Mains 2016: Insolvency and Bankruptcy Code- Need and Critique

News

The Parliament has passed the Insolvency and Bankruptcy Code Bill, 2016. The Code which intends to give ease of doing business a push received the assent of the President of India.
 Bankruptcy is a legal status usually imposed by a Court, on a firm or individual unable to meet debt obligations.
 India is a capital-starved country and therefore it is essential that capital isn’t frittered away on weak and unviable businesses. Quick resolution of bankruptcy can ensure this. Moreover, It helps create a sound climate for investment.

Who drafted the bill?

It has been drafted by a specially constituted ‘Bankruptcy Law Reforms Committee’ (BLRC) under the Ministry of Finance.

The need of Bankruptcy law

 According to central bank data, stressed assets rose to 14.5% of banking sector loans at the end of December 2015.
 That’s almost Rs 10 trillion of loans that are stuck. Freeing up this money is crucial for the banking sector to go about its business.
 Failure of businesses impacts employees, shareholders, lenders, and the broader economy.
 Delays in making decisions on the viability of businesses, tactics employed by company promoters to delay reorganization or attempts to sell off assets also create problems.
 Present laws, such as the Sick Industrial Companies Act or SICA, have not worked because of inefficient enforcement and court delays.
 Delaying a decision on whether to shutter a firm or to try to revive it causes the destruction of value for all involved.

 We have many regulations in place which facilitate the setting up of a company, but there is no uniform policy to facilitate a smooth exit.

Present laws that deals with insolvency

There are, in fact, several laws that deal with insolvency for companies, such as: –
 The Sick Industrial Companies Act,
 The Recovery of Debt Due to Banks and Financial Institutions Act, and
 Securitisation and Reconstruction of Financial Assets and
 Enforcement of Security Interest Act, 2002 (SARFAESI)
Then there are a couple of laws dating from the time of the British Raj for dealing with individual debtors.
However, this multiplicity of laws has been a problem in the way of banks failing to recover their loans For example, DRTs (Debt Recovery Tribunal) are dealing with a backlog of Rs 4 trillion worth of cases. For the last three financial years, less than 20% of cases taken up by various channels such as DRTs, Lok Adalats and SARFAESI courts have
been successfully resolved.

Data and Stats

According to central bank data, stressed assets (which include gross bad loans, advances whose terms have been restructured and written-off accounts) rose to 14.5% of banking sector loans at the end of December 2015. That’s almost Rs 10 trillion of loans that are stuck. Freeing up this money is crucial for the banking sector to go about its business. On the parameter of resolving insolvency, India is ranked 136 among 189 countries. At present, it takes more than four years to resolve a case of bankruptcy in India, according to the World Bank.

So, what exactly this new code will do to improve the situation?

Consolidation of laws – The new code will replace existing bankruptcy laws and will cover individuals, companies, limited liability partnerships and partnership firms
 The bill proposes the creation of a new class of insolvency professionals that will specialize in helping sick companies.
 It will also facilitate creation of information utilities that will collect all information about debtors to prevent serial defaulters from misusing the system. The bill proposes to set up the Insolvency and Bankruptcy Board of India to act as a regulator of these utilities and professionals.
 It also proposes to use the existing infrastructure of National Company Law tribunals and debt recovery tribunals to address corporate insolvency and individual insolvency, respectively
 To protect workers’ interests, the code has provisions to ensure that the money due to workers and employees from the provident fund, the pension fund and gratuity fund shouldn’t be included in the estate of the bankrupt company or  individual. Disqualification of person declared bankrupt from holding public office, thereby ensuring that politicians and government officials cannot hold any public office if declared bankrupt.
 The Code creates an Insolvency and Bankruptcy Fund.

Critics of the code

 The Code provides a hard deadline of 180/270 days for completion of corporate insolvency process, failing which, the Code mandates the “Adjudicating Authority” to order liquidation. A hard deadline will push otherwise salvageable
companies into liquidation, disrupting markets and affecting jobs and livelihoods.
 IRP model is costly – IRP model has been borrowed from the UK. Adoption of the IRP model resulted in higher
realizations but it also correspondingly increased costs of bankruptcy. Antitrust (practices restraining trade, malpractices) concerns have also been raised in face of a closed credit or resolution professional nexus.
 Cross-border insolvency – The legislation fails to provide a framework to deal with issues involving cross-border
insolvency. Many global companies have investments in India. In recent years, Indian companies have grown
multinational in character and have made a high profile and high stake acquisitions abroad.
 No effective mechanism – There is no effective mechanism for cooperation between the courts of India and those of other countries, or for the administration of cross-border insolvencies and treatment of stakeholders, if insolvency
proceedings start in any foreign jurisdiction while involving assets or creditors in India.
 View of the government – The position of the government is that cross border cooperation will be achieved by signing bilateral agreements with sovereign countries. This will not only be time-consuming, but will also run the risk of different, and at times conflicting, rules being framed for different jurisdictions
 Biased – The code tilts heavily in favor of creditors, depriving debtors of fair participation and a level playing field. The Committee of Creditors has been made the sole, all-powerful authority that can either accept or reject the revival plan of the debtor company. All other creditors and stakeholders have been kept out of the decision-making processes.
 Personal insolvency – Filing bankruptcy is considered a stigma in many societies within India, as it impacts the social standing of individuals as well as their family members. The stakeholders, principles, approaches and outcomes of personal insolvency are different from those of corporations. A one-size-fits-all approach to the entire population may not be suitable.
 NPA crisis will linger on – As it will take more than a year for the new law to be implemented. The resolution of NPAs cannot wait that long.
 Overburdened DRTs – Vesting debt recovery tribunals (DRTs) with jurisdiction to deal with personal insolvency resolutions is also a step in wrong direction.
 Most DRTs are in state headquarters. Farmers situated in faraway places find it difficult to access the law, as traveling long distances from a village or small town to file or participate in an insolvency proceeding involving small amounts is time consuming and costly.
 DRTs are already overburdened with work and suffering from a backlog of cases. To add this massive jurisdiction to their existing load will impact the quality of their work in another key area – the recovery of debt and unlocking key assets trapped in litigation to be reallocated back into economy.

Conclusion

Effective implementation will be the key again if the insolvency code is to succeed. Government should ensure that it keeps working on improving the code coupled by efforts to setup institutional framework mentioned in code itself, in a time-bound fashion. It would be ironical if the proper implementation of the code itself is mired in delays.