This article has been written by Akhil Gupta pursuing Certificate Course in Arbitration at Lawsikho. 

This article has been published by Sneha Mahawar.

Introduction  

A non-performing asset is when an advance or a loan amount has not been returned to the financial institution along with interest for a period of 90 days.  In the real estate sector, there are three parties: firstly, the real estate companies (who develop the properties); secondly, the homebuyers who buy the house or flat (they engage with the real estate developers for the development of the said properties for residential homes); and thirdly, the financial institutions, i.e., the banks and other non-financial banking institutions. Due to such defaults by real estate developers, banks are forced to initiate insolvency proceedings in order to reclaim the loan amount from which the loans are taken for development purposes.  The housing project, as a result, becomes a Non-Performing Asset (NPA). Similarly, if the loan amount is not paid by the home buyer, the respective bank may proceed against the property’s possession and sell it to recover the loan amount lent to the home buyer for the purchase of such property. 

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The peculiar issue that arises in the real estate sector is that when the real estate developer defaults on repaying his debt to the financial institutions, then such institutions, being the lenders, would undoubtedly want to take over the possession of the unfinished projects and auction them to recover the loan amount. Homebuyers would only suffer as a result of such action because the possession of the flat(s) would be further delayed due to litigation over the amount and property. Therefore, home buyers suffer due to the tussle between the builders and the financial creditors.

Further, many times the builders declare themselves bankrupt, which only hampers the investment of the home buyers, whose ultimate goal is to purchase one apartment.  As of December 2020, there are about 1,600 cases pending CIRPs and only 462 resolution plans were approved or closed and 350 CIRPs are still in operation under the Insolvency and Bankruptcy Code, 2016.  This worrisome situation has led home buyers and financial institutions to file CIRP applications to the NCLT, urging it to initiate the CIRP so it can complete the incomplete projects and be repaid respectively.

Therefore, the present piece is an attempt to understand the new phenomenon of ‘Reverse CIRP,’ which the NCLAT has come up with to aid the real estate sector and boost economic growth by allowing the particular project to function irrespective of its default.

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Corporate Insolvency Resolution Process under the IBC, 2016 

The Insolvency and Bankruptcy Code, 2016 (‘IBC’) was devised with the aim of being able to withstand the changing economic scenarios and to address the shortcomings of the previous insolvency laws. When any corporate or business entity is not able to repay the amount borrowed from the creditors, then such creditors have the option to go for the Corporate Insolvency Resolution Process (hereinafter referred to as’ CIRP’). Simply put, the CIRP determines whether the corporate debtor or person who has defaulted is actually capable of repayment of such a defaulted amount or not. Such a determination is made through the analysis of the entity’s assets and liabilities by the Interim Resolution Professional. Initiation of CIRP can be done by financial creditors, operational creditors, and corporate applicants under Sections 7, 8, and 10 of the Code, 2016.

Stages in the Corporate Insolvency Resolution Process

Under the standard Corporate Insolvency Resolution Process, the following things happen:

  1. Upon default by the corporate debtor, three parties under Sections 7, 9 and 10 of the IBC, 2016 can file an application to initiate CIRP, i.e., either the financial creditors, operational creditors or corporate applicants respectively.
  2. After filing the application for initiating the CIRP, the adjudicating authority either admits or rejects it accordingly.
  3. If the CIRP application is admitted by the adjudicating authority i.e., the NCLT, then a moratorium is declared under Section 14 read with Section 12 of the IBC, 2016 and the CIRP commences.
  4. After the commencement of CIRP, the formation of the Committee of Creditors happens wherein there is voting for the Resolution Professional who proposes a resolution plan which is either approved by the Committee of Creditors or rejected with at least 66% majority as required under Section 23 of the IBC, 2016.
  5. According to it, if the plan is approved, an application is submitted to the NCLT, and liquidation may occur as and when necessary if the company cannot be revived at all.
  6. In between all these, under Section 12A, there is scope for withdrawal of application for CIRP.

Rights of homebuyers under the Insolvency and Bankruptcy Code, 2016

Initially, the homebuyers were not mentioned in the IBC, 2016. However, in the case of Nikhil Mehta and Sons v. AMR Infrastructure, the NCLAT held that homebuyers qualified as “financial creditors” under Section 5(7) of the IBC. Hence, the homebuyers are entitled to invoke CIRP against a defaulting corporate debtor.

The Hon’ble Supreme Court in the case of Chitra Sharma v. Union of India (2018), recognised the right of the home buyers and appointed a representative for them entitled to participate in the Committee of Creditors of Jaypee Infratech Ltd.

