Process to Start Corporate Insolvency in case of Operational Debt
Process to Start Corporate Insolvency in case of Operational Debt
Latest news April 26, 2020 402
How to initiate Corporate Insolvency Process against a Debtor Company or LLP in case of non-payment of Operation Debt:
Types of Creditor
Creditors have been classified in two Categories:
- Financial Creditor
- Operational Creditor
A financial creditor means any person to whom a financial debt is owed. Financial creditor includes a person to whom such debt has been legally assigned or transferred to. So who is or who can be a financial creditor? Any person, i.e. an individual, HUF, partnership, LLP, company, can be a financial creditor if the financial debt is owed to that person. Similarly, a bank that provides you loan, it can be classified as a financial creditor; a NBFC (non-banking financial institution) can also be a financial creditor; a money-lender can be a financial creditor; a person who provides you a loan can be a financial creditor. Thus, even your spouse or relative can be your financial creditor if they provide you with a loan. Further, any person to whom such debt is legally assigned or transferred, he can be a financial creditor.
The next category of creditor is called operational creditors. Operational creditor is a person to whom an operational debt is owed. It includes any person to whom such debt has been legally assigned or transferred. An operational creditor is a person to whom the debt is owed during the conduct of business. Thus, any vendor who supplies raw materials to you and whose dues are not paid is an operational creditor. An operational creditor can also sue for insolvency proceedings. Even a mason or a carpenter who works for you or for your cooperation can be an operational creditor, i.e. if you owe him above Rs 1 lakh for the work they have done and you don’t pay them, they can drag you for insolvency proceedings. Similarly, your employee or workmen can also drag you for insolvency proceedings. But when can they drag you? That depends on whether you come under the term “operational debt” or not.
Locus & Jurisdiction
There are 11 NCLT benches in India including in Delhi so How do you decide which Bench of the tribunal has the jurisdiction to hear your application? To know this, you have look at the registered address of the Debtor. Now, look at the jurisdiction of which Bench of the tribunal you should file. For example, if the registered address of the Debtor company is Jaipur then the relevant tribunal will be the Bench at Delhi. If the registered address of the corporate person/Debtor is Gurgaon or Gurugram then the relevant tribunal will be the Chandigarh Tribunal. Thus, the territorial jurisdiction of each tribunal is the registered address of the corporate person (debtor). The Appellate Tribunal has a Pan India jurisdiction. Further, Section 63 of the Code provides that Civil Courts shall not have jurisdiction to entertain any suit or proceedings in respect of any matter on which Tribunal or Appellate Tribunal has jurisdiction under this Code.
As for the pecuniary jurisdiction, the threshold remains at a default of repayment of debt of Rs 1 lakh or above (this has been recently revised to one crore).
Under the Code, financial creditors, operational creditors and corporate applicant can move the Tribunal for initiating the Corporate Insolvency Resolution Process.
There are certain categories of persons who cannot invoke the jurisdiction of the Tribunal. The Code puts restrictions on certain persons who cannot move the Tribunal for initiation of Corporate Insolvency Resolution Process .
The first in the series is a corporate applicant who is undergoing a Corporate Insolvency Resolution Process. Let me explain you this with an example: A creditor bank has brought insolvency proceedings against ABC Corporation. The Corporate Insolvency Resolution Process is ongoing. PQRS owe large sums of money to ABC. Can ABC initiate Corporate Insolvency Resolution Process against PQRS? Given the embargo put by Section 11, ABC a corporate debtor already undergoing Corporate Insolvency Resolution Process is not eligible to institute proceedings against PQRS. Why do you think this is so? This is because once CIRP is initiated, the period of moratorium starts. In such a situation the legislature has correctly put an embargo on corporate debtor not to sue or get sued.
A corporate applicant within 12 months of completion of Corporate Insolvency Resolution Process can’t again invoke the jurisdiction of the Tribunal.
The third category is a corporate applicant or a financial creditor who has violated any of the terms of approved resolution plan in preceding 12 months and who cannot invoke the jurisdiction of the Tribunal for initiating Corporate Insolvency Resolution Process. This provision gives sanctity to the insolvency proceedings. It indicates that corporate applicant or financial creditor who violates terms of approved resolution plan can’t move the Tribunal within the given period.
