Sale/Auction of Liabilities during Liquidation Process - Confusion Prevails.

Appellate Authority (NCLAT) in Visisth Services Ltd. Vs. S. V. Ramani, Liquidator of United Chloro-Paraffins Pvt. Ltd. [Company Appeal (AT) (Insolvency) No.896 of 2020 ] held that; 

• It can be seen from the afore-noted discussion as well as Regulation 32 A of the IBBI (Liquidation Process) Regulations, 2016 that Sale as a ‘Going Concern’ means sale of assets as well as liabilities and not assets sans liabilities. 

• Paragraphs 3.2.1 and 4.2.1 of the afore-noted discussion paper amply specified that all assets and liabilities, which constitute an integral business of the Corporate Debtor Company would be transferred together and the consideration paid must be for the business of the Corporate Debtor. 

• We conclude that Sale of a Company as a ‘Going Concern’ means sale of both assets and liabilities, if it is stated on ‘as is where is basis’.

 

The question here is whether the Code mandates Liquidator for sale/auction of liabilities of the CD under liquidation.& whether the liabilities of CD survive post completion of the liquidation process.(In the present case/transaction the liabilities are sought to be transferred to auction purchaser, along with assets in going concern sale of the CD.)

 

# Section 36. Liquidation estate. -

(1) For the purposes of liquidation, the liquidator shall form an estate of the assets mentioned in sub-section (3), which will be called the liquidation estate in relation to the corporate debtor.

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 # Section 53. Distribution of assets. -

(1) Notwithstanding anything to the contrary contained in any law enacted by the Parliament or any State Legislature for the time being in force, the proceeds from the sale of the liquidation assets shall be distributed in the following order of priority and within such period as may be specified, namely: -

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As per the provisions of the Code, liquidator can only sell/auction the assets of the CD, which forms the part of “Liquidation Estate” and all the liabilities of the CD are to be mandatorily settled in terms of the provisions of Section 53 of the Code.

 

# Section 240. Power to make regulations. –

(1) The Board may, by notification, make regulations consistent with this Code and the rules made thereunder, to carry out the provisions of this Code.

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Case Law;

i). NCLT Mumbai-1 (2018.11.29) in Alchemist Asset Reconstruction Company Ltd. Vs. Abhijeet MADC Nagpur Energy Pvt. Ltd. [MA 1343/2018 IN CP (IB)-1315/MB/2017] held that;

• It is to be clarified that when sale is to be made on a going concern basis, then certainly after the transfer of undertaking, acquirer gets all right, title and interest in the whole and every part of the undertaking, without any security interest, encumbrance, claim, counterclaim, or any demur, into the acquirer.

 

ii). NCLT Mumbai-I (09.03.2021) in Gaurav Jain  Vs. Sanjay Gupta, [IA No. 2264 of 2020 in C.P. (IB) No. 1239/MB/2018] held that;

• The crux of the ‘going concern sale’ is that the equity shareholding of the Corporate Debtor is extinguished and the acquirer takes over the undertaking with the assets, licenses, entitlements etc.

• The Corporate Debtor survives, only the ownership is transferred by the Liquidator to the purchaser. All the rights, titles and interest in the Corporate Debtor including the legal entity is transferred to the purchaser. After the sale as a ‘going concern’, the purchaser will be carrying on the business of the Corporate Debtor.

• As far as the Liquidator is concerned, when the sale consideration is received from the bidder / purchaser, the same will be distributed to the Creditors in accordance with Section 53 of the Code. Since the amount is paid to the Creditors in terms of the Code, the liabilities of the Corporate Debtor towards the Creditors are treated as settled and the purchaser takes the assets free of any encumbrances or whatsoever.

• In the normal parlance “going concern” sale is transfer of assets along with the liabilities. However, as far as the ‘going concern’ sale in liquidation is concerned, there is a clear difference that only assets are transferred and the liabilities of the Corporate Debtor has to be settled in accordance with Section 53 of the Code and hence the purchaser of this assets takes over the assets without any encumbrance or charge and free from the action of the Creditors.

