POSITION OF HOME BUYERS UNDER INSOLVENCY AND BANKRUPTCY CODE, 2016

Classification of creditors in Operational Creditors and Financial Creditors and granting them   exclusive rights under the Code had disastrous impact on home buyers. Home buyers had invested huge amount of money in various projects, but under the Code, it was not clear whether home buyers will fall in category of Operational Creditors or Financial Creditors. The huge investments of the home buyers were at risk.

There were conflicting judicial interpretation regarding whether home buyers will fall under category of Operational Creditor or Financial Creditor. NCLT in Col Vinod Awasthy¹ has held that home buyer is not covered under category of Operational Creditor.  NCLT in Nikhil Mehta² has held that home buyers will not be covered under category of Financial Creditor.

RUSH TO THE SUPREME COURT

Insolvency proceedings have been initiated in the matter of Jaypee Infratech Limited by Allahabad Bench of NCLT. Aggrieved by the same, some home buyers filed writ petition in Chitra Sharma³ before the Supreme Court seeking declaration that Section 6, 7, 10, 14 and 53 of the Code ultra vires as Operational and Financial Creditors have only been recogonised, other stakeholders like home buyers have not been recogonised.  Circumstances of the home buyers are aptly reflected in the following observations of the Supreme Court.

8.  This Court was moved in the exercise of its jurisdiction under Article 32 to protect the interests of home buyers, who had been left in the lurch. When the petition was instituted, they had no locus in the CIRP. Liquidation would leave the home buyers to face an uncertain future. The disposal of assets would, it is apprehended, deprive them of their right to own a home. Faced with a situation of human distress, occasioned by the failure of the developers to meet their contractual obligations and a legal regime as it then stood under the IBC which provided no solace to home buyers, this Court issued notice on 4 September 2017 in a batch of writ petitions. Proceedings before the NCLT at Allahabad were directed to remain stayed until further orders. The Court further directed that a copy of the proceedings be served on the office of the learned Attorney General for India. Applications for impleadment and intervention were allowed.

The Supreme Court made efforts to protect the interests of the home buyers and even appointed a senior counsel to participate in the Committee of Creditors on behalf of the home buyers, although at that point of time there was no such provision for representation of home buyers in Committee of Creditors.  The Supreme Court also used its powers under Article 142 of the Constitution to extend corporate insolvency resolution period to save the Jaypee Infratech Ltd from liquidation.

AMENDMENTS IN THE DEFINITION OF FINANCIAL CREDITOR

During the pendency of Chitra Sharma before the Supreme Court, the Insolvency Law Committee in its 1^st Report deliberated over the confusion in respect of status of home buyers under the Code.  Committee concluded that amount raised from home buyers are already covered under the definition of the Financial Debt as defined under Section 5 (8) and only explicit clarification are required.  Relevant para reads as under:

1.9. Finally, the Committee concluded that the current definition of the ‘Financial Debt’ is sufficient to include the amounts raised from home buyers /allottees under real estate project, hence they are to be treated as Financial Creditor under the Code. However, given the confusion and multiple interpretations being taken, at this stage, it may be prudent to explicitly clarify that such creditors fall within the definition of Financial Creditors, by inserting an explanation to section 5 (8) (f) of the Code. Accordingly, in CIRP, they will be part of CoC and will be represented in the manner specified in para 10 of the Report, and in the event of liquidation, they will fall within the relevant entry in the liquidation waterfall under section 53. The Committee also agreed that Resolution Plan under the Code must be compliant with applicable laws, like RERA, which may be interpreted through section 30(2)(e) of the Code. It may be noted that there was majority support in the Committee for the abovemetioned treatment of home buyers. However, certain members of the Committee, namely Sh. Shardul Shroff, Sh. Sudarshan and Sh. B. Shriram, differed on this matter.

Based on the recommendation of Insolvency Law Committee, Parliament vide Insolvency and Bankruptcy Code (Second) Amendment Act, 2018 introduced provisions in respect of  status of home buyers and their representation in the Committee of Creditors in the Code.

Explanation to Section 5 (8) (f) of the Code was introduced whereby it was clarified that amount raised from an allottee will be deemed to be amount having the commercial effect of a borrowing as such amount raised from an allottee will be covered under the definition of Financial Debt.

