The Supreme Court has held that where a transaction is structured such that the lender’s disbursement is made directly to a builder and is intrinsically linked to the builder’s obligations concerning construction, delivery and transfer of the property, and the dispute is predominantly contractual and already subject to recovery proceedings before the DRT, such matter does not constitute a straightforward “financial debt-default” scenario for initiation of CIRP under Section 7 of the IBC. In such circumstances, invocation of the Code would amount to using insolvency proceedings as a coercive recovery mechanism, which is impermissible.
The Court treated the substance of the transaction as a builder-linked contractual arrangement rather than a pure financial debt default, and on that basis refused to allow Section 7 IBC proceedings to be used in parallel with DRT recovery proceedings.
The Division Bench comprising Justice Pamidighantam Sri Narasimha and Justice Alok Aradhe reiterated that the condition precedent for invocation of Section 7 of the Code is the existence of a “financial debt” and a “default” in repayment. It also observed that the Code is a collective insolvency resolution mechanism and not a forum for adjudication of individual contractual claims. The Bench also observed that where the object behind invoking the Code is to compel payment rather than address genuine financial distress, such invocation amounts to abuse of process, and the Code must not be used as a tool for coercion and debt recovery by individual creditors.
On a reading of Clauses 7 to 14, 16, 17 to 20 and 25 of the quadripartite agreement, the Bench noted that: the loan amount was to be paid by the Bank to the Builder; the CD had instructed direct disbursement to the Builder; the Builder had obligations concerning construction, delivery and transfer of the property; in certain contingencies, the Builder was to refund amounts to the Bank; the Builder confirmed the property was free from encumbrances; and the Builder agreed that the Bank would have lien on the subject property and that the CD would create a mortgage in favour of the Bank when the sale/lease deed was executed.
The Bench held that the direct disbursement to the Builder, coupled with the Builder’s substantial obligations concerning construction, delivery and transfer, showed that the Bank’s disbursement was intrinsically linked to the Builder’s performance. Therefore, the transaction could not be viewed in isolation as a simple financial lending arrangement between the Bank and the CD.
The Bench observed that the obligations arising out of the transaction were intertwined with the Builder’s performance and that the dispute was predominantly contractual in character, involving competing claims relating to transfer of property and associated obligations. Accordingly, the Bench concluded that the case did not involve a straightforward financial debt-default scenario warranting initiation of CIRP, and that the matter was already the subject of proceedings before the DRT, which was described as the appropriate forum for recovery. The deposit made pursuant to the DRT’s order further showed that the matter was actively being adjudicated there.
The Bench therefore held that permitting invocation of the Code in such circumstances would convert insolvency proceedings into a coercive mechanism for recovery, which is impermissible.
Briefly, on April 06, 2011, Emerald Mineral Exim Pvt Ltd. (the corporate debtor/CD) entered into an agreement for sale with Bengal Shrachi Housing Development Ltd. for purchase of a commercial unit in “Synthesis Business Park”, New Town, Rajarhat, Kolkata. On June 27, 2011, Dhanlaxmi Bank sanctioned a loan of Rs. 1.50 crores to the CD for purchase of the subject property. Later, a facility agreement was executed between the Bank and the CD, and on the same date a quadripartite agreement was executed among the Bank, the CD, the Builder and WBHIDCL. Under that arrangement, the CD instructed the Bank to disburse the loan amount directly to the Builder.
Pursuant to the above arrangement, on Sep 13, 2011, Rs. 1.34 crores were directly disbursed to the Builder. As on April 12, 2014, the CD had paid Rs. 54.13 lakhs to the Bank. On March
31, 2013, the CD executed a nomination agreement with the Builder to transfer the subject property to Jupiter Pharmaceuticals Limited for Rs. 2.26 Crores, and a copy of that nomination agreement was furnished to the Bank, after which a deed of conveyance was executed.
The CD executed acknowledgements of liability and the account was classified as NPA on July 05, 2014. On Sep 07, 2015, the CD proposed a one-time settlement of Rs. 74 lakhs, but the repayment cheques were dishonoured due to insufficient funds. On Jan 28, 2016, the Bank initiated proceedings before the DRT for recovery of Rs. 1.80 Crores together with interest. By order dated Sep 20, 2016, the DRT held that the Bank’s charge existed and continued despite the sale deed, appointed a receiver, and directed the Builder to deposit Rs. 1.50 crores, which was deposited by the Builder.
On Sep 28, 2016, the Bank filed a winding up petition under the Companies Act, 1956. After the Central Government notification dated Dec 07, 2016, the matter stood transferred to the NCLT on April 19, 2019 and was treated as a petition under Section 7 of the Insolvency and Bankruptcy Code, 2016. The NCLT admitted the petition holding that debt and default were proved. On appeal, the NCLAT set aside the NCLT order, holding that since the Bank had not directly disbursed the amount to the CD, the Bank could not be termed a “financial creditor” under Section 7, and that the Code could not be used as a recovery mechanism.
Appearances:
Amarjit Singh Bedi, AOR, Shreedhar Gaggar, Adv., Uttiyo Mullick, Adv., for Appellants
M.M Singh, Adv., Jitendra Kumar, AOR, Mohit, Adv., Manoj, Adv., Aparna Sinha, AOR, Muddam Thirupathi Reddy, Adv., Chandan Kumar Mandal, Adv., and Anu Priya, Adv., for Respondents
