It is a customary system for any lender to secure its loan by way of an assurance or guarantee made by the guarantor to take responsibility for repayment of loan taken by the principal borrower. The contract act under section 128 stipulates that the liability of the guarantor is co-extensive with that of the principal debtor. The creditor has the right to invoke the debt against the debtor as well as the guarantor, his remedy is not exhausted until invoking the guarantee. But can creditors invoke personal guarantee without invoking any action against the principal borrower has always remained a point of debate and consideration. However, the this debate has finally come to rest by ruling of the Supreme Court in Mahendra Kumar Jajodia v. State Bank of India Stressed Asset Management Branch.
The Government of India issued a notification notifying part III of the IBC which deals with insolvency and bankruptcy of partnership firms and individuals, but only applicable to corporate guarantors and personal guarantors of corporate debtors. The intention of the legislature behind extending the provisions of the IBC to personal guarantors is to create deterrence in promoters and guarantors from alienating their assets and make them accountable under the contract of guarantee where the liability of the guarantor is co-extensive with the borrower.
Personal Guarantors under Insolvency and Bankruptcy Code 2016:
Section 5(22) of the IBC defines personal guarantor as “an individual who is the surety in a contract of guarantee to a corporate debtor”. Section 2(e) of the Insolvency and Bankruptcy Code 2016 has recognized personal guarantors to corporate debtors as a separate category of individuals vide the Insolvency and Bankruptcy (Amendment) Act 2018. The Insolvency and Bankruptcy (Application to Adjudicating Authority for Insolvency Resolution Process for Personal Guarantors to Corporate Debtors) Rules, 2019 (2019 Rules)under rule 3(e) defines “guarantor” means a debtor who is a personal guarantor to a corporate debtor and in respect of whom guarantee has been invoked by the creditor and remains unpaid in full or part. The personal guarantor has to be an individual and the principal debtor must be a corporate debtor.
Can CIRP proceedings be filed against Personal Guarantors of the Corporate Debtor?
With application of IBC to personal guarantors the adjudicating authority for personal guarantors is now NCLT. Prior to amendment in 2019, jurisdiction for insolvency and bankruptcy proceedings against the Personal Guarantors was vested with the Debt Recovery Tribunal. But eventually the proceedings against the corporate debtor for the same default was filed before NCLT, even before the proceedings against the Personal Guarantors could be concluded. Thus, Sections 60(2) [2] and 60(3) [3] were introduced that made the insolvency proceedings against the Personal Guarantor and the Corporate Debtors to be adjudicated by the same forum. One of the major limitations that was withdrawn with these amendments was that the creditor now does not have to go to different forums to deal with the same matter. Heading to two different forums can have two different outcomes which will definitely have a negative impact for the stakeholders involved. In the present scenario, all the cases pertaining to the corporate debtor and the personal guarantor which fall under 60(2) and 60(3) are dealt by the NCLT.
However, an issue was raised in the case of Mahendra Kumar Jajodia v. State Bank of India Stressed Asset Management Branch, wherein the question arose as to which is the appropriate forum for proceedings against personal guarantors when a CIRP is not pending against the principal borrower?
While interpreting the provisions of the Code the NCLAT was of the opinion that, Section 60(1) of the IBC clearly states that the NCLT where the corporate debtor is registered shall be “adjudicating authority” for the CIRP or the liquidation of “corporate persons including corporate debtors and personal guarantors”. Whereas Section 60(2) of the IBC provides “without prejudice to sub-section (1) and notwithstanding anything to the contrary contained in this code”, where the CIRP or liquidation proceeding against a company is pending before the NCLT, then an application for insolvency resolution, liquidation, bankruptcy “of a corporate guarantor or personal guarantor… of such corporate debtor” is to be filed before such NCLT.
On the contrast, Section 179 of IBC provides that subject to Section 60 of IBC, the DRT shall be the Adjudicating Authority for individuals.
The NCLAT has adopted a constructive interpretation of these sections by holding that there is a distinction between section 60(1) and 60(2). Section 60(2) is applicable in cases when the proceedings against the corporate debtor is pending and provides that any application against the personal guarantor shall be filed in the same NCLT. Further the NCLAT was of the view that if no proceedings are pending against the corporate debtor or the principal debtor then in such case the adjudicating authority shall be NCLT, but the one “having territorial jurisdiction over the place where the registered office of the corporate persons located”.
Can simultaneous proceedings be filed against the Corporate Debtor and the Personal Guarantor?
