Breaking: SC notice to Centre in challenge to Insolvency and Bankruptcy Code

Breaking: SC notice to Centre in challenge to Insolvency and Bankruptcy Code

Murali Krishnan

In a significant development in relation to the Insolvency and Bankruptcy Code, 2016, the Supreme Court today issued notice to the Central government in a petition challenging the vires of various provisions of the Insolvency and Bankruptcy Code, 2016 (Code).

Most importantly, the petition also assails all the appointments made to NCLT and NCLAT prior to 2018 on the ground that it falls foul of the judgment rendered by the Supreme Court in Madras Bar Association v. Union of India.

The matter was heard yesterday by a Bench of Chief Justice Dipak Misra and Justices AM Khanwilkar and DY Chandrachud.

Senior Advocates Aryama Sundaram and KV Viswanathan and advocates Masoom Shah, Vishwas Shah and Udit Gupta appeared for the petitioners. Attorney General KK Venugopal represented the Centre.

The petitioners have challenged Sections 3(12), 5(7), 6, 7, 12, 29, 62, 214(f), 231 and 238 of Insolvency and Bankruptcy Code and Sections 409(2) and 419 of the Companies Act, 2013. Further, the petitioners have also assailed notifications dated August 12, 2016 and September 28, 2017 issued by the NCLT, Delhi.

The challenge raised by the petitioners is founded on following grounds:

All appointments to NCLT and NCLAT prior to 2018 are bad

One of the most significant grounds taken by the petitioner relies on the judgment rendered by the Supreme Court in Madras Bar Association v. Union of India [(2015) 8 SCC 583].

Section 412 of the Companies Act was struck down in the said judgment. The same was only amended in 2018 to bring it in tune with the directions of the judgment. It is, therefore, the petitioners’ contention that all appointments made to NCLT and NCLAT prior to 2018 are unconstitutional and void ab intio and non –est.

“…in light of Constitution Bench Judgement of this Hon’ble Court reported in (2015) 8 SCC 583, the S. 412 came to be struck down. Thereafter under the provision which was struck down, the appointments of the Respondent no. 6 and 7, came to be made. It is settled law, that any action under the provision declared invalid by this Hon’ble Court is nullity in the eyes of law and also contempt of this Hon’ble Court. The appointments are thus unconstitutional and void ab intio and non –est. It is required to be noted that the s. 412 has been amended only in 2018 subsequent to the appointments, thus the appointments were under invalid provision of law.”

Violation of Article 14 of the Constitution

The Code treats financial creditors and operational creditors differently. When it comes to financial creditors, no prior notice is required to be sent before commencing proceedings. Further, operational creditors cannot initiate proceedings under the Code when a legal dispute is already pending. Such a bar does not operate qua financial creditors.

It is the petitioners’ contention that the same is contrary to law, arbitrary and unconstitutional as it violates Article 14, for there is no intelligible differentia in the classification of financial creditor and operational creditor, and that the classification has no rationale with the object of the enactment.

The Code’s object is not for recovery of Financial Creditors but it is for having insolvency resolution. Hence the insolvency process, if at all, has to be same for a Corporate Debtor irrespective of the claim by financial creditor or operational creditor, the petition states.

“That there is no difference to the subject of the section under s. 7 and 9, both deal with corporate debtor. Both deal with companies, only difference is one side is financial creditor and otherside is operational creditor. The side is immaterial and irrelevant looking at the object. But the Code’s object is not for recovery of Financial Creditors but it is for having insolvency resolution. Hence the insolvency process if at all has to be same for a Corporate Debtor irrespective of the claim by financial creditor or operational creditor.”

Violation of Natural Justice

The petitioners have assailed Section 7 of the Code on the ground that the said section read with Rules 4(3) and 6(2) of the Insolvency and Bankruptcy (Application to Adjudicating Authority Rules), 2016 are contrary to the principles of natural justice i.e., “audi alteram partem”, principle of legitimate expectation and doctrine of fairness. It is their contention that the said provision does not provide an opportunity to the Corporate Debtor to present his case and hence falls foul of of Articles 14 and 19 of the Constitution.

“That the entire scheme of the Code is based on one side’s version, and it fails to take care of the most important part of the Indian Democracy and Judicial System, where the person against whom the decision is being taken, can legally point out his case. That the rights of the Creditor and debtor under the Insolvency regime of the Financial Creditor are not balanced and hence for the lack of balance alone the scheme of the Financial Creditor is illegal and unconstitutional.”

Violation of freedom of occupation, trade or business under Article 19(1)(g)

The scheme provided in the Code of vesting the affairs of the corporate debtor in the hands of interim resolution professional and suspending the powers of the board of directors or the partners of the corporate debtor has been challenged under this ground.

The petitioners have contended that once the Interim Resolution Professional takes over the management of the corporate debtor, the corporate debtor has no say or no right to even challenge the acts of the interim resolution professional, as the Code contains no provisions for the same.

“While such a restriction if reasonable and in public interest is permissible (such as the restrictions imposed by the Companies Act 1956), the restrictions imposed by the Code are wholly arbitrary and based on irrational criteria whereby nothing can protect the Corporate Debtor, not even the pendency of the Counter Claim before the DRT, the power of the Respondent Trust to recover from the Petitioner as framed by the High Court which shall require evidence to be taken etc.”

