Effect Of Insolvency And Bankruptcy Code, 2016 On SARFAESI Act, DRT Act

Section 14(1)(c) of

the Insolvency and

Bankruptcy Code, 2016

clearly provides that

during the insolvency

resolution process as

defined in the Code, the

Code takes precedence

over the DRT Act and

SARFAESI Act

Centuries-old laws of the Presidency Towns

Insolvency Act, 1909 and Provincial Insolvency

Act, 1920 regulated insolvency resolution for

individuals and the Sick Industrial Companies Act,

1985 and Companies Act, 1956/2013 regulated insolvency

resolution for companies prior to the introduction of

Insolvency and Bankruptcy Code, 2016 (hereinafter referred

to as the "Code").

The Code is a welcome step in resolving issues faced in

these archaic laws. Moreover, it consolidates laws relating

to insolvency and repeals the

Presidency Towns Insolvency Act,

1909 and Provincial Insolvency Act,

1920. Other than that, the Code

also amends 11 laws, including

the Companies Act, 2013, Recovery

of Debts and Bankruptcy Act, 1993

(DRT Act), and Securitization and

Reconstruction of the Financial

Assets and Enforcement of the

Securitization Act, 2002 (SARFAESI

Act). From the amendments, it is

clear that all these 11 Acts are

affected by the enactment of the

Code.

Hence, the question that arises

for discussion is what happens to

proceedings pending before different

forums under the DRT Act and

SARFAESI Act.

The Code devises two separate

processes for corporate insolvency matters and individual/

un-incorporated bankruptcy matter. Part II of the Code

deals with corporate insolvency mechanism pertaining to

companies incorporated under the Companies Act, 1956

and 2013 and limited liability partnership incorporated

under the Limited Liability Partnership Act, 2008; matters

in this regard will be dealt by the National Company Law

Tribunal. Part III deals with the bankruptcy process for

individuals and partnership firms (unincorporated entities)

and is maintainable before the Debt Recovery Tribunal.

Both Parts II and III provide a detailed procedure for declaring a

company, LLP, individual, or unincorporated entity.

Section 14 of the Code (falling in Part II) reads as follows:

14. Moratorium

1. Subject to provisions of sub-sections (2) and (3), on the

insolvency commencement date, the Adjudicating Authority

shall by order declare moratorium for prohibiting all of the

following, namely:

(a) The institution of suits or

continuation of pending suits or

proceedings against the corporate

debtor, including execution of any

judgment, decree, or order in any

court of law, tribunal, arbitration

panel, or other authority;

(b) Transferring, encumbering,

alienating, or disposing of by the

corporate debtor any of its assets or

any legal right or beneficial interest

therein;

(c) Any action to foreclose, recover,

or enforce any security interest

created by the corporate debtor in

respect of its property including any

action under the Securitisation and

Reconstruction of Financial Assets

and Enforcement of Security Interest

Act, 2002 (54 of 2002);

2. The supply of essential goods or

services to the corporate debtor as may be specified shall

not be terminated or suspended or interrupted during

moratorium period.

3. The provisions of sub-section (1) shall not apply to such

transactions as may be notified by the Central Government

in consultation with any financial sector regulator.

4. The order of moratorium shall have effect from the date

of such order till the completion of the corporate insolvency

resolution process: Provided that where at any time during the corporate

insolvency resolution process period, if the Adjudicating

Authority approves the resolution plan under sub-section

(1) of Section 31 or passes an order for liquidation of

corporate debtor under Section 33, the moratorium shall

cease to have effect from the date of such approval or

liquidation order, as the case may be.

From the abovementioned details, it is clear that

all pending proceedings are stayed for a period of

180 days from the date of admission of the application to

initiate such proceeding in terms of Section 12 of the Code,

and the Adjudicating Authority shall by Order declare that

no new action is allowed to be initiated if the tribunal makes

an order to that effect. During the moratorium period, the

debtor will also be prevented from disposing of its assets

out of the ordinary course. The idea behind this moratorium

is to provide a calm period for the debtor and creditors to

discuss the rehabilitation of the company under the Code.

Though the provisions are yet to be examined by the courts

of law, Section 14(1)(c) of the Code clearly provides that

during the insolvency resolution process as defined in

the Code, the Code takes precedence over the DRT Act and

SARFAESI Act. In other words, existing actions will be

stayed, and no new action can be initiated under the DRT

Act and SARFAESI Act.

