Status Of Homebuyers Upon The Anvil Of IBC, 2016

6th February, 2023 - 7:20 am Categories: IBC 0 Comments

Introduction

The status of homebuyers upon the anvil of “Insolvency and Bankruptcy Code, 2016” has been watched like a hawk for a while. Burying the lead, the Insolvency and Bankruptcy Code came into picture in 2016. It was put in place to combat a sharp increase in the NPAs. The goal of the code was to establish a timeline-bound mechanism for the settlement of insolvency, blow up the worth of debtor’s assets, and balance the interests of all stakeholders while fostering entrepreneurship. As per the code, financial creditors, operational creditors and corporate debtor (itself) have been vested with privilege to initiate proceeding by filing an application before NCLT.  Earlier, homebuyers were regarded neither as financial creditors nor as operational creditors, rather they are considered as other creditors. However, change is the only constant so as the status of homebuyers got altered subsequently.

Status Of Homebuyer: Journey To Financial Creditors

Prior to Amendment of 2018

Homebuyers are the most adversely affected individuals when it comes to delays in the projects since they have invested a significant amount to get a home. Such class of people would often seek redress from the Consumer Court or the Real Estate Regulatory Authority in accordance with the RERA Act, 2016. However, the advent of the code had tied down this usual remedy by the virtue of S.14(1)(a) of the code. The provision gives way to scheme of “moratorium period”, if the insolvency resolution process gets initiated under the Act. As a consequence, during this time, the company seeking insolvency resolution cannot be the subject of any other lawsuits or legal actions. Thus, the usual remedy of homebuyers is but a candle in the wind, crushed by the scheme of moratorium period of the code.

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Additionally, homebuyers were perceived neither as financial creditors nor as operational creditors. Thus, they didn’t have any say in the “Corporate Insolvency Resolution Process”. Also, homebuyers would only be eligible for refunds up to the company’s liquidation value, which would be exceedingly low given their inferior standing in the waterfall distribution system under S. 53 of the Code. Accordingly, the apex court opined the plight of homebuyers in the case of Chitra Sharma & Ors. v. Union of India.[i]

Homebuyers As Financial Creditors: Change Of Heart

There exists a trail of judicial pronouncements with regard to status of homebuyers as financial creditors. Despite the fact that homebuyers are being denied rights under the Code, the apex court in case of Bikram Chatterji v. Union of India[ii] and Chitra Sharma v. Union of India, opined that homebuyers should be provided with the same level of protection as other financial creditors under the Code. Correspondingly, Insolvency law Committee Report[iii] recommended to add explanation to S. 5(8)(f) in order to give way to empowerment of homebuyers by rendering them the status of financial creditor. As a consequence, the Parliament came up with Amendment Act of 2018.

Amendment Act of 2018: Change sides, change signs

The Amendment Act included an explanation to S. 5(8)(f) of the IBC that clarifies the position of homebuyers as financial creditors. As a consequence, homebuyers are now well versed to initiate a “corporate insolvency resolution process” against housing development businesses. They would also be members of the “Committee of Creditors” and thus be able to participate directly in the resolution process. Further the amendment also resolves the problem of inferior standing in the “waterfall distribution system” under S. 53. Now homebuyers would have access to a sizeable share of the money raised from the sale of the liquidated company’s assets if the company went into liquidation.

THE CRIBBING QUESTIONS

A Deeming Fiction

Evidently, the explanation to S. 5(8)(f) of the code gives way to a deeming fiction as the amount raised by the developer from allotee shall be deemed to have commercial effect of borrowing without going into the merits of the agreement. Essentially, the explanation becomes counter-intuitive. There may be instances where the effect of transaction may not be “commercial borrowing”, however the transaction will be continued to be considered as financial transaction. This is noted evidently in the case of Nikhil Mehta & Sons (HUF) v. AMR Infrastructure Ltd[iv] that all forward sale or purchase sale cannot be put in purview of financial transaction. Similarly, all the transactions between an allotee and a developer in a real estate deal cannot be regarded as financial transaction.

Time value of Money

Insolvency Bankruptcy Code mandates the time value of money as a factor to be qualified for a financial transaction. Essentially, this does not disprove the fact that time value of money exists in operational transactions as there may be incidental time value of money in such cases as well. If this is the sole factor to ascertain the nature of debt, then all the business transaction would be qualified for financial transaction in one or the other way. Needless to say, it is the dominant intention of the parties that draws a line of distinction. The predominant intention behind any financial transaction is to earn consideration for time value of money. In a financial contract, the borrower’s primary objective is to have money, whereas the financier’s primary objective is to have money on money. On the contrary, the dominant intention behind any operational transaction is to “swap” money for something equivalent as part of their operation, however time value of money may be incidental. In real estate deal, it is evident that the dominant intention of allot is to secure a flat or apartment, rather than to earn consideration for time value of money

The conundrum of Operational Credit

Operational debt is a claim in respect of provision of goods or services by the virtue of S. 21. However, it is ambiguous from the language if the claim covers claims from people who paid an advance to buy goods or services from the corporate debtor or if it solely refers to claims from those who provided goods or services. There doesn’t seem to be any rationale to draw a line of distinguish between real estate developers and operational debtors when operational debt includes client advances.

Hindrance in achieving the objective of IBC & NCLT

IBC is largely focused on resolving the NPA issue and endeavors to do so by addressing the core cause of issue, which is insolvency gauged by default. Putting allottees on a same footing with financial creditors will encumber NCLTs nationwide. NCLTs were established to address NPAs as a larger issue rather than real estate issues. As a consequence, treating real estate transactions as financial transactions could dilute the prime objective of IBC.

Conclusion

The IBC has quickly emerged as a crucial piece of financial resolution law in India. Despite being a clutch artist, there were some issues with the implementation of the code because the homebuyers were not expressly mentioned in the code. Due to this, the Indian real estate market was experiencing severe problems with non-performing assets and unfinished projects. Unsurprisingly, the courts have a compassionate side to homebuyers that seeks to alleviate the predicament of thousands of homebuyers. However, now the homebuyers have the ability to initiate the insolvency procedure and act as the Committee of Creditors thanks to the 2018 IBC Amendment Act. The Apex Court appears to have put the brakes on things, but given the complexity of the transactions and the aforementioned points, it is possible that the situation is indeed hazy and unclear.

Author: Pranav Pathak,  in case of any queries please contact/write back to us via email to chhavi@khuranaandkhurana.com or at Khurana & Khurana, Advocates and IP Attorney.

[i] [2017] 144 SCL 1(SC).

[ii] Writ Pet (Civil) No. 940 Of 2017.

[iii] Ministry of Corporate Affairs, Report of the Insolvency Law Committee, (March, 2018)

[iv] Appeal (AT) (Insolvency) No. 74 of 2017 (July 21, 2017)