You must be curious to know, why an embargo has been put on financial creditors only but not on the operational creditors. The answer to it lies in the composition of Committee of Creditors. Committee of Creditors comprises of financial creditors only and no operational creditor is member of COC. Here, some more clarity is required. Suppose financial creditor is a major bank. It has got many NPA accounts. In one of the proceedings, there was some violation of resolution plan. It has got 20 more applications to move for initiation of Corporate Insolvency Resolution Process. Will the procedure be halted for all the future NPA accounts till the expiry of 12 months? Is this a right approach for a Code which seeks to address NPA issues. This is the grey area of the Code.
And finally, a corporate applicant in respect of whom a liquidation order has been made. He cannot move for initiation of CIRP. Why, because once the liquidation order is made, the corporate applicant is bankrupt, in such a situation it can’t initiate Corporate Insolvency Resolution.
Filing by Operational Creditor
The procedure for filing a petition by operational creditor is distinctly different from that of a financial creditor. The relevant sections for filing as operational creditor are Section 8 and Section 9 of the Code. They are to be read with Rule 5 of the Adjudicating Authority Rules.
Financial creditor is required to serve limited notice to corporate debtor before filing application for initiation of Corporate Insolvency Resolution Process. On the contrary sub-section (1) of Section 8 envisages that an operational creditor is bound to give 10 days demand notice before initiation of Corporate Insolvency Resolution Process. This is a statutory requirement. Let’s look at how as a counsel to operational creditors you will guide them to file petition before adjudicating authority.
For example, Mnc ABC Corp comes to you and says that they had provided goods to Mnc PQRS. PQRS is to pay for the goods by the first of last month and they haven’t done so. As a lawyer to file petition under the Code, the first thing that you need to do is to ascertain the quantum of debt. So you ask your client. How much money they owe to you?
If the client says anything less than Rs 1 lakh, then you tell them that they have to take remedy under the civil court. However, if they say that the amount is greater than Rs 1 lakh, then you say fine you clear the pecuniary threshold limit of IBC and you can file petition under the Code.
Your next query to operational creditor should be to show you invoices of credits made and the default in payment. This is critical when you file for operational creditor. The other possibility is that he does not have invoices. What do you do in such situation? Let’s take each situation one by one.
Demand Notice with Invoice
Let’s see the first scenario when you have got a notice. As a first step, operational creditor has to send a demand notice to the corporate debtor. This demand notice must clearly indicate that operational debt is due. It must state that it must be paid within 10 days of receipt of demand notice. It should also include that if not, then the operational creditor will be constrained to move insolvency petition under the Insolvency and Bankruptcy Code. Now, demand notice is send either via Form 3 or Form 4 of the Rules. Now, let’s look at two scenarios—one in which you have invoices which reflect existence of operational debt and other where no such invoices are there.
In the first scenario, where you have invoices which reflect operational debt. In such case authorised signatory will simply send a notice in Form 4 of the Adjudicating Rules.
If look at Form 4, you will find that authorised signatory has to address it to corporate debtor and give its registered office address and simply calls upon the corporate debtor to pay the operational debt that is due. This is to be supported by invoices for the operational debt which are required to be annexed with the demand notice. A sample demand notice in Form 4 is annexed in our Supplementary section.
Demand Notice Form 3
n other scenario where operational debt is not by simple means of invoices only; it can be via a means of charges on property or title, in such cases, you have to serve demand notice via Form 3 of the Rules. Let’s look at Form 3 of the Rules. Form 3 provides that you have to give particulars of the operational debt. If you look at the form you will find that you have to give details as to total amount of debt. In this column you are required to give details of transactions on account of which debt fell due. You have to specify the date from which debt is due. You are required to show computation of default in a tabular form. This is a statutory requirement. You have to give amount claimed to be in default and the date on which such default occurred.
You are obligated to provide particulars of security, if any held. You have to give the date of its creation and the estimated value as per the creditors. To substantiate your claim you are required to attach certificate of registration of charge issued by the Registrar of Companies. Your client will give you all this data. You can also verify it from the Ministry of Corporate Affairs website, and you can download it from there.