2018 Amendment to the Insolvency and Bankruptcy Code 

Based upon the recommendations of the Insolvency Law Committee through the IBC (Amendment) Act, 2018, Section 5(8)(f) was amended to include an explanation that said ‘financial debt’ includes “any amount raised from an allottee under real estate project.” Further, the amendment was made to the CIRP regulations to include the homebuyers in the category of ‘Creditors in a Class.’ This Amendment was challenged by the real estate companies in the case of Pioneer Urban Land and Infrastructure Limited v. Union of India, wherein the Hon’ble Supreme Court upheld the Amendment relying on the fact that the delay of completion of flats/apartments and the raised amounts from the Home buyers contributes significantly to the development of flats/apartments while it categorically also stated that those speculative investors and those not genuinely interested in purchasing the said flat/apartment could be excluded from the definition of ‘financial creditors.’ Such judgment led to several CIRP applications curtailing the development projects. Hence, another amendment was done i.e. IBC (Second Amendment) Act, 2020 which prescribed a minimum threshold limit for homebuyers to initiate CIRP which was either 10% of the total number of such creditors in the same class or 100 of such creditors in the same class. In the case of Manish Kumar v. Union of India, there was a challenge to the constitutional validity of this threshold limit in the Bill of 2019 but it was upheld by Apex Court. The court, however, was considerate to note that its default date for some home buyers may be different. Hence, all moving an application for CIRP under Section 7 of the Code, 2016 would not be practicable. The Court noted that if there is a default even if it is owed to none of the applicants (home buyers) but even to other financial creditors- even then they are entitled to move the application accordingly. Yet the threshold required to file the CIRP application as on the date of filing of the application must be fulfilled. Many have criticised this threshold limit saying that it favoured the real estate developer over the home buyers. However, the court in this judgment clarified in paragraph 235 that even for financial creditors specifically dealing with allottees there are those who have faith in the project.  

In the case of Bikram Chatterji v. Union of India (Amrapali case), there was a writ petition filed by the home buyers against the CIRP decision of the NCLT. In this case, the mega realty developer defaulted on a payment of around 4.3. billion dollars to the Union Bank for the construction of the company’s Eco Village project in Greater Noida, Uttar Pradesh. The homebuyers were not happy because they had been paying the pre-equated monthly installment before the receipt of the flats and they had even taken loans and were being forced to pay those as well. The Hon’ble Supreme Court held that the claims of homebuyers are above the claims of other financial creditors and government authorities. With this judgment, it was made sure that the authorities and the secured financial creditors do not end up selling the flats of the home buyers who were/are early waiting to get possession of their apartments. 

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Reverse Corporate Insolvency Resolution Process for the real-estate sector

In the Flat Buyers Association Winter Hills vs. Umang Real Tech Pvt. Ltd. case, two allottees joined hands through the flat buyers association of Winter Hills and moved an application under Section 7 of the IBC, 2016 for initiating CIRP against the defendants. The above-mentioned allottees had already taken possession of their respective flats and the sale deed had been registered in their favour. On its admission by the NCLT, Delhi, it directed the financial creditors (allottees) to deposit a sum of Rs. 2 lakhs with the IRP to meet the expenses for performing the functions assigned to the IRP because it is the duty of the IRP to keep the company going concerned after CIRP starts. To keep the company as ‘going concern’ the flats/apartments would have to be completed by the real estate company. However, the amount of two lakhs is insufficient to keep the company going concerned and it was recognised that the financial creditors do not have the expertise to assess the “viability” and the “feasibility” of the Resolution Plan as understood in the Innovative Industries v. ICICI, Swiss Ribbons v. Union of India, and Essar Steel v. Satish Kumar Gupta cases. Hence, the duty of the RP is to maximise the assets of the corporate debtor and balance the stakeholders. Herein, the asset of the corporate debtor is the infrastructure built by it for the allottees. The corporate debtor’s assets cannot be distributed to secure financial creditors, i.e., financial institutions in this case. The NCLAT noted that in most cases, the Committee of Creditors likes to take a “haircut” of the assets of the corporate debtor, but in the present case, there cannot be such a haircut of assets/flats/apartments. Hence, the big question to be solved was whether during the CIRP the resolution could reach finality without the approval of the third-party resolution plan (the plan by the secured financial institutions and by the unsecured financial creditors, i.e., the allottees here).

In this specific case, there were 142 allottees who had defaulted on making payments of their installments due to the corporate debtor. Hence, the IRP issued demand notices to them for making those particular payments, yet they neither paid nor came forward to take possession.

In the case, the NCLAT noted that one of the promoters of Uppal Housing Pvt. Ltd. (one of the intervenors) agreed to stay outside the CIRP but would play the role of the lender as being a financial creditor to ensure that the CIRP reaches its success and the unsecured financial creditors (allottees) would take possession of their respective flats/apartments during the CIRP without any third party intervention. Such a proposal was also accepted by the Flat Buyers Association. One of the financial institutions also agreed to cooperate in terms of the agreement with the condition that they get 30% of the amount paid by the allottees at the time of the registration of the flat/apartment.

