A Rainbow- Fading the Colours of IBC – By Mr. Abhishek Anand and Mr. Nipun Gautam

A Rainbow- Fading the Colours of IBC

Authored By
Mr. Abhishek Anand (Managing Partner at Law Offices of A. Anand) & Mr. Nipun Gautam (Senior Associate at Law Offices of A. Anand )

The Hon’ble Supreme Court recently in State Tax Officer (1) v Rainbow Papers Limited, (2022) ibclaw.in 107 SC observed that if the resolution plan ignores the statutory demands payable to any State government or a legal authority, altogether, the Adjudicating Authority is bound to reject the Resolution plan. It goes without saying that the said decision has sent concerns down the insolvency vertical where the stakeholders have been mulling over steps to be taken for complying with the said decision. Summarily, the CIRP against the corporate debtor initiated on 12.09.2017, the government belatedly filed their claim. The RP in the instant case communicated to the government department that their claim had been waived off. Both the lower foras dismissed the challenge of the government department against the resolution plan. The Supreme Court later held that the timelines under the IBC are to be construed liberally and the resolution plan is liable to be rejected, if it ignores the statutory dues. While reaching at the conclusion that delay cannot be sole ground for rejecting the claim, the Supreme Court completely ignored the earlier precedents holding just the opposite view.

Earlier, in Ghanashyam Mishra and Sons Private Limited v. Edelweiss Asset Reconstruction Company Ltd & Ors, (2021) ibclaw.in 54 SC, a three judges bench of the Supreme Court categorically held that once a resolution plan is approved by the NCLT, the claims shall stand frozen and will be binding in terms of Section 31 of the IBC, 2016. The Supreme Court further held that on the date of approval of resolution plan by the NCLT, all such claims, which are not a part of resolution plan, shall stand extinguished and no person will be entitled to initiate or continue any proceedings in respect to a claim, which is not part of the resolution plan. Unhesitatingly, the Supreme Court concluded by holding that all the dues including the statutory dues owed to the Central government, any State Government or any local authority, if not part of the resolution plan, shall stand extinguished and no proceedings in respect of such dues for the period prior to the date on which the NCLT grants its approval under Section 31 could be continued. The ratio rendered in the Ghanashyam Mishra catches more attention particularly in light of the Rainbow decision where in latter the timelines were held to be directory. The relevant paragraphs from Ghanashyam Mishra are set out in the following manner:

“71. Perusal of the SOR (Statement of Objects and Reasons) would reveal, that one of the prime objects of I&B Code was to provide for implementation of insolvency resolution process in a time bound manner for maximisation of value of assets in order to balance the interests of all stakeholders. However, it was notice, that in some cases there was extensive litigation causing undue delays resultantly hampering the value maximisation. It was also found necessary to ensure, that all creditors are treated fairly. It was therefore in view of various difficulties faced and in order to fill the critical gaps in the corporate insolvency framework, it was necessary to amend certain provisions of the I&B Code. Clause (f) of para the SOR of the Insolvency and Bankruptcy Code (Amendment) Bill, 2019 would amply make it clear, that the legislative intent in amending sub-section (1) of 31 of the I&B Code was to clarify, that the resolution plan approved by the Adjudicating Authority shall also be binding on the Central Government, any State Government or any local authority to whom a debt is owed in respect of payment of dues arising under any law for the time being in force, such as authorities to whom statutory dues are owed, including tax authorities.

77. It is clear, that the mischief, which was noticed prior to amendment of Section 31 of I&B Code was, that though the legislative intent was to extinguish all such debts owed to the Central Government, any State Government or any local authority, including the tax authorities once an approval was granted to the resolution plan by NCLT; on account of there being some ambiguity, the State/Central Government authorities continued with the proceedings in respect of the debts owed to them. In order to remedy the said mischief, the legislature thought it appropriate to clarify the position, that once such a resolution plan was approved by the Adjudicating Authority, all such claims/ dues owed to the State/Central Government or any local authority including tax authorities, which not part of the resolution plan shall stand extinguished.

86…………..After CoC approved the plan, the Adjudicating Authority is required to arrive at a subjective satisfaction, that the plan conforms to the requirement as are provided in sub-section (2) of Section 30 of the I&B Code. One thereafter, the Adjudicating Authority can grant its approval to the plan. It is at this stage, that the plan becomes binding on the Corporate Debtor, its employees, members, creditors, guarantors and other stakeholders involved in the resolution plan. The legislative intent behind this is, to freeze all the claims so that the resolution applicants starts on a clean slate and is not flung with any surprise claims. If that is permitted, the very calculations on the basis of which the resolution applicant submits its plan, would go haywire and the plan would be unworkable.

87. We have no hesitation to say that the word “other stakeholders” would squarely cover the Central Government, any State Government or any local authorities. The legislature, noticing that on account of obvious omission, certain tax authorities were not abiding by the mandate of I&B Code and continuing with the proceedings, has brought out the 2019 amendment so as to cure the said mischief. We therefore hold that the 2019 amendment is declaratory and clarificatory in nature and therefore retrospective in operation.”

