DECREE HOLDER – A FINANCIAL CREDITOR?

[Mr. M. GOVINDARAJAN]

Creditor

Section 3(10) of the Insolvency and Bankruptcy Code, 2016 (‘Code’ for short) defines the term ‘creditor’ as any person to whom a debt is owed and includes a financial creditor, an operational creditor, a secured creditor, an unsecured creditor and a decree-holder.

Financial Creditor

Section 5(7) of the Code defines the expression ‘financial creditor’ as any person to whom a financial debt is owed and includes a person to whom such debt has been legally assigned or transferred to.

Operational Creditor

Section 5(21) of the Code defines the expression ‘operational creditor’ defines as person to whom an operational debt is owed and includes any person to whom such debt has been legally assigned or transferred.

Decree holder

The term ‘decree holder’ is defined as any person in whose favor a decree has been passed or an order capable of execution has been made, and includes the assignee of such decree or order.

Decree holder – a financial creditor?

A decree holder in order to implement the same is to file execution petition in the appropriate court for getting fulfilled the order contained the decree.  Whether a decree holder of a corporate debtor can be treated as financial creditor or operational creditor? 

Section 3(10) of the Code prescribes ‘decree holder’ as a creditor but into included either in financial creditor or operational creditor.  It is a separate class of creditor. Therefore in an insolvency resolution process the decree holder is to claim in the category of ‘other creditors’. Therefore a decree holder cannot be a financial creditor and cannot claim to enter into the Committee of Creditors.  The same has been confirmed by Tripura High Court in ‘Sri Subhankar Bhowmik v. Union of India and another’ – 2022 (3) TMI 998 – Tripura High Court.

In the above case  the writ petitioner challenged section 3(10) of the Code  and Regulation 9A of  Insolvency and Bankruptcy Board of India (Insolvency Resolution Process for Corporate persons) Regulations, 2016 as ultra vires inasmuch as it fails to define the terms ‘other creditors’ and accordingly, to strike them down on the vice of Article 14 of the Constitution of India, or the impugned provisions may be interpreted harmoniously to include the words ‘decree holder’ as existing in Section 3(10) to be at par with ‘financial creditors’ under Regulation 9(a), to save them from unconstitutionality.

Regulation 9A(1)  provides that  a person claiming to be a creditor, other than those covered under regulation 7, 8, 8A or 9, shall submit its claim with proof to the interim resolution professional or resolution professional in person, by post or by electronic means in Form F of the Schedule.  Regulation 9A (2) provides that the existence of the claim of the creditor referred to in sub-section (1) may be proved on the basis of –

1.  the records available in an information utility, if any, or
2. other relevant documents sufficient to establish the claim, including any or all of the following:-  

1. documentary evidence demanding satisfaction of the claim;
2. bank statements of the creditor showing non-satisfaction of claim;
3.  an order of court or tribunal that has adjudicated upon non-satisfaction of claim, if any.

The petitioner is a decree holder against the corporate debtor.  To implement the decree the petitioner is to file execution petition before the relevant court.  Since the insolvency corporation resolution process was initiated against the corporate debtor against whom the petitioner got decree, the petitioner claimed his claim at par with the financial creditor and wanted to incorporate the petitioner in the Committee of Creditors.  Since the same has not been done by the Resolution professional, the petitioner approached the High Court for declaring that the decree holder is at par with the financial creditor and to be included in the Committee of Creditors in the capacity of financial creditor.

The petitioner submitted the following before the High Court-

• The petitioner is a shareholder of public listed companies, who are either creditors and/or corporate debtors in terms of the Code.
• The issues raised, also affect the general public, as they would be germane to almost all corporate insolvency resolutions under the Code.
•  There is no authoritative pronouncement of the Supreme Court or High Court on the questions raised.
•  The Code and / or the Regulations framed there under, do not prescribe the class of creditors to which the term ‘decree holder’ belongs, and therefore there exists a need to iron out the creases by this High Court.
• Without such prescription in the Code, the class of ‘decree holders’ falls into the residual class of ‘other creditors’, which it is stated manifestly arbitrary and therefore violates Article 14.

The High Court observed that the issues raised in the present petition deal with the treatment of ‘decree holders’ who hold decrees against a Corporate Debtor under the insolvency resolution process.   As such, the issue is one of classification.

The High Court analyzed the preamble of the Code.   The scheme of the Code, in line with its stated objects, is to achieve efficiency and efficacy in the resolution process for corporate persons, partnerships and individuals. The provisions of the Code are, therefore, guided by the said objective.  The maximization of the assets of a corporate debtor is a cardinal principle of the Code.

Then the High Court analyzed section 3(10) of the Code which defines the term ‘creditor’.  The High Court observed that a reading of the above said provision suggests that the Parliament in its wisdom recognized five types of creditors’ being-

• financial creditors;
• operational creditors;
• secured creditors;
• unsecured creditors; and
• a decree holder.