The NCLAT noted that in the case of normal CIRP against the corporate debtor in the real estate sector, it shall only be confined to a particular project and not affect any other project of the same real estate company in other places where separate projects are approved by the different authorities, where owners may be different, and the financial creditors (allottees) and other financial creditors are separate. This was done to ensure that the interests of all the home buyers were not affected due to one single project default by the real estate company. This allowed for “project basis CIRP,” which meant that any other allottees (financial creditors) or financial institutions of other projects are not permitted to file a claim before the Interim Professional of other projects, and such a claim will be denied. The NCLAT also noted that the secured creditors cannot be provided with the asset (flats/apartments) by preference over the allottees (unsecured financial creditors) for whom the project has been approved. However, it is pertinent to mention that the NCLAT also observed that in case some allottees seek a refund it cannot be allowed by the adjudicating authority or even by the appellate tribunal in view of the Hon’ble Supreme Court’s judgment in Pioneer Urban Land and Infrastructure v. Union of India, in its paragraph 57, that when the allottees are at default, then on reading the agreement and the applicable RERA Rules and Regulations, they shall not be entitled to any relief including the payment of compensation and/or refund, “We may mention here that once this prima facie case is made out, the burden shifts on the promoter/real estate developer to point out in their reply and in the hearing before the NCLT, that the allottee is himself a defaulter and would, therefore, on a reading of the agreement and the applicable RERA Rules and Regulations, not be entitled to any relief including payment of compensation and/or refund, entailing a dismissal of the said application.”

The NCLAT observed that the real estate developer can also inform the authorities about the fraudulent intent of initiating CIRP under Section 65 of the Code, 2016; such as pointing out to the adjudicating authority the fact that the allottee is a speculative investor and not one “genuinely” interested in purchasing the flat/apartment or in the real estate market falling, the allottee does not want to go ahead to perform its obligation to take possession of the concerned flat/apartment under RERA and wants to “jump ship.” Further, the NCLAT noted that after the allotment is made, the allottee has the option to request the IRP or the promoter to find a third party to purchase the said apartment/flat and get the money back. It is also possible for the allottee to come to terms with the promoter (not the corporate debtor) to seek a refund of the amount.

Therefore, the NCLAT directed the intervenor/promoter to act as a financial creditor/lender, ensuring the project would be completed within the time frame provided by it by the disbursement of the amount. This sum is to be paid by Uppal Housing Pvt. Ltd. and the allottees (financial creditors) during the CIRP. The NCLAT asked the allottees to pay the cost for registration and the balance amount as per the terms of the agreement. Once these are complied with, then the CIRP shall be closed after intimation to the NCLT and the resolution cost, including the fee of the IRP, has to be borne out by the promoter. It also directed that only after the certificate of completion from the IRP and approval of NCLT, the unsold flats/apartments, etc. shall be handed over to the promoter, Uppal Housing Pvt. Ltd. It also stated that the IRP has the authority to sell unsold flats/apartments during the CIRP through a Tripartite Agreement between the Purchaser, IRP, and Promoter (Uppal Housing Pvt. Ltd.) and that the proceeds from such sale must be used to finance the specific project and make payments to financial institutions/banks and operational creditors. After these compliances, the IRP shall move the application to the NCLT with a report of completion asking for disposal of the application under Section 7 of the IBC, 2016 when “Rachna Singh and Ajay Singh (Allottees) have already occupied their flats.”

Criticism of Flat Buyers’ Association v. Umang Real Tech Pvt. Ltd.

There has been much criticism of the ‘Flat Buyers’ judgment’. Some of the criticism is highlighted below:

  1. NCLAT disregarded Section 29A of the IBC, 2016, which clearly states that certain parties, such as “persons acting in concert,” “connected persons” (including a promoter, etc.), and “related parties,” are ineligible to be the resolution applicant. Hence, according to the said section, no defaulting promoter shall be allowed to involve themselves in the insolvency process.
  2. Further, the NCLAT treated the promoters of the corporate debtor as the ‘outside lender’ and not as promoters to work with the resolution professional to distribute the funds, which is barred by the Code of 2016 itself because upon the initiation of CIRP, the activities of the corporate debt or are suspended, which includes even the management.
  3. The resolution applicant requirement as per the Code is the sine qua non. Moreover, the concept of “Reverse CIRP” is not mentioned in the Code, which means the Tribunal went beyond its powers.
  4. On completion of the single project, the resolution professional is to submit an application for the dismissal of the CIRP filed by the financial creditors, which is not what is prescribed by the Code.
  5. NCLAT allows the CIRP to function as an outside financial creditor if the promoter fails to make the required investment outside the scope of the IBC, 2016.
  6. NCLAT ignored the plight of the operational creditors of the real estate developers who maintain the same lender accounts and they were left remedial in the event of “project insolvency,” because they may not have sufficient documents to prove their respective claims.
  7. NCLAT didn’t clarify the moratorium aspect in Reverse CIRP as mentioned under Section 14 of the IBC, 2016.
  8. Sometimes, the allottees of an incomplete project are allotted alternative projects by the real estate developer, but they remain sans remedy in the case of limited CIRP, wherein allottees of other projects of such particular real estate developers are protected for a particular project.
  9. Because the maximisation of assets for CIRP has no effect on the real estate companies’ entire projects, such a decision by NCLAT may cause them to be careless. The companies may even use the funds from the project under the CIRP for any other project as they deem fit. Therefore, there must be a provision in the IBC allowing for paying compensation in the event of late delivery or non-delivery or refund of amounts advanced together with interest.

An overview of the reverse Corporate Insolvency Resolution Process

It is an exception created only for real estate companies. It is the duty of the intervenor/investor to fund the process to complete the development project of the corporate debtor, which can be promoted during the CIRP. There is a specific time frame provided within which the project shall be completed.

The process in reverse CIRP is as follows:

  1. The unsecured financial creditors can file an application for the initiation of CIRP under Section 7 of the IBC, 2016 to the NCLT.
  2. The whole CIRP happens without the approval of a third-party resolution plan.
  3. The CIRP does not affect the other projects of the corporate debtor, which means their company is kept as a going concern considering the interests of other stakeholders, i.e., the home buyers and financial institutions for other similar development projects.
  4. The promoter of a certain company functions as the lender/financial creditor to make sure the project development is completed with sufficient funds and all the dues are taken from the allottees to complete the project and payments are made in respect of the financial institutions on time.
  5. When all the compliances are met, all parties are satisfied with payments, and allottees have been given possession accordingly, then the promoter shall file an application to NCLT for dismissal of the application for CIRP.

In the case of  M/s. Sheltrex Developers Pvt. Ltd. Vs. M/s. Tata Capital Housing Finance Ltd. the NLCT, Chennai Bench held that IBC, 2016 does not provide for “Reverse CIRP,” hence such a mechanism is outside its purview. The Court dissented with the Flat Buyers’ case and held it could not be applied as precedent in the present scenario.

In the case of Ram Kishor v. Union Bank of India (1965), the NCLAT limited Supertech’s CIRP to one project itself. The NCLAT, Delhi, allowed Supertech Ltd. to finish the project by limiting the insolvency proceedings against it by applying the “Reverse CIRP” concept, thereby allowing the company to remain in charge of the execution of the project and letting the original promoter exist.

Conclusion

The courts are there to interpret the laws, not to implement them, as that would cause judicial overreach or “judge-made law,” which is not appreciated by the legislatures because it is the lawmaker’s duty to make laws. Considering the prime aim of the corporate insolvency resolution process is to revive the company through the resolution plan and satisfy the creditors, IBC was formulated wherein under Section 7, the financial creditors can file an application for CIRP. However, over the years, many home buyers caught themselves at bay because many times the real estate developers declared themselves bankrupt, which left the homebuyers not getting the flats/apartments for which they paid in advance to the developers. The Hon’ble Supreme Court in one of the pleas by the homebuyers held them to be creditors under Section 7 of the IBC, 2016, finally giving them the power to initiate CIRP against the developers. But this was being used majorly due to the way many of the real estate companies were getting hampered by the CIRP proceedings. Therefore, to address the issue, an amendment was made to the Code of 2016, thereby creating a threshold limit to make sure CIRP is done in a wise manner. After some time, in the Flat Buyers’ case, the NCLAT came up with the concept of “Reverse CIRP,” wherein it made sure there was a project-wise CIRP, therefore, ensuring that the whole company is not under CIRP. The NCLAT made the promoter an outside lender to act as a financial creditor to finance the project completion by raising money from the allottees and making sure the whole project is completed in due time and all debts are cleared of secured financial creditors as well; failure of which would make them liable under the law accordingly. This particular judgment has been widely criticised by IBC, 2016 experts, who have labelled it judicial overreach and a violation of Section 29A of the IBC, 2016, which prohibits promoters from being involved in the corporate debtor while CIRP is proceeding against it. This judgment has been accepted by some NCLTs while it has been rejected as a concept by other NCLTs in India, saying that IBC does not provide for such a method. It would be interesting to note what the Hon’ble Supreme Court decides with regard to the concept of “Reverse CIRP.”

References 

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