Explanation to Section 5 (8) (f) is reproduced as under:

Explanation. -For the purposes of this sub-clause, –

(i) any amount raised from an allottee under a real estate project shall be deemed to be an amount having the commercial effect of a borrowing; and

(ii) the expressions, “allottee” and “real estate project” shall have the meanings respectively assigned to them in clauses (d) and (zn) of section 2 of the Real Estate (Regulation and Development) Act, 2016 (16 of 2016.

Home buyers of a real estate project can be in large numbers as such a mechanism was developed for representation of home buyers in the Committee of Creditors through authorised representative. Clause 6A (b) was introduced to Section 21 in respect of representation of class of creditors (home buyers) through authorised representative, which reads as under:

(6A) Where a Financial Debt— (a) is in the form of securities or deposits and the terms of the Financial Debt provide for appointment of a trustee or agent to act as authorised representative for all the Financial Creditors, such trustee or agent shall act on behalf of such Financial Creditors;

(b) is owed to a class of creditors exceeding the number as may be specified, other than the creditors covered under clause (a) or sub-section (6), the Interim Resolution Professional shall make an application to the Adjudicating Authority along with the list of all Financial Creditors, containing the name of an insolvency professional, other than the Interim Resolution Professional, to act as their authorised representative who shall be appointed by the Adjudicating Authority prior to the first meeting of the Committee of Creditors;

 (c) is represented by a guardian, executor or administrator, such person shall act as authorised representative on behalf of such Financial Creditors, and such authorised representative under clause (a) or clause (b) or clause (c) shall attend the meetings of the Committee of Creditors, and vote on behalf of each Financial Creditor to the extent of his voting share.

Section 25A was also introduced in respect of rights and duties of authorised representative. ‘

CONSTITUTIONAL CHALLENGE TO THE AMENDMENT

Aforesaid amendments in respect of inclusion of home buyers in the category of Financial Creditors and their representation through authorised representative before the Committee of Creditors was challenged before the Supreme Court in Pioneer Urban Land⁴.

It was contended that home buyers do not have any trait of Financial Creditors and inclusion of home buyers in the category of Financial Creditors being manifestly arbitrary is violative of Article 14 as it treats unequal equally, equals unequally and had no intelligible differentia. The Supreme Court held that there exists intelligible differentia to distinguish real estate allottees from Operational Creditors.

40. It is impossible to say that classifying real estate developers is not founded upon an intelligible differentia which distinguishes them from other Operational Creditors, nor is it possible to say that such classification is palpably arbitrary having no rational relation to the objects of the Code. It was vehemently argued by learned counsel on behalf of the Petitioners that if at all real estate developers were to be brought within the clutches of the Code, being like Operational Debtors, at best they could have been brought in under this rubric and not as Financial Debtors. Here again, what is unique to real estate developers vis-à-vis Operational Debts, is the fact that, in Operational Debts generally, when a person supplies goods and services, such person is the creditor and the person who has to pay for such goods and services is the debtor. In the case of real estate developers, the developer who is the supplier of the flat/apartment is the debtor inasmuch as the home buyer/allottee funds his own apartment by paying amounts in advance to the developer for construction of the building in which his apartment is to be found. Another vital difference between Operational Debts and allottees of real estate projects is that an Operational Creditor has no interest in or stake in the Corporate Debtor, unlike the case of an allottee of a real estate project, who is vitally concerned with the financial health of the Corporate Debtor, for otherwise, the real estate project may not be brought to fruition. Also, in such event, no compensation, nor refund together with interest, which is the other option, will be recoverable from the Corporate Debtor. One other important distinction is that in an Operational Debt, there is no consideration for the time value of money – the consideration of the debt is the goods or services that are either sold or availed of from the Operational Creditor. Payments made in advance for goods and services are not made to fund manufacture of such goods or provision of such services. Examples given of advance payments being made for turnkey projects and capital goods, where customisation and uniqueness of such goods are important by reason of which advance payments are made, are wholly inapposite as examples vis-à-vis advance payments made by allottees. In real estate projects, money is raised from the allottee, being raised against consideration for the time value of money. Even the total consideration agreed at a time when the flat/apartment is non-existent or incomplete, is significantly less than the price the buyer would have to pay for a ready/complete flat/apartment, and therefore, he gains the time value of money. Likewise, the developer who benefits from the amounts disbursed also gains from the time value of money. The fact that the allottee makes such payments in instalments which are co-terminus with phases of completion of the real estate project does not any the less make such payments as payments involving “exchange”, i.e., advances paid only in order to obtain a flat/apartment. What is predominant, insofar as the real estate developer is concerned, is the fact that such instalment payments are used as a means of finance qua the real estate project. One other vital difference with Operational Debts is the fact that the documentary evidence for amounts being due and payable by the real estate developer is there in the form of the information provided by the real estate developer compulsorily under RERA. This information, like the information from information utilities under the Code, makes it easy for home buyers/allottees to approach the NCLT under Section 7 of the Code to trigger the Code on the real estate developer’s own information given on its webpage as to delay in construction, etc. It is these fundamental differences between the real estate developer and the supplier of goods and services that the legislature has focused upon and included real estate developers as Financial Debtors. This being the case, it is clear that there cannot be said to be any infraction of equal protection of the laws.