 

iii). NCLT Hyderabad (30.06.2021) in Viswa Infrastructures Finance & Services Pvt Ltd  Vs SREI Equipment Finance Ltd  [IA (IBC)/157/2021 in CP (IB) No. 329/7/HDB/2018 ] held that; 

• Corporate Debtor is being sold on an ongoing concern basis which is more or less in the nature of resolution of the Corporate Debtor as such he has no objection if the prayers sought for in the term sheet submitted by the successful bidder are allowed by the Tribunal. Already Successful Bidder has deposited Rs. 57 crores. In order for the Successful bidder to kick start the business and follow the law laid down under the Companies Act, 2013, it is imperative for the Tribunal to grant necessary reliefs. 

• The said assets are free from any financial implications arising out of any pending proceedings before relevant authorities, if any. Further non compliance of provisions of any laws, rules, regulations, directions, notifications, circulars etc on the Corporate Debtor under various Acts and Regulations stands extinguished, qua the successful bidder. 

• The erstwhile promoters or any member, associate of the Existing and Erstwhile promoter groups is hereby restrained from doing any business directly or indirectly in connection with the products and services presently offered by the Corporate Debtor

• Relief sought with regard to issuance/renewal of all kinds of licenses / permissions/ approvals required is allowed subject to payment of renewal fees, if any, from this date to the Licensing Authorities. 

 

iv). NCLT Ahmedabad (08.09.2021) In Nitin Jain Liquidator of PSL Ltd. Vs. Lucky Holdings Pvt. Ltd [IA 391 (AHM)/2021 in CP (IB) 37 (AHM) 2017 ] Adjudicating Authority using residuary powers of NCLT under section 60(5) granted relief to Successful Auction Bidder in liquidation process beyond the provisions of section 32A;

• Thus, considering these findings of the Hon'ble Supreme Court, it is crystal clear that this Adjudicating Authority has got adequate jurisdiction as regard to most of the issues raised in this application, being issues arising out of or insolvency resolution as well as are in relation to liquidation proceedings of the Corporate Debtor.

• Thus, in our considered view, the reliefs and concessions on the parallel line of an approved resolution plan can be granted subject to one condition that such reliefs/concessions must be central issues and also in relation to or arising out of liquidation proceedings of a Corporate Debtor so as to confer jurisdiction on Adjudicating Authority under Section 60(5)(c) of the IBC, 2016.

• The Successful Auction Bidder shall not be liable for any action/responsibility of the Corporate Debtor or its erstwhile management as per provisions of Section 32A of IBC, 2016.

 

Disclaimer: The sole purpose of this blog is to create awareness on the subject and must not be used as a guide for taking or recommending any action or decision. A reader must do his own research and seek professional advice if he intends to take any action or decision in the matters covered in this blog.

 

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Capital Gains Tax on sale of property under the provisions of SARFAESI during Liquidation Process.

 Let’s look into various provisions of the Statutes & case laws.

A, Insolvency and Bankruptcy Code, 2016.

# Section 52. Secured creditor in liquidation proceedings. -

(1) A secured creditor in the liquidation proceedings may-

• (a) relinquish its security interest to the liquidation estate and receive proceeds from the sale of assets by the liquidator in the manner specified in section 53; or

• (b) realise its security interest in the manner specified in this section.

(2) Where the secured creditor realises security interest under clause (b) of subsection (1), he shall inform the liquidator of such security interest and identify the asset subject to such security interest to be realised.

(3) Before any security interest is realised by the secured creditor under this section, the liquidator shall verify such security interest and permit the secured creditor to realise only such security interest, the existence of which may be proved either –

• (a) by the records of such security interest maintained by an information utility; or

• (b) by such other means as may be specified by the Board.

(4) A secured creditor may enforce, realise, settle, compromise or deal with the secured assets in accordance with such law as applicable to the security interest being realised and to the secured creditor and apply the proceeds to recover the debts due to it.

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B. Insolvency and Bankruptcy Board of India (Liquidation Process) Regulations, 2016.

# Regulation 37. Realization of security interest by secured creditor

(1) A secured creditor who seeks to realize its security interest under section 52 shall intimate the liquidator of the price at which he proposes to realize its secured asset. (2) The liquidator shall inform the secured creditor within twenty one days of receipt of the intimation under sub-regulation (1) if a person is willing to buy the secured asset before the expiry of thirty days from the date of intimation under sub-regulation (1), at a price higher than the price intimated under sub-regulation (1).

