Personal Guarantor May Lose Right To Subrogation In Resolution Plan Declares NCLAT

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India finally got a proper law for dealing with bankruptcy and insolvency in 2016 when Insolvency and Bankruptcy Code, 2016 (I&B Code) was passed. However, there is plenty of confusion with regard to the interpretation of the new law. Legislature and judges are slowly clearing these doubts with the help of amendments and judgments. 

NCLAT partially cleared the confusion regarding the right of subrogation of personal guarantors in cases of insolvency and bankruptcy. It held that a personal guarantor’s right of subrogation against the corporate debtor may be taken away in a resolution plan. 

Facts of the Case

NCLAT was hearing an appeal filed by the promoters of Sharon Bio-Medicine against an order passed by NCLT Mumbai Bench. Insolvency proceeding for Sharon Bio-Medicine was initiated before NCLT Mumbai Bench. Mumbai Bench accepted the resolution plan filed by the resolution professional. In their appeal before the NCLAT, Promoters of the company raised two objections against the said resolution plan which were

1. Resolution plan extinguished their shareholding in the company entirely

2. Promoter’s right as sureties to recover claims from the company was also extinguished by the proposed Resolution Plan.

Promoters argued that the abovesaid resolution plan reduced their personal guarantee to nil which violated section 133 and 140 of the Indian Contract Act,1872.

The Verdict of the Case

Division Bench comprising of Justice Mukhopadhaya and Justice Bansi Lal Bhat rejecting the objections raised by the appellants said that

“It was not the intention of the legislature to benefit the ‘Personal Guarantors’ by excluding the exercise of legal remedies available in law by the creditors, to recover legitimate dues by enforcing the personal guarantees, which are independent contracts. It is a settled position of law that the liabilities of guarantors is co-extensive with the borrower. This Appellate Tribunal held that the resolution under the ‘I&B Code’ is not a recovery suit. The object of the ‘I&B Code’ is, inter alia, maximization of the value of the assets of the ‘Corporate Debtor’, then to balance all the creditors and make availability of credit and for promotion of entrepreneurship of the ‘Corporate Debtor’. While considering the ‘Resolution Plan’, the creditors focus on resolution of the borrower ‘Corporate Debtor’, in line with the spirit of the ‘I&B Code’ ”.

Furthermore, the Bench also made it clear proceeding under I&B Code should not be treated as recovery proceedings and rights available to the surety under Contract Law will not be applicable in case of an insolvency proceeding.

It should be mentioned here that many experts are of the opinion that this judgment does not provide a clear picture of law related to the position of guarantors with respect to insolvency proceedings, as it is still unclear if this ruling would apply only for promoters who act as personal guarantors or even to third parties. It is also unclear that whether sureties lose their right of subrogation in all insolvency proceedings or they lose this right only in cases when the resolution plan does not provide for it after consultation with creditor’s committee. 

Author’s Opinion

Insolvency and Bankruptcy Code 2016 is still at a very nascent stage and it unforeseen legal issues will arise as the legislature may have missed certain possibilities. Hopefully, with the passing of time, things will become clearer. This judgment does not provide a holistic view about the position of guarantors but it will definitely help resolution professionals in future.

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