in the Indian legal system,
whilst analysing the defects of the old regime prior to the implementation of
the Insolvency and Bankruptcy Code, 2016[3].
The IBC
The Insolvency and Bankruptcy Code,
2016 (IBC) is the law that governs insolvency and bankruptcy procedures in
India, for both individual and corporate entities, coming into force on
December 1st, 2016. The act had consolidated a previously scattered and
unorganised body of laws, spread across several legislations, where provisions
from these acts were indiscriminately put together to form a loose framework
neither clearly outlining a systemic structure of procedure nor providing a
formulaic approach for courts to interpret the law effectively. With multiple
laws overlapping and numerous adjudicatory authorities, the need for a
comprehensive framework often entered into discourse when problems arose due to
the lack of the same. ‘Bankruptcy and Insolvency' is mentioned in the
Concurrent List under Entry 9[4], allowing
both central and state governments to legislate on it. The Bankruptcy Law
Reforms Committee[5] presented
its report to the Ministry of Finance on November 4, 2015, with the objectives
of the committee being resolved to consolidate insolvency laws with; lesser
time involved in the process, lesser loss in recovery, and higher levels in
debt financing. The N L Mitra Committee[6]
in 2001 also suggested the implementation of a comprehensive insolvency code,
as well as a time-bound process for insolvency proceedings. The purpose of
codifying insolvency laws was to place emphasis on coherence, predictability
and to provide for a sound mechanism for different stakeholders in the event of
a business failure or the inadequacy in the payment of debts, with the focus of
the new regime shifting to rehabilitation of distressed companies as opposed to
liquidation. One of the defining features of the Code is the time-bound
procedure of the Corporate Insolvency Resolution Process (CIRP) which mandates
the insolvency proceeding to be completed in 180 days extendable upto 270 days,
a 2019 amendment to the act further increased the timeline to 330 days. For
start-ups and small companies the timeline is 90 days extendable by 45 days. A far
cry from the old regime’s unwavering and uncertain timelines drawn out for
years on end, weighed down by vexatious litigation and unfulfilling outcomes.
The Code also established the Insolvency and Bankruptcy Board of India (IBBI),
which oversees all insolvency proceedings as well as participating in the
regulation of entities registered under it. The IBBI consists of 10 members
with representatives from the Ministry of Finance and the RBI. The National
Company Law Tribunal (NCLT) and the National Company Law Appellate Tribunal
(NCLAT) have been granted jurisdiction over all insolvency petitions in the
country, with the Supreme Court entertaining Special Leave Petitions under Art
136[7] as well.
The decision of the Court in Jotun India
Private Limited v PSL Limited Company[8],
effectuated the transfer of numerous cases against companies whose winding up
petitions remained pending in High Courts, subsequently transferring them to
the NCLT after the implementation of the IBC.
Background
Prior to the IBC, the banking sector
was afflicted by financial distress caused by rising non-performing assets,
stressed assets and burdensome litigation; relief for creditors was provided in
the Companies Act, 1956[9] and the
Sick Industrial Companies (Special Provisions) Act, 1985 (SICA)[10], however,
these two acts focused on the revitalisation of ailing companies, rather than
the payment of creditors. The Other remedies provided to secured creditors was
to enforce their securities by excluding themselves from the winding up process
under the Securitisation and Reconstruction of Financial Assets and Enforcement
of Security Interest Act, 2002 (SARFAESI Act)[11].
This paper seeks to analyse the efficacy of the IBC, 2016 and to determine the
extent of improvements in the sphere of insolvency and bankruptcy, unto which
the IBC has sought to provide. The IBC, 2016 has endeavoured to restructure the
entire process that would ensue in the event of a company failing to make its
dues with creditors, focusing on a more market-led and predictable framework in
a time-bound process. Seeking to maximise the value of assets, providing a
greater freedom to exit and addressing information asymmetries. The Code has
allowed for the shift in importance from the debtor to the creditor, making
markets safer for investors in case of default.