(3) Where the liquidator informs the secured creditor of a person willing to buy the secured asset under sub-regulation (2), the secured creditor shall sell the asset to such person. (4) If the liquidator does not inform the secured creditor in accordance with sub-regulation

(2), or the person does not buy the secured asset in accordance with sub-regulation (2), the secured creditor may realize the secured asset in the manner it deems fit, but at least at the price intimated under sub-regulation (1).

(5) Where the secured asset is realized under sub-regulation (3), the secured creditor shall bear the cost of identification of the buyer under sub-regulation (2).

(6) Where the secured asset is realized under sub-regulation (4), the liquidator shall bear the cost incurred to identify the buyer under sub-regulation (2).

(7) The provisions of this Regulation shall not apply if the secured creditor enforces his security interest under the Securitization and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (54 of 2002) or the Recovery of Debts and Bankruptcy Act, 1993 (51 of 1993).

(8) A secured creditor shall not sell or transfer an asset, which is subject to security interest, to any person, who is not eligible under the Code to submit a resolution plan for insolvency resolution of the corporate debtor.

 

Thus, a secured financial creditor (Financial Institution) can enforce its security interest under the provisions of SARFAESI [Section 52(4)] without attracting the provisions of Liquidation Regulations under the Code [Liquidation Regulation 37(7).

C. Income-tax Act, 1961

Company in liquidation.

# Section 178. (1) Every person—

(a)  who is the liquidator of any company which is being wound up, whether under the orders of a court or otherwise; or

(b)  who has been appointed the receiver of any assets of a company,

(hereinafter referred to as the liquidator) shall, within thirty days after he has become such liquidator, give notice of his appointment as such to the Assessing Officer who is entitled to assess the income of the company.

(2) The Assessing Officer shall, after making such inquiries or calling for such information as he may deem fit, notify to the liquidator within three months from the date on which he receives notice of the appointment of the liquidator the amount which, in the opinion of the Assessing Officer, would be sufficient to provide for any tax which is then, or is likely thereafter to become, payable by the company.

(3) The liquidator—

(a)  shall not, without the leave of the Principal Chief Commissioner or Chief Commissioner or Principal Commissioner or Commissioner, part with any of the assets of the company or the properties in his hands until he has been notified by the Assessing Officer under sub-section (2) ; and

(b)  on being so notified, shall set aside an amount, equal to the amount notified and, until he so sets aside such amount, shall not part with any of the assets of the company or the properties in his hands :

Provided that nothing contained in this sub-section shall debar the liquidator from parting with such assets or properties for the purpose of the payment of the tax payable by the company or for making any payment to secured creditors whose debts are entitled under law to priority of payment over debts due to Government on the date of liquidation or for meeting such costs and expenses of the winding up of the company as are in the opinion of the Principal Chief Commissioner or Chief Commissioner or Principal Commissioner or Commissioner reasonable.

(4) If the liquidator fails to give the notice in accordance with sub-section (1) or fails to set aside the amount as required by sub-section (3) or parts with any of the assets of the company or the properties in his hands in contravention of the provisions of that sub-section, he shall be personally liable for the payment of the tax which the company would be liable to pay :

Provided that if the amount of any tax payable by the company is notified under sub-section (2), the personal liability of the liquidator under this sub-section shall be to the extent of such amount.

(5) Where there are more liquidators than one, the obligations and liabilities attached to the liquidator under this section shall attach to all the liquidators jointly and severally.

(6) The provisions of this section shall have effect notwithstanding anything to the contrary contained in any other law for the time being in force except the provisions of the Insolvency and Bankruptcy Code, 2016.

D, Case Laws;

i). NCLT New Delhi (22.10.2019) in the matter of Ms. Pooja Bahry Liquidator in Shree Ram Lime Products Pvt. Ltd.  Vs. Gee Ispat Pvt. Ltd.  [CA-666/2019 in (IB) -250 (ND) /2017 ] held that; 

• We therefore hold that the tax liability arising out of the sale shall be distributed in accordance with the provisions of Section 53 of the Code. The applicability of Section 178 or 194 IA of the IT Act will not have an overriding effect on the water fall mechanism provided under Section 53 of the Code, which is a complete code in itself, and the capital gain shall not be taken into consideration as the liquidation cost. 

ii). NCLT Allahabad (31.08.2020) in LML Limited (Under Liquidation) Vs. Office of Commissioner of Income Tax, Mumbai  [C.A. No. 389 of 2019 in CP(IB) No. 55/ALD/2017] held that; 

• Given Section 238 of The Insolvency and Bankruptcy Code, 2016, it is obvious that the Code will override anything inconsistent contained in any other enactment, including the Income Tax- Tax Art.

