Supreme Court Upholds Notification on Personal Guarantors under IBC: Lalit Kumar Jain vs. Union of India (2021)

Introduction

Date of the Judgment: May 21, 2021

Citation: (2021) INSC 308

Judges: L. Nageswara Rao, J., S. Ravindra Bhat, J.

Can the government selectively apply the Insolvency and Bankruptcy Code (IBC) to only personal guarantors of corporate debtors? This was the core question before the Supreme Court of India. The court examined the legality of a notification that brought specific sections of the IBC into force only for personal guarantors, excluding other individuals and partnership firms. The bench comprised Justices L. Nageswara Rao and S. Ravindra Bhat, with the majority opinion authored by Justice Bhat.

Case Background

The case arose from a batch of petitions challenging a notification issued by the Central Government on November 15, 2019. This notification extended certain provisions of the Insolvency and Bankruptcy Code, 2016 (IBC) specifically to personal guarantors of corporate debtors. The petitioners, who were directors, promoters, or chairpersons of various companies, had provided personal guarantees to secure loans for these companies. When the companies defaulted, banks invoked these guarantees, leading to recovery and insolvency proceedings against the petitioners. The petitioners argued that the government’s notification was an overreach of its powers, as it selectively applied the IBC to one category of individuals, i.e. personal guarantors, and not to all individuals.

Timeline:

Arguments

The petitioners argued that:

• The notification was an instance of excessive delegation of power by the Central Government, as Section 1(3) of the IBC only allows the government to set dates for enforcement of different provisions, not to limit their application to specific categories of persons.
• The provisions of the IBC brought into effect by the notification were not severable, as they deal with individuals and partnership firms generally, not specifically with personal guarantors of corporate debtors.
• The notification is arbitrary and discriminatory, as it singles out personal guarantors without any rational basis, especially since Part III of the IBC, which was brought into effect by the notification, does not apply to personal guarantors.
• The notification suffers from non-application of mind, as it failed to bring into effect Section 243 of the IBC, which would have repealed the existing insolvency laws for individuals, creating two contradictory legal regimes.
• The notification allows creditors to unjustly enrich themselves by claiming in the insolvency process of the guarantor without accounting for the amount realized in the corporate insolvency process of the corporate debtor.

Mr. Harish Salve, representing the petitioners, contended that the Central Government exceeded its powers under Section 1(3) of the IBC by modifying the application of Part III of the Code. He argued that the power under Section 1(3) is limited to bringing provisions into force on specific dates and does not allow the government to limit the application of provisions to certain categories of persons. Mr. P.S. Narasimha argued that the Central Government cannot choose the subjects to which the law applies and that the power of classification is legislative and cannot be exercised by the executive.

Submissions by Parties

Arguments of the Union and other Respondents

The Attorney General, Mr. K.K. Venugopal, representing the Union of India, argued that the 2018 amendment to the IBC created three distinct categories of debtors: personal guarantors, partnership firms, and other individuals. He submitted that the amendment to Section 60(2) of the IBC was intended to unify the adjudication process for corporate debtors and their personal guarantors, bringing them under the jurisdiction of the National Company Law Tribunal (NCLT). The Central Government’s action was to ensure a more optimal resolution process, as resolution applicants would find the process of taking over more attractive, and the total debt servicing of the corporate debtor might be lowered if the personal guarantor’s assets are also taken into account to mitigate the corporate debtor’s liabilities.

The Solicitor General, Mr. Tushar Mehta, supported the Attorney General’s submissions, stating that Section 1(3) of the IBC grants wide powers to the Central Government to operationalize the Code in a subject-wise manner. He argued that Section 2 of the IBC is not a definition clause but a mechanism for phased implementation. He also highlighted that personal guarantors are often at the center of the insolvency of a corporate debtor, and a separate mechanism was needed to deal with them.

Mr. Rakesh Dwivedi, representing the State Bank of India, argued that Section 1(3) of the IBC has two dimensions: the power to determine the date of enforcement and the power to appoint different dates for different provisions. He emphasized that Section 1(3) should not be interpreted in isolation, but in the context of the entire Code. He also submitted that the impugned notification does not modify any provisions of the Code but merely carries out Parliament’s intention.

Issues Framed by the Supreme Court

The Supreme Court framed the following key issues for consideration:

1. Whether the impugned notification dated 15.11.2019 is ultra vires the powers conferred upon the Central Government under Section 1(3) of the Insolvency and Bankruptcy Code, 2016?
2. Whether the approval of a resolution plan relating to a corporate debtor operates as a discharge of the liabilities of personal guarantors to the said corporate debtor?

Treatment of the Issue by the Court

The following table demonstrates as to how the Court decided the issues

Authorities

The Supreme Court relied upon the following cases and legal provisions:

Judgment

How each submission made by the Parties was treated by the Court?

How each authority was viewed by the Court?