Procedure under the IBC
An insolvency proceeding under the
IBC can be initiated by the financial creditors, operational creditors or the
corporate debtor (the company itself), following which a Corporate Insolvency
Resolution Process (CIRP) can be brought against the defaulting company, upon
application to the National Company Law Tribunal (NCLT). In usual cases, the
RBI issues a direction to financial creditors, typically banks who have claims
against the company, ushered by the lead bank in the joint lender forum with
the largest claim. To initiate such a process, the minimum default amount that
has to be proven is 1 crore, after which the NCLT has 14 days to admit the
application, for such cases directed by the RBI, the case has to be admitted as
the default is already proven. After this, a moratorium is to be declared which
is essentially a freeze on all legal proceedings and sale or transfer of a
company’s assets. The moratorium period provides a safeguard to the corporate
debtor, allowing for a smooth and hassle-free resolution process. An Interim
Resolution Professional (IRP) is to be appointed by the NCLT, in which the
affairs of the company are entrusted with, following the suspension of the
powers of the Board of Directors and remains such till the case is completed.
The IRP identifies the potential creditors of the company and their claims,
establishing the Committee of Creditors (CoC) constituting primarily the
financial creditors, although operational creditors can participate albeit
without voting powers. The CoC then appoints the Resolution Professional who
formulates a Resolution Plan detailing the procedure to revive the company and
settle the claims of the creditors. The Resolution Plan on approval from the
CoC is submitted to the NCLT for further approval, after which the company is
handed to a Resolution Applicant following a successful bid, and the plan is
executed in the hopes of reviving the company. If no Resolution Plan is
approved within the maximum 270 stipulated by the Code, the company undergoes
liquidation. A liquidator is appointed to sell off the company’s assets to pay
off the creditors in a hierarchical order of priority, with financial creditors
given precedence followed by operational creditors, unsecured creditors and
workmen. Once all the assets are liquidated and creditors satisfied the
liquidator submits its report to the NCLT, an order of dissolution of the
company is finally issued.
Overview of the procedure under the previous framework
The process of insolvency under the
old regime was fragmented and unorganised. Insolvency and bankruptcy for
individuals was covered under the Presidency Towns Insolvency Act, 1909[12], and the
Provincial Insolvency Act, 1920[13], both of
these acts were applicable to small companies. The IBC ecosystem has since
absorbed the purview of individual insolvency under itself. The Companies Act,
1956 contained provisions for the winding up of companies which were to be
admitted in the High Courts. Part VII of the act contained provisions for
winding up. Secured creditors especially, were required to undergo a long and
arduous process under the Companies Act, through winding up petitions that
would often result in the winding up of borrowing companies. Leading to the
liquidation of the company’s assets, where such creditors pinned their hopes on
the courts admitting the petitions to receive their dues under the liquidation
process. The Companies Act, 2013[14] also
contained provisions for winding up, but were subsequently repealed 3 years
later by the IBC.
The Sick Industrial Companies
(Special Provisions) Act, 1985 was the first major attempt by the Government of
India to revive ailing companies especially in the industrial sector during the
1980s. The Act defined a ‘sick company’ as one whose net worth has completely
eroded, and which has existed for more than five years, suffering complete
losses exceeding their net worth. With the Adjudicating Authorities under the
SICA being the Board for Industrial And Financial Reconstruction (BIFR) and the
Appellate Authority for Industrial and Financial Reconstruction (AAIFR) as
defined under Section 3(b) and 3(a) of the Act, respectively. Under Sec 15, the
company was required to make a reference to the BIFR within 60 days from the
date of finalisation of its duly audited accounts. The failure of the SICA was
largely attributed to its approach in looking at sick companies, which
determined them by prioritising the balance sheet of the company rather than
cash flow statements, which could indicate the company’s immediate ability in
meeting its obligations. Since the SICA considered ailing companies on the
basis of the erosion of their net worth, the company’s liquidity would have
been depleted much faster at the same time, making it a monumental task for the
company to be salvaged effectively[15].