The law laid down in the Ghanashyam Mishra clarified that the application of 2019 amendment (came into effect from 16.08.2019) is retrospective in nature and if the claims are not part of the resolution plan, the same shall stand extinguished. Also, the Supreme Court in Ebix Singapore Private Limited v Committee of Creditors of Educomp Solutions Limited and Another (2021) ibclaw.in 153 SC held that once the resolution plan is approved by the adjudicating authority, it becomes binding on the corporate debtor and its employees, members, creditors, guarantors and other stakeholders involved in the resolution plan. It is intriguing to see that the Rainbow judgment does not discuss a law laid down by a larger bench and set aside the decisions of both NCLAT and NCLT without appreciating the contours of Section 31 and its application.

Another issue which comes as a trouble in Rainbow decision is that the Supreme Court went on to find government as a secured creditor though the said holding may itself be termed as wrong. What did not fall for consideration in the Rainbow judgment is the recognition of secured creditor under the IBC, 2016 for which a specific mechanism has been devised by the parliament. The Court in Rainbow held government as secured without considering the provisions of IBC, 2016 with respect to the secured creditor.  The IBC, 2016 postulates that a secured creditor means a creditor in favour of whom security interest is created. The definition has two limbs- one there should be a creditor and second is in whose favour security interest is created. Now, Security interest is defined as right, title or interest or a claim to property, created in favour of or provided for a secured creditor by a transaction which secures payment or performance of an obligation and includes mortgage, charge, hypothecation, assignment and encumbrance or any other agreement or arrangement securing payment or performance of any obligation of any person. The Ld. NCLT, Kolkata bench in Visa Power Ltd. on 13.12.2019 in C.P. (IB) No. 543/KB/2017 held that in cases of financial transaction generally security is provided, and in operational transactions security is created in terms of specific arrangement between the parties. The Ld. NCLT further notes that crucial part is the inclusion of creation or/ provision of interest through agreement or arrangement between the parties. Also, the Ld. NCLT emphasised that the word transaction used in the definition in security interest includes an agreement or arrangement in writing for transfer of assets, or funds, goods or services, from or to the corporate debtor. The Ld. NCLT further delved into the purport of transfer and concluded that security interest that arise due to operation of law or due to any event other than a deliberate act of creation or provision by the parties will not be covered under the definition of secured creditor as well as security interest as given in IBC, 2016. The said decision stood the scrutiny before the NCLAT and is now pending before the Hon’ble Supreme Court. In another case titled Volkswagen Finance Private Limited v Shree Balaji Printopack Pvt. Ltd., (2020) ibclaw.in 302 NCLAT decided by the NCLAT, now pending before Supreme Court, it was held that the appellant did not take steps to register its charge over a car (asset of company) under Section 77 of the Companies Act, 2013 and the liquidator has rightly referred to Regulation 21 of the IBBI (Liquidation Process) Regulation, 2016 and concluded that the appellant’s claim was not supported by any evidence. The NCLAT in Volkswagen Finance decided against the appellant in the following words:

“29. It is also an admitted fact that the ‘Charge’ was not registered under Central Registry of Securitization Asset Reconstruction and Security Interest of India. We are keeping the ratio of the aforenoted Judgements of the Hon’ble Supreme Court and Section 52(3) of the Code read with Regulation 21(c) of the (Liquidation Process), Regulations, 2016, in view. We are of the considered opinion that the contentions of the Learned Counsel appearing for the Appellant that Registration with Motor Vehicle Authority under Section 51 of the Motor Vehicles Act, 1988 would suffice, cannot be sustained. Section 51(1) of the MV Act, 1988 only provides for “entry” in the Certificate of Registration regarding the agreement. The Section provides how to deal with the entry. To reiterate, in the instant case, as the ‘Security Interest’ was neither registered with the ‘Information Utility’; nor under Section 125 of the Companies Act, 1956/Section 77 of the Companies Act, 2013; no Application was preferred under Section 87 of the Companies Act, 2013; ‘Charge’ was not registered in the Securitisation Asset Reconstruction and Security Interest of India, we are of the opinion that Section 52(3)(b) of the Code and Regulation 21(b) of the (Liquidation Process), Regulation, 2016 are not complied with and the ratio laid down by the Hon’ble Apex Court in Kerala State Financial Enterprises Ltd. (Supra) and this Tribunal in India Bulls Finance Ltd. (Supra) is squarely applicable to the facts of this case. Hence, we hold that when in present matter ‘Charge’ was not registered as per the provisions of Section 77(1) of the Companies Act, 2013 and as envisaged under the Code, the Creditor cannot be treated as a ‘Secured Creditor’”.

The consequence of the above paragraph suggests that the secured creditor status to the government department in Rainbow decision was given without appreciating the relevant definitions and mechanism provided under the IBC, 2016. The Supreme Court in Rainbow further failed to ponder over the fact that the claim was not filed by the government department within the timelines. A sparing view was taken regarding the timelines by the Supreme Court bench in Rainbow however, the Court omitted to give due weightage to the other precedents laid down by the Supreme Court regarding the same.

