Introduction:
Insolvency is a financial condition where a debtor is unable to repay its creditors. Whereas bankruptcy is a situation where it is legally declared that the company does not have funds to pay back the creditors, and hence the company is declared bankrupt. It is remarkable to know that all insolvency does not necessarily result in bankruptcy. When a company becomes insolvent, it can revive itself through various means. These various methods include restructuring the business, renegotiating debt with creditors, seeking new investments, improving operational efficiency, and exploring opportunities for increased revenue and profitability. A successful implementation of such measures can help the company regain financial stability and continue its operations without declaring bankruptcy.
Insolvency and Bankruptcy Code, 2016 was introduced to establish a structured process of handling insolvency cases and to revive individuals or companies out of debt within 180 days. This process involves attempting an insolvency resolution and then if that fails, then only it proceeds to bankruptcy proceedings. The code’s primary goal was to maximize the value of assets for companies facing the looming threat of bankruptcy, often referred to as “Corporate insolvency.” The significant purpose behind the enactment of the Code was to enhance the ease of conducting business in India. Prior to the implementation of the Insolvency and Bankruptcy Code 2016, there existed a complex landscape of multiple laws and various adjudicating bodies responsible for addressing financial failures and insolvency cases involving both companies and individuals.
Essences of Insolvency and Bankruptcy Code, 2016:
The code was implemented by the parliament and is applicable to companies, partnerships, and individuals. The Insolvency and Bankruptcy Code, 2016(IBC) establishes a structured and time-bound mechanism for addressing insolvency issues. When a debtor defaults on their repayment obligations, creditors are granted authority over the debtor’s assets and are tasked with making decisions to resolve the insolvency situation. Under the IBC, both debtors and creditors have the option to initiate legal proceedings against each other for the purpose of recovering their dues. Companies must conclude the entire insolvency process within 180 days, if creditors raise no objections, then the time limit can be extended as well. No legal action can be taken against the debtor during this period. Smaller businesses, such as start-ups with an annual turnover of less than Rs. 1 crore, are granted an extra 45 days to complete the insolvency proceedings. If debt resolution is not achieved, the company proceeds with the liquidation process. When an insolvency process initiates there are two options.
- Debt resolution: Sale of the existing business
- Liquidation process: Sale of the assets of the company
The resolution process is overlooked by a licensed professional who administers the debtor’s assets and provides creditors with essential information to aid them in making decisions. An insolvency professional brings together a committee comprising financial creditors, who determine the fate of the debt owed by the debtor. This committee has the authority to either restructure the payment terms or liquidate the debtor’s assets. If this crucial decision is not reached within the 180-day timeframe, the debtor’s assets proceed into the liquidation process. The proceedings of the resolution process are adjudicated by the National Company Law Tribunal (NCLT) for companies and the Debt Recovery Tribunal (DRT) for individuals. The court’s approval is required to initiate the resolution process, alongside appointing the insolvency professional, and approve the final decisions of the creditors. The Insolvency and Bankruptcy Board regulates insolvency professionals, agencies of insolvency professionals, and information utilities established under the code. If the only sole recourse is of liquidation, then, the sale of the debtor’s assets is distributed to cover the insolvency resolution costs, including the compensation for the insolvency professional; second, to satisfy secured creditors whose loans are backed by collateral; third, to settle obligations to workers and other employees; and finally, to address the claims of unsecured creditors.
When can an individual/ company be declared insolvent:
Individuals:
- When there is default in repayment to the creditors.
- An application by either the creditor or debtor can be initiated before the tribunal, for insolvency proceedings.
- If the tribunal is stratified with the application, it appoints an Insolvency Professional for Corporate Insolvency Resolution Process. During this process, the creditors are prohibited from filing any other legal proceedings against the debtors.
- The Insolvency Professional makes a committee with all the creditors, who assess the debt and make a decision within 180 days.
- These findings are then brought before the tribunal and if the tribunal is satisfied, it approves the final decision of the committee.
- If the decision of the committee is to sell all the assets of the debtor, then the proceeds are distributed amongst the creditors.
- After the distribution is complete, then the individual is required to collect a “Certificate of Absolute Discharge” which is granted only when it is proved that the insolvency resulted due to misfortune and not because of any dishonest or fraudulent behaviours on the part of the debtor.
- On the award of the absolute discharge certificate, the remaining unpaid debt of the debtor is canceled and cannot be forced to repay the debt amount.
Company:
- When there is default in repayment to the creditors.
- An application by either the creditor or the defaulting company can be initiated before the tribunal, for insolvency proceedings.
- The tribunal admits the application and if it is stratified with the application then only an Insolvency Professional is appointed for Corporate Insolvency Resolution Process. During this process, the creditors are prohibited from filing any other legal proceedings against the defaulting company.
- The Insolvency Professional makes a committee with all the creditors, who assess the debt and make a decision within 180 days.
- These findings are then brought before the tribunal and if the tribunal is satisfied, it approves the final decision of the committee.
- If the decision of the committee is to sell all the assets of the defaulting company, then the revenue generated from the assets is distributed amongst the creditors.
- After the distribution is complete the individual is required to collect a “Certificate of Absolute Discharge” which is granted only when it is proved that the insolvency resulted due to misfortune and not because of any dishonest or fraudulent behaviours on the part of the defaulting company.
- On the award of the absolute discharge certificate, the remaining unpaid debt of the company is cancelled and cannot be forced to repay the debt amount.
Conclusion:
It is evident that the Code aims to address certain issues that were prevalent in the previous regime. The primary objective of the Code, initially designed to safeguard the interests of creditors, now seems to prioritize ‘protecting the interests of the debtors and defaulting companies.’It is significant to note that insolvency does not always lead to bankruptcy, as there are various methods and legal mechanisms available to resolve financial distress. The Code has significantly improved the insolvency and bankruptcy landscape in India, making it more transparent, efficient, and helpful to business. It has also offered relief to debtors by providing a structured framework for resolving financial difficulties, helping them avoid bankruptcy when possible. However, for any law or regulation to work well, it needs to be put into practice effectively, with adherence to timelines, and fair decision-making by all stakeholders involved in the insolvency process.
This article is written and submitted by Advocate Surya Kumar and you can reach out to the author at surya@bnblegal.com.
