India’s proposed out-of-court debt resolution route will be open only to a narrow set of well-regulated financial creditors, two persons familiar with the discussions in the government said. The framework, now before Parliament as part of amendments to the Insolvency and Bankruptcy Code (IBC), promises a quicker, more flexible alternative to tribunal-led proceedings, which will also help reduce the backlog at the insolvency tribunal.
Under this alternative insolvency route, the management of the defaulting company will continue to be in charge of its affairs, but under the supervision of an administrator hired by creditors. This makes the process more flexible, informal and cost-efficient compared to the regular proceedings under the IBC that has the company management making way for the administrator.
Limiting the entities that can invoke the out-of-court bankruptcy resolution scheme will ensure it is exercised by trusted and well-governed financial institutions. The ministry of corporate affairs will notify the classes of financial creditors who can invoke this scheme, said one of the persons quoted above.
Typically, creditors to a company include a host of entities, including bond holders, home buyers in the case of real estate developers, and material suppliers, in addition to scheduled commercial banks and non-bank lenders. The plan now is to limit the out-of-court debt resolution scheme—called creditor-initiated insolvency resolution or more aptly, debtor-in-possession model—to institutional financial creditors.
While home buyers are also classified as financial creditors, the lack of an institutional form and regulatory oversight make them unlikely candidates for this scheme, said the second person, who also spoke on the condition of not being named.
The Bill to amend the insolvency code is currently under review by a select committee of parliament and is expected to be moved for passage once the government considers its recommendations.
Experts said the proposed debt resolution model will function outside National Company Law Tribunal (NCLT), which, until now, was exclusively in its domain.
“Since the corporate insolvency resolution process commencement sets in motion significant changes in the corporate debtor, it is imperative that the financial institutions taking this decision, without judicial intervention, are well-regulated and possess requisite financial and technical knowledge," said Ramakant Rai, partner-banking and finance at law firm Trilegal.
The class of financial creditors that are likely to be eligible for invoking this alternative scheme are Reserve Bank of India-regulated financial institutions such as commercial banks and the systematically-important non-banking financial companies (NBFCs), explained Rai.
“Homebuyers or other financial creditors with diluted regulatory supervision/control such as cooperative banks, non-systematically important NBFCs and financial lease providers, are likely to be excluded," said Rai.
The proposed amendment gives the government strategic flexibility to define the pool of eligible financial creditors, said Amit Maheshwari, tax partner at AKM Global, a tax and consulting firm. This selectivity will ensure that only well-governed institutions can drive out-of-court resolutions, minimize misuse and preserve procedural integrity.
“It is probable that operational creditors and non-institutional financial creditors such as homebuyers, retail lenders, and unregulated fintech platforms, may not be brought within this framework, given concerns around governance, coordination and oversight," said Maheshwari. "Such calibrated ring-fencing would foster trust, align with global restructuring norms, and strengthen the credibility of India’s insolvency ecosystem."
There are different processes of debt resolution without management change in countries including the US, Canada, Japan, Singapore and the UK.
The IBC Amendment Bill also sets the broad responsibilities of the institutions that trigger this out-of-court resolution process.
Given the stated objective of the IBC not being a recovery legislation but one for debt resolution, the policy imperative is always to grant supervisory powers to financial creditors that have significant involvement in the business of a debtor company and have commercial wisdom, said Soumitra Majumdar, partner at JSA Advocates and Solicitors.
“The proposed creditor-initiated insolvency regime is no exception to this. Therefore, the delegated legislation is expected to identify and empower this specialized class of financial creditors who will judiciously exercise their commercial wisdom to devise a thorough debt resolution plan with the existing management," said Majumdar.
The category of companies that will be subject to this scheme will be specified in the regulations. Given the rigours of the process, as set out in the various sub-sections of the proposed section 58 (creditor-initiated insolvency resolution process), it stands to reason to limit this to a select class of financial creditors, Majumdar added.
A section of legal experts raised doubts on the efficacy of the proposed amendments. Rajeev Dewal, founder of banking law firm Dewal & Co., said the objective of any insolvency resolution is to first benefit the debtor and thereafter, the others such as the creditors, workers, etc.
The IBC has been misused as a tool for the recovery of financial creditors’ dues, rather than for the resolution of the business, he said, adding that most amendments were proposed towards this objective. This is owing to the inadequacy of debt recovery tribunals and appellate agencies for the recovery of financial creditors’ dues, Dewal added.
“It remains to be seen how effective will the proposed debtor-in-possession model (creditor-initiated insolvency resolution process) be, given that a similar scheme for small businesses, the pre-pack scheme, has not been successful in the past," said Dewal.
Dewal said the tribunals and the appellate bodies appear insufficient in number and they lack infrastructure and appropriate resources, resulting in delays and inefficiencies. Unfortunately, the tendency is to make new laws, rather than making the right laws, implementing them well and strengthening the existing agencies, he added.
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