Simultaneous proceedings before the 2018 amendment could be filed in two different jurisdictions i.e., before NCLT for CIRP against the corporate debtor and before the DRT for recovery of debt from the personal guarantor. Section 128 [4] of the Indian Contract Act states that the liability of the guarantor shall be co-extensive with that of the principal debtor. Putting that in IBC terminology, the liability of the personal guarantor shall be co-extensive to that of the principal debtor. Thus, they are both jointly and severally liable to repay the debt to the creditor. Since, the Contract Act does not impose any restriction on the creditor to proceed against the guarantor, it can be done irrespective of exhaustion of remedies against the debtor. IBC also adapts to the fundamentals laid in the Contract Act. In the case of State Bank of India v. V. Ramakrishnan Ors [5], the Supreme Court ha held that the creditor are entitled to initiate simultaneous proceedings before the NCLT as against the Corporate Debtor and before the appropriate forum as against the personal guarantor. The same ratio was also held by NCLAT in the case of State Bank of India v. Athena Energy Ventures Private Limited [6].However, in the Piramal Case [7] it was held that once a section 7 Application is filed by the Financial Creditor against the corporate debtor or the personal guarantor then there shall be no proceedings that shall be filed against the other party. The Piramal case was challenged before the Supreme Court but this dilemma of the legality of the simultaneous proceedings against the corporate debtor and personal guarantor still existed. Then came the case of Lalit Kumar Jain v. Union of India[8], that cleared the air about this issue. It held that simultaneous proceedings are valid against both corporate debtor and personal guarantor, and the proceedings should be raised only before the NCLT and with the caveat that the creditors cannot recover amount more than that of the total amount claimed. The Report of The Insolvency Law Committee dated February 2020 also stresses on the importance of permitting simultaneous recovery while ensuring no creditor unjustly enriches themselves beyond the amount owed to them.
Can CIRP proceedings be initiated against personal guarantors when no CIRP has been initiated against the Corporate Debtor or Principal Debtor?
The NCLAT in the case of State Bank of India Stressed Asset Management Branch v. Mahendra Kumar Jajodiya, has put to rest all the ambiguity surrounding this issue. The NCLAT was of the view that CIRP proceedings can be initiated against the personal guarantors regardless of whether a CIRP has been initiated against the corporate debtor or the principal debtor. The CIRP proceedings of personal guarantor and corporate debtor cannot be linked and must be adjudicated individually. The contract of guarantee is an independent contract and shall not absolve the guarantor from his liability in the case where the principal borrower is relieved from his liability or no proceedings have been initiated against him[9] Therefore, from this it clear to interpret that even if CIRP is not pending or has never been initiated against the corporate debtor, creditors can still file application under section 95 of the IBC to initiate CIRP against the personal guarantor.
When the decision of the NCLAT was appealed before the Supreme Court dismissed the appeal observing that the Supreme Court shall not entertain or interfere with the order of the NCLAT in this regard.
Therefore, the NCLAT’s decision has been affirmed and shall hold precedence.
Conclusion
With advent of extending provisions of the IBC to personal guarantors of the corporate debtors the intention behind the legislature is to widen the scope of recovery available to creditors. Since the inception of IBC, it has been observed that creditors had to take major haircuts in the principal amount that was due to the corporate debtor which led to huge financial losses to such creditors. But since notification of part III of IBC, creditors have a chance to recover their dues from the personal guarantors.
But from a wider perspective, we observe that there IBC was enacted as per the creditor-in-control model and the object of the IBC was to ensure revival of the corporate debtor. The IBC is not a mere recovery tool for creditors, but from the present creditor centric model, IBC has become just another recovery mechanism for creditors to pursue recovery of their dues from personal guarantors.
It can be concluded that, for now the position with respect to application for initiating CIRP against personal guarantor is clear, however it is hoped that the Supreme Court will conclusively interpret this at length.
END- NOTE:
[1] Mahendra Kumar Jajodia V. State Bank of India Stressed Asset Management Branch, Supreme Court, [CA No 1871-1872/2022].
[2] Section 60(2) of IBC: Without prejudice to sub-section (1) and notwithstanding anything to the contrary contained in this Code, where a corporate insolvency resolution process or liquidation proceeding of a corporate debtor is pending before a National Company Law Tribunal, an application relating to the insolvency resolution or 1 [liquidation or bankruptcy of a corporate guarantor or personal guarantor, as the case may be, of such corporate debtor] shall be filed before the National Company Law Tribunal.
[3] Section 60(3) of IBC: An insolvency resolution process or 2 [liquidation or bankruptcy proceeding of a corporate guarantor or personal guarantor, as the case may be, of the corporate debtor] pending in any court or tribunal shall stand transferred to the Adjudicating Authority dealing with insolvency resolution process or liquidation proceeding of such corporate debtor.
[4] Sec 128 of Indian Contract Act: The liability of the surety is co-extensive with that of the principal debtor, unless it is otherwise provided by the contract.
[5] State Bank of India v. V. Ramakrishnan Ors, (2018) 17 SCC 394.
[6] State Bank of India v. Athena Energy Ventures Private Limited, 2020 SCC OnLine NCLAT 774.
[7] Dr. Vishnu Kumar Agarwal v. Piramal Enterprises Ltd 2019 SCC OnLine NCLAT 542.
[8] Lalit Kumar Jain v. Union of India, 2021 SCC OnLine SC 396.
[9] Aparna Ravi, ‘Treatment of Guarantors and Guarantees under the IBC – In Publication: Insolvency and Bankruptcy Regime in India A Narrative’ (IBBI, October 2020) https://www.ibbi.gov.in/uploads/whatsnew/2020-10-01-210733-43cms-9224c9b668aac0d6149a5d866bfb4c79.pdf
Author: Moulshri Shrivastava, Associate.
Disclaimer: The content of this article is intended to provide a general guide to the subject matter and that the same shall not be treated as legal advice. For any queries, the author can be reached at moulshri@samistilegal.in
