Operational Debt and Operational Creditor under Insolvency and Bankruptcy Code 2016 (IBC)

Definition

Operational Debt and Operational Creditor

Meaning of Operational Debt and Operational Creditor

The code defines two types of creditors, Financial Creditor and Operational Creditor. An operational creditor is a creditor whose claim arises out of a normal business transaction that such creditor may have had with the legal entity. It would include money receivable by an employee or a worker of the company as wages or salary. It would also include a claim of a statutory authority on account of money receivable pursuant to an imposition by a statute.

Operation creditors means as per Section 5(20) a person to whom an operational debt is owed and includes any person to whom such debt has been legally assigned or transferred.

The next question arises that what is constituted the operation debt under the Code. The definition of the operation debt under Section 5(21) cover following claim:

  1. claim in respect of the provision of goods or services
  2. claim in respect of the provision of employment
  3. debt in respect of the payment of dues arising under any law for the time being in force and payable to the Central Government, any State Government or any local authority.

So, a trade payable, employee’s dues and dues payable to CG or SG under law are covered under the operation debt.

Statute wording of Sec. 5(20) & (21)

“(20) “operational creditor” means a person to whom an operational debt is owed and includes any person to whom such debt has been legally assigned or transferred;

(21) “operational debt” means a claim in respect of the provision of goods or services including employment or a debt in respect of the payment of dues arising under any law for the time being in force and payable to the Central Government, any State Government or any local authority;”

 

Tax collected from customers is not “Operational Debt” under the Code

In Electrosteel Steels Limited Vs. The State of Jharkhand through Commissioner of State Tax, Ranchi [2020] ibclaw.in 11 HC, Hon’ble  High Court held that :

  • the State Government shall fall within the definition of ‘operational creditor’, and the taxes payable by the petitioner shall fall within the definition of ‘operational debt’.
  • The amount of VAT must have already been realised by the petitioner Company from the customers. In that view of the matter, it is debatable whether the amount of VAT shall be covered by the expressions “debt in respect of the payment of dues arising under any law for the time being in force and payable to the Central Government, any State Government“,[(Sec. 5(21)] so as to bring it within the definition of “operational debt”, as defined in the Code. This Tax liability can very well be treated as the amount of tax already realised by the petitioner Company from its customers, on behalf of the State Government, and not the direct debt of the petitioner Company towards the State Government, in which case the tax liabilities of the petitioner Company, for realising which the impugned garnishee order has been issued, may not come within the definition of “operational debt”, as defined in the Code. The decisions cited by learned counsel for the petitioner in Embassy Property Developments Pvt. Ltd.’s case and in Monnet Ispat and Energy Ltd.’s case, are of no help to the petitioner Company, as they related to Income Tax dues, which were the direct debts of the corporate debtors in those cases.

 

Tax Dues of the period prior to the commencement of CIRP will be treated as Operational Debt

CBEC has clarified that in accordance with the provisions of the IBC and various legal pronouncements on the issue, no coercive action can be taken against the corporate debtor with respect to the dues for period prior to insolvency commencement date. The dues of the period prior to the commencement of CIRP will be treated as ‘operational debt’ and claims may be filed by the proper officer before the NCLT in accordance with the provisions of the IBC. The tax officers shall seek the details of supplies made / received and total tax dues pending from the corporate debtor to file the claim before the NCLT. Moreover, section 14 of the IBC mandates the imposition of a moratorium period, wherein the institution of suits or continuation of pending suits or proceedings against the corporate debtor is prohibited. Read More Clarifications of GST for Corporate Debtors.

Whether the Professional Services shall fall under the definition of Operational Debt as defined u/s 5(21) of the Insolvency and Bankruptcy Code?

In Sanjaya Kumar Ruia Vs. Magna Opus Hospitality Pvt. Ltd., NCLT Mumbai Bench held that the term “Services” used in the definition of 5(21) has not been defined under this Code. However the expression “Services” as per Black Law Dictionary is “the act of doing something useful for a person or company, usually for a fees”. Another meaning as per the Dictionary is, “an intangible commodity in the form of human effort, such as labour, skill or advises”. Likewise, meaning of “Service Charge” as per the Dictionary is a charge accessed for performing a service. The Tribunal therefore held that a Professional Service provided by a Chartered Accountant definitely fall under the expression “Services” as incorporated in the definitions of “Operational Debt” u/s 5 (21) of the Code. In the light of documents submitted by the petitioner the Tribunal held that there is an existence of “debt” as defined u/s 3 (11) of the Code and a “default” exists as defined u/s 3(12) of the Code. Once it is established that there was an existence of “Default” then the provisions of Section 8 of the Code shall come into operation. Although in sub-section 8(2) of the section a Corporate Debtor is authorised to establish the existence of a dispute within 10 days on the receipt of the Demand Notice, but in the present case the “Operational Debtor” had not responded at all. The Tribunal therefore held that due to this reason the provision of section 9 of the Code shall come into operation. Accordingly the petition was allowed and the interim resolution professional was appointed.