If you are retaining any title arrangement in respect of goods to which operational debt refers, then provide the details of the same. You are also required to provide with record of default if any filed with the information utility. You also have to provide with the provision of law, contract or other document under which debt has become due. Finally, you have to provide list of documents attached to the application in order to prove the existence of operational debt and the amount in default. These are the particulars of operational debt that you are required to provide to corporate debtor.
You are required to apprise corporate debtor of the fact that if he disputes existence or amount of unpaid operational debt in default, he is required to inform within 10 days of receipt of the demand notice.
The operational creditor has to also ask corporate debtor that if he believes that that has been repaid, he has to demonstrate the same by way of: attested copy of record of electronic transfer of unpaid amount from the bank account of corporate debtor; or attested copy of any record that shows that corporate debtor has repaid the debt.
This again has to be provided within 10 days of receiving this demand notice.
And as a last para to this petition, the operational creditor has to apprise corporate debtor that if that is not paid within a period of 10 days from the receipt of this demand notice, they will be constrained to initiate Corporate Insolvency Resolution Process against the corporate debtor.
Now, this demand notice has to be signed by a person who is authorised to act on behalf of the operational creditor. This demand notice will form part of your insolvency application which is to be filed before the adjudicating authority. This demand notice is to be addressed to the corporate debtor, and it has to be sent at its registered office. This demand notice form is also required to give name of operational creditor and its registered office. A sample copy of demand notice in Form 3 is annexed in our Supplementary section.
Disputing an Debt
Sub-section (1) of Section 8 gives 10 days window to address the demand notice. Now, at the end of this period you as a lawyer for operational creditor have two possibilities. One, that there is no response. In such situation you go ahead and file petition before the Tribunal under Section 9 of the Code. The other possibility is that there is a response of the demand notice. The Code envisages three possibilities:
First is that the corporate debtor disputes the debt. This he does on the basis of evidence adduced by way of the pendency of suit or arbitration proceedings in relation to operational debt. This must be initiated before the issuance of demand notice. In the case of Kirusa v Mobilox, question arose on what is meant by “existence of dispute?” Does it mean a full blown civil suit or arbitration proceedings? Does a legal notice would suffice “existence of debt”. In Mobilox v Kirusa the Supreme Court held that a dispute can exist even when the proceedings are not pending before any court of law or Tribunal. I suggest you read in detail about this case in our IBC Case Comment section and understand how the court settled the issue of “dispute in existence”.
Now, assuming a genuine dispute exist between parties regarding operational debt, then in such situation your march to a Tribunal for filing insolvency petition is halted. This is because Section 9 puts an embargo on filing application for insolvency pending dispute. If you believe that it’s merely a bluff by corporate debtor, you may still go ahead and file application under Section 9 of the Code. The Tribunal is the adjudicating authority and it is for it to take the decision on the maintainability of the application.
The second possibility is that corporate debtor repay the debt and send operational creditor evidence of electronic transfer of unpaid amount from bank account of operational debtor.
The third situation envisaged by the Code is that corporate debtor repays the debt and send operational creditor an encashment of a cheque issued by corporate debtor towards the payment of operational debt referred in the demand notice.
Once the demand notice is sent to corporate debtor and debt still remains unpaid, your next step is to file application for initiation of CIRP. At this juncture question arises as to who can issue demand notice. There has been lot of controversy as to who can issue demand notice. Does it necessarily have to be sent by operational creditor only? Who are authorised persons? Who can send it? Can lawyers send a demand notice on behalf of an operational creditor? Now the initial view was for literal interpretation of sub-section (1) of Section 8 of the Code. The Tribunal and Appellate Tribunal held in case of Uttam Galva Steel case that lawyers cannot issue demand notice. This view was negated by the Supreme Court in the case of Macquarie Bank v. Shilpi Cables. The court held that lawyers can issue demand notice. This one decision has given immense relief to foreign operational creditors. You can find detailed discussion on this case in our IBC Comment section. We have already covered that this demand notice can be in either Form 3 or Form 4.
