Lenders are free to invoke the personal guarantees of a debtor company under the Insolvency and Bankruptcy Code, 2016 – Insolvency / Bankruptcy / Restructuring

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India: Lenders are free to invoke the personal guarantees of a debtor company under the Insolvency and Bankruptcy Code, 2016

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introduction

The Supreme Court of India in the case Lalit Kumar Jain v. Union of India & Ors. by its judgment of May 21, 2021 confirmed the validity of notification no. SO 4126 (E) of November 15, 2019 (“said notification“) issued by the central government, which brought into force the provisions relating to personal guarantors to debtor companies with effect from December 1, 2019. In addition, the Apex Court ruled that the approval of a resolution plan at the against a debtor company
ipso facto does not absolve the personal guarantor towards the debtor company from the obligations arising out of the guarantee contract, since this results from an independent contract.

Background to the dispute

By said Notification, the Central Government has notified that certain provisions of the Insolvency and Bankruptcy Code, 2016 (“Coded“) specifically under Part III of the Code are applicable only to a personal guarantor of a debtor company and not to other natural persons in the exercise of the powers conferred under Article 1 (3) of the Code The said notification was contested before various High Courts The Supreme Court confided in all these questions in order to deal quickly with the question in question and to avoid any contradictory decision.

Arguments of the applicants

Some of the main arguments of the petitioners were as follows:

  1. Such notification is an exercise of excessive delegation and the central government does not have the power to impose conditions on the application of the code only with regard to certain entities. It has also been argued that the power conferred on the central government under Article 1 (3) of the Code is only intended to provide flexibility with respect to time, i.e. different dates on which different provisions of the Code may be applied and does not give the power to limit the application of the provisions to certain categories or categories of persons.
  2. There is no intelligible difference on the basis of which certain provisions apply only to personal guarantors of corporate debtors and not to other categories of debtors such as individuals and partnerships. It has also been argued that several provisions falling under Part III of the Code are applied to personal guarantors, however, Part III does not apply at all to personal guarantors of a debtor company.
  3. The liability of the guarantor is coextensive with that of the principal obligor and as the principal obligor is relieved of this responsibility, the guarantor is also relieved.
  4. This notification affected the ability of the personal guarantors to recover the amount from the debtor company during and after the insolvency proceedings. It has been argued that section 140 of the Indian Contract Act, 1872 gives the surety the right to exercise any right that the creditor had against the debtor company once the creditors’ claim has been settled. This right also allows the surety to file a resolution plan against the debtor company after the conclusion of the creditor resolution process. However, under Article 29A of the Code, promoters of debtor companies, who in most cases are also the people who have provided personal guarantees, are not allowed to file a resolution plan as part of the process. for resolving corporate insolvency.

Arguments of the Respondents

Some of the main statements made by respondents were as follows:

  1. The executive has the power under section 1 (3) of the Code to enact a provision of the law at different times and for different purposes. It has been argued that there is an anomaly in the Code at present, as the corporate guarantor is covered by Part II of the Code and can be included in the insolvency process, however there is no provision. to cover the personal guarantor, despite both the and the personal guarantor being in the same class.
  2. In 2018, thanks to an amendment to the Code, 3 (three) different categories of debtors were introduced in article 2 (e) of the Code, i.e. the personal guarantor of a debtor company (article 2 (e)), partnerships (article 2 (f)) and individuals (article 2 (g)). The intention behind such an amendment was that Parliament wanted to treat the personal guarantor of a debtor business differently from partnerships and individuals. In this regard, by an amendment to the Code in 2018, personal guarantors were also included in Article 60 (2) of the Code for the insolvency and bankruptcy process. The intention of the legislator and the central government has been to unify the insolvency process of debtor companies and personal guarantors to debtor companies in order to allow the contracting authority to have a clear view on the assets, resources and the liabilities of all parties.
  3. As long as the debt has not been paid in full to the creditor, the guarantor is not exonerated from his joint and several liability to make the payment of the sums due in favor of the creditor.

Analysis and decision of the Court

The Court ruled that different provisions of the Code were applied at different times by the central government depending on the objective of the Code in relation to a provision and the priority assigned to it. The Apex court also ruled that bringing the personal guarantor into insolvency proceedings is in line with the objective of the Code. Further, he noted that the personal guarantors of a debtor business are a different category of persons and that this different category has the necessary recognition and legal support in the form of the 2018 amendment (in section 2 (e ) and section 60) and not through such notification. . Therefore, there is no legislation delegated through notification.

The Court also ruled that it had always been Parliament’s intention, through the 2018 amendment and the said notification, to treat a personal guarantor as a different category from other categories of persons and, therefore , certain provisions have been made applicable to personal guarantors and not to other persons. The Court also recognized the proximity of the personal guarantor to corporate debtors in relation to partnerships and individuals. He also considered that the unification of the insolvency process with regard to different entities, namely the debtor company, the personal guarantor and the guarantor, will allow the decision-making authority, namely NLCT, to have a overview and will give impetus to the insolvency process. In addition, he noted that the sanction of a resolution plan per se does not function as a discharge from the liability of a personal guarantor.

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Affirmation of said Notification by the Apex Tribunal will ensure that upon approval of a resolution plan, the personal guarantor of a debtor company will not be ipso facto exempt from liability for the residual amount remaining even after the settlement procedure. ‘insolvency. In addition, the judgment will strengthen and speed up the insolvency resolution process of the business, as lenders will be allowed to sue personal guarantors separately even if a proceeding against the debtor business is pending or completed. It will also help lenders collect the maximum amount of debt without allowing the personal promoters / guarantors of a debtor business to be exempt from personal liability, simply because the debtor business has gone bankrupt.

The content of this document does not necessarily reflect the views / position of Khaitan & Co but remains solely those of the author (s). For any further questions or follow-up, please contact Khaitan & Co at [email protected]

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