Insolvency and Bankruptcy Code, 2016. Highlights and new changes - Compiled by S.Basavaraj, Daksha Legal.
1) The Insolvency and Bankruptcy Code passed by the Parliament is a welcome overhaul of the existing framework dealing with insolvency of corporates, individuals, partnerships and other entities. It paves the way for much needed reforms while focussing on creditor driven insolvency resolution.
2) The Code seeks to achieve certainty for recovery and enforcement proceedings and to this extent, it will specifically be a useful tool for creditors and investors. It would be of specific interest to international creditors and investors, who are generally looking at Indian opportunities.
3) Global institutions are continuing to grow their investments in India and in this context they are increasing their exposure to Indian entities. Over the years, many concerns have been existing and / or raised amongst international investors on the regulatory and country risks while providing financing to and/or investing in India. The time taken for resolution has been a major point of debate. This Code in specific will, when implemented in letter and spirit, provide a major boost to the India economy, especially on account of timely resolution and certainty in recovery.”
4) In contrast to the current regulatory landscape, the Code does not make any distinction between the rights of international and domestic creditors or between classes of financial institutions. Specific attention is to be drawn to the rights of unsecured and secured creditors in the priority of their claims and therefore the level playing field for their access to an effective insolvency resolution.
5) The strict timelines for resolution of insolvency and liquidation proceedings would definitely be an incentive and provide the requisite impetus for economic growth.”
6) The Code as a new law, replacing over a dozen laws, when implemented post the infrastructure being put in place, will prove to be the most important step in changing the legislative landscape of India by removing the negativity attached to litigation time and ease of recovery.
At present, there are multiple overlapping laws and adjudicating forums dealing with financial failure and insolvency of companies and individuals in India. The current legal and institutional framework does not aid lenders in effective and timely recovery or restructuring of defaulted assets and causes undue strain on the Indian credit system. Recognising that reforms in the bankruptcy and insolvency regime are critical for improving the business environment and alleviating distressed credit markets, the Government introduced the Insolvency and Bankruptcy Code Bill in November 2015, drafted by a specially constituted 'Bankruptcy Law Reforms Committee' (BLRC) under the Ministry of Finance. Trilegal worked with the BLRC to assist with the drafting of the bill.
After a public consultation process and recommendations from a joint committee of Parliament, both houses of Parliament have now passed the Insolvency and Bankruptcy Code, 2016 (Code). While the legislation of the Code is a historical development for economic reforms in India, its effect will be seen in due course when the institutional infrastructure and implementing rules as envisaged under the Code are formed.
8) THE CODE
The Code offers a uniform, comprehensive insolvency legislation encompassing all companies, partnerships and individuals (other than financial firms). The Government is proposing a separate framework for bankruptcy resolution in failing banks and financial sector entities. One of the fundamental features of the Code is that it allows creditors to assess the viability of a debtor as a business decision, and agree upon a plan for its revival or a speedy liquidation. The Code creates a new institutional framework, consisting of a regulator, insolvency professionals, information utilities and adjudicatory mechanisms, that will facilitate a formal and time bound insolvency resolution process and liquidation.
9) KEY HIGHLIGHTS
1. Corporate Debtors: Two-Stage Process
To initiate an insolvency process for corporate debtors, the default should be at least INR 100,000 (USD 1495) (which limit may be increased up to INR 10,000,000 (USD 149,500) by the Government). The Code proposes two independent stages:
Insolvency Resolution Process, during which financial creditors assess whether the debtor's business is viable to continue and the options for its rescue and revival; and Liquidation, if the insolvency resolution process fails or financial creditors decide to wind down and distribute the assets of the debtor.
(a) The Insolvency Resolution Process (IRP)
The IRP provides a collective mechanism to lenders to deal with the overall distressed position of a corporate debtor. This is a significant departure from the existing legal framework under which the primary onus to initiate a reorganisation process lies with the debtor, and lenders may pursue distinct actions for recovery, security enforcement and debt restructuring.
The Code envisages the following steps in the IRP:
(i) Commencement of the IRP
A financial creditor (for a defaulted financial debt) or an operational creditor (for an unpaid operational debt) can initiate an IRP against a corporate debtor at the National Company Law Tribunal (NCLT).
The defaulting corporate debtor, its shareholders or employees, may also initiate voluntary insolvency proceedings.
The NCLT orders a moratorium on the debtor's operations for the period of the IRP. This operates as a 'calm period' during which no judicial proceedings for recovery, enforcement of security interest, sale or transfer of assets, or termination of essential contracts can take place against the debtor.
