[Swaha Sinha is a 3rd year B.A. LL.B. (Hons.) student at Symbiosis Law School, Pune]
The Insolvency and Bankruptcy Code (the Code) has been subject to endless scrutiny and suggested changes, with some being implemented through recent amendments. Most strikingly, the Ministry of Corporate Affairs constituted an expert panel to recommend amendments to this ground-breaking statute, resulting in the publication of a comprehensive set of recommendations that bear in mind the far-reaching effects of the Code on various stakeholders. The Government has more recently begun to take notice of and implement these suggestions, with the Cabinet last week approving an Ordinance that would accord creditor status upon homebuyers under the Code.
The Ordinance, which is yet to be promulgated by the President, comes close on the heels of the orders passed by the Supreme Court to award compensation to the homebuyers seeking to recover their investment in properties developed by Jaypee Infratech Limited (JIL). It is also in line with a long string of changes that the government has been effecting to make regulations more consumer-friendly, such as the enactment of the Real Estate (Regulation and Development) Act, 2016. This post seeks to explore the need for the additional homebuyer protection, elucidating its legal background and the implications it has on consumers as well the processes under the Code.
Under the Code, creditors are identified by their ability to institute the corporate insolvency resolution process (CIRP). This process, being the lifeblood of the Code, indicates that the traditional method of identifying creditors as per the definition under section 2(10) is awarded subordinate status. Sections 7, 9 and 10 of the Code restrict the power of initiation of the CIRP to financial creditors, operational creditors and the corporate debtor respectively. Therefore, in the absence of interpreting these definitions in order to include homebuyers within their ambit, such a crucial stakeholder is left without remedy to her debt.
A perusal of the verdicts of the National Company Law Tribunal (NCLT) reveals that arguments regarding the possibility of homebuyers qualifying as financial creditors under sections 5(7) and (8) are few. Since the relationship of a homebuyer and a developer is thought to extend beyond a mere financial dealings, the debt owed to such stakeholders is not “disbursed against… the time value of money”. On the other hand, the relation of an operational creditor and a debtor stems from a transaction on operations as delineated by the Bankruptcy Law Reforms Committee at paragraph 5.2.1. This relation finds explanation under sections 5(20) and (21) of the Code, which restrict operational creditors to four specific relations – those holding a debt against goods, against services, against employment, or against government dues.
Ordinary circumstances indicate that the debt owed to a homebuyer would be repayment of an advance or full compensation paid for immovable property or, in certain situations, an assured return on such amount. Bearing in mind the nature and circumstances of this relationship, the NCLT has held that it becomes difficult to fit it into any of the four categories provided by section 5(21). Various decisions involving the failure to pay assured returnsand repayment of advance to homebuyers reveal hesitation on the part of the tribunal to widen the scope of the definition beyond the wordings of the provision. Holding that remedies under the Consumer Protection Act were adequate, the NCLT held that it is not possible to construe the meaning of operational creditors so widely as to include homebuyers within its ambit.
The consequences of this narrow interpretation, however, are severe for homebuyers. In the increasingly common occurrence of delays in construction, the debt owed to the homebuyer is not addressed, and becomes more difficult to recover the same as an unsecured debt upon the initiation of CIRP. The Supreme Court has also acknowledged this disadvantageous position of homebuyers and taken steps towards strengthening the same through its order to the holding company of JIL to deposit Rs. 1000 crores in a timely manner towards the compensation of homebuyers. This disadvantageous position of homebuyer stems from many factors including:
– the frequency of delays in construction; the expert panel recommendations on the amendment of the Code noted that as of December 2016 over 800 construction projects had been delayed;
– the socio-economic background of investors indicates that most fuel their life savings into purchasing immovable property; and
– the manner in which such contracts are structured – largely in favour of the developer, with little to no benefits conferred on the homebuyer and no opportunity for them to negotiate.
While the decisions of the NCLT and the arguments before it have largely centred around the definition of an operational creditor and whether homebuyers may fit into that definition, it is pertinent to note that the proposed Ordinance confers upon them the status of a financial creditor. This position was also adopted by the recommendation of the expert panel, which took the view that the advances paid by homebuyers are in the nature of a loan, as a result of its usage to earn capital for the project. Moreover, it was considered that a failure to secure financing results in the return of the advance with interest. Therefore, the time value of the advance paid to the developer is owed to the homebuyer in the event of delay, indicating that such a contract ceases to be a mere forward contract for sale and purchase, but also has the commercial effect of borrowing as required under section 5(8)(f) of the Code. The NCLAT, expressing this very opinion, delivered a verdict in favour of homebuyers in instances where there is an assured return. It is, however, limited to specific circumstances, which would perhaps be alleviated by the promulgation of this Ordinance.
While this measure comes as a relief to homebuyers, with some return being guaranteed as a result of the right to initiate CIRP and participation in the committee of creditors, several questions must be answered by the Ordinance in order for it to produce the desired results. The manner in which homebuyers will see representation on the committee of creditors remains to be answered, especially since most matters will involve an overwhelming number of individual homebuyers, such as the 27,000 currently partaking in the JIL suit. Additionally, the willingness of middle-income homebuyers to make the hard calls necessary to refinance corporations, including sacrificing their own returns, is questionable. One can only hope that the Ordinance addresses these crucial logistical issues to ensure its efficiency in these trying but defining times.
– Swaha Sinha
Good analysis.