Supreme Court: Insolvency Resolution Of Corporate Guarantor Does Not prevent Corporate Debtor's From Initiating CIRP For Remaining Debt

Supreme Court: Insolvency Resolution Of Corporate Guarantor Does Not prevent Corporate Debtor's From Initiating CIRP For Remaining Debt

In a significant ruling, the Supreme Court has determined that the insolvency resolution of a corporate guarantor does not preclude a creditor from initiating a separate insolvency process against the corporate debtor for any remaining debt.

The Court clarified that the resolution of the corporate guarantor does not absolve the corporate debtor from the remaining liability.

In this case, the financial creditor had initiated the Corporate Insolvency Resolution Process (CIRP) against the corporate debtor due to a default on a debt of Rs. 100 crores. The corporate debtor is a subsidiary of M/s. Assam Company India Limited (ACIL), which provided a corporate guarantee for the debtor.

The financial creditor also initiated a CIRP against the corporate guarantor, with the appellant (resolution applicant) proposing a resolution plan of Rs. 38.87 crores for the corporate guarantor. This plan was accepted by the creditor as a full and final settlement of the guarantor's liability on behalf of the corporate debtor.

After completing the CIRP for the corporate guarantor, the financial creditor then proceeded to initiate a CIRP against the corporate debtor for the remaining debt. The issue at hand was whether the acceptance of the resolution plan for the corporate guarantor precluded the creditor from initiating insolvency proceedings against the corporate debtor for the outstanding amount.

The bench, comprising Justices Abhay S. Oka and Pankaj Mithal, stated:

“Where a company furnishes a corporate guarantee for securing a loan taken by another company, and if the CIRP of the corporate guarantor ends in a resolution plan, it will bind the creditor of the corporate guarantor. The corporate guarantor's liability may end in such a case by operation of law. However, such a resolution plan of the corporate guarantor will not affect the liability of the principal borrower to repay the loan amount to the creditor after deducting the amount recovered from the corporate guarantor or the amount paid by the resolution applicant on behalf of the corporate guarantor as per the resolution plan."

The key question before the Supreme Court was: “Whether the second application under Section 7 of IBC is not maintainable against the corporate debtor as for the same debt and default, CIRP has already been taken place against the corporate guarantor, and the financial creditor has accepted the amount in full and final settlement of all its dues?”

The Court answered in the negative, affirming that a creditor can initiate a CIRP against the corporate debtor even if a CIRP has already been conducted against the corporate guarantor.

The Court explained: "If the creditor recovers a part of the amount guaranteed by the surety from the surety and agrees not to proceed against the surety for the balance amount, that will not extinguish the remaining debt payable by the principal borrower. In such a case, the creditor can proceed against the principal borrower to recover the balance amount. Similarly, if there is a compromise or settlement between the creditor and the surety to which the principal borrower is not a consenting party, the liability of the borrower to the creditor will remain unaffected. The provisions regarding the discharge of the surety discussed above show that involuntary acts of the principal borrower or creditor do not result in the discharge of surety."

The Court ruled that under Section 140 of the Indian Contract Act of 1872, a corporate guarantor has the right to step into the creditor's position to recover the loan amount paid on behalf of the corporate debtor.

Justice Oka explained: “If the surety pays the entirety of the amount payable under guarantee to the creditor, Section 140 provides a remedy to the surety to recover the entire amount paid by him in the discharge of his obligations. Therefore, the surety gets invested with the rights of the creditor to recover from the principal debtor the amount which was paid as per the guarantee.”

The Court further clarified that if the surety pays only part of the amount due to the creditor, its equitable right under Section 140 will be limited to the portion of the debt cleared.

“If the surety pays only a part of the amount payable to the creditor, the equitable right the surety gets under Section 140 will be confined to the debt he cleared," the court added.

Additionally, the Court clarified that subrogation applies only to the extent of the amount recovered by the creditor from the surety.

"Notwithstanding the subrogation to the extent of the amount paid on behalf of the corporate guarantor by the resolution applicant, the right of the financial creditor to recover the balance debt payable by the corporate debtor is in no way extinguished," the judgment stated.

The Court also addressed the issue of whether a subsidiary company's assets can be included in the resolution plan of its holding company.

“A holding company and its subsidiary are always distinct legal entities. The holding company would own shares of the subsidiary company. That does not make the holding company the owner of the subsidiary's assets. In the case of Vodafone International Holdings BV, this Court took the view that if a subsidiary company is wound up, its assets do not belong to the holding company but to the liquidator. As mentioned in the decision, the reason is that a company is a separate legal persona, and the fact that the parent company owns all its shares has nothing to do with its separate legal existence. Therefore, the assets of the subsidiary company of the corporate debtor cannot be part of the resolution plan of the corporate debtor," the court said.