(iii) Appointment of Resolution Professional
The NCLT appoints an insolvency professional or 'Resolution Professional' to administer the IRP. The Resolution Professional's primary function is to take over the management of the corporate borrower and operate its business as a going concern under the broad directions of a committee of creditors. This is similar to the approach under the UK insolvency laws, but distinct from the "debtor in possession" approach under Chapter 11 of the US bankruptcy code. Under the US bankruptcy code, the debtor's management retains control while the bankruptcy professional only oversees the business in order to prevent asset stripping on the part of the promoters.
Therefore, the thrust of the Code is to allow a shift of control from the defaulting debtor's management to its creditors, where the creditors drive the business of the debtor with the Resolution Professional acting as their agent.
(iv) Creditors Committee and Revival Plan
The Resolution Professional identifies the financial creditors and constitutes a creditors committee. Operational creditors above a certain threshold are allowed to attend meetings of the committee but do not have voting power. Each decision of the creditors committee requires a 75% majority vote. Decisions of the creditors committee are binding on the corporate debtor and all its creditors.
The creditors committee considers proposals for the revival of the debtor and must decide whether to proceed with a revival plan or liquidation within a period of 180 days (subject to a one-time extension by 90 days). Anyone can submit a revival proposal, but it must necessarily provide for payment of operational debts to the extent of the liquidation waterfall.
The Code does not elaborate on the types of revival plans that may be adopted, which may include fresh finance, sale of assets, haircuts, change of management etc.
Under the Code, a corporate debtor may be put into liquidation in the following scenarios:
(i) A 75% majority of the creditor's committee resolves to liquidate the corporate debtor at any time during the insolvency resolution process;
(ii) The creditor's committee does not approve a resolution plan within 180 days (or within the extended 90 days);
(iii) The NCLT rejects the resolution plan submitted to it on technical grounds; or
(iv) The debtor contravenes the agreed resolution plan and an affected person makes an application to the NCLT to liquidate the corporate debtor.
Once the NCLT passes an order of liquidation, a moratorium is imposed on the pending legal proceedings against the corporate debtor, and the assets of the debtor (including the proceeds of liquidation) vest in the liquidation estate.
10) PRIORITY OF CLAIMS
The Code significantly changes the priority waterfall for distribution of liquidation proceeds.
After the costs of insolvency resolution (including any interim finance), secured debt together with workmen dues for the preceding 24 months rank highest in priority. Central and state Government dues stand below the claims of secured creditors, workmen dues, employee dues and other unsecured financial creditors. Under the earlier regime, Government dues were immediately below the claims of secured creditors and workmen in order of priority.
Upon liquidation, a secured creditor may choose to realise his security and receive proceeds from the sale of the secured assets in first priority. If the secured creditor enforces his claims outside the liquidation, he must contribute any excess proceeds to the liquidation trust. Further, in case of any shortfall in recovery, the secured creditors will be junior to the unsecured creditors to the extent of the shortfall.
11) INVOLVENCY RESOLUTION PROCESS FOR INDIVIDUAL/UNLIMITED PARTNERSHIPS.
For individuals and unlimited partnerships, the Code applies in all cases where the minimum default amount is INR 1000 (USD 15) and above (the Government may later revise the minimum amount of default to a higher threshold). The Code envisages two distinct processes in case of insolvencies: automatic fresh start and insolvency resolution.
Under the automatic fresh start process, eligible debtors (basis gross income) can apply to the Debt Recovery Tribunal (DRT) for discharge from certain debts not exceeding a specified threshold, allowing them to start afresh.
The insolvency resolution process consists of preparation of a repayment plan by the debtor, for approval of creditors. If approved, the DRT passes an order binding the debtor and creditors to the repayment plan. If the plan is rejected or fails, the debtor or creditors may apply for a bankruptcy order.
12. INSTITUTIONAL INFRASTRUCTURE
(a) The Insolvency Regulator
The Code provides for the constitution of a new insolvency regulator i.e., the Insolvency and Bankruptcy Board of India (Board). Its role includes: (i) overseeing the functioning of insolvency intermediaries i.e., insolvency professionals, insolvency professional agencies and information utilities; and (ii) regulating the insolvency process.
(b) Insolvency Resolution Professionals
The Code provides for insolvency professionals as intermediaries who would play a key role in the efficient working of the bankruptcy process. The Code contemplates insolvency professionals as a class of regulated but private professionals having minimum standards of professional and ethical conduct. In the resolution process, the insolvency professional verifies the claims of the creditors, constitutes a creditors committee, runs the debtor's business during the moratorium period and helps the creditors in reaching a consensus for a revival plan. In liquidation, the insolvency professional acts as a liquidator and bankruptcy trustee.