It was also contended by the petitioners that amendment made to Section 21 and insertion of  Section 25A do away with collegiality and commercial wisdom of the Committee of Creditors and hence manifestly arbitrary and violative of Article 14. It was also contended that home buyers are not a homogeneous class and home buyers may have conflicting interests.   Authorised representative may have conflicting instructions from different home buyers and voting may become difficult in Committee of Creditors. The Supreme Court negated such contentions and held as under:

 54. It has been argued that different instructions may be given by different allottees making it difficult for the authorised representatives to vote on the Committee of Creditors and that in any case, the collegiality of the Secured Creditors will be disturbed. To this the answer is that like other Financial Creditors, be they banks and financial institutions, or other individuals, all persons who have advanced monies to the Corporate Debtor should have the right to be on the Committee of Creditors. True, allottees are unsecured Creditors, but they have a vital interest in amounts that are advanced for completion of the project, maybe to the extent of 100% of the project being funded by them alone. As has been correctly argued by the learned Additional Solicitor General, under the proviso to Section 21(8) of the Code if the Corporate Debtor has no Financial Creditors, then under Regulation 16 of the Insolvency and Bankruptcy Board of India (Insolvency Resolution Process for Corporate Persons) Regulations, 2016, up to 18 Operational Creditors then become the Committee of Creditors or, if there are more than 18 Operational Creditors, the highest in order of debt owed to Operational Creditors to the extent of the first 18 are then represented on the Committee of Creditors together, with a representative of the workers. If allottees who have funded a real estate project of the Corporate Debtor to the extent of 100% are neither Financial Creditors nor Operational Creditors, the mechanism of the Committee of Creditors, who is now to take decisions after the Code is triggered as to the future of the Corporate Debtor, will be non-existent in a case where there are no Operational Creditors and no Secured Creditors, because 100% of the project is funded by the allottees. Even otherwise, as correctly argued by the learned Additional Solicitor General, it would in fact be manifestly arbitrary to omit allottees from the Committee of Creditors when they are vitally interested in the future of the Corporate Debtor as they have funded anywhere from 50% to 100% of the project in most cases.

Representation of home buyers in Committee of Creditors was further streamlined by Insolvency and Bankruptcy Code (Amendment) Act, 2019. Clause 3A was inserted to Section 25A, whereby authorised representative was to cast his vote on behalf of all Financial Creditors he represents in accordance with the decision taken by a vote of more than fifty percent of voting share of Financial Creditors represented by him and who have casted their vote. This provision was not applicable for withdrawal of petition under Section 12A of the Code.

AMENDMENT IN SECTION 7 OF THE CODE

Insolvency Law Committee in its 3^rd Report noted that in case of home buyers, bond holders and deposit holders, there was a concern that Corporate Insolvency Resolution Process can be initiated by even a single home buyer, deposit holder or bond holder. Such insolvency proceedings may not be in interest of other numerous home buyers, who may not be in support of such insolvency proceedings. Further if each home buyer, deposit holder or bond holder is allowed to file petition for initiating insolvency of the Corporate Debtor, the Adjudicating Authority may be burdened with huge number of litigations. It was felt that Corporate Insolvency Resolution Process should be initiated only where there is enough number of such creditors in a class forming a critical mass that indicates that there is in fact large scale agreement that the issues against a corporate entity need to be resolved by way of Corporate Insolvency Resolution Process under the Code. It was also noted that in case of home buyers such creditors should belong to the same real estate project so that there may be commonality of interest. 

