With a nation-wide lockdown in force businesses and financial markets are facing the brunt of the economic fallout caused by the COVID-19. Intending to curb the social and economic distress caused by COVID-19, the President of India promulgated the Insolvency and Bankruptcy Code (Amendment) Ordinance, 2020 on 05.06.2020 to rescue defaulters are becoming difficult to come by. This move by the government would serve as a huge relief for corporate sectors who may have ended in premature corporate death if the ordinance would have not come to their rescue in time. This article seeks to analyze the benefits and the glaring ambiguities arising from the ordinance.
What does the Insolvency and Bankruptcy Code (Amendment) Ordinance, 2020 entail?
To safeguard the interest of corporate persons, who may commit defaults towards their debt obligations, the Government of India has brought the Ordinance to provide relief to those companies. The Ordinance has barred the initiation of Insolvency proceedings, by introducing Section 10A in the Insolvency and Bankruptcy Code, 2016, for defaults arising during the six months from March 25, 2020 (extendable up to one year). The Ordinance has suspended sections 7,9 and 10 of the Insolvency and Bankruptcy Code, 2016 along with the insertion of section 66(3) into the Code. However, for clearing the doubts regarding section 10A, the government made clear of this fact, that the ordinance won't have any effect for the defaults committed before 25th March.
Challenges Under the Ordinance
While the present Ordinance can be observed as a benevolent measure by the government to safeguard the interest of those corporate persons, who could get dragged into the insolvency proceedings, the Ordinance boasts of a few ambiguities that could prove detrimental in the long run.This article seeks to analyze and understand the impacts and the ambiguities of the said Ordinance along with the benefits it seeks to reap.
The Ordinance has suspended Sections 7, 9, and 10 of the IBC. The Ordinance inserted Section 10A in the IBC, which prohibited the filing of an application for initiation of insolvency proceedings for any default arising after March 25, 2020, till the end of the Specified Period without an inquiry into the cause of default. Section 10A states that ''no application shall ever be filed for initiation of CIRP for default occurring during Exempted Period''. While the Ordinance has been introduced in light of business disruptions caused on account of Covid-19, no rationale has been provided for the permanent prohibition, also does this mean that complete abatement would be available even after the Exempted Period ends, concerning the amounts defaulted during the said Exempted Period. It is also mentioned that the section 10A does not apply to defaults before 25th March 2020 and this makes the whole amendment questionable. As, industries and businesses may remain in distressed positions during this pandemic, even if their default occurred before the aforementioned date. Further, a company defaulting on, say, 24th March, is not given any relief under this provision as opposed to a company defaulting a day later for similar defaults and reasons. Also, the provision is silent on continuing defaults, i.e. defaults that may begin before 25th March 2020, but due to their nature, carry on for an extended period. Will the entire default be exempt? What about the default caused before the date? There seems to be an assumption that any default occurring within this said period is a consequence of the pandemic. Thus, defaults that were genuine and disconnected from the pandemic, will also enjoy protection under Section 10A. The absence of a definition or explanation of a Covid-19 default makes the provision, in our opinion, arbitrary. The lack of clarity on the exclusion from the definition of default also leads to ambiguity to the fact of future benefits coming out of these, when the suspension is lifted.
The Ordinance also inserted sub-section (3) to Section 66 of the IBC, wherein it prohibited resolution professionals from applying under Section 66(2), i.e. wrongful trading. This section would protect a director or partner of the corporate debtor from proceedings being initiated against them for wrongful trading, relating to default during the Specified Period. This provision fairly deals with the director's liability to act diligently in the penultimate phase of insolvency. Therefore, there is a risk that reckless behavior of directors before March 25, 2020, may lead to default during the Specified Period, may go unpunished, unless dealt with under the Companies Act, 2013, as a breach of directors’ duties. It is pertinent to note, however, that this section does not apply to Section 66(1) which deals with fraudulent trading. If an individual continues to deal fraudulently in the suspension period and defrauds its creditors, no protection under Section 66(3) will be provided.
The primary objective of the Insolvency and Bankruptcy Code, 2016 is the insolvency resolution in a time-bound manner for maximization of the value of assets. Though the Ordinance seeks to provide an efficient breathing space to Indian businesses hit by the pandemic and revamp the economy, it can backfire, resulting in unintended grave consequences in the realm of corporate insolvency. It is also self-defeating to a corporate debtor since there is no direct imposition of a moratorium on the initiation of judicial proceedings, or the option to file for voluntary bankruptcy. The government must take account of all the possible loopholes arising from the ordinance and put things into perspective before it gets too late. However, a plea has been filed in the Delhi High Court challenging the constitutional validity of the Insolvency and Bankruptcy Code (Amendment) Ordinance, 2020, on suspending provisions of Section 7, 9, and Section 10 of the Insolvency and Bankruptcy Code, 2016, stating that, ''the effect of the said Ordinance is to deprive a corporate applicant of its statutory rights under Section 10 and is also violative of Article 14 of the Constitution''. The HC bench has sought a reply from the government and the bankruptcy board by 31 August, however no such reply has been given by the state.
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