Interestingly, the Supreme Court three judges bench in Sundaresh Bhatt, Liquidator of ABG Shipyard v. Central Board of Indirect Taxes and Customs, (2022) ibclaw.in 103 SC held that the authority is required to submit its claims (concerning dues/operational debts) in terms of the procedure laid down, in strict compliance of the time periods prescribed under the IBC, before the adjudicating authority.

The facts of the ABG Shipyard are more one sided than what arose for consideration in the Rainbow judgment. In ABG Shipyard, the goods lying with the customs authorities were imported between the years 2012-2015 and the liquidation process started in 2019. It was argued by the customs department that the Corporate Debtor never cleared bills of entry for part of the goods and abandoned all the material lying in the custom bonded warehouse. Pertinently, the Section 142A of the Customs Act stipulates that the amount  of duty, penalty, interest or any other sum payable by an assessee shall be the first charge on the property of the assessee. The subsequent amendment made in Customs Act, 1962 after the enactment of the IBC, 2016 inserts IBC as an exception to the Section 142A of the Customs Act.

Simply put, the first charge of the department is subject to the IBC, 2016, however, the anomaly in Rainbow is that the there is no amendment in the Gujarat VAT Act subsequent to the introduction of the IBC, 2016. The gap existed which, though not discussed in the Rainbow decision, but helped Appellant/government department in Rainbow decision to convince the division bench of the Supreme Court. The basis of the decision in the Rainbow was that under the GVAT Act, the statutory authority shall have first charge on the property of the dealer/person. Admittedly, the decision in the Rainbow runs contrary to the decision of a larger bench in ABG Shipyard where the bench held that customs act and IBC can be read in a harmonious manner wherein authorities under the Customs Act have a limited jurisdiction to determine the quantum of operational debt- in this case, the customs duty- in order to take claim in terms of S.53 of the IBC before the liquidator. The Supreme Court in ABG Shipyard further held that IBC would prevail over the customs act, to the extent that once moratorium is imposed in terms of S.14 or 33(5) of the IBC as the case may be, the Respondent authority only has a limited jurisdiction to assess/determine the quantum of customs duty and other levies.

Invariably, an upshot of the above decision is that the IBC shall have primacy over the other statues, and more so, the point of customs authority having charge over the assets in custody of the Corporate Debtor was debunked by the Supreme Court. In this regard a reference may be made to Section 18 (f)(ii) which makes it obligatory on the RP to take into his control assets over which the corporate debtor has ownership rights that may or may not be in possession of the Corporate debtor.

In the similar vein, it is imperative to add that in the decision of the Supreme Court in Innoventive Industries Limited v ICICI Bank & Anr. [2017] ibclaw.in 02 SC the Apex court held that the earlier State law is repugnant to the later parliamentary enactment as under the said state law, the state government may take over the management of the relief undertaking. The Court further noted that the, unless the Maharashtra Relief Undertakings (Special Provisions Act) 1958 (“Maharashtra Act”) is out of the way, the Parliamentary enactment will be hindered and obstructed in such a manner that it will not be possible to go ahead with insolvency resolution process. The Apex Court laid emphasis on Section 238 of the IBC, 2016 and held that the later non obstante clause of the Parliamentary enactment will also prevail over the limited non obstante clause contained in S.4 of the Maharashtra Act.

In Rainbow the Apex Court’s emphasis on the non-obstante clause given in Section 48 of the GVAT Act is nothing short of misconceived. At the cost of repetition, the same quandary came for consideration in the Innoventive Industries where a State Act was in conflict with the IBC, 2016 and the Court held that the earlier state law is repugnant to the later parliamentary enactment as under the said state law, the State Government may take over the management of the relief undertaking, after which temporary moratorium in much the same manner as that contained in Sections 13 and 14 of the Code takes place under Section 4 of the Maharashtra Act. The Court noted that undoubtedly, giving effect to the state law, the scheme of the parliamentary statute will directly be hindered/obstructed.

Pertinently, the IBC, 2016 was introduced to reorganise and for insolvency resolution of Corporate persons, maximisation of value of assets and balance the interests of all the stakeholders including alteration in order of priority of payment of government dues. The seminal point to note is that the draftsmen themselves tweaked the priority status of the government dues and consciously put the government dues at lower pedestal (Section 53 (1)(e)) than secured creditors, employees etc. The Section 53 (2) of IBC, 2016 makes a cautious attempt in clarifying that if any contractual arrangements between the recipients disrupts the order of priority, the same shall be disregarded by the liquidator. Notably, the attempt of Supreme Court in Rainbow in prioritising the debts of the Government state department has been made without looking at the other provisions of the IBC, 2016.

The authors argue that the Rainbow decision should be looked into and construe correctly only in view of the factual situation discussed by the division bench in the said decision and importantly, it may be correct to deduce that the stakeholders already before the tribunals may not start revising their resolution plans which are in line with the IBC, 2016 provisions and precedents laid down in multiple cases by the Supreme Court. Importantly, the script of the IBC, 2016 written steadily by the Parliament, and the Courts cannot be undone by the decision rendered in Rainbow.


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