The petitioners have also submitted that the provisions of the Companies Act, 2013 which the Code supersedes, contained provisions pertaining to the right of the debtor to object the winding up petition and even suggest a restructuring and repayment plan for the debts due, by way of filing of a statement of affairs. This right of a debtor has been taken away by the Code, thereby making it wholly arbitrary.

The scheme of the Code, therefore, infringes Article 19(1)(g), which provides for freedom of occupation, trade or business.

Violation of Right to Privacy

Sections 29(2) read with Section 5(25) of the Code violates right to privacy which is a facet of right to life under Article 21.

This argument is founded on the fact that resolution applicant, being any person without any qualifying criteria whatsoever, is given a free hand to access the information memorandum of the corporate debtor without executing any confidentiality or non-solicitation agreement without any restrictions whatsoever.

“The Code provides for a vague restriction that such disclosure will be subject to applicable confidentiality laws. It is submitted that there is no codified statute that protects confidentiality without an agreement being entered into between the Parties. Such a vague restriction cannot be deemed to be a reasonable restriction given the drastic implications of the Code.”

Hence the same violates the Right to privacy.

Article 21

The right to life includes the right to reputation. It is petitioner’s argument that once it is subjected to the proceedings of the Code, it affects the reputation of the Petitioner and tarnishes the image of the Petitioner that has been built over a period of time. Further,

“Section 7 of the Code is also likely to hamper the right to livelihood of a Company and its employees as once the proceedings are initiated under the Code; the Company is mandated to state the same in its Annual Report, which will eventually have an impact on the market value of shares, if it is a listed public limited company.”

Section 41 of Indian Evidence Act

The Board for Industrial and Financial Reconstruction (BIFR) under the Companies Act, when it existed, had no competence to wind up a company. It only had the power to recommend the winding up to the appropriate High Court.

This, according to the petitioner, was in consonance with Section 41 of the Indian Evidence Act, 1872, whereby only a court of competent jurisdiction can take away the legal character of a person, such as the case with insolvency proceedings qua a company.

On the contrary, the Code confers jurisdiction on the NCLT to declare individuals bankrupt or insolvent even though it is not a court within the meaning of Section 41.

Time limit – manifestly arbitrary

It is being argued that unreasonable timeline of 180 days from date of admission has been provided for coming to a resolution, which is wholly weighted against any corporate debtor and has failed to take into account various practical aspects. The contention here continues to be that the Code is drafted to favour creditors and discriminate against debtors.

Information Utility data –  manifestly arbitrary

The IU is supposed to be a repository of financial information. Section 214 provides access to this financial information but the Code doesn’t contain a provision to question authenticity of information that has been furnished or for rectification of such information.

Nodal Ministry – Corporate Affairs instead of Law

Another issue raised by the petitioner is that the Nodal Ministry is Ministry of Corporate Affairs and not Law Ministry. This, the petitioner has submitted hits the independence of judiciary and is in teeth of the Supreme Court’s judgement in L. Chandra Kumar’s case.

Scheme of Appointments

Section 409(2) of the Companies Act has been challenged by the petitioners on the ground that it lays down different criteria for appointment to NCLT Principal Bench and other Benches.

While the the judicial members heading a Bench need only be a district judge or an advocate with 10 years’ experience, the principal bench presided by President at New Delhi provides the minimum criteria to be of High Court judge with minimum 5 years’ experience. This according to the petitioners is manifestly arbitrary.

“The above is manifestly arbitrary as it precludes the companies having registered office outside New Delhi to have their lis compulsorily decided by High Court Judge presided Bench.

That this classification between New Delhi companies getting High Court judge presided Bench and other companies may not have the advantage of High Court judge presided bench is neither legal nor proper and lacks intelligible differentia and has no nexus with the object of Companies Act, 2013 and IBC Code 2016.”

Most importantly, the petitioner has challenged the composition of Ahmedabad Bench of NCLT, which is functioning with two judicial members pursuant a notification issued by President of NCLT. The petitioners have contended that the same is violative of Section 419 of the Companies Act.

“419 of the Companies Act, 2013 does not permit two Judicial members to assemble as a Division Bench. The aforesaid section is amply clear and it states that Bench will be composed of one judicial member and one technical member.  The Proviso appended to section states that by general or special order, President of NCLT may permit single judicial member to conduct class of cases. However at Ahmedabad Bench all cases were being dealt  by single Judicial member prior to the joining of second judicial member. Thus the order dated 12.08.16 issued by President of NCLT is illegal and bad in law and ultra vires S. 419 of Companies Act, 2013. The order dated 28.09.17 by virtue of which both judicial members at Ahmedabad constitute one Bench is also ultra vires S. 419 of Companies Act, 2013.”

The following are the prayers made in the petition:

  • Declare Section 3(12), 5(7), 6, 7, 12, 29, 62, 214(f), 231 and 238 of Insolvency and Bankruptcy Code, 2016 as ultra vires of the Constitution of India, 1950.
  • Declare Section 409(2) and Section 419 of Companies Act, 2013 as ultra vires of the Constitution of India, 1950.
  • Declare notification dated 12.08.16 and 28.09.2017 issued by the NCLT, Delhi as ultra vires of the Constitution of India, 1950 and/or Companies Act, 2013.
  • Quash and set aside the appointments made of the Respondent no. 6 and 7 under the Companies Act, 2013 as unconstitutional and non est and nullity and void ab intio.

The Court after hearing the parties today issued notice to the Centre and listed the matter for further hearing on April 23.

Read the Order

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