Whether a trade union could be said to be an operational creditor

Hon’ble Supreme Court in the matter of JK Jute Mill Mazdoor Morcha Vs. Juggilal Kamlapat Jute Mills Company Ltd. Through Its Director & Ors. held that the trade union represents its members who are workers, to whom dues may be owed by the employer, which are certainly debts owed for services rendered by each individual workman, who are collectively represented by the trade union. Equally, to state that for each workman there will be a separate cause of action, a separate claim, and a separate date of default would ignore the fact that a joint petition could be filed under Rule 6 read with Form 5 of the Insolvency and Bankruptcy (Application to Adjudicating Authority) Rules, 2016, with authority from several workmen to one of them to file such petition on behalf of all.

Whether lease rent amounts to operational debt

In Mr. M. Ravindranath Reddy Vs. Mr G. Kishan & Ors., NCLAT held that lease of immovable property cannot be considered as a supply of goods or rendering of any services and thus, cannot fall within the definition of ‘Operational Debt.

NCLAT in Aurora Accessories Pvt. Ltd. vs Ace Acoustics & Audio Video Solutions Pvt. Ltd referring Mr. Ravindranath Reddy Vs. Mr G. Kishan & Ors. held that the issue regarding question whether lease rent amounts to operational debt, has already been decided and on the basis of such claim, Application under Section 9 cannot be maintained. We do not find any substance in the Appeal. There is no reason to interfere with the Impugned Order.

Whether the recovery of arrears of rent can be claimed as operational debt within the meaning of section 3(11) of the Code?

An important question as to whether the transaction of lease of immovable property can be brought within the definition of “Operational Debt” and landlord/lessor can be categorized as an “Operational Creditor” for the purpose of the Code. NCLT, Kolkata Bench in the matter of Sarla Tantia V/s Nadia Health Care (P) Ltd. [CP(IB) No. 108/KB/2018 and CA(IB) No. 119/KB/2018, dated 05.10.2018] held that receiving any consideration by way of rent, lease from time to time, license fees for letting out the premises would fall under the purview of providing services and the consideration that is receivable becomes operational debt. Related portion of the order reproduced here:

“8. In view of this, it has to be held that, “letting out premises on rent is nothing but providing the services. Section 5(21) of the IB Code defines the operational debt as a claim in respect of the provision of goods or services including employment or a debt in respect of the repayment of dues arising under the law for the time being in force and payable to the Central Government, any State Government or any local authority.” Hence, receiving any consideration by way of rent, lease from time to time, license fees for letting out the premises would fall under the purview of providing services and the consideration that is receivable becomes operational debt. In view of these facts on record, I hold that recovery of arrears of rent is operational debt within the meaning of section 5(21) of the Code.”

However, NCLT in the matter of Mrs Parmod Yadav Vs. M/s. Divine Infracon pvt. ltd.-No. IB-209/ND/2017 dated 28.09.2017 held that in relation to immovable property the same cannot be considered as a transaction falling under the term ‘operation’ and ‘operational debt’ unless such a transaction having a correlation of direct input to the output produced or supplied by the corporate debtor. NCLAT in the matter of Jindal Steel & Power Ltd. Vs. DCM International Ltd. held that the Appellant being a tenant, having not made any claim in respect of the provisions of the goods or services and the debt in respect of the repayment of dues does not arise under any law for the time being in force payable to the Central Government or State Government, we hold that the Appellant tenant do not come within the meaning of ‘Operational Creditor’ as defined under sub-section (20) read with sub-Section (21) of Section 5 of the Code for triggering Insolvency and Bankruptcy Process under Section 9 of the Code.

Statutory due is only operational in nature when it is paid to the relevant authority

NCLAT in Shri IRK Raju Vs. Immaneni Eswara Rao & Ors. held that in Sec. 5(21), a statutory due is only operational in nature when it is paid to the relevant authority, and not when it is repaid to a party that has paid such statutory authority.

Retention Money is an Operational Debt & period of limitation start on completion of the Defect Liability Period-Aashish Mohan Gupta vs Hind Inn and Hotels Ltd. – NCLAT

NCLAT held that the Operational Creditor had awarded the work and the retention money cannot be treated as separate money. The retention money is a part of main bill which was retained by the Corporate Debtor as per the terms of the Work Order and the same shall be released after completion of the work and issuance of the Completion Certificate.

The Concession Agreement to contribute & share in the generated revenues between parties is not created any relationship as Operational Creditor & Corporate Debtor, there is no operational debt u/s 5 (21) of the Code-M/s Ansal Properties & Infrastructure Ltd. vs. M/s MGF Developments Ltd. – NCLAT

In this case, the matter,  Appellant -Ansal  Properties  & Infrastructure Ltd. and respondent entered into a Memorandum of Agreement dated 08.07.2004 whereby they decided to jointly bid for tender, pending to property development at Netaji Subhash Place (Wazirpur) Metro Station, Delhi. Both the parties agreed that they will contribute in the ratio of 50-50 and shall be entitled the same ratio of share i.e. 50-50 in the generated revenues. The Concession Agreement dated 02.09.2004 was executed between Delhi Metro Rail Corporation (in brief DMRC), Appellant and Respondent for leasing the land to the Appellant and the Respondent at Netaji Subhash Place Metro Station Delhi for a period of 12 years to develop and sub-let the shops/ available space to the third party.

