Interests of Homebuyers in Insolvency: Pre- and post-Ordinance

[Pulkit Khare is a 4th year B.A., LL.B. (Hons.) student at The National University of Advanced Legal Studies, Kochi]

Homebuyers knocked on the doors of the Supreme Court under Article 32 of the Constitution on grounds that the corporate insolvency resolution process (CIRP) ignored the interests of vital stakeholders in building projects floated by Jaypee Infratech Limited (JIL) under the Insolvency and Bankruptcy Code, 2016 (the Code) as it stood prior to the Insolvency and Bankruptcy Code (Amendment) Ordinance, 2018 (the Ordinance).[1]

In Chitra Sharma v. Union of India (decided on 9 August 2018), the three questions before the Supreme Court in the pre-Ordinance stage, in light of default by JIL and the need for protection of interests of homebuyers, were:

  1. to set aside the order of Moratorium under Section 14 of the code made by the National Company Law Tribunal (NCLT), Allahabad and a direction to notify exclusion of consumers under Section 14(1)(a) in the larger public interest.
  2. Liquidation vis-à-vis interests of the Homebuyers following the lapse of the CIRP period.
  3. Exercise of power under Article 142 as regards position post Ordinance scenario?

Facts

JIL was a special purpose vehicle created by its holding company, Jaiprakash Associates Limited (JAL). IDBI Bank claimed that JIL had committed a default in the repayment of its dues and initiated CIRP against it before the NCLT.

On 9 August 2017, the NCLT ordered for proceeding under section 14 for a moratorium and prohibiting the institution of suits and the continuation of pending proceedings, including execution proceedings. Submissions of claims by creditors were called for pursuant to that order.

Homebuyers moved the Supreme Court under article 32 for staying the NCLT proceedings. The order of stay was issued but remained prejudicial to the petitioner’s interests and thus was needed to be revised by an order of 11 September 2017. The revised Order highlighted three elements for protection of interests of homebuyers:

First, the interim resolution professional (IRP) was permitted to take over management of JIL and to proceed to formulate an interim resolution plan within a 45-day period, as stay of the proceedings would lead to control of JIL with the erstwhile management prejudicing the interests of consumers and homebuyers;

Second, the IRP was directed to ensure that necessary provisions were made to protect the interests of home buyers. Court also nominated a senior counsel practicing before the Court to participate in meetings of Committee of Creditors (CoC) under Section 21 of the Code;[2]

Third, JAL as the holding company of JIL was directed to deposit a sum of Rs 2,000 crores on or before 27 October 2017.[3]

After 12 February 2018, the IRP had invited for resolution plans in accordance with section 30 of the Code, which were to be approved within the CIRP period (about to end on 12 May) lest JIL would go into liquidation. Out of the ten plans received, only three were eligible (others being disqualified under various provisions of the Code) for voting[4], where the CoC rejected the plans put forth. The Code now mandated for liquidation when the resolution plans were not approved within the CIRP period.

On the first question:

Affected by the decision in Innoventive Industries v. ICICI Bank, where the Supreme Court held that the non-obstante clause in section 238 of the Code shall override any other legislation whenever there is a conflict between the provisions of the Code with the respective legislation. The issue arose since the Innoventive Industries judgment did not settle the position regarding conflict between the Code and a central legislation, since it only dealt in conflict between the Code and a State legislation.

The conflict arose with regard to the rights conferred upon the homebuyers by special enactments including the Consumer Protection Act 1986 (COPRA) and by the Real Estate (Regulation and Development) Act, 2016 (RERA) which would be divested since, under section 14(1)(a) of the Code there was a suspension of the right to seek redressal before an adjudicatory forum, leaving the home buyers without a remedy. Section 238 of the Code will provide an overriding effect over other laws in existence.

In this regard the Supreme Court chose to balance the provisions of the Code and the reduction of the prejudice to the homebuyers. The Court can be understood to have applied the jurisprudential principle of utility propounded by Bentham, as it tried to reduce or avoid the pain suffered by the homebuyers, while still upholding and harmoniously reading the provisions of the Code.

