Personal Guarantee of Director, Promoter, Chairman – Covered under Insolvency Proceedings under Insolvency Proceeding Code ?
LALIT KUMAR JAIN V. UNION OF INDIA
The normal banking practice involves application procedure alongwith with a guarantor for granting of loans. In case of companies, it was almost every time, the director, promotor or chairman of the company, who furnish guarantee for the advancement of the loan. However, in recent times, it was observed by various courts across the country that banking sector non-profit assets have been growing at a tremendous rate due to non-repayment by the principal debtor as well as his guarantor.
However, due to non-personal guarantee, the banks were not able to initiate insolvency proceedings against the guarantors.
Keeping this in mind, Ministry of Corporate Affairs issued a notification dated 15th November, 2019 framing the Insolvency and Bankruptcy (Application to Adjudicating Authority for Insolvency Resolution Process for Personal Guarantors to Corporate Debtors) Rules, 2019, which introduced a host of provisions, wherein personal guarantor were made liable to the insolvency proceedings under the Insolvency and Bankruptcy Code.
The said notification got challenged before various High Courts, on the ground of illegality and exceeding of powers by the Central Government. Since, various writ petitions were filed before various High Courts across the country, High Courts deemed it fit to transfer all the petitions before the Supreme Court, in order to settle this issue.
Supreme Court in the case of Lalit Kumar Jain v. Union of India, upheld the validity of this notification.
The brief facts of the case are that the ministry of corporate affairs issued notification, through which the personal guarantors of the company viz. its Directors, Promotors, Chairman and Managing Directors were brought under the ambit of insolvency proceedings under the Insolvency and Bankruptcy Code.
The petitioners, who are directors and promotors of various companies filed writ petition before various High Courts under Article 226 of Indian Constitution and under Article 32 of Indian Constitution before the Supreme Court.
Various High Courts transferred all the writ petitions to the Supreme Court under Article 139A, thus, Supreme Court combined all the petitions as it involved a common question.
The validity of notification by the ministry of corporate affairs dated 15th November, 2019.
The primary argument in the case was that Central Government exceeded its powers under Section 1(3) of the IBC. Under the section, the legislature was to enact the law and the executive’s only function was to bring such law into operation. It was further argued that the Central Government was only supposed to bring IBC into operation and by modifying the provisions of Part III of the code, it has exceeded its powers under the Act.
The second argument advanced before the court was that the notification does not differentiate between financial and operational creditor and provide single insolvency procedure against a personal guarantor. It was contended that Supreme Court in the case of Swiss Ribbons (P.) Ltd. v. Union of India held that there must be a fundamental difference in the nature of loan. A financial creditor must be differentiated from an operational creditor.
Contending these arguments, Union of India argued that under IBC, three classes of debtors were provided viz. corporate debtor under 2(e), partnership and proprietorship firm under 2(f) and individual under Section 2(g).
It was further submitted that the intention of legislature was to differentiate corporate debtors and personal guarantors from other individuals and not create difference between corporate personal guarantors themselves.
It was further submitted that Supreme Court in the case of Basant Kumar Sarkar v. Eagle Rolling Mills Ltd. and Bishwambhar Singh v. State of Orrisa clarified the position regarding the powers of the executive and held that a segmented or stage-wise implementation of law by the executive is valid, since a better understanding of the laws and its impact on the subject matter can be done.
Furthermore, Section 1(3) of the IBC provides flexibility in terms of meeting the objectives of IBC and therefore the notification was valid.
Supreme Court observed that executive had previously brought in many provisions and all the provisions that were introduced by the executive to the IBC had a same pattern, to fulfill the objectives of IBC, giving regard to the priorities.
It was further observed that IBC amendment of 2018 was brought in to include personal guarantors of corporate debtors under the purview of IBC, in order to strengthen the insolvency process.
Supreme Court further observed that since the adjudicating authority under IBC is common viz. NCLT, in order to consider the whole picture and realize the resolutions plans. Observing this, Supreme Court commented that Section 31 of IBC does not discharge the personal guarantor in the case of sanctioned resolution plan and that discharge of corporate debtor by operation of law does not discharge personal guarantor from his liability arising out of an independent contract.
Thus, Supreme Court upheld the validity of the notification, wherein personal guarantor was liable to insolvency proceedings under IBC.