Similarly, the moratorium period is provided in Section 85

of the Code for individuals and unincorporated entities,

which reads as follows:

85. Effect of admission of application

(1) On the date of admission of the application, the

moratorium period shall commence in respect of all

the debts.

(2) During the moratorium period:

(a) Any pending legal action or legal proceeding in

respect of any debt shall be deemed to have been

stayed; and

(b) Subject to the provisions of Section 86, the

creditors shall not initiate any legal action or

proceedings in respect of any debt.

(3) During the moratorium period, the debtor shall:

(a) Not act as a director of any company, or directly

or indirectly take part in or be concerned in

the promotion, formation, or management of a

company;

(b) Not dispose of or alienate any of his assets;

(c) Inform his business partners that he is

undergoing a fresh start process;

(d) Be required to inform prior to entering into any

financial or commercial transaction of such value

as may be notified by the Central Government,

either individually jointly, that he is undergoing

a fresh start process;

(e) Disclose the name under which he enters into

business transactions, if it is different from the

name in the application admitted under Section

84;

(f) Not travel outside India except with the

permission of the Adjudicating Authority.

(4) The moratorium ceases to have effect at the end of

the period of one hundred and eighty days beginning

with the date of admission unless the order admitting the application is revoked under sub-section (2) of

Section 91.

A similar provision is provided under Section 101 with

respect to the insolvency resolution process under the Code.

The period of 180 days starts from the date of admission

as provided in Section 84 of the Code, and an option of

revoking the moratorium period is provided under Section

91(2) of the Code.

In conclusion, it is thus clear that for a period of

180 days as provided in sections above, from the

dates of different mechanisms taken under the Code,

the proceedings under the DRT Act and SARFAESI

Act remain suspended, without affecting the limitation

period for filing the same, though an order to that

effect must be passed by the respective Adjudicating

Authority.

The second stage that the security held by a creditor may

be affected with respect to a corporate debtor is under the

liquidation order. In case a liquidation order is passed by

the appropriate authority in terms of Section 33 of the Code,

a creditor has two options:

(a) A secured creditor can choose to relinquish his/her

security interest and be part of the liquidation process

in terms of Section 53, in which case, the dues of

the secured creditor will rank higher in preference of

distribution; or

(b) A secured creditor can choose to stay outside the

liquidation process and enforce his/her security interest

in accordance with Section 52 of the Code.

The position in respect of individuals and unincorporated

entities is different. In the event that a bankruptcy order

is passed by the Adjudicating Authority, which is the Debt

Recovery Tribunal, the bankruptcy order shall not affect the

right of any secured creditor to realize or otherwise deal

with his/her security interest in the same manner as he

would have been entitled in case the bankruptcy order was

not passed.

Though the legislature has made extensive efforts

to bring harmony between these laws, it is yet to stand the

test of implementation. Some immediate concerns are as

follows:

1. Time-bound insolvency resolution requires the

establishment of several new entities. Moreover, given

the pendency and disposal rate of Debt Recovery

Tribunals, their current capacity may be inadequate

to take up the additional role (As of December 2014,

there were 62,000 cases pending with Debt Recovery

Tribunals, and the disposal rate has been about 10,000

cases per year.).

2. Existence of multiple laws (the Code, DRT Act, and

SARFAESI Act) and forums (NCLT and Debt Recovery

Tribunals) to deal with the debt recovery problems

of secured creditors will result in interpretation and

harmonization of various laws, leading to delay in

insolvency proceedings.

3. Interplay of the Code with debt recovery laws

such as the SARFAESI Act and DRT Act has not

been fully addressed, and there is an apparent

tension between these statutes. However, for an

insolvency regime to function effectively, clear

harmonization for the interplay of the different laws

will have to be done.

4. Additionally, the parties have the liberty to approach a

forum dealing with Corporate Debt Restructuring (CDR)

and Joint Lenders Forum (JLF). Applicability of the

CDR and JLF proceedings on the Code will have to be

addressed separately.

We trust and hope that the NCLT and Debt Recovery Tribunal

under the Code will function effectively furthering the

objective of the Code, and if strict timelines are followed,

then the Code may result in improving the prospects of

recovery for creditors and provide safeguards to honest

insolvents.

Disclaimer – The views expressed in this article are the personal views of the author and are purely informative in nature.