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May 28, 2021

Family trusts of defaulting tycoons are being targeted by Banks to recover loans

by Mahesh Mara in Corporate Law

Family trusts of defaulting tycoons are being targeted by Banks to recover loans

Equipped with the Supreme Court judgement with respect to go-ahead to seize assets of personal guarantors, the affected banks are looking to recover money parked in family trusts. Numerous family trusts formed by business persons are intended mainly to protect their assets from potential claims related to their companies, such as in bankruptcies. Neither lenders nor agencies such as the Enforcement Directorate or income tax department have been able to penetrate these asset protection trusts. In this article we will discuss about the effect of the judgement by supreme court which leaded the Banks to recover loans from Family trusts of defaulting tycoons.

What is the Supreme Court Judgement with respect to IBC?

In the case of Lalit Kumar Jain vs Union of India & Ors dated 21st May 2021 consistingbench by justices L Nageswara Rao and S Ravindra Bhat has held that approval of resolution plan under the IBC does not discharge personal guarantors of their liability towards the banks.

The Supreme Court had upheld the validity of the Centre’s notification allowing banks to proceed against personal guarantors for recovery of loans given to a company under the Insolvency and Bankruptcy Code (IBC).

In the judgment, the supreme court has upheld the notification by the centre, and accordingly Justice Bhat said while reading out the conclusion of the judgement which decided as many as 75 petitions pertaining to the validity of the notification.

Petitioners had challenged the November 15, 2019 notification issued under the IBC and other provisions in as far as they relate to personal guarantors to corporate debtors.

Upholding the validity of the notification, the top court ruled that initiation of an insolvency resolution plan for a company does not absolve corporate guarantees given by individuals from paying up the dues to financial institutions.

What is the Insolvency and Bankruptcy Code law notification with respect to Personal Guarantors to Corporate Debtors?

Following the notification by the Central Government on 15th November, relating to proceedings of Personal Debtors to Corporate Debtors, the Insolvency and Bankruptcy Board of India (IBBI) today notified Regulations for Insolvency Resolution and Bankruptcy Proceedings of Personal Guarantors to Corporate Debtors.

The following Regulations for Insolvency Resolution and Bankruptcy Proceedings of Personal Guarantors to Corporate Debtors were notified:

  1. the Insolvency and Bankruptcy Board of India (Insolvency Resolution Process for Personal Guarantors to Corporate Debtors) Regulations, 2019, specifying the details of the insolvency resolution process for personal guarantors to CDs, inter-alia, including:
    • eligibility to act as a resolution professional for an insolvency resolution process;
    • manner of receipt and verification of claims of creditors;
    • manner of preparation of list of creditors, holding the meetings of the creditors and voting in the meeting;
    • contents of the repayment plan; and
    • procedure of filing of application for issuance of discharge order, etc.
  2. the Insolvency and Bankruptcy Board of India (Bankruptcy Process for Personal Guarantors to Corporate Debtors) Regulations, 2019 specifying the details of the bankruptcy process for personal guarantors to CDs, inter-alia, including:
    • eligibility to act as a bankruptcy trustee for the bankruptcy process;
    • manner of preparation of reports and timeline for submission by the bankruptcy trustee;
    • manner of collating claims and formation of committee of creditors, holding meetings of the committee and voting in the meeting; and
    • manner of realisation of assets of the bankrupt and its distribution, etc.

The Insolvency & Bankruptcy Code, 2016, (IBC) classifies individuals into three classes, namely, personal guarantors to CDs, partnership firms and proprietorship firms, and other individuals, to enable implementation of individual insolvency in a phased manner. The Central Government, vide a notification dated 15th November, 2019, appointed 1st December, 2019 as the date for commencement of the provisions of the Code relating to personal guarantors to CDs. It also notified the following on the same day-

  1. the Insolvency and Bankruptcy (Application to Adjudicating Authority for Insolvency Resolution Process for Personal Guarantors to Corporate Debtors) Rules, 2019; and
  2. the Insolvency and Bankruptcy (Application to Adjudicating Authority for Bankruptcy Process for Personal Guarantors to Corporate Debtors) Rules, 2019.

These Rules provide for the process and forms of making applications for initiating insolvency resolution and bankruptcy proceedings against personal guarantors to CDs, withdrawal of such applications, forms for public notice for inviting claims from the creditors, etc.

The IBC envisages reorganisation and insolvency resolution of corporate persons, partnership firms and individuals in a time bound manner for maximisation of value of assets of such persons, to promote entrepreneurship, availability of credit and balance the interests of all stakeholders. The provisions of the IBC relating to corporate processes (insolvency resolution, fast track resolution, liquidation and voluntary liquidation) have since been operationalised.

There are occasions when a corporate debtor (CD) takes a loan guaranteed by another corporate person (corporate guarantor to the CD) or an individual (personal guarantor to the CD). The lender may pursue a remedy against the guarantor or the CD, being principal borrower, when there is a default in repayment of the loan. The insolvency resolution of corporate guarantors to the CD and of personal guarantors to the CD complement insolvency resolution of the CD. Accordingly, the IBC provides that where an application for insolvency resolution or liquidation proceeding of a CD is pending before a National Company Law Tribunal (NCLT), an application relating to insolvency resolution or liquidation or bankruptcy of a corporate guarantor or a personal guarantor shall be filed before the NCLT. It further provides that insolvency resolution, liquidation or bankruptcy proceeding of a corporate guarantor or a personal guarantor of the CD pending in any court or tribunal shall stand transferred to the NCLT dealing with insolvency resolution or liquidation proceeding of such CD.

Under the IBC law, banks can go after the family trusts formed by promoters or those who have given personal guarantees, provided there is a fraud or siphoning of money involved as per provisions of the IBC. Promoters of several Indian companies had earlier accused their professional managers of fraud and diverting company funds. But they would not get any respite from the IBC as lenders will now invoke their personal guarantees.

What is the action made by the banks after the judgement?

State Bank of India was one of the respondents from the 74 petitions and challenged by promoters on invocation of personal guarantees. It has been in the forefront of invoking guarantees of promoters of defaulting companies. It had invoked Rs 1200 crore of guarantees given by Anil Ambani for defaulting companies Reliance Communications and Reliance Infratel.

In January it was reported that State Bank of India had also approached the Mumbai bench of the NCLT to initiate guarantees by the Videocon Industries’ Dhoot brothers totalling Rs 11,500 crore.

It had also taken Bhushan Power & Steel promoter Sanjay Singal to court to recover Rs 12,276 crore dues to the bank for which he was a guarantor. All these promoters had challenged these actions in court.

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