Another major constraint of the SICA was that it excluded companies engaging in
trading or providing other services, this severely limited the purview under
which companies and their creditors can seek relief under this act. An amendment
to the act in 1991, allowed for government companies to be adjudged under it.
SICA was effectively repealed after the Parliament passed the Sick Industrial
Companies (Special provisions) Repeal Act of 2003, dissolving the BIFR and the
AAIFR, however, the act wasn't notified as they were delays in the setting up
of the NCLT, which was set to replace the aforementioned Adjudicating
Authorities in the Companies (Second Amendment), Act 2002. The act was finally
repealed upon the commencement of the IBC.
The Recovery of Debts due to Banks
and Financial Institutions Act, 1993 (RDDBFI Act)[16],
the Tiwari Committee was constituted with the objective of solving the problem
of the recovery of dues of banks and financial institutions, proposed
establishment of the specialised Tribunals, the Debt Recovery Tribunals and the
Debt Recovery Appellate Tribunals who would aid in alleviating the rising
amount of default money in the public sector and would utilise the recovered
amount for funding the development of the country. Sec 19(9) of the act allowed
for tribunals to issue certificates of recovery against all companies
registered under the Companies Act of 1956, with recovery officers playing a
central role in the disbursement of debt. The RDDBFI did not apply to banks and
financial institutions whose amount due is less than 10 lakh rupees. Sec 25
provided for various modes of recovery which included the arrest of the
defendant, the attachment and sale of movable and immovable property, and the
appointment of a receiver to manage the properties of the defendant.
Secured creditors also had the option
of seizing their assets and recovering their dues without having to go to court
under the SARFAESI Act, 2002. It was enacted with a view of enforcing the
interests of secured creditors by allowing them to auction commercial or
residential assets of defaulters to recover loans, the RBI having the power to
determine and manage these assets under the act. Sec 13 of the act empowers
secured creditors to issue a demand notice to the defaulter, after which if the
loan is not repaid within sixty days of issue of the notice, the creditors can
take physical possession of the asset allowing them to auction or sell the
assets to reimburse themselves. Sec 30 of the Act established Asset
Reconstruction Companies (ARC), providing struggling banks and financial
institutions an opportunity to clean up their balance sheet by isolating
non-performing loans, allowing them to focus on other activities. In Mardia Chemicals Ltd. v. ICICI Bank[17],
the Supreme Court struck down Sec 17(2) of the act as unconstitutional, as the
provision mandated borrowers to deposit 75% of the disputed amount claimed by
the creditors to the Debt Recovery Tribunal, only then a petition could be
admitted to stay a proceeding under the Act. The Court struck down Sec 17(2) as
it felt that such a deposit of 75% would be unreasonable against debtors, as it
is based on a unilateral claim and it may not be possible for the borrower to
raise such an amount as his secured assets may already have been taken by the
creditors or sold[18].
Other non-statutory frameworks and
systems relating to the recovery of debts included the CDR and SDR, which were
attempts by financial organisations led by the RBI to alleviate the dire
situation of a credit crisis by providing a voluntary system for the parties to
adjudge among themselves. Corporate Debt Restructuring (CDR) Mechanism was a
non-statutory and voluntary agreement entered into by creditors and debtors for
restructuring of debt, introduced for the first time in 2001, and largely
implemented by banks and financial institutions. The CDR was only limited to
banks and the financial institutions that had an aggregate exposure not
exceeding 10 crore rupees. Strategic Debt Restructuring (SDR) was introduced by
the RBI on June 8, 2015, with the main purpose of the scheme dealing with the
exercise of stressed assets in a fulfilling way, by changing the management of
the company to effectively deal with these assets. However, the scheme turned
out to be largely ineffective, as there was an inadequacy in the number of
cases admitted and an even lower number being resolved. The old regime, before
