“An economic law is essentially empiric, and it evolves continuously through experimentation.”1
The Report of the Insolvency Law Committee, February 20202 emphasised that the erstwhile threshold of default of Rupees one lakh was causing a flood of corporate insolvency resolution process (CIRP) applications, which resultantly caused severe burnout of the adjudicating authority. It was suggested in the Report that a higher default threshold limit of Rupees 50 lakhs should be set appropriately.3 But this amendment never saw light, for the lockdown in March 2020. Nevertheless, the intent of this Committee should be appreciated and elaborated on. Taking cue from this, the author expounds that these thresholds should be ideally tweaked periodically by linking it to a common economic index and thus maintain the Insolvency and Bankruptcy Code, 20164 (IBC) to be relevant, at any given time.
The unexpected onset of COVID-19 pushed everyone to go under sequential phases of lockdown. Many nations devised rescue plans to stabilise their respective zones, such as mandatory vaccines and masks for physical health and stimulus packages for financial health. India proved to be a front runner in developing vaccines and combat strategies against COVID-19.5 Economically, it became difficult for Indian companies to sustain productivity and generate cash profits. Moreover, it was not easily ascertainable to foresee the period it would last. As a consequence of this predicament, it was assessed that many businesses would not be able to discharge their debts easily and expeditiously which further would have yielded in the initiation of corporate insolvency resolution processes (CIRP)in exponential proportions. Additionally, many resolution applicants would have been hesitant to spend on rescuing distressed companies at such times, which inevitably would have led to numerous companies succumbing to liquidation.
Liquidation was not the ultimate aim of the Insolvency and Bankruptcy Code, 2016, rather it was the timely resolution and revival of distressed companies. Being considerate of the plight, the Central Government extended support, by increasing the default amount under Section 4 IBC 20166. Despite this, 283 firms got admitted into CIRP, out of which 189 ended up in liquidation, owing to the pandemic.7
A double-edged sword
The Government of India on 24-3-2020, vide Notification S.O. 1205(E)8 (the Notification) increased the threshold for initiation of the corporate insolvency resolution process from the amount of Rs 1 lakh to Rs 1 crore, under Section 4 of the IBC, 2016. The increase in the threshold received a warm welcome from the stakeholders. However, this Notification confused as to the nature of applicability, for which inconsistent judgments are given across various courts and so there is no certain finding on the prospective or retrospective nature of the Notification. In a critical sense, it is beneficial only to corporate debtors, while the Notification missed to carefully deliberate upon such operational creditors whose debt falls under Rs 1 crore and so they are struck without any solace under the IBC, 2016. Thus, the myopic increment of threshold yielded adverse effects. When the bar is set too high, the choice of initiation of CIRP becomes restricted to limited financial creditors alone, but in most cases, the operational creditors, mainly MSMEs, are having defaulted in just a few lakhs. It was reported that “Operational creditors have been in the forefront of availing this benefit under IBC having filed the maximum number of defaults with National Company Law Tribunal (NCLT) (of a total of 1858 resolution processes triggered as at the end of March 2019, operational creditors have caused 920 cases)9.” Subsequently, the “majority” defenceless creditors had to approach the local civil courts. The problem with the local civil courts is that it was already overburdened, and this added to further delays. Clouds of ambiguity also exist around the jurisdiction of local civil courts in such matters. Thus, the core objective of IBC i.e. timely resolution of stressed assets gets contradicted. To solve this predicament, the Central Government has to reduce the threshold for the initiation of the CIRP process to a comparatively lesser amount. Ideally, the tweaking of the threshold must be done, not once, but periodically, by linking it to an economic index.
