[Richa Saraf is a Legal Advisor at Vinod Kothari & Co.]
In Dr. Vishnu Kumar Agarwal v. Piramal Enterprises Ltd. (January 2019), the National Company Law Appellate Tribunal (NCLAT) held that multiple applications for initiation of corporate insolvency resolution process for the very same debt or claim is not permissible. Now, consider a situation where Company A (guarantor) has guaranteed the loans given to Company B (principal debtor). When Company B defaulted in payment, the creditor issued a notice to Company A invoking the corporate guarantee; however, even Company A failed to make the payment. If Company A and Company B both are undergoing insolvency proceedings (whether corporate insolvency resolution process or liquidation), can the creditor who has already filed its claim for the entire debt due with the interim resolution professional (IRP) or liquidator of Company A also file its claim with the IRP or liquidator of the Company B for the entire debt due?
Section 5(8) of the Insolvency and Bankruptcy Code, 2018 provides for the definition of financial debt. The relevant extract is reproduced below:
“Financial debt” means a debt along with interest, if any, which is disbursed against the consideration for the time value of money and includes–
(a) money borrowed against the payment of interest; **
** (i) the amount of any liability in respect of any of the guarantee or indemnity for any of the items referred to in sub-clause (a) to (h) of this clause.”
Accordingly, it is clear that the liability with reference to a guarantee given by a corporate guarantor is a financial debt; however, the moot question that arises for consideration is whether, having filed a claim with the principal debtor, the creditor can file its claim for the entire amount with the corporate guarantor. The author seeks to address this question in this post.
Discussions on Provisions of Law
Section 128 of the Indian Contract Act, 1872 stipulates: “The liability of the surety is co-extensive with that of the principal debtor, unless it is otherwise provided by the contract.” It is, thus, well settled that the creditor can directly approach the guarantor without having exhausted its remedies against the principal debtor but, to analyse whether in insolvency cases the creditor can file dual claims – one against the guarantor and the other against the principal debtor, it is pertinent to examine several cases
In Bank of Bihar v. Damodar Prasad, the Supreme Court held:
3. The demand for payment of the liability of the principal debtor was the only condition for the enforcement of the bond. That condition was fulfilled. Neither the principal debtor nor the surety discharged the admitted liability of the principal debtor in spite of demands. Under Section 128 of the Indian Contract Act, save as provided in the contract, the liability of the surety is coextensive with that of the principal debtor. The surety became thus liable to pay the entire amount. His liability was immediate. It was not deferred until the creditor exhausted his remedies against the principal debtor.
4. Before payment the surety has no right to dictate terms to the creditor and ask him to pursue his remedies against the principal in the first instance. As Lord Eldon observed in Wright v. Simpson “But the surety is a guarantee; and it is his business to see whether the principal pays, and not that of the creditor”. In the absence of some special equity the surety has no right to restrain an action against him by the creditor on the ground that the principal is solvent or that the creditor may have relief against the principal in some other proceedings.
5. Likewise where the creditor has obtained a decree against the surety and the principal, the surety has no right to restrain execution against him until the creditor has exhausted his remedies against the principal. In Lachhman Joharimal v. Bapu Khandu and Surety Tukaram Khandoji the Judge of the Court of Small Causes, Ahmednagar, solicited the opinion of the Bombay High Court on the subject of the liability of sureties. The creditors having obtained decrees in two suits in the Court of Small Causes against the principals and sureties presented applications for the imprisonment of the sureties before levying execution against the principals. The Judge stated that the practice of his court had been to restrain a judgment-creditor from recovering from a surety until he had exhausted his remedy against the principal but in his view the surety should be liable to imprisonment while the principal was at large. Couch, C.J., and Melvill, J. agreed with this opinion and observed-
This court is of opinion that a creditor is not bound to exhaust his remedy against the principal debtor before suing the surety and that when a decree is obtained against a surety, it may be enforced in the same manner as a decree for any other debt.”
[Emphasis added]
Again, in State Bank of India v. Indexport Registered, it was held:
“13. In the present case before us the decree does not postpone the execution. The decree is simultaneous and it is jointly and severally against all the defendants including the guarantor. It is the right of the decree-holder to proceed with it in a way he likes. Section 128 of the Indian Contract Act itself provides that “the liability of the surety is co-extensive with that of the principal debtor, unless it is otherwise provided by the contract”.
In Dr. Vishnu Kumar Agarwal, the NCLAT has also relied on the aforementioned judgments.
Other Relevant Judgments
In Jagannath Ganeshram Agarwala v. Shivnarayan Bhagirath, a Division Bench of the Bombay High Court held that the liability of the surety is co-extensive, but is not in the alternative. Both the principal debtor and the surety are liable at the same time to the creditors. In Mukesh Hans & Anr. v. Smt. Uma Bhasin, the Delhi High Court had observed that “the guarantee is an independent contract and in all fairness, has to be honoured to fulfil the contractual obligation between the surety and the creditor”.
UK Insolvency Act, 1986
The rule against double proof was discussed in detail in Kaupthing Singer and Friedlander Limited (in administration), wherein the UK Supreme Court observed:
11. The function of the rule is not to prevent a double proof of the same debt against two separate estates (that is what insolvency practitioners call “double dip”). The rule prevents a double proof of what is in substance the same debt being made against the same estate, leading to the payment of a double dividend out of one estate. It is for that reason sometimes called the rule against double dividend. In the simplest case of suretyship (where the surety has neither given nor been provided with security, and has an unlimited liability) there is a triangle of rights and liabilities between the principal debtor (PD), the surety (S) and the creditor (C). PD has the primary obligation to C and a secondary obligation to indemnify S if and so far as S discharges PD’s liability, but if PD is insolvent S may not enforce that right in competition with C. S has an obligation to C to answer for PD’s liability, and the secondary right of obtaining an indemnity from PD. C can (after due notice) proceed against either or both of PD and S. If both PD and S are in insolvent liquidation, C can prove against each for 100p in the pound but may not recover more than 100p in the pound in all.”
[Emphasis added]
Replying on the aforementioned ruling, Fletcher, in his famous treatise The Law of Insolvency[1] has mentioned:
Where the creditor to whom the liability is owed has already roved in the insolvency of the principal debtor, the surety’s own liability is thereafter reduced to the amount for which the creditor’s proof has been admitted, less the value of any dividends that has been paid to him.”
Conclusion
The issue under consideration is whether a creditor can simultaneously claim its entire amount of debt from the principal debtor as well as from the corporate guarantor. Considering the afore-mentioned, it is clear that the liability of the guarantor and the principal borrower is joint and several. Generally, guarantee deeds also have a clause to the effect that the guarantor is liable in the same manner as if the guarantor is the principal debtor. Under such circumstances, if there is default by the principal debtor, it cannot be that the claim of the creditor against the guarantor can be for any amount lesser than the amount due from the principal debtor. Accordingly, the creditor can claim its dues from the principal borrower and/or the corporate guarantor.
– Richa Saraf
[1] Para 23-003, page 728 of The Law of Insolvency, Fifth Edition 2017,
