JURISDICTION OF ADJUDICATING AUTHORITY TO PASS ORDER UNDER 66 OF THE CODE WHILE MORATORIUM IS PENDING

[Mr. M. GOVINDARAJAN]

Moratorium

While admitting the application filed either by the financial creditor or operational creditor or corporate applicant for initiating corporate insolvency resolution process, the Adjudicating Authority shall, by an order declare a moratorium for the purposes contained in Section 14 of the Insolvency and Bankruptcy Code,2016 (‘Code’ for short). The Adjudicating Authority on declaring the moratorium prohibited the following-

• the institution of suits or continuation of pending suits or proceedings against the corporate debtor including execution of any judgment, decree or order in any court of law, tribunal, arbitration panel or other authority;
• transferring, encumbering, alienating or disposing of by the corporate debtor any of its assets or any legal right or beneficial interest therein;
• any action to foreclose, recover or enforce any security interest created by the corporate debtor in respect of its property including any action under the Securitization and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002; and
• the recovery of any property by an owner or less or where such property is occupied by or in the possession of the corporate debtor.

The order of moratorium shall have effect from the date of such order till the completion of the corporate insolvency resolution process. Where at any time during the corporate insolvency resolution process period, if the Adjudicating Authority approves the resolution plan under of section 31(1) or passes an order for liquidation of corporate debtor under section 33, the moratorium shall cease to have effect from the date of such approval or liquidation order.

Order under section 66

Section 66 of the Code provides that if during the corporate insolvency resolution process or a liquidation process, it is found that any business of the corporate debtor has been carried on with intent to defraud creditors of the corporate debtor or for any fraudulent purpose, the Adjudicating Authority may on the application of the resolution professional pass an order that-

• any persons who were knowingly parties to the carrying on of the business in such manner shall be liable to make such contributions to the assets of the corporate debtor as it may deem fit;
• a director or partner of the corporate debtor, as the case may be, shall be liable to make such contribution to the assets of the corporate debtor as it may deem fit, if-
  • before the insolvency commencement date, such director or partner knew or ought to have known that the there was no reasonable prospect of avoiding the commencement of a corporate insolvency resolution process in respect of such corporate debtor; and
  • such director or partner did not exercise due diligence in minimizing the potential loss to the creditors of the corporate debtor.

Issue

The issue to be decided in this article is whether the Adjudicating Authority is empowered to pass order under section 66 of the Code while moratorium declared is prevailing with reference to decided case law.

The moratorium passed under section 14 of the Code prohibits all sorts of litigation. While so whether the Adjudicating Authority can pass order under section 66 of the Code for fraudulent activities?

The NCLAT in ‘Rakesh Kumar Jain v. Jagdish Singh Nain and 20 others’ – 2022 (8) TMI 236 - NATIONAL COMPANY LAW APPELLATE TRIBUNAL , PRINCIPAL BENCH , NEW DELHI held that the provisions of section 14 and 66 are to be constructed harmoniously to make the Code effective and workable and held that Adjudicating Authority can pass order under section 66 of the Code pending moratorium in corporate insolvency resolution process.

In the above said case Tricolite Electrical Industries Limited, operational creditor, initiated corporate insolvency resolution process against HBN Foods Limited and the petition was admitted by the Adjudicating Authority on 24.07.2019. A financial creditor in another application initiated corporate insolvency resolution process against HBN Homes Colonizers Ltd. In this case the first respondent in this appeal Jagdish Singh Nain was appointed as resolution professional.

During the resolution process the appellant and other respondents indulged in fraudulent trading and business. During the COVID lock down period the appellant was served a copy of application – IA No. 2844 of 2020 - 2021 (12) TMI 1374 - NATIONAL COMPANY LAW TRIBUNAL NEW DELHI filed under section 66 of the Code. The appellant did not attend the proceeding. The Adjudicating Authority, vide their order dated 13.07.2021 forfeited the right of appellant to file reply. The Adjudicating Authority passed order on 18.12.2021. The Adjudicating Authority was of the view that Respondent Nos. 2 to 21, the suspended board of directors of the corporate debtor and other related persons were carrying on business with intent to defraud the creditors of the corporate debtor or with fraudulent purpose and accordingly, they misappropriated Rs. 2687.27 lakhs and diverted to their own use with intent to defraud the creditors. The Adjudicating Authority directed the Respondent Nos. 2 to 21 to make contribution of Rs. 2687.27 lakhs jointly or severely to the assets of the corporate debtor with a period of maximum two months from the date of the order, And if they fail to pay the aforesaid amount within the prescribed period, then same shall be realized from their property/ properties.

The first respondent served a copy of the order to the appellant. Against the order of Adjudicating Authority, the appellant filed the present appeal before the National Company Law Appellate Tribunal (‘NCLAT’ for short). The appellant questioned the above order on the ground that during moratorium imposed under Section 14 of the Code, the Adjudicating Authority is not competent to issue such direction.

