Latecomers in Liquidation – Entitlements and Penalties

[Sikha Bansal is an Associate at Vinod Kothari & Company and can be reached at [email protected]]

The Insolvency and Bankruptcy Code (the “Code”) provides for corporate insolvency resolution in respect of corporate debtors, and then liquidation where the insolvency proceedings fail. In case of liquidation of insolvent entities, the competing stakeholders stake their claims on insufficient assets. The laws generally mandate that the stakeholders furnish their claims within a specified time limit. However, it might be possible in certain situations that a creditor fails to furnish its proof of debt within the time so stipulated. Issues generally do not arise when there had been no distributions before the filing of proof by the creditor. Concerns emerge when a distribution has already been made.

In this context, questions which may come up are:

1. Is it possible for a creditor to submit claims after the maximum time-period allowed for submission of claims?

2. If the creditor is allowed to submit a belated claim, and an interim distribution had been made before receipt of its claim, will the creditor get the share that it would have been entitled to receive from the distribution so made?

3. If answer to the above is yes, what would be the impact on the distributions already made?

What the Code says

Sections 33 to 54 of the Code deal with the liquidation of the corporate debtor. Section 38 of the Code provides that the liquidator shall receive or collect the claims of creditors within 30 days from the liquidation commencement date. Also, according to regulation 12 of the Insolvency and Bankruptcy Board of India (Liquidation Process) Regulations, 2016 (the “Liquidation Regulations, 2016”) framed under the Code, the last date for submission of claims shall be 30 days from the liquidation commencement date. The Liquidation Regulations, 2016 do not dwell upon the consequences of delayed filing of proofs by creditors.

Section 177 of the Code provides for entitlements and penalties of and for the creditor who does not prove its debt before the declaration of dividend in case of individual bankruptcy. It states:

“(1) A creditor who has not proved his debt before the declaration of any dividend is not entitled to disturb, by reason that he has not participated in it, the distribution of that dividend or any other dividend declared before his debt was proved, but—

(a) when he has proved the debt, he shall be entitled to be paid any dividend or dividends which he has failed to receive, out of any money for the time being available for the payment of any further dividend; and

(b) any dividend or dividends payable to him shall be paid before that money is applied to the payment of any such further dividend.”

The provision similar to section 177 has traditionally been present in laws such as the Presidency Towns Insolvency Act, 1909 (section 72) and the Provincial Insolvency Act, 1920 (section 73) and then in the Companies (Court) Rules, 1959 (Rule 178). See also, rule 14.40 of the UK Insolvency Rules, 2016 and section 118 of the Bankruptcy Act of Singapore.

Judicial Trends

In Ganeshilal Gupta v. Bharatpur Oil Mills through Official Liquidator (1972), the Rajasthan High Court observed that:

“there has been a long delay in filing the proof, but the claim is within the period of limitation prescribed by the Limitation Act, the only consequence of the delay will be that prescribed by Section 474 of the Companies Act according to which a creditor, who does not prove his debt or claim within the time fixed by the court, has to be excluded from the benefit of any distribution made before his debt or claim is proved.”

However, in view of rules 177 and 178 of the Companies (Court) Rules, 1959, it is also clear that the creditor is “. . . entitled to be paid out of any money for the time being in the hands of the Liquidator available for distribution of dividend. The scheme of the law therefore does not prescribe any other penalty in the case of a belated claim.”

The Rajasthan High Court relied on the decision made in In re General Rolling Stock Company 1871 (7) Ch. Appeal 646, wherein the court held:

“. . . the rule is that everybody who had a subsisting claim at the time of the adjudication, the insolvency, the creation of the trust for creditors, or the administration decree, as the case may be, is entitled to participate in the assets, and that the Statute of Limitations does not run against this claim, but, as long as assets remain unadministered he is at liberty to come in and prove his claim, not disturbing any former dividend. Therefore so long as justice can be done to a creditor without disturbing the dividend already declared or paid, there is no reason why he should be prevented from getting his dividend. . . . I therefore direct the Official Liquidator to admit the applicant’s claim without further proof and pay her the dividend due to her if he can do so without disturbing the previous dividend and if he has funds enough in his hands.”

