On 5 June 2020, the President of India promulgated the Insolvency and Bankruptcy (Amendment) Ordinance, 2020 (Ordinance). It was promulgated to suspend the initiation of fresh insolvency applications under the Insolvency and Bankruptcy Code, 2016 (IBC/Code) for a period of six months from 25.03.2020 to 25.09.2020. It was also provided under the ordinance that the suspension can be further extended to 25.03.2021. The ordinance was part of the Atamnirbhar package announced by the Govt. of India to mitigate the economic hardship caused by the COVID-19 as because of the imposition of the nationwide lockdown, companies especially Micro Small Medium Enterprises (MSME) were facing difficulty to meet their loan obligations. A new provision namely Section 10A was inserted to make sure that creditors do not resort to insolvency proceedings under the code against such companies.
Ordinance insulated the companies from the insolvency due to COVID-19 related defaults. It further provided that no application “shall ever” be filed for the default committed during the suspension period. This is an amnesty clause that protects the companies from any default committed during the suspension period. Though the ordinance provided the much-needed relief to the companies but it failed to take into consideration the economic hardship of the personal guarantors to corporate debtors. Initially, it was unclear whether the insolvency proceedings can be initiated against the personal guarantors when the same is suspended for the corporate debtor. It was clarified by Mr. M S Sahoo, Chairman of the Insolvency and Bankruptcy Board of India (IBBI) statutory regulator under the code who states that “The Covid-19 default has been suspended for the purpose of the CIRP (Corporate Insolvency Resolution Process), and not for other purposes under the Code, including individual insolvency”. It is beyond reasonable comprehension that for a particular default insolvency proceedings cannot ever be initiated against the company but can be initiated against the personal guarantor.
Personal Guarantors under the Code
Personal Guarantors have chequered history under the code. Initially, Bombay & Allahabad High Court have divergent views as to whether the provisions of moratorium under Section 14 of the code will be applicable to personal guarantors. The Supreme Court in the case of State Bank of India v. V. Ramakrishnan [(2018) 17 SCC 394] supported the view taken by Bombay High Court and held that provisions of the moratorium will be applicable to guarantors. This led to the clarificatory amendment under Section 14 which states that the moratorium will not be applicable to guarantors. The Provisions related to the individual insolvency is provided under Part III of the Code. Part III was not initially notified at the time of the enactment of code in December 2016. It is on 15th November 2019 the Govt. of India has notified the part III of the code only for the personal guarantors of the corporate debtor. Recent Insolvency case filed against Mr. Anil Ambani for a personal guarantee of Rs. 1200 Crore is also filed under part III of the code.
Quandary Under The Ordinance
There can only be two types of guarantors for a company namely corporate guarantor & personal guarantor. The ordinance has suspended the Corporate Insolvency Resolution Process (CIRP) which means that the insolvency proceedings cannot be initiated against the corporate guarantors. However, since provisions of Part III of the code are not suspended by the ordinance, insolvency proceedings can be filed against a personal guarantor. It is abysmal on the part of the govt. to assume that a corporate guarantor will suffer from economic hardship due to pandemic but a personal guarantor will not. As a result of such an assumption, a Corporate guarantor is protected from insolvency whereas a personal guarantor is not. This amount to the differentiated treatment of similarly situated persons i.e. guarantors and may fall foul to Article 14 of the Constitution of India.
The Contract of guarantee is governed by the provisions of the Indian Contract Act, 1872 (Contract Act). It is well-settled law that the principal debtor and guarantor are jointly and severally liable to the creditor. Creditors have the option to proceed against any one of them. However, there are certain exceptions to this well-settled principle provided under the contract act. Section 134 of the contract act states that if the principal debtor is discharged then the guarantor will also be discharged from fulfilling the debt obligation. The Delhi High Court in the case of Rani Constructions v. PatiJel JV, [129 (2006) DLT 38] while interpreting Section 134 held that;
“…Section 134 of the Indian Contract Act, 1872 provides for the discharge of the surety by release or discharge of the principal debtor. It provides that the surety is discharged by any contract between the creditor and the principal debtor, by which the principal debtor is released, or by any act or omission of the creditor, the legal consequence of which is the discharge of the principal debtor…”
Now, by the virtue of the ordinance, the creditors cannot ever file an application against the company i.e. principal debtor for the default during the suspension period. This effectively amounts to the discharge of the principal debtor with respect to the proceedings under the code. The company is absolved from any action by the creditor under IBC.
Applying Section 134, of the contract act insolvency petition shall not also be filed against a personal guarantor as well. Since the principal debtor is discharged from the rigor of IBC, a personal guarantor shall also stand discharged from the rigor of the insolvency. The author is not of the opinion that the personal guarantor shall be discharged all together but when a benefit has been conferred upon the principal debtor by ordinance, the same must be made available to the personal guarantor as well.
Furthermore, Section 60(2) states that insolvency application against the personal guarantors of the corporate debtor shall be filed before the National Company Law Tribunal (NCLT) where is the CIRP against the corporate debtor is pending. However, no there will no pending CIRP against the corporate debtor, and application has to be filed before the Debt Recovery Tribunal (DRT) as mandated under Section 79(1) of the code. Till date, DRT did not deal with any application under the insolvency code and therefore, it has to be seen that whether DRTs are well equipped to deal with the cases arising out of the code.
Conclusion
It is explicit that the ordinance has failed to take into consideration the impact of COVID-19 on personal guarantors. Creditors still have the option to proceed against the corporate debtor & personal guarantor under other laws such as SARFEASI, RDBFFI &, etc. However, when the creditors are barred from initiating insolvency against the corporate debtor, the same shall be applicable to personal guarantors as well. This quandary regarding the personal guarantor can be removed by extending the application of the ordinance to part III of the code. Till then the never-ending dilemma of personal guarantors will continue.
Akshay Sharma, final year law student, National University for Study and Research in Law, Ranchi.