The Insolvency and Bankruptcy Code, 2016 (hereinafter referred to as "the Code"), was passed with the objective of consolidating and amending laws relating to reorganization and insolvency resolution of corporate persons, partnership firms and individuals in a time bound manner for maximization of value of assets of such persons, to promote entrepreneurship, availability of credit and balance the interests of all stakeholders. However, within a year of its enactment, the Code has run into several roadblocks creating a deadlock between different authorities as regards to its interpretation. One such deadlock is the question regarding the applicability of the imposition of moratorium under Section 14 of the Code to the personal guarantors of the corporate debtors. "Moratorium" in plain language is defined as a legal authorization to debtors to postpone payment to creditors; a suspension of activity or a waiting period set by an authority 1. The wording of the said provision has created a sea of confusion and ambiguity regarding its application, with National Company Law Tribunals in different parts of the country giving varying directives on the same.
A contract of guarantee is defined under Section 126 of the Indian Contract Act, 1872, as a contract to perform the promise or discharge the liability of a third person in case of his default. The person who gives the guarantee is called the 'surety'; the person in respect of whose default the guarantee is given is called the 'principal debtor', and the person to whom the guarantee is given is called the 'creditor'. Section 128 of the Indian Contract Act, 1872 provides that the liability of the surety is co-extensive with that of the principal debtor unless provided otherwise by the contract.
In Central Bank of India v. C L Vimla 2, the Supreme Court observed that, "The creditor has a right to obtain a decree against the surety and the principal debtor. The surety neither has the right to restrain execution of the decree against him until the creditor has exhausted his remedy against the principal debtor nor does he have a right to dictate terms to the creditor as to how he should make the recovery and pursue his remedies against the principal debtor at his instance. Thus, we are of the view that guarantor cannot escape from her liability as a guarantor for the debt taken by the principal debtor." Thus, it has been established beyond doubt that the creditor has the discretion to proceed against either the principle debtor or the guarantor as he deems fit.
However, Section 14 of the Code limits the rights of the creditor, to proceed against the debtor, once the period of moratorium has been imposed. It lays down that-
(1) Subject to provisions of sub-sections (2) and (3), on the insolvency commencement date3, the Adjudicating Authority4 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 off, 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;
(d) the recovery of any property by an owner or lessor where such property is occupied by or in the possession of the corporate debtor.
In light of the said provision, the question which arises is whether the aforementioned provision also limits the right of the creditor to proceed against the guarantor during the period of moratorium?
This issue has been discussed comprehensively in various decisions. The Ld. NCLAT, in an appeal against judgment of Ld. NCLT, Mumbai Bench, in the case of Alpha & Omega Diagnostics (India) Ltd. v. Asset Reconstruction Company of India Ltd. & Ors. 5 opined upon the question regarding treatment of properties of the guarantors during a moratorium under Section 14 of the Code. In the said case, the personal properties of the promoters had been given as security to the banks. The question before the Ld. NCLT Mumbai was whether such properties that are not owned by the corporate debtor would fall within the ambit of a moratorium under the Code. Applying the principle of strict interpretation, the Ld. NCLT Mumbai held that the term "its" under Section 14(1)(c) of the Code refers to the property of the corporate debtor undergoing a Corporate Insolvency Resolution Process ("CIRP"). Accordingly, the property not owned by the corporate debtor would not fall within the ambit of the moratorium imposed under the Code. Upholding the decision of the Ld. NCLT, the Ld. NCLAT held that the moratorium would not be applicable to any assets, movable or immoveable, that do not belong to the corporate debtor.
Similarly, in Schweitzer Systemek India Pvt. Ltd. v. Phoenix ARC Pvt. Ltd. 6, the Ld. NCLT, Mumbai Bench interpreted the benefit of the moratorium to be limited only to corporate debtors. Reiterating the same principle, the Ahmedabad Bench of Ld. NCLT in IDBI Bank Ltd. v. BCC Estate Pvt. Ltd. 7 held that "The liability of Guarantor is coextensive with that of the Principal Borrower. It is for the creditor to choose against whom he wants to proceed. There is thus, no bar in the law which prevents any creditor to proceed against both, the Principal Borrower and Guarantors". A contention that the resolution plan for Principal Borrower, undergoing CIRP (i.e. Corporate Debtor), would also include corporate guarantor, was rejected by NCLT as the corporate guarantor is an independent corporate body.
From the aforementioned adjudications, it seemed that the settled principle of law was that the imposition of moratorium would not preclude the creditor from proceeding against the guarantors.
However, this principle underwent a sea of change after the judgment of the Hon'ble Allahabad High Court in the case of Sanjeev Shriya v. State Bank of India 8 ("Sanjeev Shriya Case").The factual matrix of the said matter is as follows- M/s. LML Ltd. ("LML") was declared as a 'sick industrial company' by the Board for Industrial Financial Reconstruction on May 8, 2007. Under the provisions of the RDDBFI Act, 1993 9, State Bank of India ("SBI") filed an application before the Ld. DRT for recovery of the dues jointly and severally from LML as well as from the personal guarantors. LML filed an application to initiate the corporate insolvency process under Section 10 of the Code. On May 30, 2017, the Ld. NCLT - Allahabad Bench admitted the application and imposed a moratorium upon proceedings against LML. In view of the NCLT's order, the Ld. DRT stayed the proceedings but only against LML and observed that there was no order to restrain the proceedings against the personal guarantors. The personal guarantors challenged this order of the Ld. DRT before the Hon'ble Allahabad High Court.