• Queen v. Burah [1878 (3) App. Cases 889]*: The Court relied on this case to explain the concept of conditional legislation and to uphold the power of the executive to bring laws into operation.
• State of Bombay v. Narothamdas Jethabai 1951 2 SCR 51*: The Court used this case to support the view that conditional legislation is valid when the legislature has laid down the policy and the executive is left to apply the law.
• Sardar Inder Singh v. State of Rajasthan 1957 SCR 605*: This case was cited to support the argument that the power to extend the life of an enactment can be validly conferred on an outside authority.
• Hamdard Dawakhana v. Union of India 1960 (2) SCR 671*: The Court distinguished between conditional and delegated legislation using this case, and emphasized that delegated legislation must have proper legislative guidance.
• Delhi Laws Act, 1912, In re v. Part ‘C’ States (Laws) Act, 1950 1951 SCR 747*: This case was discussed to understand the limits of delegated legislation and the principle that essential legislative functions cannot be delegated.
• Lachmi Narain v. Union of India (1976) 2 SCC 953*: The Court referred to this case to explain that the power to extend an enactment with modifications is a form of delegated legislation and must be exercised within the scope of the parent act.
• State of Tamil Nadu v. K. Sabanayagam (1998) 1 SCC 318*: This case was used to discuss the different categories of conditional legislation.
• Vasu Dev Singh & Ors. v. Union of India & Ors (2006) 12 SCC 753*: The Court cited this case to distinguish between conditional and delegated legislation and to emphasize that the executive cannot modify the application of a law beyond the power granted.
• Bishwambhar Singh v. State of Orissa 1954 SCR 842*: This case was relied upon to support the view that the executive has the power to implement legislation in phases.
• Basant Kumar Sarkar v. Eagle Rolling Mills Ltd. (1964) 6 SCR 913*: The Court cited this case to support the argument that the power to extend the application of an Act is a form of conditional legislation.
• Maharashtra State Electricity Board Bombay v. Official Liquidator, High Court, Ernakulum & Anr. 1982 (3) SCC 358*: The Court relied on this case to emphasize that the liability of the guarantor continues even if the principal debtor is discharged by operation of law.
• Punjab National Bank v. State of UP (2002) 5 SCC 80*: The Court used this case to reiterate that the liability of the guarantor is co-extensive with that of the principal debtor.
• State Bank of India v. V . Ramakrishnan (2018) 17 SCC 394*: The Court referred to this case to recognize that a guarantor cannot seek discharge of liability on account of approval of a resolution plan.
• Committee of Creditors of Essar Steel India Ltd. v. Satish Kumar Gupta 2019 SCC Online SC 1478*: This case was cited to clarify that a resolution plan is binding on all stakeholders, including guarantors.
• In Re Kaupthing Singer and Friedlander Ltd. (in administration) 2012 (1) All ER 883*: The Court discussed this case to understand the concept of double proof in the context of insolvency proceedings.

What weighed in the mind of the Court?

The Supreme Court’s decision was heavily influenced by the need to uphold the legislative intent behind the Insolvency and Bankruptcy Code (IBC), which is to ensure a streamlined and effective insolvency resolution process. The Court recognized that personal guarantors often play a crucial role in the financial health of corporate debtors, and their liabilities are closely intertwined with the corporate debt. Therefore, the Court upheld the notification, emphasizing that it was not an instance of excessive delegation of power but a valid exercise of the government’s authority to implement the IBC in a phased manner. The Court also emphasized that the liability of a personal guarantor is independent of the corporate debtor’s liability, and thus, the approval of a resolution plan for the corporate debtor does not automatically discharge the personal guarantor’s obligations.

Fact:Law Ratio

Logical Reasoning

Issue 1: Validity of the Notification

Issue 2: Discharge of Guarantor’s Liability

Key Takeaways

• The Central Government has the power to bring different provisions of the IBC into force at different times and for different categories of persons.
• Personal guarantors of corporate debtors form a distinct class and can be treated differently from other individuals under the IBC.
• The liability of a personal guarantor is independent of the corporate debtor’s liability and is not automatically discharged by the approval of a resolution plan for the corporate debtor.
• The notification was intended to unify the adjudicatory process for corporate debtors and their personal guarantors, bringing them under the jurisdiction of the NCLT.
• The Supreme Court’s judgment reinforces the importance of personal guarantees in the Indian financial system and provides clarity on the rights and liabilities of personal guarantors under the IBC.

Directions

The Supreme Court did not provide any specific directions in this judgment. The court dismissed all the petitions and upheld the validity of the notification.

Specific Amendments Analysis

The judgment extensively discusses the amendments made to the Insolvency and Bankruptcy Code (IBC) in 2018, particularly concerning the definition of personal guarantors and the jurisdiction of the National Company Law Tribunal (NCLT). The key amendments include:

• Section 2(e): The 2018 amendment introduced Section 2(e) to define “personal guarantors to corporate debtors” as a separate category, distinguishing them from other individuals and partnership firms. This amendment was crucial in enabling the government to selectively apply the IBC provisions to this specific class of individuals.
• Section 60(2): The amendment to Section 60(2) expanded the jurisdiction of the NCLT to include insolvency resolution and liquidation proceedings of personal guarantors of corporate debtors, ensuring that such proceedings are heard by the same tribunal handling the corporate debtor’s insolvency. This amendment was intended to streamline the process and avoid conflicting decisions from different forums.

The Court emphasized that these amendments were a deliberate effort by the Parliament to address the unique dynamics between corporate debtors and their personal guarantors, recognizing that their liabilities are closely intertwined. The amendments also reflect the legislative intent to strengthen the corporate insolvency resolution process by bringing personal guarantors within its ambit.

Development of Law

The ratio decidendi of this case is that the Central Government has the power under Section 1(3) of the Insolvency and Bankruptcy Code, 2016 to bring different provisions of the Code into force at different times and for different categories of persons. The Supreme Court also held that the approval of a resolution plan relating to a corporate debtor does not operate so as to discharge the liabilities of personal guarantors to the said corporate debtor. This case clarifies the scope of the government’s powers under Section 1(3) and the extent of liability of personal guarantors under the IBC, thereby solidifying the legal framework for insolvency proceedings.

Conclusion

In conclusion, the Supreme Court upheld the validity of the notification, affirming that the Central Government acted within its powers to selectively apply the IBC provisions to personal guarantors of corporate debtors. The Court also clarified that the approval of a resolution plan for a corporate debtor does not discharge the liabilities of personal guarantors. This judgment provides much-needed clarity on the application of the IBC to personal guarantors and reinforces the importance of personal guarantees in the financial system.