Insolvency Law Committee recommended that Corporate Insolvency Resolution Process may be initiated by at least a hundred such allottees or ten percent of the total number of such allottees belonging to the same real estate project as under:

4.7. The Committee also noted that the collective number of homebuyers that form the threshold amount for initiation of a CIRP, should belong to the same real estate project. This would allow homebuyers that have commonality of interests, i.e.  allottees under the same real estate project, to come together to take action for initiating CIRP against a real estate developer. Thus, in such cases, the CIRP may be initiated by at least a hundred such allottees or ten percent of the total number of such allottees belonging to the same real estate project.

On the basis of the recommendation of the Insolvency Law Committee, Parliament vide Insolvency and Bankruptcy Code (Amendment) Act, 2020 introduced new proviso to Section 7 whereby in case of allottees of a real estate project a threshold limit of one hundred of creditors belonging to the same real estate project or ten percent of creditors in a class belonging to the same real estate project, whichever is less, was prescribed for initiating insolvency proceedings.  The proviso is reproduced as under:

Provided that for the Financial Creditors, referred to in clauses (a) and (b) of sub-section (6A) of section 21, an application for initiating Corporate Insolvency Resolution Process against the Corporate Debtor shall be filed jointly by not less than one hundred of such creditors in the same class or not less than ten per cent. of the total number of such creditors in the same class, whichever is less:

Provided further that for Financial Creditors who are allottees under a real estate project, an application for initiating Corporate Insolvency Resolution Process against the Corporate Debtor shall be filed jointly by not less than one hundred of such allottees under the same real estate project or not less than ten per cent. of the total number of such allottees under the same real estate project, whichever is less:

Provided also that where an application for initiating the Corporate Insolvency Resolution Process against a Corporate Debtor has been filed by a Financial Creditor referred to in the first and second provisos and has not been admitted by the Adjudicating Authority before the commencement of the Insolvency and Bankruptcy Code (Amendment) Act, 2020, such application shall be modified to  comply with the requirements of the first or second proviso within thirty days of the commencement of the said Act, failing which the application shall be deemed to be withdrawn before its admission.

This amendment was challenged before the Supreme Court in Manish Kumar⁵. The Supreme Court held that the amendment is valid. The relevant para reads as under:

199. We see considerable merit in the stand of the Union. This is not a case where there is no intelligible differentia. The law under scrutiny is an economic measure. As laid down by this Court, in dealing with the challenge on the anvil of Article 14, the Court will not adopt a doctrinaire approach. Representatives of the people are expected to operate on democratic principles. The presumption is that they are conscious of every fact, which would go to sustain the constitutionality of the law. A law cannot operate in a vacuum. In the concrete world, when the law is put into motion in practical experiences, bottlenecks that would flow from its application, are best envisaged by the Law Givers. Solutions to vexed problems made manifest through experience, would indeed require a good deal of experimentation, as long as it passes muster in law. It is no part of a court’s function to probe into what it considers to be wiser or a better way to deal with a problem. In economic matters, the wider latitude given to the Law Giver is based on sound principle and tested logic over time. In fact, though there is no rigid separation of powers in India, as it obtains in the United States, there is broadly separation of powers, which in fact, has been recognized as a basic feature of the Constitution (see His Holiness Kesavananda Bharti Sripadagalvaru v. State of Kerala and another63). In any case, the Court errs 63 (1973) 4 SCC 225 251 in the judicial veto of legislation, in a manner of speaking, it is usurping the power, which is earmarked to another organ of the State, viz., the Legislature. The large number of validating acts would produce undeniable proof of the same.  

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1. Col Vinod Awasthy Vs. AMR Infrastructure; CP No. (IB)10 (PB)2017

2. Nikhil Mehta & Sons (HUF) & Ors Vs. M/s AMR Infrastructures Ltd.; CP No (ISB)-03(PB)/2017

3.Chitra Sharma & Ors Vs. Union of India & Ors;  WP (Civil) 744/2017

4. Pioneer Urban Land and Infrastructure Ltd. & Anr. Vs. Union of India & Ors; WP (C) 47/2019

5. Manish Kumar vs Union of India; WP (Civil) 26/2020….