Therefore, instead of ruling over the moratorium and setting it aside, the Court in exercise of inherent powers ordered on 11 September 2017 for appointment of a representative for the homebuyers in the CoC in the pre-Ordinance stage. It did so while staying the proceedings of NCLT against JIL and directed the IRP to retain control and formulate the resolution plan (in line with protecting homebuyers interests) and not to revert the control to the erstwhile management.

On Second Question:

Section 12(1) of the Code envisages that the CIRP has to be completed within a period of 180 days from the date of admission of the application. However, the resolution professional can seek an extension of a further period of 90 days upon a resolution from the CoC. The extension can be provided only once.

In the case of JIL, the period for completing the 180 day CIRP was to end on 6 February 2018. Based on the approval of the CoC an extension of 90 days was granted by the NCLT which was to end on 12 May 2018.

In meeting of the CoC on 8 May 2018 the plan was not approved by the threshold of three-fourth majority which was then needed under section 30(4) of the Code in the pre-Ordinance stage.[5] Accordingly, no resolution plan was approved within the deadline of CIRP.

In terms of the provisions of section 33(1), where the resolution plan has been rejected under section 31, the NCLT is required to pass an order for the liquidation of the corporate debtor. Supreme Court again faced the question of balancing the interests of the homebuyers and the Code. According to the strict adherence to the Code, the homebuyers would be left to an uncertain future on liquidation. Moreover, according to the amicus curiae only 8% out of all homebuyers demanded refund. Therefore, it was essential to find a just recourse in a situation that proposed liquidation enhancing more uncertainty and prejudice.

On Third Question:

In the aforementioned analysis of the first two questions it can be safely relied that the Supreme Court had been trying to jurisprudentially balance the provisions of the Code with interests of the homebuyers during the CIRP period and following its expiry. It can be inferred that the Court had hence restricted itself to two options:

One, whether in exercise of Article 142, an independent committee of experts should be constituted by the Court to evaluate the financial capability of JAL/JIL to continue executing the ongoing projects, and hand over the reins back to JAL/JIL; or

Second, whether to revive the CIRP by extending the time period of 270 days specified in the IBC in order to enable fresh, taking into account the interests of the home buyers under the amended IBC.

The first option was rejected. Since JAL was disqualified under section 29A of the Code, it does not have the capacity to deliver the flats. Also, upon the objections by the RBI, the Supreme Court was apprised of JAL’s resolution proposal for JIL which aimed at the twin benefits of avoiding insolvency of JAL and regaining control of JIL, thereby defeating RBI’s application for insolvency proceedings of JAL as well as section 29A of the Code.

An exercise of power under Article 142 was warranted with regard to the second option, since in the post-Ordinance scenario the Code warranted the inclusion of a representative of homebuyers in the CoC which was similar to what the Court had decided while answering the first question. The Court therefore allowed for commencement of the process under the Code afresh in all respects, with the CoC to be constituted afresh particularly in respect of financial creditors and transferring CIRP to the NCLT to be considered afresh. The Court thus avoided liquidation, thereby serving substantial justice.

The Supreme Court in this judgment has therefore gone beyond statutory language of the Code to protect interests of the homebuyers. But, such powers shall be exercised in the rarest of the rare cases since it could cause serious prejudice to the interests of the creditors, thereby subjecting the CIRP to extensive litigation and negating speedy resolutions under the Code.

Pulkit Khare

[1] The Ordinance amended the definition of ‘financial debt’ under section 5(8)(f) of the Code wherein ‘any amount raised from an allottee under a real estate project shall be deemed to be an amount having the commercial effect of a borrowing’. This resulted in homebuyers being considered as ‘financial creditors’ under section 5(7) of the Code.

[2] At that stage, it must be noted, the CoC as constituted under section 21 of the IBC did not include a representative of the home buyers. Nor were the home buyers regarded as financial creditors under the IBC.

[3] Even though not a party to the insolvency proceedings, this was primarily done in the interest of homebuyers.

[4] On 8 May 2018, a three fourth majority was required under section 30(4) of the Code as it then stood.

[5] The present requirement is of two-thirds vote for adoption of the resolution plan under section 30(4), following the amendment to the Code by the Ordinance which has taken effect from 6 June 2018.

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