• this Adjudicating Authority is of the view that the applicability of Sec 45 and 46 of The Income Tax Act will not have an overriding effect on the water fall mechanism provided under See 53 of the IBC, 2016, which is a complete code in itself and thus capital gain shall not be taken into consideration as the liquidation cost.

• Sec 178 of IT Act stands excluded by virtue of amendment of Section 178 (6) with effect from 01.11.2016, in accordance with the provision of Sec 247 of the IBC read with Third Schedule appended there to, therefore, as the corporate debtor is in liquidation under the Code, the Income Tax Department can no longer claim a priority in respect of clearance of tax dues as provided Under Sec 178(2) and (3) of the Income Tax Act,1961 as also held in case of Leo Edibles & Fats Ltd v. Income Tax Department.

• Therefore, the tax liability arising out of the sale of assets by the liquidator shall be distributed in accordance with the provisions of Section 53 of the Insolvency and Bankruptcy Code, 2016 and the capital gain tax shall not be treated as the liquidation cost.

 

iii). NCLAT (08.02.2021) in Om Prakash Agrawal Liquidator - S. Kumars Nationwide Limited Vs Chief Commissioner of Income Tax (TDS) [Company Appeal (AT) (Insolvency) No. 624 of 2020] held that; 

• Actually TDS under Section 194 IA, is an advance capital gain tax, recovered through transferee on priority with other creditors of the company. Hence, inconsistent with the provision of Section 53 (1) (e) of the Code and by virtue of Section 238 of the Code, the provision of Section 53(1) (e)shall have overriding effect. Thus, the impugned order is not sustainable in law. Therefore, it is hereby set aside.

iv). Supreme Court (11.10.2001) in Commissioner Of Income-Tax vs Attili N. Rao [AIR 2002 SC 388] held that;.

• What was sold by the State at the auction was the immovable property that belonged to the assessee. The price that was realised therefore belonged to the assessee. 

• From out of that price, the State deducted its dues towards "kits" and interest due from the assessee and paid over the balance to him. 

• The capital gain that the assessee made was on the immovable property that belonged to him. Therefore, it is on the full price realised (less admitted deductions) that the capital gain and the tax thereon has to be computed.

v). ITAT Chennai-C (06.09.2019) in T.S. Hajee Moosa & Co Vs. ACIT (ITAT Chennai) [Appeal Number : ITA No. 2686/CHNY/2018] held that;.

• Thus, it is clear that the assessee availed loan from the Bank under the banner of group concerns by mortgaging its own property and group concerns failed to repay the loan, the bank sold the property and the entire consideration was recovered by the bank. Thus, it cannot be held that the assessee has not received any consideration directly or indirectly, which were liable to tax

• What was sold by the State at the auction was the immovable property that belonged to the assessee. The price that was realised therefore belonged to the assessee. From out of that price, the State deducted its dues towards “kist” and interest due from the assessee and paid over the balance to him. 

• The capital gain that the assessee made was on the immovable property that belonged to him. Therefore, it is on the full price realised (less admitted deductions) that the capital gain and the tax thereon has to be computed.

• It is clear that the mortgaged property sold, in discharge of the mortgage created by the assessee itself, belonging to the assessee and the price realized there-form belonged to the assessee and hence the capital gain is very much warranted on the full price [less admissible deduction].

• Otherwise also, availing loan itself is consideration and in this case, constructive benefit was very well accrued to the assessee when the loan was availed by its group concerns, which was owned partly by the assessee.

E. Now the question is;

• “Whether Liquidator is required to pay Capital Gains Tax on property sold by the lender (secured creditor) under the provisions of SARFAESI [section 52(4) of the Code read with Liquidation regulation 37(7)] as liquidation cost. in light of ITAT ruling in T.S. Hajee Moosa (Supra) read with Hon’ble Supreme Court ruling in Commissioner Of Income-Tax (Supra)] “

Disclaimer: The sole purpose of this blog is to create awareness on the subject and must not be used as a guide for taking or recommending any action or decision. A reader must do his own research and seek professional advice if he intends to take any action or decision in the matters covered in this blog.