the IBC can be seen as an incoherent amalgamation of various provisions
Comparative analysis of insolvency laws before and
after the IBC
- Objective:
? SICA - Rehabilitation and revival of
sick industrial units
? RDDBFI - Recovery of debts due to
banks and financial institutions through the Debt Recovery Tribunals
? SARFAESI - Enforcement of security
interests over defaulter’s properties, establishment of Asset Reconstruction
Companies
? CDR and SDR - Change in existing
terms and conditions of debt
? IBC - Maximisation in asset value,
resolution in a time-bound process
- Trigger amount:
? SICA - Company must exist for 5 or
more years, accumulated losses should exceed the net worth in a financial year
? RDDBFI - Default amount more than 10
lakh
? SARFAESI - Default amount owed to a
secured creditor
? CDR and SDR - Aggregate exposure not
exceeding 10 crores
? IBC - Default amount more than 1
crore
- Time-line:
? SICA - 1 year to determine if a
company is sick
? RDDBFI - Typically more than 2 years
? SARFAESI - 1 to 2 years
? CDR and SDR - No fixed time-line,
it's an ongoing process
? IBC - 180 days to maximum 330 days
for CIRP, 135 days maximum for start-ups and small companies
- Types of creditors:
? SICA - Secured and unsecured
? RDDBFI - Secured and unsecured
? SARFAESI - Secured
? CDR and SDR - Secured
? IBC - Financial and operational
creditors, including both secured and unsecured
- Adjudicating Authorities:
? SICA - BIFR and AAIFR
? RDDBFI - Debt Recovery Tribunal and
Debt Recovery Appellate Tribunal
? SARFAESI - Assistance from Chief
District Magistrate and appeal to the Debt Recovery Tribunal
? CDR and SDR - RBI regulations and
voluntary agreements between creditors and debtors
? IBC - NCLT and NCLAT
- Pillars of legal regime:
? SICA - BIFR and AAIFR
? RDDBFI - Debt Recovery Tribunal and
Debt Recovery Appellate Tribunal
? SARFAESI - Public auctions
? CDR and SDR - RBI regulations
? IBC - Insolvency and Bankruptcy Board
of India, NCLT, and Insolvency Professionals.[19]
Securing investments
The growth of credit is deemed to be
one of the major drivers of the economy, while non-performing assets are
considered to be a detriment in the face of development of the financial
sector. The overall health of a financial system is determined by the quality
of assets held by banks and other financial institutions[20].
Credit worthiness is one of the key factors measured by moneylenders to
determine the efficiency of their investments. A financial system cannot
sustain itself without a reliable mechanism for investors to safely finance
their operations, a key component of this being the guarantee or assurance that
they will be paid back for the money they put in. Strong insolvency and
bankruptcy laws provide a framework under which distressed creditors can seek
relief through legal routes in ensuring that the money they have invested in
failed ventures would be reimbursed. This instils a sense of confidence and
sustainability in their undertakings by providing a safety net unto which they
can rely upon in case things take a turn for the worse, the IBC has sought to
ensure precisely this resolve. Sec 7 of the IBC empowers the Financial Creditors to initiate the CIRP,
allowing for a greater culture of cautious lending and prudent borrowing. Sec 7
assures the interests of creditors' by providing them the option of directly
addressing defaults. Challenges however, arise from the lack of precise
description of what constitutes a legitimate default, resulting in disputes
over the eligibility criteria. This ambiguity could possibly result in the
burdening of the judicial system with insolvency proceedings that lack merit.
In Swiss Ribbons Pvt. Ltd. v. Union of
India[21],
the Court determined the constitutional validity of Sec 53 of the Code,
differentiating between the financial creditor and the operational creditor. In
which the Supreme Court recognised that there is an intelligible differentia
between financial debts and operational debts, resulting in no obstruction of
Art 14. The Code recognizes various kinds of secured debts and guarantees
protection of legitimate interests of financial creditors over operational
creditors, and seeks to prioritise the interests of the former over the latter,
reinforcing the object of the Code. The ‘resolving insolvency index’
given by the World Bank's Doing Business Report of 2020, observed that India
rose up the ranks from 136th to 52nd position since the enactment of the IBC[22].