(c) Information Utilities
A notable feature of the Code is the creation of information utilities to collect, collate, authenticate and disseminate financial information of debtors in centralised electronic databases. The Code requires creditors to provide financial information of debtors to multiple utilities on an ongoing basis. Such information would be available to creditors, resolution professionals, liquidators and other stakeholders in insolvency and bankruptcy proceedings. The purpose of this is to remove information asymmetry and dependency on the debtor's management for critical information that is needed to swiftly resolve insolvency.
(d) Adjudicatory authorities
The adjudicating authority for corporate insolvency and liquidation is the NCLT. Appeals from NCLT orders lie to the National Company Law Appellate Tribunal and thereafter to the Supreme Court of India. For individuals and other persons, the adjudicating authority is the DRT, appeals lie to the Debt Recovery Appellate Tribunal and thereafter to the Supreme Court.
In keeping with the broad philosophy that insolvency resolution must be commercially and professionally driven (rather than court driven), the role of adjudicating authorities is limited to ensuring due process rather than adjudicating on the merits of the insolvency resolution.
key changes introduced by the Code
1. Insolvency and Bankruptcy Board of India (“Board”)
The Board will be set up as the regulator under the Code.
2. Insolvency Professionals: The Bill proposes to regulate insolvency professionals and insolvency professional agencies. Under the oversight of the Board, these agencies will develop professional standards, codes of ethics and exercise a disciplinary role. Three sets of Resolution Professionals are sought to be appointed – Interim Resolution Professional, Final Resolution Professional and Liquidator.
3. Insolvency Information Utilities: The Code proposes for information utilities which would collect, collate, authenticate and disseminate financial information from listed companies as well as financial and operational creditors of companies. An individual insolvency database is also proposed to be set up for the purpose of providing information on the insolvency status of individuals. It is not clear whether this will dovetail into the existing Central Registry of Securitisation Asset Reconstruction and Security Interest of India (“CERSAI”) and/or Central Repository of Information on Large Credits (“CRILC”) or end up adding to the plethora of registries in India.
4. Insolvency Adjudicating Authority: The adjudicating authority will exercise jurisdiction over cases by or against the debtor.
a. The Debt Recovery Tribunal (“DRT”) shall be the adjudicating authority (“Adjudication Authority”) with jurisdiction over individuals and partnership firms other than Limited Liability Partnerships (“LLPs”). Appeals from the order of the DRT will lie to the Debt Recovery Appellate Tribunal (“DRAT”);
b. The National Company Law Tribunal (“NCLT”) shall be the Adjudicating Authority with jurisdiction over companies, other limited liability entities (including LLPs.). Appeals from the order of NCLT shall lie to the National Company Law Appellate Tribunal (“NCLAT”); and
c. NCLAT shall be the appellate authority to hear appeals arising out of the orders passed by the Regulator in respect of insolvency professionals or information utilities.
d. The following debts will be paid in priority given below:
1 Insolvency Resolution cost and liquidation cost
2 Debts to secured creditor (who have relinquished their security interest) and workmens’ dues (for 24 months before commencement)
3 Wages and unpaid dues to employees (other than workmen) (for 12 months before commencement)
4 Financial debts to unsecured creditors and workmen’s dues for earlier period
5 Crown debts and debts to secured creditor following enforcement of security interest
6 Remaining debts
7 Preference shareholders
8 Equity Shareholders or partners
e. The priority being given to secured creditors relinquishing security needs specific attention, especially on account of the same having the potential to be misused, especially if the debtor and the secured creditor can collide and impair the collateral.
India currently ranks 136 out of 189 countries in the World Bank's index on the ease of resolving insolvencies. India's weak insolvency regime, its significant inefficiencies and systematic abuse are some of the reasons for the distressed state of credit markets in India today. The Code promises to bring about far-reaching reforms with a thrust on creditor driven insolvency resolution. It aims at early identification of financial failure and maximising the asset value of insolvent firms. The Code also has provisions to address cross border insolvency through bilateral agreements and reciprocal arrangements with other countries.
The unified regime envisages a structured and time-bound process for insolvency resolution and liquidation, which should significantly improve debt recovery rates and revitalise the ailing Indian corporate bond markets.
Insolvency and Bankruptcy Code, 2016 bare Act link: http://www.indiacode.nic.in/acts-in-pdf/2016/201631.pdf
Companies Act 2013 bare Act link: https://www.mca.gov.in/Ministry/pdf/CompaniesAct2013.pdf
Thanks to: http://www.mondaq.com/india/x/492318/Insolvency+Bankruptcy/The+Insolvency+And+Bankruptcy+Code+2016+Key+Highlights
Also see (1) http://www.ey.com/Publication/vwLUAssets/ey-the-insolvency-and-bankruptcy-code-2016-an-overview/$FILE/ey-the-insolvency-and-bankruptcy-code-2016-an-overview.pdf
(2) Also see: http://www.legallyindia.com/views/entry/on-the-insolvency-and-bankruptcy-code