IBC threshold raised in Coronatic Disruption: Analysis and Implications

Megha Mittal & Shreya Jain

(resolution@vinodkothari.com)

Frivolous initiation of insolvency process, merely for recovery of dues has been a persistent concern- catalyst being the seemingly low threshold of Rs.1,00,000/-.While murmurs about  raising the threshold limit for initiating insolvency process have long been in the picture, the notification comes in the wake of recent outbreak of the novel COVID – 19 – the minimum default requirement now stands increased hundred times; from Rs. 1,00,000/- to Rs. 1,00,00,000.

Applicable from 24.03.2020, the Government, in exercise of its powers under section 4 of the Insolvency and Bankruptcy Code, 2016 (“Code”)[1] has specified Rs. 1,00,00,000 (Rupees One Crore) as the minimum amount of default for the purposes of triggering insolvency. Note that Rs. 1 Crore is the maximum threshold which the Central Government can prescribe under section 4.

The step has been widely touted as a relief for MSMEs in this time of crisis, however, this might have multiple implications. The authors have made a humble attempt to analyse its implications from a broader perspective, and if at such increase would be welcomed in absence of the ongoing crisis.

Triggering Insolvency- Before and After the Notification

Section 4 of the Code earlier stated that the prima-facie check-box to file any application under the Code was a minimum default of Rs 1,00,000/-. However, the proviso to the section conferred upon the Government the right to tweak the said amount at its own discretion. The proviso is ad-verbatim produced below-

 “Provided that the Central Government may, by notification, specify the minimum amount of default of higher value which shall not be more than one crore rupees.”

 While this threshold seemed to be creditor-friendly during the nascent stages of the Code, it signalled otherwise, as more and more creditors, mostly operational, dragged companies into insolvency only with a motive of recovery of claims. The amount of Rupees One Lakh, being a meek sum from a commercial viewpoint, gave the creditors an upper-hand, and in some cases gave the creditors the liberty to misuse the process of the Code. Further, in view of the fact that whether or not an application is filed with the motive of recovery or otherwise can only be determined after passing of considerable time and on hearing of the matter by the Adjudicating Authority, it was required that a root-level solution be found.

Hence, the Central Government, exercising the powers conferred upon it and at the same time keeping the maximum limit in mind, raised the minimum default threshold to its maximum capacity, i.e., Rs 1,00,00,000/- (Rupees One Crores).

While the measure has been taken in view of the disruption caused due to the COVID crisis, however, there may be several issues around it- the issues are being discussed in this write up.

Questions around Notification

Determining the threshold

As per explanation to Section 7 of the Code, in case of an application by a financial creditor, a default includes a default in respect of a financial debt owed not only to the applicant but to any other financial creditor of the corporate debtor, that is to say, a financial creditor may satisfy the minimal requirement either individually or along with defaulted debts of other financial creditors. In any case, the sum included for meeting the threshold shall include ‘defaulted sums’ only and not otherwise.

However, there is no such leeway of including other creditors’ dues while filing of application by an operational creditor- they are required to meet the threshold individually. Having said that, it is important to note that owing to the very nature of their dues, individual operational debts generally do not go as high as Rupees One Crore. The immediate impact of such a threshold as high as this would practically be washing out operational creditors- which, as a matter of fact is in contrast to the Code’s objective of balancing interests.

Another line of thought here is that a sum as high as Rupees 1 crore gives a hint that amendment to the effect that insolvency may be triggered where the total debt of the company reaches one crore (both financial and operational), may be in pipeline.

Illustration 1:

XYZ Pvt. Ltd. is a private limited company, has committed default in repayment of loan of Rs. 2 crores, taken from a bank- A Ltd. Can another financial creditor B, who owes Rs. 10 lakhs from XYZ, which is not yet defaulted, file an application against XYZ?

Yes.  Section 7 (1) of the Code provides that a financial creditor can file application towards its own claims or aggregated claims of financial creditors. Further, the Final Report of the Insolvency Law Reforms Committee states that

“5.2.2. …financial creditor must submit a record of default by the entity as recorded in a registered Information Utility (referred to as the IU) as described in Section 4.3 (or on the basis of other evidence). The default can be to any financial creditor to the entity, and not restricted to the creditor who triggers the IRP…”

 Hence, in the given case creditor B can approach the NCLT since the XYZ as an entity has defaulted claims exceeding Rs. 1 crore, and thus satisfied the revised threshold under section 4 of the Code.