Then the High Court analyzed the rights of a decree holder.   The right of a decree holder, in the context of a decree, is at best a right to execute the decree in accordance with law.  Even in a case where the decree passed in a suit is subject to the appellate process and attains finality, the only recourse available to the decree-holder is to execute the decree in accordance with the relevant provisions of the Civil Procedure Code, 1908.   The provisions contained in Order 21 provides for the manner of execution of decrees in various situations.   The said provisions also provide for the rights available to judgment debtors, claimant objectors, third parties etc., to ensure that all stake holders are protected.  The rights of a decree-holder, subject to execution in accordance with law, remain inchoate in the context of the Code since there is an express mandate of the moratorium envisaged by Section 14(1), puts a fetter on the execution of the decree itself.

In terms of section 14(1) (a) of the Code the right of the decree holder to execute the decree in civil law, freezes by virtue of the mandatory and judicially recognized moratorium that commences on the insolvency commencement date.   The passing of the decree may be the recognition of a claim of the decree holder; however, the said claim itself is ultimately subject to doubt till the execution proceedings are finalized.    It would not automatically entitle the decree holder to the fruits of the decree.  The decree holder is to file execution petition to implement the decree.  Therefore, the Code rightly recognizes decree-holders as a class of creditors whose claims need to be acknowledged in a corporate insolvency resolution process.  But the Code by express provision of Section 14 (l)(a) bars execution of a decree by the same decree holder against the corporate debtor.

In the context of an unexecuted decree, the subject matter of the decree, be it money, moveable property, immoveable property, or of any other nature, remains on the books of the corporate debtor.   The moratorium envisaged by Section l4(1)(b) therefore, expressly bars transfer, encumbering, alienation or disposal of such assets. Further Section 28(1)(d), creates a further fetter and provides that a resolution professional, during the corporate insolvency process, shall not "record any change in ownership interest of the corporate debtor", without prior approval of the Committee of Creditors.  Therefore an unexecuted decree cannot be executed in the corporate insolvency resolution process.  However the decree may be an admitted claim against the corporate debtor in the corporate insolvency resolution process. 

Since the decree cannot be operated by the declaration of moratorium under Section 14 of the Code, the Code recognizes the decree holder in Section 3(10) of the Code as a creditor.  The interest recognized is that in the decree and not in the dispute that leads to the passing of the decree. This is apparent from the fact that decree holders as a class of creditors are kept separate from ‘financial creditors’ and ‘operational creditors’.

The High Court held that the inescapable conclusion from the aforesaid discussion is that the Code treats decree holders as a separate class, recognized by virtue of the decree held. The Code does not provide for any malleability or overlap of classes of creditors to enable decree holders to be classified as financial or operational creditors. 

The High Court further held that once a decree holder is recognized as a creditor, all provisions of the Code that apply to creditors, including the waterfall provisions are applicable in all their force.  The Resolution Professional is to admit the existence of decree unless it is set aside by the Court. 

The petitioner contended that the decree cannot be amendable to precise valuation.  The decree is not amenable to precise valuation the High Court held that the Resolution Professional must follow the procedure for estimation of its value provided in the Regulation 14.    The powers of a resolution professional are only to vet and verify the decree.   The executing court, that executes the decree after adjudication of objections, cannot look behind the decree.   Therefore it cannot be argued that the resolution professional should do what the court cannot. 

Once a decree quantifies a debt due the nature of the dispute that resulted in the quantification ceases to exist. In the books of a corporate debtor, it will show only as a liability and not as a financial debt or operational debt. The same cannot be said to be arbitrary, or unreasonable.   The claim of a decree holder is subject to all the rigors of the resolution process and has to be satisfied along with all other claims, in accordance with the waterfall mechanism envisaged by the Code. The decree holder for his claim, in Form F is to fill – ‘Proof of Claim by Creditors (Other than Financial Creditors and Operational Creditors)’.  The distinction of decree holders as creditors from ‘financial creditors’ and ‘operational creditors’, as seen aforesaid is intelligible and take forward the purpose of the IBC. The same cannot be stated to be discriminatory or arbitrary.

The High Court also rejected the contention of the petitioner that the decree holders as a class of creditors have been discriminated as they do not find a place on the Committee of Creditors in terms of Section 21 of the Code and in terms of Regulation 16 of the Regulations. The High Court observed that the membership of the Committee of Creditors has to be seen in context of its role under the Code.  Financial creditors who have large exposure to a corporate debtor therefore get the first preference, followed by operational creditors, who are also interested in contained operations and therefore the revival of the corporate debtor. A decree holder on the other hand, holds a decree as a result of crystallizing and determining a dispute through an adversarial process of litigation.  The corporate insolvency resolution process is not an adversarial process.

The High Court relied on the judgment of Supreme Court in SWISS RIBBONS PVT. LTD. AND ANR. VERSUS UNION OF INDIA AND ORS. [2019 (1) TMI 1508 - SUPREME COURT] in which the Supreme Court held that the primary focus of the legislation is to ensure revival and continuation of the corporate debtor by protecting the corporate debtor from its own management and from a corporate death by liquidation. The Code is thus a beneficial legislation which puts the corporate debtor back on its feet, not being mere recovery legislation for creditors. The interests of the corporate debtor have, therefore, been bifurcated and separated from that of its promoters/ those who are in management. Thus, the resolution process is not adversarial to the corporate debtor but, in fact, protective of its interests.

The High Court dismissed the writ petition.