• The Adjudicating Authority committed a serious error in issuing such direction and the appellant sought to set aside the directions issued by the Adjudicating Authority.
• he was appointed by the order dated 24.07.2019 by Adjudicating Authority in CP (IB)-82/2019 - 2019 (10) TMI 179 - NATIONAL COMPANY LAW TRIBUNAL NEW DELHI (COURT NO. IV), a moratorium was also imposed in accordance with Section 14 of the Code, therefore, no proceeding could be initiated against the Appellant/ HBN Homes Colonizers Private Limited.
• The Adjudicating Authority passed the impugned order without applying its mind.
• The impugned order by Adjudicating Authority is ex-facie erroneous and against law.

The respondent submitted the following before the NCLAT-

• The Corporate Debtor entered into fraudulent transactions which is against the interest of operational and financial creditors.
• The appellant did not choose to file the counter despite affording reasonable opportunity, thereby, the appellant is not competent to raise any plea in the absence of any pleading.
• The appellant was represented by an advocate, on 19.08.2020, 21.08.2020, 02.09.2020, 12.10.2020 and 28.10.2020 but did not choose to file counter without any reasonable cause.
• Section 14 (1) (a) of the Code has no application to the present facts of the case.
• Section 60 (5) of the Code permits to adjudicate such issue pertaining to fraudulent transactions during the currency of insolvency resolution process or liquidation process.
• The bar under Section 14 (1) (a) is not applicable.

The NCLAT considered the submissions of the parties to the appeal. The NCLAT considered the question to be decided in the Appeal as to whether the Adjudicating Authority is competent to pass order under Section 66 of the Code during currency of moratorium under Section 14 of the Code. If so whether the order in I.A. No. 2844/2020 dated 13.12.2021 is sustainable?

The NCLAT observed that during the process of insolvency resolution the appellant representing HBN Homes Colonizers Private Limited entered into fraudulent transaction and the same is supported by audit report called for by the Adjudicating Authority. The legality of the report or otherwise is not challenged by the appellant in the present appeal, but the appellant limited his submissions as to the legality of the order passed under Section 66 of the Code during currency of moratorium under Section 14 of the Code.

The NCLAT analyzed the provisions relating to moratorium i.e., section 14 of the Code and section 66 of the Code. Section 14 (1) (a) of the Code interdicts institution of suits are continuation of pending suits are proceedings against the corporate debtor including execution of any judgment decree or order of any court of law, Tribunal, Arbitration Panel or other authority. It prohibits institution and prosecution of any proceedings against the corporate debtor but does not prohibit passing any order by the Adjudicating Authority during insolvency resolution process or liquidation process against resolution professional and its suspended Directors or related parties. The appellant contended that it applies to transfer of any amount from corporate debtor to the assets of financial or operational creditors.

The NCLAT further observed that Section 66 permits the Adjudicating Authority to pass appropriate orders on application of any person when any transaction was entered into fraudulently. A bare reading of Section 66 of the Code it is clear that the Tribunal is competent to pass appropriate orders against suspended board of director or resolution professional and related parties, in terms of clause 2 of Section 66 of the Code, when fraudulent transaction was entered into by the corporate debtor through its resolution professional or suspended Directors.

The contention of the appellant is that the prohibition under Section 14 (1) (a) is applicable to Section 66 of the Code also. NCLAT did not accept this contention of the appellant for the reason that these two provisions are independent, incorporated for different purposes. Section 14 of the Code is intended to prevent fictitious claims by 3rd parties to realize the amount by execution of the orders decrees etc. whereas Section 66 of the Code is intended to prevent fraudulent trading or business by corporate debtor through its corporate insolvency resolution professional or suspended directors, during insolvency resolution process or liquidation process. These two provisions have to be read independently to achieve the object of the enactment.

With reference to decided case laws, the NCLAT held that both the provisions referred above should be construed harmoniously to give effect to the intendment of the code and to make it workable to avoid inconsistency or repugnancy. NCLAT further held that it is the duty of NCLAT to construe Section 14 (1) (a) and Section 66 of the Code harmoniously to make the enactment effective and workable. In the present facts of the case there is absolutely no inconsistency or repugnancy between Section 14 (1) (a) and Section 66 of the Code. Therefore, the Adjudicating Authority passed the impugned order only by exercising power that conferred on it by Section 66 of the Code If such contention that during moratorium, the Adjudicating authority shall not pass an order impugned in this appeal is unsustainable, without any merit is accepted by this Tribunal, Section 66 of the Code would become otiose or redundant.

The NCLAT held that the order passed by the Adjudicating Authority is in accordance with law, warrants no interference of this Tribunal. The NCLAT dismissed the appeal filed by the appellant.