Illustration 2:

In the example above, considering that XYZ Pvt. Ltd. in this case has defaulted Bank A Rs. 50 Lakhs and other financial creditors a total of Rs 75 Lakhs (defaulted). Can Bank A still approach NCLT?

 Yes. Section 7 (1) of the Code provides that a financial creditor can file application towards its own claims or aggregated claims of financial creditors. Hence, in accordance with section 7 (1) read with section 4, A meets the minimum the threshold.

 Illustration 3:

In the example above, considering that XYZ Pvt. Ltd. in this case has defaulted Bank A Rs. 50 Lakhs (total default) and other financial creditors a total of Rs 75 Lakhs (of which Rs. 45 lakhs is defaulted). Can Bank A still approach NCLT?

 No.  The amount of ‘default’ is what matters. Although section 7 (1) allows financial creditors to file claims for aggregated claim, the outstanding claim must be defaulted. In the given case the total default amount is 95 lakhs and hence, is not met as per section 4 of the Code. Thus, application cannot be filed.

 Illustration 4:

In the example above, considering that XYZ Pvt. Ltd. in this case has defaulted Bank A Rs. 50 Lakhs and other financial creditors a total of Rs 40 Lakhs. Also, the company has operational creditors of Rs. 60 Lakhs (defaulted). Can Bank A still approach NCLT?

 No. While section 7 (1) allows financial creditors to file application towards financial debts on an aggregated basis also, it must be noted that it cannot include operational debts in such aggregation. Hence, since in the instant case, the total financial debt is Rs. 90 Lakhs, A cannot file an application before NCLT as threshold as per section 4 is not met. .

Illustration 5:

XYZ also has some operational creditors viz. M, N and O to the tune of Rs. 20 Lakhs, Rs. 1.5 Crores and Rs. 85 lakhs.

 (a) Who can file application in individual capacity-

Section 8 and 9 of the Code provide for application by operational creditors. However, unlike in case of financial creditors, there is no provision of aggregating debt owed by other operational creditors; hence, it is necessary that the threshold under section 4 is met by individual operational creditors. Since, in the instant case, the revised threshold is only met by N, individual application in the instant case can only be filed by N.

(b) Can there be an application for combined debt?

The Code does not provide for combined application being filed by operational creditors. Hence, even though the total operational debt exceeds Rs. 1 crore, application cannot be filed towards cumulative operational debt.

 Illustration 6:

XYZ also has total salaries outstanding to the tune of Rs. 5 crores- however, the dues of no individual employee exceeds Rs. 1 crore- Can an employee file an application?

As per the Code, employees fall under the definition of “Operational Creditors” and as such can file application. Considering that the individual dues does not exceed 1 crore, an employee cannot file an application against XYZ individually; however, a combined application, through representatives may be filed by the employees[2].

The question of applicability

While no date of applicability is explicitly mentioned in the notification, the author makes the safe assumption that the increase shall be applicable from the date of its issue itself, that is, 24.03.2020.

However, having said that, the fate of the pending cases cannot be ascertained as of now. Where, on one hand, it goes without saying that any application filed henceforth shall meet the increased threshold and those already admitted shall remain unaffected, what would be the status of applications filed but pending admission? In case of OCs another step prior- cases in which demand notice has been sent, but application has not been filed.

Where application is pending admission

There are several cases where application has been filed as per the earlier thresholds, but the same has not been admitted. In such cases, it may be unfair to propose that such applications shall be annulled.

In this light, readers may recall the recently imposed threshold in applications to be filed by real-estate creditors[3], provided that the applications pending admission may comply with the revised thresholds within 30 days of amendment. Hence, on similar lines it may be provided that the applications pending admission be given a 60 days’ window to comply with the revised thresholds, failing which the application shall be deemed to be withdrawn.

Further, in case where the operational creditor shall sent a demand notice and application is not yet filed, the intent and tune of the Code seems to imply that application can be filed only if the revised threshold is met, and not otherwise.

Illustration 7:

A, a financial creditor of XYZ filed an application against XYZ for defaulted loan of Rs. 20 lakhs. The said application was filed prior to the notification. What would be the status of the application-

 (a) If the application is filed and admitted prior to the notification

The application shall remain valid if it was admitted prior to the notification.

(b) If the application is filed, but pending application

The applicant may be given a rectification window of 60 days to meet the required threshold, failing which it shall be a deemed withdrawal. However, there is no formal clarity on the same.

