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Liability of Corporate Debtors- India

May 27, 2022

By Rupin Chopra and Apalka Bareja

Who is a corporate debtor?

A corporate debtor refers to a company, a limited liability partnership or any person who owes a debt to its creditors. Under the Insolvency and Bankruptcy code[1], a corporate debtor is liable to the financial and operational creditors for the payment of such debt.

What types of creditors are there with respect to a corporate debtor?

A financial creditor is someone to whom a financial debt is owed by the corporate debtor for example any amount borrowed by the corporate debtor against the payment of interest would be included in financial debt and so will things like amount of liability under a hire or lease purchase contract or amount raised against the issue of notes, bonds, stocks, etc.

An operational creditor is someone to whom an operational debt is owned. For example, payment for goods and services that the creditor might have supplied to the corporate debtor or even any dues arising under any law that is in force and payable to the Governmental authorities.

Insolvency and Bankruptcy proceedings

If the corporate debtor is not able to repay the debt owed to the creditors, then the creditors can file a petition for the initiation of the process of insolvency and liquidation of the corporate debtors under the Insolvency and Bankruptcy Code. But the provisions stipulate that such amount which the corporate debtor is liable to pay to the creditors must not be less than 1 crore if a petition for the process of insolvency and liquidation has to be filed. If the debt satisfies the condition of a minimum of 1 crore rupees, then either the creditor or even the corporate debtor can file an application for bankruptcy before the National Company Law Tribunal[2].

Liability of the corporate debtor and the personal guarantor

The liability of the corporate debtor is however limited to the extent of the assets of the company under the structure of a limited liability company but if the corporate debtor has guaranteed loans or any other type of debt outside this umbrella and in a personal capacity then they can be held personally liable for such debts. Most times the directors of a company give personal guarantee for a loan they take from financial creditors or goods they acquire on credit from operational creditors.

In these cases, the loan has been given to the company but the personal guarantee that the loan will be paid off has been provided by the directors. Now this is where Section 128[3] comes into play because it provides that the liability of a guarantor is co-extensive with that of the principal debtor. Therefore, it poses a question about whether the liability of the personal guarantor of corporate debtor is also extinguished after the insolvency and bankruptcy proceedings have taken place. What will happen if the amount is not fully recovered and will the personal guarantor be liable to pay the remaining amount that has not yet been recovered by the creditors.

Landmark Judgements with respect to liability in corporate affairs pertaining to corporate debtors and personal guarantor/ surety

The Judiciary has been of conflicting opinion at times. For example, a bench of the Punjab and Haryana High Court in Shri Kundanmal Dabriwala v. Haryana Financial Corporation & Anr.[4] relied on Section 135[5] which provides that a contract between the principal debtor and the creditors by which the creditors agree to compounds with the principal debtors discharges the surety from any liability. Let’s say an agreement has been reached upon by the creditors after initiation of the insolvency and bankruptcy proceeding but the companies assets are not capable of fulfilling the entire claim of the creditors and the liability has been scaled down to recover a portion of the claim then in this case as the liability of the surety is co-extensive with that of the principal debtor then the surety’s liability will also be scaled down or extinguished in whole or in part in accordance with the reduction or extinguishing of the liability of the principal or corporate debtor. This was also the opinion of the Hon’ble court in the above-mentioned case.

But a dissenting opinion was presented by a bench of Calcutta High court in the case of Gouri Shankar Jain v. Punjab National Bank[6] in which the court was of the opinion that “the secured financial creditor receiving payment of a part of its claim on full and final settlement basis in terms of resolution plan approved by NCLT does not extinguish the liability of surety of corporate debtor”[7]. This point of concern was finally settled by the court in a recent judgement of Lalit Kumar Jain v. Union of India & Ors.[8] where the Supreme Court held that the approval of a resolution plan by the very fact of the initiation of the insolvency and bankruptcy proceedings does not discharge a personal guarantor of a corporate debtor of their liability. There the creditors can claim the amount that is owed to them by the corporate debtor from the personal guarantor in a personal capacity as well according to the procedure laid down by law. Therefore, the director of the company who might have given personal guarantee for the fulfilment of a loan will be liable for the debts that the company owes to the creditors be it financial or operational in nature.

Conclusion

Therefore, the liability of the corporate debtor is not co-extensive with that of the surety and is not limited to the corporate debtor himself. Insolvency and bankruptcy triggered and conducted by the operation and interference of the law does not absolves neither the corporate debtor nor the personal guarantor from their liability because that liability arises out of a separate and independent contract which they might have entered into in a personal capacity. The objective of the Insolvency and Bankruptcy Code is not to help the debtors escape from their liability and the judgement of the court in Lalit Kumar’s[9] case ensures that personal guarantors do not escape their liability by paying off the debt of their creditors in part of their claim on full and final settlement basis under the terms of the resolution plan approved by the NCLT.

[1] https://www.mca.gov.in/Ministry/pdf/TheInsolvencyandBankruptcyofIndia.pdf

[2] Notification date 24th March 2020 by the Ministry of Corporate Affairs https://ibbi.gov.in//uploads/legalframwork/48bf32150f5d6b30477b74f652964edc.pdf

[3] The Indian Contract Act, §128, Act of Parliament, 1872

[4] Civil Writ Petition No.2713 of 2009 (O&M)

[5] The Indian Contract Act, §128, Act of Parliament, 1872

[6] W.P. No. 10147 (W) of 2019

[7] supra note 6

[8] LL 2021 SC 257

[9] supra note 8

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