The Rajasthan High Court also relied on In re Metcalfe 1879 (13) Ch. D. 236. The view has also been followed in In re Kit Hill Tunnel 1880 (16) Ch. D. 590.

In Buckley on Companies Act, 13^th edition, it has been stated,

“A creditor may come in and prove at any time before the company is dissolved; the penalty of not coming in before the day fixed by the Court is not exclusion altogether, but exclusion from the benefit of any distribution made before proof.”

Reference was also made by the Rajasthan High Court to the decisions in Isack Jesudasen Pillai v. Divan Bahadur Ramsamy Chetty ILR 1904 Mad. 496 which appears to have been based on the decision in General Rolling Stock Company (supra), and to T.R. Rajakumari v. Motion Picture Producers Combine Ltd. AIR 1942 Mad. 349. A similar view has been expressed in Palmer’s Winding up, Part II at p. 483:

“As by the Act the assets are impressed with a trust in favour of all the creditors, the Court will make no difficulty in admitting proofs after the expiration of the time fixed. No mischief can be done to other creditors by reason of the delay or laches of any creditor, since, if he delays beyond the proper time, he must take his chance of what assets he can find for payment of his debt, not disturbing any former dividend.”

It is thus a well settled proposition of the law that a creditor may come in and prove its debt at any time before the final distribution of the assets and within the time prescribed under the limitation law, but he cannot disturb any dividend which has already been paid.

The rules that emerge

The foregoing discussion makes the following clear –

(i) A creditor who delays filing of proof of debt is not barred from proving altogether.

(ii) The creditor may come in any time before the final distribution of dividend.

(iii) The debt must not be time-barred; i.e. the proof must be lodged within the time allowed under the limitation law.

(iv) Where a distribution had been made prior to the creditor lodging delayed proof, it is not entitled to disturb such distribution, because it had not participated in the same.

(v) However, the creditor is entitled to the sums it has failed to receive.

(vi) Such sum shall be paid to the creditor out of the money, for the time being in the hands of the liquidator, available for distribution as dividend.

(vii) The money in the hands of the liquidator shall first be applied to pay the creditor and then applied to the payment of any future dividend or dividends.

Illustrations

The table shows two scenarios.

Particulars	Example 1	Example 2
Claims of A, B, C (each)	3000	3000
Cash in the hand of liquidator	10000	1000
Interim distribution	50% of creditors’ claims	10% of creditors’ claims
Receipts by A, B, C (each)	1500	300
Money remaining with the liquidator, after which the liquidator proposes to distribute final dividend	5500	100
D (late creditor) claims	5000	4000
Dividend which D failed to receive in first distribution	50% of 5000=2500	10% of 4000=400
Therefore, payment to D which should be made before further distribution	2500	100
Amount remaining in the hands of liquidator for payment to A, B, C, D in final distribution	3000	Nil
Ratio of payments to A, B, C, D (in the ratio of remaining dues)	1500:1500:1500:2500	NA
Payments to A, B, C, D (each)	643 to A, B, C and 1071 to D	NA
% of claims received by A, B, C, D in full and final settlement	71%	A, B,C received 10% of their claims, while D has received 2.5% only

In example 1, the creditor D did not disturb the distributions made to A, B, C; however, it received an equivalent proportion of its dues from the liquidation estate. However, in example 2, it will be noted that A, B and C have received 10% of their claims, while D has received merely 2.5% of its claim. The creditor D cannot claim for the deficiency since it was late in participating in the distributions. 

Conclusion

Therefore, the creditor will not be devoid of its share in the distribution already made. It will have to contend with the money available after the distribution – it cannot seek re-inclusion of the moneys distributed in the liquidation estate. The creditors who filed their proofs in time will not suffer at the hands of the creditor who came late. However, at the same time, it must be accepted that a creditor’s delay cannot promote other creditors’ entitlements – just because a creditor was late in filing, his proof must not let other creditors receive more than what they ought to have received had all the creditors filed their claims in time. Therefore, there is no prejudice against the creditors including the one who comes late.

The creditor’s penalty for coming late, in effect, is that it will be running with the risk of insufficient assets which may be distributed in its entirety if the delay is prolonged. Also, the creditor will be losing on the time value of money which it could have received at the time the distribution was made.

– Sikha Bansal