Followed by the direction of the first phase of the lockdown of 21 days by the Prime Minister, the Finance Minister, announced special relief packages for companies. Amongst various other reliefs, the Finance Minister, to primarily defend the Medium Small and Micro Enterprises (MSME), announced an increase in the minimum amount of default from rupees one lakh to one crore for initiating proceedings under the Insolvency and Bankruptcy Code 2016 (Code). The same has been notified in the official gazette1 on 24.03.2020.

Default is the trigger point for initiating any proceedings under the Code. In case of default in payment of a debt by a corporate debtor to a creditor (whether operational or financial), Section 6 of the Code empowers such Creditors to initiate a corporate insolvency resolution process (CIRP) under Chapter-II of the Code. In this regard, Section 4 gains importance as the said Section is the charging Section providing for the minimum amount of default, the subsistence of which entitles the Creditor to initiate proceedings under the Code. The threshold of default now stands increased from one lakh rupees to rupees one crore.

While the increased threshold is being looked at as a tool to defend the MSME sector against the actions of the creditors, the same as a vital effect on all the creditors and such creditors undoubtedly include MSMEs. In the absence of any classification and/or categorization as regards applicability of enhanced threshold in cases wherein the Corporate Debtor is an MSME, the same is applicable across all classes of Corporate Debtor, whether MSMEs or other big companies.

The latest notification increasing the quantum of default shall have a bearing on the pending matters as well. It is significant to note that majority of operational creditor cases are for a default amount of less than one crore rupees. Needless to mention that such operational creditors had, before an increase in threshold, bonafidely initiated insolvency proceedings against defaulter companies, basis a default of one lakh rupees or above, however, given the increased minimum default amount, such pending cases might now be sought to be opposed on account of substantial increase to the quantum of default.

One may argue that the amended Section 4 would not apply to cases filed before 24.03.2020, i.e., date of notification. The legal position is well settled that unless specifically made retrospectively applicable, all amendments are prospective.

One should also remain conscious of the provisions of Section 6 of The General Clauses Act 1897 (GC Act), which saves the applicability of the repealed provision and also sets forth that unless specifically provided, the new provision shall not apply retrospectively.

However, the relevant provisions of the Code might find exception to Section 6 of the GC Act, as admission of an insolvency application is primarily on basis of the default (date and amount of default), which in any case shall be looked into by the Adjudicating Authority only during the final hearing, therefore in absence of any clarification in the amendment notification, the pending Section 9 cases might get prejudicially affected by the amendment.

Let us understand another situation by example. The Code requires that an application under Section 9 shall be preceded by a demand notice issued by the operational Creditor under Section 8, assuming that there is an operational creditor ‘OC Ltd.,’ who on the occurrence of default of slightly over one lakh rupees by a corporate debtor ‘CD Ltd.,’ issued a Section 8 notice on 01.03.2020, pursuant whereof, in terms of subsection (1) of Section 9, on 15.03.2020, OC Ltd. was entitled to file a Section 9 application against CD Ltd., however, in the interregnum, NCLT closed all its filing counters w.e.f. 19.03.2020 upto 27.03.20202 (which now is extended upto 14.04.2020), and directed parties to do e-filing only in cases with limitation issue. There was no limitation issue in OC Ltd.’s case, as such OC Ltd. waited for the filing counters to reopen. However, in the meantime, the amendment was notified on 24.03.2020, enhancing the minimum default amount from one lakh rupees to rupees one crore, hence making OC Ltd. ineligible to maintain the Section 9 application. One may suggest that OC Ltd. had set the insolvency proceedings in motion when it issued the demand notice upon CD Ltd., however, since as on date of filing of the petition, OC Ltd. fails to meet the minimum eligibility criterion, it shall no longer be entitled to file a petition under Section 9 of the Code.

Another vital facet of the amendment is collateral damage. It is understood that although the amendment seeks to protect the MSME Sector, however at the same time, the amendment also takes away the right of an MSME entity to initiate insolvency proceedings if the default is less than one crore rupees. During the lockdown, the MSME companies would also face payment issues from their debtors. Keeping in view that an MSME entity, as the name suggests, generally has transactions much less than the amount of one crore rupees, hence a large part of the MSME sector would lose the right to initiate insolvency proceedings against their defaulting corporate debtors.

It is well settled that the proceedings under the Code are not recovery in nature but are proceedings for the resolution of insolvency of a corporate debtor, ensuring maximization of value of assets of the corporate debtor and balancing the interest of all the stakeholders. However, it remains an unpleasant truth that a large number of the applications under Section 9 are filed to enforce payments, and infact many such cases are settled pre or post-admission. The legislature has always been conscious of this fact, and with a view to enabling parties to settle, Rule 8 of the Adjudicating Authority Rules enables a withdrawal of an application before passing of admission order3. Similarly, Section 12A of Code allows parties to withdraw applications post-admission and after the constitution of a committee of creditors4. In this regard, Rule 30A of CIRP Regulations5 is also significant, as the said rule lays down the procedure to file withdrawal application, either before the constitution of the committee of creditors or post constitution of the committee.

The existence of these provisions clarifies that even the legislature is mindful of the fact of operational creditors looking at insolvency proceeding as a tool for enforcement of payment (by way of a settlement). We must consider this because in case of a successful resolution, the chances of payment to operational creditors, under a resolution plan, are almost nil. Therefore, the only way of realizing amount by and operational Creditor, under the provisions of the Code, is to prefer an application under Section 9. However, in the changed scenario (enhancement in the minimum amount of default), a large number of operational creditors would no longer be eligible to initiate insolvency proceedings.

Keeping in view that the enhancement has been notified in the wake of COVID-19 and the consequent lockdown, to protect the MSME sector, one can safely conclude that the government must consider that once the lockdown and its impact on businesses are over, the minimum amount of default, under Section 4 of the Code, must be restored to one lakh rupees.

In this regard, the government may come up with an appropriate clarification, which would help to reduce panic amongst the operational creditors (including MSME entities), whose right to initiate insolvency proceedings has been adversely affected, which otherwise was not intended by the amendment. The government must also clarify appropriately on the applicability of the said amendment on the cases filed before the amendment and also on the cases where demand notices, under Section 9, were issued prior to the amendment. In the absence of such clarifications, huge chaos amongst the benches and the stakeholders is anticipated.