Conclusion
The IBC, since coming into force, has
been resolute in reforming the financial sector, overhauling outdated
regulations characteristic of a socialist system, and misaligned with private
interests therefore stunting economic growth in a globalised and privatised
economy. It has had a significant impact over the economy of the country, such
as increasing recoveries in defaults, boosting investor confidence and reducing
the burden of non-performing assets affecting banks and financial institutions.
The Insolvency and
Bankruptcy Code has played a significant role in expediting insolvency
procedures in India. This is demonstrated by the fact that the NCLT accepted
269 resolution plans in FY24, a 42% increase from the previous year. This
increase demonstrates how well the code works to help struggling companies get
back on their feet. Even with this achievement, the average time to resolution
is still 679 days, which is much longer than the 330-day statutory limit. This
is mostly because of stakeholder litigations that reduce the value of recovery.
Nonetheless, the IBBI initiatives to improve resolution process strength, cut
down on delays, and increase transparency have shown promise. 32% of the
admitted claims through the CIRP were realised in FY23, with financial service
providers yielding a 41% recovery. Furthermore, the decrease in the resolution
to liquidation case ratio from 0.46 to 0.61 indicates a move in the direction
of more successful insolvency outcomes. This trend has also been facilitated by
prepackaged insolvency, which has allowed for a 25% claim realisation rate.
Notwithstanding persistent difficulties, especially with regard to accelerating
procedures, the IBC is still vital to the transformation of India's insolvency
scene[23].
[1] Section 2(8) of the Sale of Goods Act, 1930 (30 of
1930)
[2] Wharton’s Concise Law Dictionary, Universal Law
Publishing Co., Sixteenth Edition, p.109
[3] The Insolvency and Bankruptcy Code, 2016 (31 of 2016)
[4] The Constitution of India, Sch. VII, List III, Entry
9
[5] Bankruptcy Law Reforms Committee Report, November
2015
[6] The Report of the Expert Committee on Legal Aspects
of Bank Frauds, 2001
[7] The Constitution of India, Art 136
[8] Jotun India Private Limited v PSL Limited Company,
High Court of Bombay, Company Application No. 572 of 2017
[9] The Companies Act, 1956 (1 of 1956)
[10] Sick Industrial Companies (Special Provisions) Act,
1985
[11] Securitisation and Reconstruction of Financial Assets
and Enforcement of Security Interest Act, 2002 (54 of 2002)
[12] Presidency Towns Insolvency Act, 1909
[13] Provincial Insolvency Act, 1920
[14] The Companies Act, 2013 (18 of 2013)
[15] Roy, D. (2019) Insolvency: Before and after the
insolvency and bankruptcy code, iPleaders. Available at:
https://blog.ipleaders.in/laws-on-insolvency-before-and-after-the-ibc/
[16] Recovery of Debts due to Banks and Financial
Institutions Act, 1993
[17] Mardia Chemicals Ltd. v. ICICI Bank AIRONLINE 2004 SC
948
[18] Securitisation Law — Scrutinized by Shantimal Jain
(2004) JULY PL (Jour) 22
[19] Ibid, 15
[20] Bharati V. Pathak. The Indian Financial System.
Markets, Institutions and Services. Second Edition. pg no. 576
[21] Swiss Ribbons Pvt. Ltd. v. Union of India AIR 2019
SUPREME COURT 739
[22] Resolving insolvency - doing Business - World Bank
Group. Available at: https://archive.doingbusiness.org/en/data/exploretopics/resolving-insolvency
[23] Standard, B. (2024) At 269, NCLT approves record
resolutions under IBC in FY24: Ibbi Data, Business Standard. Available at:
https://www.business-standard.com/economy/news/nclt-approves-record-resolutions-under-ibc-in-fy24-shows-ibbi-data-124051601194_1.html
Article Information
ANALYSING THE LAW OF INSOLVENCY AND BANKRUPTCY IN INDIA
Authors: ARYAMAN ACHANTA
- Journal IJLRA
- ISSN 2582-6433
- Published 2025/03/18
- Issue 7
About Journal
International Journal for Legal Research and Analysis
- Abbreviation IJLRA
- ISSN 2582-6433
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