As a lawyer for operational creditor, you must keep in mind that each operational creditor has to file separate insolvency application for initiation of CIRP. This means that there can be any joint petitions. This is remarkably different from the procedure for filing by financial creditor. Section 7 dealing with financial creditors expressly allows joint application by one or more financial creditor. There is no equivalent provision under Section 9 for operational creditor. This issue came up before the Appellate Tribunal in case of Uttam Galva Steels v. Deutsche Bank. In this case joint application was filed by two operational creditors. It was opposed by corporate debtor. Corporate debtor relied upon Rule 23-A of National Company Law Tribunal Rules, 2016. This rule deals with joint petition for same cause of action. This argument was rejected by the Appellate Tribunal. It did comparative analysis of Sections 7, 8 and 9 of the Code and concluded that demand notice is to be issued individually by operational creditor, and petition under Section 9 is to be filed individually and not jointly. It categorically held that joint petition by operational creditor is not maintainable. You can read the entire judgment in our Supplementary reading section.
Thus, as a lawyer to an operational creditor, one has to keep in mind that you have to file separate insolvency application for each of the operational creditor. The fee for filing as an operational creditor is Rs 2000.
Procedure for filing
Let’s see how do you move the Tribunal for operational creditor? What is the format that you need to follow? The format for the same is Form 5 of the Adjudicating Rules read with Rule 6 of the Rules. The application is addressed and submitted to the Tribunal having relevant territorial jurisdiction. Operational creditor is to specify his name and address for correspondence and name of the corporate debtor. Thereafter, set in details for the purpose of application. If you take a look at Form 5 you will find that like application for financial creditor, an application filed by operational creditor is also divided into various parts:
In first part, details of applicant operational creditor is to be provided. If there is any identification number of operational creditor, you have to make it available.
In Part II of the form, particulars of corporate debtor are to be provided. This is more detailed segment. Here details like name, corporate identification number, date of incorporation, nominal share capital and paid-up share capital, details of guarantee clause, address of registered office is to be provided. In this section name, address and authority of person submitting application on behalf of operational creditor along with authorisation is to be provided. To enforce effective service of process, details like name and address and authorisation of person resident in India who is authorised to accept the service of process on its behalf is to be provided along with the authorisation.
Part III deals with details of IRP. This is again different from filing by financial creditor. In case of filing by financial creditor it is mandatory to provide details of proposed Interim Resolution Professional along with his consent. While in case of filing by operational creditor, it is not mandatory to have a proposed Insolvency Resolution Professional. In case, your client wish to have a proposed IRP, then you have to provide details of proposed IRP which includes his name, address, email id and his registration number as IRP.
Part IV of the form deals with operational debt. These particulars are to be filled meticulously. You already have these details as the same were sent while sending demand notice. There should be no discrepancy in these details. You have to fill in details of total amount of debt, details of transactions on account of which debt fell due. You have to specify the date from which debt is due. You have to give amount claimed to be in default and the date on which the default occurred. You have to show computation of default in tabular form. Though these details are already available with you when you sent the demand notice, but please be very careful in filling these details. Most of the defects that are pointed by the Tribunal’s registry is discrepancy in these figures. A little attention to details here will save you with lot of embarrassment. It will save you from lot of inconvenience.
In Part V, you have to provide particulars of operational debt. This is done by way of documents, records and evidence of default. You have to provide particulars of security, if any, the date of its creation, its estimated value. In case corporate debtor is a company, you have to attach a copy of a certificate of registration of charges issued by Registrar of Companies. You can gather this information from Ministry of Corporate Affairs website. In case there is any retention or reservation of title arrangements in prospect of goods to which operational debt is incurred, the details of the same is to be provided. Attach a copy of the order of court or arbitral panel adjudicating on the default. If any record of default is available with information utility, the same is required to be provided with this. Give the details and attach succession certificate or probate of will or letter of administration or court decree, if there is any. Provide details of provision of law, contract or other documents under which the debt has become due.
Give a statement of bank account where deposits are made or credit received normally by the operational creditor in respect of the debt of the operational debtor. You can also attach any other document which prove the existence of operational debt and amount in default.
