How to Resist an application filed by a financial creditor u/s.7 of the Insolvency and Bankruptcy Code, 2016 (“IBC”)

Who is a Financial Creditor ?

• In terms of s. 5(7) of IBC “financial creditor” means any person to whom a financial debt is owed and includes a person to whom such debt has been legally assigned or transferred to;
• In terms of s.5(8) of IBC “financial debt” means a debt along with interest, if any, which is disbursed against the consideration for the time value of money and includes:-

1. Money borrowed against the payment of interest;
2. Any amount raised by acceptance under any acceptance credit facility or its de-materialised equivalent;
3. Any amount raised pursuant to any note purchase facility or the issue of bonds, notes, debentures, loan stock or any similar instrument;
4. The amount of any liability in respect of any lease or hire purchase contract which is deemed as a finance or capital lease under the Indian Accounting Standards or such other accounting standards as may be prescribed;
5. Receivables sold or discounted other than any receivables sold on nonrecourse basis;
6. Any amount raised under any other transaction, including any forward sale or purchase agreement, having the commercial effect of a borrowing;
7. Any derivative transaction entered into in connection with protection against or benefit from fluctuation in any rate or price and for calculating the value of any derivative transaction, only the market value of such transaction shall be taken into account;
8. Any counter-indemnity obligation in respect of a guarantee, indemnity, bond, documentary letter of credit or any other instrument issued by a bank or financial institution;
9. The amount of any liability in respect of any of the guarantee or indemnity for any of the items referred to in sub-clauses (a) to (h) of this clause

• While the definition of financial debt and thereby of financial creditor contains a lot many illustrations as well, we don’t intend to go into the details of illustrations of clauses (a) to (i) of s.5(8) of IBC.
• Put it simply, it is any debt with interest which is disbursed against consideration of time value of money and financial creditor is the one to whom such debt is owed including a person to whom such debt is legally assigned.

When a financial creditor could initiate Corporate Insolvency Resolution Process against the Corporate Debtor and requirements for admission of such application

• s. 7(1) of IBC provides that a financial creditor either by itself or jointly with other financial creditors may file an application for initiating corporate insolvency resolution process against a corporate debtor before the Adjudicating Authority when a default has occurred.
• In terms of s.7(5) of IBC, if adjudicating authority (concerned NCLT) is satisfied that a default has occurred and the application under sub-section (2) is complete, and there is no disciplinary proceedings pending against the proposed resolution professional, it will normally admit an application preferred by financial creditor.

In the case of Innovative Industries Ltd. v ICICI Bank, Hon’ble Supreme Court of India has held that:-

Consequences of Admission of a S.7 application at the instance of a Financial Creditor

• As seen above, the adjudicating authority is simply to ascertain if there is a default in repayment of a financial debt looking at the evidence and once it determines that there is a default, irrespective of any dispute, the application will be admitted.
• Consequence of admission will be drastic; it will result in initiation of CIRP, order of moratorium and the management of company getting vested from its shareholder appointed directors to a resolution professional
• At the end of CIRP, corporate debtor will go into liquidation or a successful resolution applicant will gain hold of the company.

How to Resist a S.7 application?

• While defenses / objections to s.7 application are always to be facts specific, we do not intend to give illustrations of facts specific defenses from decided cases; we rather aim to illustrate the possible approach to dealing with a s.7 application.
• For resisting an application u/s. 7 of IBC, it is to keep in mind that:-

1. A s.7 application must be filed in consonance with the provisions of The Insolvency and Bankruptcy(Application to Adjudicating Authority) Rules, 2016; these rules also provide that a s.7 application must be presented in accordance with rules 20 to 26 of NCLT rules, 2016.
2. The debt and default could be evidenced through material / evidence as detailed in Regulation 8 of (Resolution Process for Corporate Persons) Regulations, 2016.
3. A s.7 application will be admitted if:-
   1. Such an application is filed by a financial creditor (who must be a person to whom a financial debt is owed).
   2. There is a default evidenced through record of default with information utility or other evidence.
4. In the case of Innovative Industries Ltd. v. ICICI Bank, Hon’ble Supreme Court has also observed 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………..”

To raise objections against admission of a s.7 application, considering the aspects highlighted above, one could examine following and other issues in connection with a given application and accordingly raise objections/ defenses:-

• Whether the application is filed in conformity with (Application to Adjudicating Authority) Rules, 2016?
• Whether the application is compliant with rules 20 to 26 of NCLT rules? Of particular importance is rule 26 of NCLT rules, 2016 which provide that at the foot of pleading, there shall appear the name and signature of authorised representative and every pleadings shall be signed and verified by the party concerned in the manner provided by the rules.
• Whether the application complies with Part XVI of NCLT Rules, 2016 pertaining to Affidavits?
• Whether the necessary evidence as prescribed under regulation 8 of (Resolution Process for Corporate Persons) Regulations, 2016? Amongst other aspects, it is arguable per this regulation that incomplete financial statement is not the evidence i.e. the account statement must be from date of disbursement to the date of filing of the application. In our view, summary of accounts is not an evidence to prove debt and default.
• Whether such application is filed by a person duly authorised to do so?
• Whether the evidence produced along with application is admissible. Of particular importance is s.65B of Indian Evidence Act, 1872 in connection secondary evidence produced through generation from computers. (Mere affidavit for s.65B accompanying a s.7 application is not sufficient and other aspects will be required to be examined).
• In case of debts assigned in favour of reconstruction company trusts by a bank, it may be required to be examined whether such trust (if it has immovable property securities) complies with the requirements under s.5 of Indian Trust Act, 1882, lest it is arguable that such trust is not a valid trust and therefore not a “person” within meaning of IBC provisions and consequently not a financial creditor to maintain an application u/s.7.
• Whether the debt is not payable in fact or in law looking at the provisions of contract documents or for some other reasons? As an example, issues of invocation of pledged equity and proper adjustment in terms of pledge deed will be relevant; there may be many more such situation which may be required to be looked into to determine if the debt is not payable in fact or in law.

*Above information is neither intended to be nor should it be taken as any professional advice. Please contact a legal practitioner for any specific query.

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