NCLAT held that there is nothing in these agreements that the Appellant has to provide services to Respondent by carrying out construction and development at the property whereas this is a joint venture of the Appellant and Respondent. We have also seen that in the application under Section 9 of the Code, it is no where mention that the Appellant has provided services or goods to the Respondent. The Adjudicating Authority has rightly held that there is no relationship between the Appellant and Respondent as Operational Creditor and Corporate Debtor. There is no existence of an operational debt as defined under Section 5 (21) of code, 2016.

Capital Gains Tax qualify for Operational Debt – M/s Shree Ram Lime Products Pvt. Ltd. Vs. Gee Ispat Pvt. Ltd – NCLT New Delhi Bench

NCLT held that section 53(1)(e) provides for the liability towards government dues. As per Section 238 of the Insolvency & Bankruptcy Code, the provisions of the Code shall have an overriding effect on any other enactment. The dues towards Government, be it tax on Income on or sale of properties, would qualify for being an operational debt and has to be dealt with accordingly. The provisions of Section 178 of the Income Tax Act have also been amended in view of the provisions of the Insolvency  & Bankruptcy Code.

Further, the asset liquidated are those released by the secured creditors under the Code. A secured creditor is entitled to effect sale under the SARFAESI Act and appropriate the entire amount towards its dues, without any liability to first pay the capital gain. It is only upon residual liquidity that the distribution of the assets has to be made according to the Operational Creditors (in this case the tax authorities) in terms of the provisions of Section of the Code. If the capital gain is first to be provided for, and then be included as liquidation cost, it would create an anomalous situation in the Secured Creditor getting a lesser remittance than what they could have realised had they not released the security into the common corpus. It is for this purpose that the provision of Section 178 of the Code has been amended giving priority to the waterfall mechanism over government dues.

NCLT held that we therefore hold that the tax liability arising out of the sale shall be distributed in accordance with the provisions of Section 53 of the Code. The applicability of Section 178 or 194 IA of the IT Act will not have an overriding effect on the water fall mechanism provided under Section 53 of the Code, which is a complete code in itself, and the capital gain shall not be taken into consideration as the liquidation cost.

Operational creditors cannot use the Insolvency Code either prematurely or for extraneous considerations or as a substitute for debt enforcement procedures- K. Kishan vs. M/S Vijay Nirman Company Pvt. Ltd.- Supreme Court

  1. The filing of a Section 34 of the Arbitration and Conciliation Act, 1996 petition against an Arbitral Award shows that a pre-existing dispute which culminates at the first stage of the proceedings in an Award, continues even after the Award, at least till the final adjudicatory process under Sections 34 & 37 has taken place.
  2. There may be cases where a Section 34 petition challenging an Arbitral Award may clearly and unequivocally be barred by limitation, in that it can be demonstrated to the Court that the period of 90 days plus the discretionary period of 30 days has clearly expired, after which either no petition under Section 34 has been filed or a belated petition under Section 34 has been filed. It is only in such clear cases that the insolvency process may then be put into operation.
  3. There may also be other cases where a Section 34 petition may have been instituted in the wrong court, as a result of which the petitioner may claim the application of Section 14 of the Limitation Act to get over the bar of limitation laid down in Section 34(3) of the Arbitration Act. In such cases also, it is obvious that the insolvency process cannot be put into operation without an adjudication on the applicability of Section 14 of the Limitation Act.
  4. Even if it be clear that there be a record of an operational debt, it is important that the said debt be not disputed. If disputed within the parameters laid down in Mobilox Innovations, an insolvency petition cannot be proceeded with further.

Classification of a creditor of a company as secured, unsecured and statutory creditor stands to be replaced by financial or operational creditor of a company in the initiation of an insolvency proceeding of a Company under IBC, 2016

Hon’ble High Court in Akshay Jhunjhunwala & Anr. Vs. Union of India through the Ministry of Corporate Affairs & Ors. held that Financial and operational creditors are defined in IBC, 2016. The definitions of a financial and an operational creditor as obtaining in the Code of 2016 can be said to have certainty and exactitude. The classification made by the Code of 2016 amongst the creditors of a company is on reasonable differential. The differential introduced by the Code in respect of a creditor of a company does not offend any provisions of the Constitution of India. At least the same is not the argument of the parties before Court. What has been argued is that, the differentiation between the two creditors is such that, one of the classified creditors, that is to say, the financial creditor takes precedence over the operational creditor. Whether the treatment of a financial creditor on pedestal higher than an operational creditor and bestowing a higher or better right, so to speak, to a financial creditor is just and proper or whether the same offends any provisions of the Constitution of India requires consideration.

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