Application is to be signed by a person authorised to act on behalf of operational creditor. He has to certify that the information given is true to his best knowledge. In case an IRP is suggested, the authorised person has to certify that the name of the proposed IRP is fully qualified and is allowed to be appointed as IRP under the Code. This application is to be signed by the person who is authorised to act on behalf of the operational creditor. He has to state his position with and his relationship with the operational creditor. The proof that the specified application fee has been paid is also required to be annexed.
Notice to Corporate Debtor
We have seen that a limited notice is required to be given by a financial creditor. Let’’s see the situation in case of corporate debtor. Rule 6 provides that an operational creditor is required to dispatch a copy of the application filed under Section 9 to the registered office of corporate debtor. You will recall that operational creditor has already served a demand notice on corporate debtor. The operational creditor can move to the Tribunal only after 10 days of service of demand notice. In case of Indian Bank v. Athena Power, the Tribunal held that if the corporate debtor fails to appear before the Tribunal despite given notice and an opportunity of hearing, the Tribunal may pass an ex-parte order. Under the scheme of the Code then, within 14 days of the filing of the application the Tribunal has to either accept it or reject it.
Accepting Operational Creditor’s application
Let’s have a look at the possibilities of acceptance of operational creditor’s application. Sub-section (5)(i) of Section 9 provides five eventualities in which application is to be accepted. They are:
That the application is complete in all respects.
That there has been no repayment of operational debt in respect of which the application has been filed.
The invoice or demand notice of the operational creditor has been delivered to the corporate debtor.
The operational creditor has not received any notice of a dispute, and there is no record of dispute in relation to operational debt on the information utility.
That no disciplinary proceedings are pending against the proposed Resolution Professional.
Now the Supreme Court in the case of Mobilox v. Kirusa laid down the test for ascertaining admissibility of application. The court suggested that when examining the application under Section 9 of the Code, the Tribunal has to consider three questions:
Whether there is an “operational debt” of more than one lakh?
Whether the documentary evidence provided with the application shows the debt is due and payable and has not been paid?
And finally, whether there is an existence of dispute between the concerned parties or record of pendency of suit or arbitration proceeding filed before the receipt of demand notice?
If the answer to question number 1 and 2 is in affirmative and answer to question number 3 is in negative, then application is to be admitted. Where an application is accepted by Tribunal, the Tribunal is required to communicate acceptance of such application to the corporate debtor. The Corporate Insolvency Resolution Process commences from the date of admission order. From this date the time limit for completion of Corporate Insolvency Resolution Process begins.
Rejecting the application
The other eventuality is rejection of application. The Tribunal will reject your application:
If the application of operational creditor is incomplete. In case the application is incomplete, before rejecting it the Tribunal is required to give operational creditor a period of 7 days to rectify defects in the application. It was held in the case of JK Jute Mills that this period of 7 days of receiving the notice of defects from the Tribunal is mandatory in nature. If the defects are not cleared within the period of 7 days, then the application is liable to be rejected. As a lawyer it is your duty to ensure that you file complete application and if an incomplete application is filed, you must cure the defects within a period of 7 days. You must also remember that the period of withdrawal of application is limited. As per Rule 8, it can be withdrawn before admission. Thus, if you do not cure the defect and the application is rejected, you cannot file another application as the principles of res judicata will apply. Thus, you should file application meticulously. This is where this course intends to help you.
If the operational debt is repaid, then the Tribunal will dismiss the application.
In case of operational creditors, serving demand notice before filing application with the Tribunal is statutory obligation. If demand notice is not served and operational creditor directly moves Tribunal, then in such situation application is liable to be rejected.
If in response to demand notice or otherwise, the operational creditor has received a notice of dispute and there is a record of a dispute in relation to the operational debt, then the application of operational creditor is to be rejected.
If disciplinary proceedings are pending against the proposed IRP, then also application is liable to be rejected.
It is for the Tribunal to communicate acceptance or rejection of application. In case of rejection of application, the remedy lies in making an appeal to the Appellate Tribunal.
If you have any further query, you may call us at +91-8800543454 or email us at firstname.lastname@example.org.
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