Inter alia, the impediments in the implementation of the dormant Part III (insolvency resolution and bankruptcy for individuals and partnership firms), especially with regards to the fresh start process (FSP), the thresholds for the initiation of fresh start process by the debtor is skewed per se. The stipulated qualifications are as follows: Gross annual income less than Rs 60,000, assets lower than Rs 20,000, no home ownership, qualified debt less than Rs 35,000, and the individual not been discharged under FSP in the last 12 months.10 This threshold excludes the majority of borrowers out of this process since the average size of debt of households was Rs 49,478 in rural and Rs 59,808 in urban areas as per the All-India Debt and Investment Survey (AIDIS), 2013. The prescribed income criterion only matches the rural poverty line income of Rs 58,320 for 2011-2012.11 Moreover, this process expects the individual to be houseless, while complications would arise in case of a joint family living under the same shelter. Unless this eligibility criterion is made flexibly workable, FSP itself may become impractical.
The author proposes to link the threshold with a suitable economic index, whereby the IBC gets to be aligned with the status quo economic conditions of India. By indexing, “debt capacity” can be studied diligently to arrive at a workable threshold ceiling for individuals and companies, respectively. Australia’s insolvency framework has such threshold limits indexed to the consumer price index.12 The economic recovery after the pandemic was represented as “K” shaped, whereby sectors like technology surged but the hospitality sector comparatively got slashed. Ideally, different thresholds should be set up for different sectors, through which the discrimination of the same pressure across diverse domains can be eliminated. It is to be noted that such an idea of diverse threshold limits was envisaged in the 2020 Report of the Insolvency Law Committee, in which it was mandated that the MSMEs alone should have a ceiling of Rs 5 lakhs. A specialised wing should be set up by the Insolvency and Bankruptcy Board of India (IBBI), to assess the average financial viability of companies and individuals, through which a proper threshold limit is indexed periodically.
Linking of an economic metric can be sought to assess the economic viability of the company or an individual, whereby the thresholds shall be tweaked promptly. The effects of COVID-19 have slowly faded almost into non-existence and all business have rebounded. Therefore, efforts must be taken to amend the threshold for companies, at least back to the pre-pandemic suggestion of Rs 50 lakhs. The design of the fresh start process should also be amended practically. By taking proactive steps to mitigate such practical impediments, IBC can stay relevant as a viable restructuring and turnaround tool.
* BCom, LLB (Hons.), Graduate Insolvency Programme, Indian Institute of Corporate Affairs. Author can be reached at <email@example.com>.
1. Dr M.S. Sahoo, Ex-Chairman, Insolvency and Bankruptcy Board of India, available at <https://ibbi.gov.in/uploads/resources/1f2dfa567dcf95833eddf7aec167fec7.pdf>.
2. Insolvency Law Committee Report, Recommendations on issues arising from the implementation of the Insolvency and Bankruptcy Code, 2016 [Feb 2020].
3. Insolvency Law Committee Report, Recommendations on issues arising from the implementation of the Insolvency and Bankruptcy Code, 2016 [Feb 2020].
4. Insolvency and Bankruptcy Code, 2016.
5. India Becomes One of the Frontrunner in Global Effort to Develop COVID Vaccine, available at <https://www.ddinews.gov.in/national/india-becomes-one-frontrunners-global-effort-develop-covid-vaccine>.
6. Insolvency and Bankruptcy Code, 2016, S. 4.
7. Ministry of Corporate Affairs, Bankrupt companies after lockdown was imposed due to COVID-19 Pandemic, Press Release dt. 22-3-2021.
8. Ministry of Corporate Affairs, Noti. No. S.O. 1205(E), dated March 24-3-2020.
9. Financial Express, “Lower the Default Threshold from Rs 1 Crore for Initiating Action under IBC”, 26-10-2020, available at <https://www.financialexpress.com/opinion/lower-the-default-threshold-from-rs-1-crore-for-initiating-action-under-ibc/2113446/>.
10. Insolvency and Bankruptcy Code, 2016, S. 80.
11. H.S. Shylendra, “Impediments to Individual Insolvency: A Political Economy Perspective of the IBC Experience in India”, Quinquennial of Insolvency and Bankruptcy Code, 2016 (2021), pp. 441-451.
12. See generally, Australia Financial Security Authority, <https://www.afsa.gov.au/insolvency/how-we-can-help/indexed-amounts-0>.