Insolvency: Supreme Court says banks can invoke personal guarantee

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May 22, 2021 5:30 AM

Legal experts said the judgment now empowers banks to simultaneously proceed against the corporate debtor and the personal guarantors, thereby ensuring that the liability of the personal guarantor for the balance does not get extinguished after approval of a resolution plan for a corporate debtor.

It further held that Parliamentary intent was to treat personal guarantors differently from other categories of individuals.It further held that Parliamentary intent was to treat personal guarantors differently from other categories of individuals.

In a major setback to big industrialists, including Anil Ambani, Sanjay Singhal, Venugopal Dhoot and Atul Punj, the Supreme Court on Friday upheld the government’s move to allow lenders to initiate insolvency proceedings against personal guarantors, usually promoters and the top brass of debt-laden companies.

The judgment assumes significance as it will now provide the much-needed teeth to lenders to simultaneously invoke personal guarantees of promoters even while bankruptcy proceedings against the ailing companies are pending, thus speeding up the process for recovery of dues.

While upholding the government’s November 15, 2019, notification allowing banks and financial institutions to move against personal guarantors of companies facing insolvency, a Bench comprising justices L Nageswara Rao and S Ravindra Bhat held that “the impugned notification is legal and valid. It is also held that approval of a resolution plan relating to a corporate debtor does not operate so as to discharge the liabilities of personal guarantors (to corporate debtors)”.

“It is held that approval of a resolution plan does not ipso facto discharge a personal guarantor (of a corporate debtor) of her or his liabilities under the contract of guarantee…the release or discharge of a principal borrower from the debt owed by it to its creditor, by an involuntary process, ie by operation of law, or due to liquidation or insolvency proceeding, does not absolve the surety/guarantor of his or her liability, which arises out of an independent contract,” the judgment stated.

An involuntary act of the principal debtor leading to loss of security would not absolve a guarantor of its liability, it said, adding that there is no compulsion in the Code that it should be made applicable at the same time to all individuals, (including personal guarantors) or not at all.

The top court also dismissed a batch of 75 petitions that raised questions over the validity of the 2019 notification, which brought into force provisions of the Part III of the IBC, extending insolvency and bankruptcy proceedings to the promoters too.

The fact that the process of insolvency in Part III is to be applied to individuals, whereas the process in relation to corporate debtors, set out in Part II is to be applied to such corporate persons, does not lead to incongruity, the top court said, adding that the two separate insolvency processes would facilitate the CoC in framing realistic plans, keeping in mind the prospect of realising some part of the creditors’ dues from personal guarantors.

It further held that Parliamentary intent was to treat personal guarantors differently from other categories of individuals. The intimate connection between such individuals and corporate entities to whom they stood guarantee, as well as the possibility of two separate processes being carried on in different forums, led to carving out personal guarantors as a separate species of individuals, for whom the adjudicating authority was common with the corporate debtor.

Legal experts said the judgment now empowers banks to simultaneously proceed against the corporate debtor and the personal guarantors, thereby ensuring that the liability of the personal guarantor for the balance does not get extinguished after approval of a resolution plan for a corporate debtor.

Insolvency and Bankruptcy Board of India counsel Vikas Mehta said the industry was eagerly awaiting this decision. “It has lent certainty to the market and opens a new chapter in the insolvency regime scenario in India. Individual guarantors to borrower companies can no longer take the ruse that it is the company and not them who are liable,” he said.

Terming it as a “historic judgment”, counsel Bishwajit Dubey, who appears for various lenders before the SC and other courts, said the SC has held that approval of resolution plan for a corporate debtor will not absolve/discharge the liability of a personal guarantor. “We have seen that resolution process of corporate borrowers has not resulted in recovery of full amount of debt for the lenders. With this judgment lenders can now pursue remedies against the personal guarantors resulting in further recovery for them.”

Corporate lawyer Sumit Batra said: “Earlier, no remedy being in sight for the lenders to go after the personal guarantors provided an easy escape route to the promoters and at times used to act as a roadblock in the Corporate Insolvency Resolution Process. With this judgment, one can expect more debt realisation for the lenders as personal guarantors would now want to settle with the lenders to avoid any unwarranted consequences.”

After the notification, various banks had filed bankruptcy cases against businessmen, including Reliance Group chairman Anil Ambani, Dewan Housing Finance’s Kapil Wadhawan, Punj Lloyd founder Atul Punj, Bhushan Power and Steel chairman Sanjay Singhal and Videocon Industries’ founder Venugopal Dhoot, among others. Several promoters then challenged before various high courts the IBC provisions relating to initiation of insolvency proceedings against them.

On the IBBI’s request, the Supreme Court had in October transferred to itself all the petitions pending before various high courts of Delhi, Madhya Pradesh and Telangana to itself, saying that “the IBC is at a nascent stage and it is better that the interpretation of the provisions of the Code is taken up by this court to avoid any confusion, and to authoritatively settle the law”.

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