Home » Between The Lines » NCLAT: The occurrence of a default, and not the inability to pay debt is relevant for admitting or rejecting an application for initiation of CIRP under the IBC

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The National Company Law Appellate Tribunal (“NCLAT”) in the case of Monotrone Leasing Private Limited v. PM Cold Storage Private Limited (decided on July 6, 2020) has held that the inability to pay-off debts and committing default are different aspects which are required to be adjudged on equally different parameters, and that ascertaining commission of default is important when assessing applications to initiate Corporate Insolvency Resolution Process (“CIRP”) rather than the ability to pay.

Facts and Arguments
Monotrone Leasing Private Limited (“Appellant”) filed an application under Section 7 of the Insolvency and Bankruptcy Code, 2016 (“IBC”) against the PM Cold Storage Private Limited (“Respondent”) for initiation of CIRP on the ground that the Respondent committed default in repaying a financial debt of INR 27,19,110.

The Appellant contends that it had lent a sum of INR 25 lacs to the Respondent for 90 days, on which interest was to be charged at the rate of 15% per annum. The Respondent acknowledged receipt of the same by a letter dated June 14, 2017 which further stated the terms of the transaction. The Respondent issued a post-dated cheque on September 12, 2017 for a sum of INR 25 lacs drawn on State Bank of India in favor of the Appellant. But, even after September 12, 2017 the loan transaction between the parties was extended for a further period of one year. Subsequently, the Respondent handed over a post-dated cheque of INR 25 lacs dated October 09, 2018, which was dishonored.

A notice under Section 138 of the Negotiable Instruments Act, 1881 was served upon Respondent on November 01, 2018. The Respondent contended that no debt is due and payable to the Appellant, as the amount borrowed from it had been “squared off” due to a large number of transactions between the parties after which a civil suit was initiated for the recovery of the alleged amount. Subsequently, the Appellant filed for an application to initiate CIRP under Section 7 of the IBC before the National Company Law Tribunal, Kolkata (“NCLT”).

The NCLT rejected the application on the ground that the NCLT cannot act as a recovery tribunal, especially as the Appellant could not produce the required documents to show that it received any application from the Respondent for the loan. The Appellant did not produce the record of default from the information utility which is required under Section 7(3)(a) of the IBC.

The NCLT further noted that the competent civil court having jurisdiction found that there exists a prima facie case in favor of the Respondent and has issued interim prohibitory order against the Appellant restricting the Appellant from recovering the amount claimed herein. It further noted that the Respondent has filed a financial statement showing a balance of more than INR 25 lacs which shows that it is a solvent company. This was subsequently appealed by the Appellant before the NCLAT.

Issue
Whether the application under Section 7 of the IBC is maintainable.

Observations of the NCLAT

An adverse inference was drawn against the Appellant on account of non-submission of documents required for obtaining a loan from an NBFC. However, it was also observed that the NCLT is expected to admit or reject an application for initiation of CIRP solely on the basis of parameters laid down under Sections 7,9 or 10 of the IBC. It was held that the NCLT failed to appreciate that the issuance of cheque also gives an unconditional admission on behalf of the Respondent towards the debt of the Appellant. Thus, the adverse inference drawn by the NCLT for not submitting any explanation regarding the earlier cheque dated September 12, 2017 was held to be without
any basis.

It was observed that the Supreme Court of India had, in the case of Innoventive Industries Limited v. ICICI Bank [(2018) 1 SCC 407], laid down the guiding principles to admit or reject an application filed under Section 7 of the IBC. The Supreme Court of India had held that, to admit an application, the NCLT is to be satisfied that a default has occurred and that the corporate debtor is entitled to point out that a default has not occurred in the sense that the “debt”, which may also include a disputed claim, is not due. A debt may not be due if it is not payable in law or in fact. The moment the NCLT is satisfied that a default has occurred, the Application must be admitted unless it is incomplete.

The application filed by the Appellant under Section 7 of the IBC, read with Rule 4 of the Insolvency and Bankruptcy (Application to Adjudicating Authority) Rules, 2016, was held to be complete. In the circumstances, it is clear that the observation of the NCLT is sans any evidence.

One of the grounds of rejection taken by the NCLT is that the Respondent is a solvent company as the financial statement of the Respondent in the financial year ending March 2017 depicts revenue from operation in the Respondent’s account as INR 34,13,351 and a balance of more than INR 25 lacs. The NCLAT emphasized that a presumption cannot be drawn merely on the basis that a company, being solvent, cannot commit any default. As observed in financial and economic parlance, the inability to pay-off debts and committing default are two different aspects which are required to be adjudged on equally different parameters. Inability/ability to pay debt has no relevance for admitting or rejecting an application for initiation of CIRP under the IBC.

It was stated that the judgement of the Supreme Court of India in Swiss Ribbons Private Limited v. Union of India [(2019) 4 SCC 17] clarifies that rather than the “inability to pay debts”, it is the “determination of default” that is relevant for allowing or disallowing an application filed under Sections 7,9 or 10 of IBC. The said shift enables an applicant to prove by documentary evidence that there was an obligation to pay the debt and that the debtor has failed to fulfill its repayment obligations. Therefore, to allow the application under Section 7, it is not relevant to see the inability of the corporate debtor (in this case, Respondent) to pay the debt.

It was observed by the NCLT that the civil court has issued an interim prohibitory order against the Appellant and others stating that they cannot recover the amount claimed. The Respondent has failed to file any such order of the civil court prohibiting realization of the said amount. However, it is to be clarified thatby the non-obstante clause in Section 238 of the IBC, the IBC has an overriding effect over any other law that is inconsistent with it. Therefore, the civil court was not competent to issue an injunction order for a case pending under the IBC. It was observed that the NCLT has erred in rejecting the application based on the pendency of civil suit between the parties.

Decision of the NCLAT
The application under Section 7 of the IBC was admitted and the CIRP was initiated for the Respondent, as the NCLAT was satisfied that a default had taken place.

Vaish Associates Advocates View
This judgement clarifies an important position of law, and holds that the financial ability of an entity is not relevant when ascertaining if CIRP should be initiated. The only aspect that the NCLT has to determine while admitting a company into CIRP is whether a default in repayment has occurred.

Therefore, with regards to financial credit, borrowers must strive to repay their loans as and when they are due, and cannot take shelter in the fact that they are solvent and have the financial resources to repay the amount due to protect themselves from CIRP.

With regard to the adverse inferences drawn by the NCLT on the Appellant on account of non-submission of documents required to avail of a loan from an NBFC and for not providing explanation regarding earlier cheque dated September 12, 2017, the NCLAT has clearly defined the parameters on which an application to initiate the CIRP is to be judged.

Further, the ruling of the NCLAT with regard to the interim prohibitory order issued by the civil court is to be appreciated, as such orders can frustrate and hinder the CIRP process and that the IBC, being a complete code by itself and pursuant to non-obstante provision contained in Section 238 of the IBC, should prevail.

For more information please write to Mr. Bomi Daruwala at [email protected]

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