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Wilful Defaulter & Fundamental Rights

RBI vide Master Circular on ‘Wilful Defaulters dated 01.07.2015, revised its guidelines for system of identification of  wilful defaulters as to ensure that further bank finance is not made available to them.

Hon’ble Supreme Court in State Bank of India Vs. M/s. Jah Developers Pvt. Ltd. & Ors. (Civil Appeal No. 4776 of 2019). observed as under;

• However, we are of the view that Article 19(1)(g) is attracted in the facts of the present case as the moment a person is declared to be a wilful defaulter, the impact on its fundamental right to carry on business is direct and immediate.

Now in light of the observation of Hon’ble Supreme Court (Supra), the question is;

• “ Whether restrictions can be placed on Fundamental Rights of a citizen without judicial sanctions/scrutiny.”

Excerpts of the Order;

# 3. The RBI Circular dated 01.07.2013 is described as a “Master Circular on Wilful Defaulters” [“Master Circular”] and is addressed to all scheduled commercial banks (excluding Regional Rural Banks (RRBs) and Local Area Banks (LABs)), and to All India Notified Financial Institutions. The purpose of the said Master Circular is stated as follows:

• “Purpose;

• To put in place a system to disseminate credit information pertaining to wilful defaulters for cautioning banks and financial institutions so as to ensure that further bank finance is not made available to them.”

Under this Master Circular, “wilful default” has been defined as follows:

• “2.1. Definition of wilful default The term “wilful default” has been redefined in supersession of the earlier definition as under:

• A “wilful default” would be deemed to have occurred if any of the following events is noted:-

• (a) The unit has defaulted in meeting its payment/repayment obligations to the lender even when it has the capacity to honour the said obligations.

• (b) The unit has defaulted in meeting its payment/repayment obligations to the lender and has not utilised the finance from the lender for the specific purposes for which finance was availed of but has diverted the funds for other purposes. 

• (c) The unit has defaulted in meeting its payment/repayment obligations to the lender and has siphoned off the funds so that the funds have not been utilised for the specific purpose for which finance was availed of, nor are the funds available with the unit in the form of other assets.

• (d) The unit has defaulted in meeting its payment/repayment obligations to the lender and has also disposed off or removed the movable fixed assets or immovable property given by him or it for the purpose of securing a term loan without the knowledge of the bank/lender.”

# 4. On 01.07.2015, the RBI issued another Master Circular consolidating instructions on how all scheduled commercial banks and notified financial institutions are to deal with wilful defaulters [“Revised Circular”]. The definition of “wilful default” is substantially the same as in the earlier Master Circular. However, the mechanism for identification of wilful defaulters has been substituted as follows:

• “3. Mechanism for identification of Wilful Defaulters The mechanism referred to in paragraph 2.5 above should generally include the following: 

• (a) The evidence of wilful default on the part of the borrowing company and its promoter/whole-time director at the relevant time should be examined by a Committee headed by an Executive Director or equivalent and consisting of two other senior officers of the rank of GM/DGM.

• (b) If the Committee concludes that an event of wilful default has occurred, it shall issue a Show Cause Notice to the concerned borrower and the promoter/whole-time director and call for their submissions and after considering their submissions issue an order recording the fact of wilful default and the reasons for the same. An opportunity should be given to the borrower and the promoter/whole-time director for a personal hearing if the Committee feels such an opportunity is necessary. 

• (c) The order of the Committee should be reviewed by another Committee headed by the Chairman/Chairman & Managing Director or the Managing Director & Chief Executive Officer/CEOs and consisting, in addition, to two independent directors/nonexecutive directors of the bank and the Order shall become final only after it is confirmed by the said Review Committee. However, if the identification Committee does not pass an order declaring a borrower as a wilful defaulter, then the Review Committee need not be set up to review such decisions.