While staying the proceedings at the Ld. DRT against even the personal guarantors, the Hon'ble Allahabad High Court observed that in cases where the insolvency resolution process has already begun and the liability has not been crystallized against either the principle debtors or the guarantors, then the proceedings pending before the Ld. DRT cannot go on and are stayed until the finalization of the corporate insolvency resolution process or till the Ld. NCLT approves the resolution plan under Section 31(1), of the Code or passes an order for liquidation under Section 33 of the Code.
The Hon'ble Allahabad High Court relied on Sections 60(1) and 60(2) of the Code, which provide that the Adjudicating Authority in relation to personal guarantors shall be the NCLT and observed that in cases where the insolvency resolution process has already begun, the application relating to insolvency resolution of a personal guarantor would also lie before the same NCLT. Based on this reasoning, the proceedings at the Ld. DRT even against the personal guarantors were stayed.
Following the lead of the Hon'ble Allahabad High Court in the Sanjeev Shriya case, the Ld. NCLAT, New Delhi in State Bank of India v. V Ramakrishnan and Ors. 10 upheld the order of the Ld. NCLT, Chennai. The Ld. NCLT, in this instance, had ordered the initiation of insolvency proceedings against Veesons Energy Systems Pvt. Ltd., and SBI, one of the majority creditors, submitted its claim after the CIRP was initiated. The promoter and managing director, Mr. V. Ramakrishnan, had given a personal guarantee for the said loan. SBI had initiated action to the sell the assets of the promoter given as personal guarantee. Mr. Ramakrishnan moved the Ld. NCLT against the action of SBI. The Ld. NCLT ruled in favor of Mr. Ramakrishnan and offered the reasoning that in case a guarantor's personal property is sold to realize the dues from the principal debtor during the moratorium period of the principal debtor, then the guarantor would have a charge upon the property of the principal debtor for recovering such amounts. Thus, a charge on the assets of the principal debtor would be created in favor of the guarantor, during the continuance of the moratorium period, which is prohibited under Section 14 of the Code. The Ld. NCLAT stated that, "We hold that the 'Moratorium' will not only be applicable to the property of the 'Corporate Debtor' but also on the 'Personal Guarantor."
In SBI v. R Inderjeet 11, where the creditor i.e. SBI had moved an application under Section 7 of the Code to initiate insolvency proceedings against the personal guarantors of the corporate debtors, the Ld. NCLT Chennai, referring to the decision in Sanjeev Shriya case, observed that, "SBI should not proceed against the personal guarantors till the moratorium period comes to an end or till the Adjudicating Authority approves a resolution plan under Sub Section 1 of Section 31 or passes an order for liquidation of corporate debtor under Section 33."
The Kolkata Bench of the Ld. NCLT also passed a decision along similar lines in the case of ICICI Bank v. Vista Steel Ltd. 12, holding that, "In this case, insolvency petition has already been admitted under Section 7 against the principal borrower. Therefore, another insolvency proceeding against the corporate guarantor is barred on account of moratorium order passed under Section 14 (1)(a) of the Code against the principal borrower". The Ld. NCLT further held that "It is clear that the present petition filed against the corporate debtor who happens to be a corporate guarantor of the principal borrower which is barred by the provisions of the moratorium order passed under Section l4(1) (c) of Code. Therefore, we hold that at the moment the petition under Section 7 is not maintainable until finalization of insolvency proceedings against the principal borrower. Thus, the petition filed under Section 7 of the Code deserves to be dismissed with liberty to file a fresh petition, when the moratorium already in force is vacated."
The Hon'ble Allahabad High Court in the Sanjeev Shriya Case stayed proceedings in the Ld. DRT against the guarantors on the ground that the liability has not been crystallized against either the principle debtors or the guarantors, therefore the proceedings pending before the Ld. DRT cannot go on and the same were stayed until the finalization of the corporate insolvency resolution process or till the Ld. NCLT approves the resolution plan under Section 31(1), of the Code or passes an order for liquidation under Section 33 of the Code.
In Northway Spaces & Anr. v. Sicom Spaces and Anr. 13 the Ahmedabad bench of the Ld. NCLT while dismissing the application filed by the appellants seeking a direction against the respondent to stop them from taking possession of the properties of the appellants, who were the guarantors of the corporate debtor, held that, "By any stretch of analogy, the said decision (Sanjeev Shriya) is not at all applicable to the proceeding initiated by the applicants or to the prayer made by the applicants. In short, the prayer of the applicants is to extend the moratorium order imposed in respect of the properties of the Corporate Debtor also to the properties of the guarantors/ Applicants without there being any proceeding in respect of the guarantors for initiation of CIRP before this Authority. Therefore, the above said decision relied upon by the applicants is not applicable to the facts of this case." The Bench also held that, "The moratorium order passed under Section 14(1) of the Code applies only to the security interest created by the Corporate Debtor in respect of its properties but not to the properties of the guarantors."
From the aforementioned judgements, it appears that there are a host of new issues in the Code which need further consideration to render a purposive and final interpretation of the provisions, including relating to Section 14 of the Code.
1 Oxford Dictionary
2 (2012) 11 SCC 511
3 As per Section 5(12) of the Code insolvency commencement date means the date of admission of an application for initiating corporate insolvency resolution process by the Adjudicating Authority under Sections 7, 9 or 10 of the Code as the case may be.
4 As per Section 5(1) of the Code Adjudicating Authority means the National Company Law Tribunal.
5 Company Appeal (AT) (Insol.) No. 116 of 2017
6 Company Appeal (AT) (Insolvency) No. 129 of 2017
7 CP. (I.B) No. 80/7/NCLT/AHM/2017
8 2017 141 CLA 305 (All.)
9 Recovery of Debt Due to Banks and Financial Institutions Act, 1993
10 Company Appeal (AT) (Insolvency) No. 213 of 2017
13 C.P. (I.B) No. 28/14, 19 & 20/NCLT/AHM/20
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.