Illustration 8:

B, an operational creditor of XYZ has only served a demand notice as required under the Code, and is yet to file an application against XYZ for defaulted loan of Rs. 20 lakhs. The demand notice was served prior to the Notification. Can B proceed with the application?

 No. Considering that no application had been moved prior to notification, B would not get the transitional window, as in case of application pending admission. Considering that B’s dues does not meet the threshold limits, B cannot proceed with the application.

 The fate of personal guarantors- lack of harmony?

Now that provisions w.r.t. insolvency process against personal guarantors to corporate debtors have come into picture, thresholds for corporate and individual processes must be harmonious. While the threshold has been notified for corporate debtors, there has been no such update with regard to the personal guarantors- meaning that the limit has been increased for the companies and application against the personal guarantors can still be filed based on erstwhile limits, that is, Rs. 1,000/-

In such a scenario, since filing application against the corporate debtor has now become difficult, it may so happen that the burden of the corporate debtor’s creditors has to be borne by the personal guarantors; and hence, there are high chances of a possible spike in the number of insolvency proceedings against personal guarantors, which is still in its developing stage. The problem was not there earlier as the minimum default for corporate debtor was Rs. 1 lakh only.

Hence, what is required is a corresponding revision in case of personal guarantors too. However, note that the maximum threshold which can be prescribed by the Central Government in individual insolvency cases is only Rs. 1 lakh, as per section 78 of the Code. Therefore, in order to address the issue as pointed above, any revision in the maximum threshold amount will require amendments in the Code.

Was this the Need of the Hour?

While the country is into a potential financial distress due to the recent turbulence in the market (underlying reason – COVID 19), was the recent notification at all required?

In light of the ongoing crisis, it is only inevitable that the companies are going to go through a rough patch, and hence, it can be reasonably said that the revision of threshold will indeed come as a saviour by small and medium sized companies, vulnerable to the wrath of lenders during these tough times. Further, in light of the present situations, the Government has further proposed a prospective suspension on filing of any fresh application under section 7, 9 or 10, if situation so demands.

However, another question is whether the revision in threshold would have anyway been introduced- crisis or no crisis.

As mentioned earlier, the Code has seen a dominance of operational creditors in terms of applications being filed. The latest data suggests that as on 31st December, 2019[4], there are a total 3,312 case filed so far, out of which a whopping 49.21% (1,630) cases have been filed by the operational creditors, it only implicates that most of the cases are that of the operational creditors, who naturally have a lower quantum of claims against the corporate debtor as compared to the financial creditors.

With the increase in the default threshold limit, the filing of frivolous applications is expected to be curbed. Therefore, the corporate debtor may remain at peace for a while, simultaneously, some operational creditors may have to swallow some pills of deep agony.


[1] https://www.ibbi.gov.in/uploads/legalframwork/48bf32150f5d6b30477b74f652964edc.pdf

[2] See: Mr. Suresh Narayan Singh Vs. Tayo Rolls Limited Company Appeal (AT) (Insolvency) No. 112 of 2018

[3] Introduced vide Insolvency and Bankruptcy Code (Amendment) Bill, 2020

[4] https://ibbi.gov.in/uploads/publication/62a9cc46d6a96690e4c8a3c9ee3ab862.pdf

4 replies
  1. Rashmi Sharma
    Rashmi Sharma says:

    If a financial creditor has filed a case before nclt as per one crore norm and an operational creditor has an claim of Rs 2lacs. Can an operational creditor claim the amount after public announcement as per the new march 2020 notification

    Reply
    • Megha Mittal
      Megha Mittal says:

      Hi Ma’am,

      Thank you for your time and interest.
      The increase in threshold is for filing of application and does not in any way impact filing of claims by creditors. Hence, the operational creditor may very well file its claim irrespective of the amount once the insolvency proceedings against the company are initiated.

      Reply
  2. Vinayak Srivastava
    Vinayak Srivastava says:

    Can you also let us know wheather notification is applicable if default ( due date of invoice for operational creditor)occured prior to date of notification . There is no clarity in the notification

    Reply
    • Megha Mittal
      Megha Mittal says:

      Hi Sir, thank you for your time and interest.
      As discussed in the article, if the application is being filed after 24.03.2020, the revised threshold of Rs. 1 crore shall be applicable irrespective of the date of default (in this case prior to 24.03.2020).

      Reply

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