•  xxx xxx xxx”

# 7. It will be noted that whereas the earlier Master Circular dated 01.07.2013 granted a hearing before the Grievance Redressal Committee headed by the Chairman/Managing Director, and also provided that the borrower should be provided 15 days’ time for making a representation against the preliminary decision of the First Committee, this situation does not now obtain. Under paragraph 3 of the Revised Circular dated 01.07.2015, it is only at the first stage that the First Committee is to issue a show cause notice and to consider the submissions of the borrower, a discretion being left with the aforesaid Committee to give or not to give a personal hearing. It may be noticed that the Review Committee consisting of the higher officials and independent directors is completely in-house. Neither does the order of the First Committee have to be given to the borrower, nor is any representation required against the aforesaid order, nor is there any personal hearing before the Review Committee, which goes through the First Committee’s order by itself and then comes to a conclusion without involving the borrower at all. 

# 8. At this stage, it is necessary to mention that serious consequences follow after a person has been classified as a wilful defaulter. These consequences are as follows: 

• (a) No additional facilities to be granted by any bank/financial institution [paragraph 2.5(a)]. 

• (b) Entrepreneurs/Promoters would be barred from institutional finance for a period of 5 years [paragraph 2.5(a)].

• (c) Any legal proceedings can be initiated, including criminal complaints [paragraph 2.5(b)].

• (d) Banks and financial institutions to adopt proactive approach in changing the management of the wilful defaulter [paragraph 2.5(c)].

• (e) Promoter/Director of wilful defaulter shall not be inducted by another borrowing company [paragraph 2.5(d)].

• (f) As per section 29A of the Insolvency and Bankruptcy Code, 2016, a wilful defaulter cannot be a resolution applicant.

# 9. It is in this background that we have to consider the question as to whether a lawyer ought to be allowed to represent the borrower before the First Committee and/or Review Committee under the Revised Circular dated 01.07.2015.

# 21. Given the above conspectus of case law, we are of the view that there is no right to be represented by a lawyer in the in-house proceedings contained in paragraph 3 of the Revised Circular dated 01.07.2015, as it is clear that the events of wilful default as mentioned in paragraph 2.1.3 would only relate to the individual facts of each case. What has typically to be discovered is whether a unit has defaulted in making its payment obligations even when it has the capacity to honour the said obligations; or that it has borrowed funds which are diverted for other purposes, or siphoned off funds so that the funds have not been utilised for the specific purpose for which the finance was made available. Whether a default is intentional, deliberate, and calculated is again a question of fact which the lender may put to the borrower in a show cause notice to elicit the borrower’s submissions on the same. However, we are of the view that Article 19(1)(g) is attracted in the facts of the present case as the moment a person is declared to be a wilful defaulter, the impact on its fundamental right to carry on business is direct and immediate. This is for the reason that no additional facilities can be granted by any bank/financial institutions, and entrepreneurs/promoters would be barred from institutional finance for five years. Banks/financial institutions can even change the management of the wilful defaulter, and a promoter/director of a wilful defaulter cannot be made promoter or director of any other borrower company. Equally, under Section 29A of the Insolvency and Bankruptcy Code, 2016, a wilful defaulter cannot even apply to be a resolution applicant. Given these drastic consequences, it is clear that the Revised Circular, being in public interest, must be construed reasonably. This being so, and given the fact that paragraph 3 of the Master Circular dated 01.07.2013 permitted the borrower to make a representation within 15 days of the preliminary decision of the First Committee, we are of the view that first and foremost, the Committee comprising of the Executive Director and two other senior officials, being the First Committee, after following paragraph 3(b) of the Revised Circular dated 01.07.2015, must give its order to the borrower as soon as it is made. The borrower can then represent against such order within a period of 15 days to the Review Committee. Such written representation can be a full representation on facts and law (if any). The Review Committee must then pass a reasoned order on such representation which must then be served on the borrower. Given the fact that the earlier Master Circular dated 01.07.2013 itself considered such steps to be reasonable, we incorporate all these steps into the Revised Circular dated 01.07.2015. The impugned judgment is, therefore, set aside, and the appeals are allowed in terms of our judgment. We thank the learned Amicus Curiae, Shri Parag Tripathi, for his valuable assistance to this Court.

Disclaimer: The sole purpose of this blog is to create awareness on the subject and must not be used as a guide for taking or recommending any action or decision. A reader must do his own research and seek professional advice if he intends to take any action or decision in the matters covered in this blog.

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