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The following piece by C V Madhukar appeared in the September,2011 issue of Governance Now magazine. The debate in Parliament in response to the recent Anna Hazare led agitation demanding a strong Lok Pal Bill was a fine hour for the institution of Parliament. What was even more important about the debate is that it was watched by thousands of people across the country many of whom have lost faith in the ability of our MPs to coherently articulate their point of view on substantive issues. Of course, in many cases some of these impressions about our MPs are largely formed by what the media channels tend to project, and without a full appreciation of what actually happens in Parliament. There is now a greater awareness about an important institutional mechanism called the standing committee, and other nuances about the law making process. The Lok Pal agitation brought out another important aspect of our democracy. There are still many in India who believe that peaceful protest is a powerful way to communicate the expectations of people to the government. Our elected representatives are prepared to respond collectively when such protests are held. There is a negotiated settlement possible between the agitating citizens and our political establishment within the broad construct of our Constitution. All of this means that the safety valves in our democracy are still somewhat functional, despite its many shortcomings. But the way the whole Lok Pal episode has played out so far raises a number of important questions about the functioning of our political parties and our Parliamentary system. A fundamental question is the extent to which our elected MPs are able to ‘represent’ the concerns of the people in Parliament. It has been obvious for some time now, that corruption at various levels has been a concern for many. For months before the showdown in August, there have been public expressions of the disenchantment of the people about this problem. Even though several MPs would say privately that it is time for them to do something about it as elected representatives, they were unable to come together in a way to show the people that they were serious about the issue, or that they could collectively do something significant about the problem. The government was trying in its own way to grapple with the problem, and was unable to seize the initiative, expect for a last minute effort to find a graceful way out of the immediate problem on hand. In our governance system as outlined in our Constitution, the primary and most important institution to hold the government accountable is the Parliament. To perform this role, the Parliament has a number of institutional mechanisms that have evolved over the years. The creation of the CAG as a Constitutional body that provides inputs to Parliament, the Public Accounts Committee in Parliament, the question hour in Parliament are some of the ways in which the government is held to account. Clearly all of these mechanisms together are unable to adequately do the work of overseeing the government that our MPs have been tasked with. But it is one thing for our MPs to be effective in their role holding the government to account, and a very different thing to come across collectively as being responsive to the concerns of the people. For our MPs to play their representation role more convincingly and meaningfully there are certain issues that need to be addressed. A major concern is about how our political parties are structured, where MPs are bound by tight party discipline. In a system where the party leadership decides who gets the party ticket to contest the next election, there is a natural incentive for MPs to toe the party line, even within their party forums. This is often at the cost of their personal conviction about certain issues, and may sometimes be against what the citizens could want their representatives to do. Add to this the party whip system, under which each MP has to vote along the party line or face the risk of losing his seat in Parliament. And then of course, if some MP decides to take a stand on some issue, he needs to do all the research work on his own because our elected representatives have no staff with this capability. This deadly cocktail of negative incentives, just makes it very easy for the MP to mostly just follow the party line. If the representation function were to be taken somewhat seriously, these issues need to be addressed. The 2004 World Development Report of the World Bank was focussed on accountability. An important idea in the report was that it was too costly and inefficient for people to vote a government in and wait till the next election to hold the government accountable by voting it out for the poor governance it provides. That is the reason it is essential for governments and citizens to develop ways in which processes can be developed by which the government can be held accountable even during its tenure. The myriad efforts by government such as social audits, monitoring and evaluation efforts within government departments, efforts by Parliament to hold the government accountable, efforts of civil society groups, are all ways of holding the government to account. But over and above accountability, in an age of growing aspirations and increasing transparency, our MPs must find new ways of asserting their views and those people that they seek to represent in our Parliament. This is an age which expects our politicians to be responsive, but in a responsible way. Even as the Lok Pal Bill is being deliberated upon in the standing committee, civil society groups continue to watch how MPs will come out on this Bill. There are plenty of other opportunities where MPs and Parliament can take the initiative, including electoral reforms, funding of elections, black money, etc. It remains to be seen whether our MPs will lead on these issues from the front, or will choose to be led by others. This will determine whether in the perception of the public the collective stock of our MPs will rise or continue to deplete in the months ahead.
The Insolvency and Bankruptcy Code, 2016 was enacted to provide a time-bound process to resolve insolvency among companies and individuals. Insolvency is a situation where an individual or company is unable to repay their outstanding debt. Last month, the government promulgated the Insolvency and Bankruptcy Code (Amendment) Ordinance, 2018 amending certain provisions of the Code. The Insolvency and Bankruptcy Code (Second Amendment) Bill, 2018, which replaces this Ordinance, was introduced in Lok Sabha last week and is scheduled to be passed in the ongoing monsoon session of Parliament. In light of this, we discuss some of the changes being proposed under the Bill and possible implications of such changes.
What was the need for amending the Code?
In November 2017, the Insolvency Law Committee was set up to review the Code, identify issues in its implementation, and suggest changes. The Committee submitted its report in March 2018. It made several recommendations, such as treating allottees under a real estate project as financial creditors, exempting micro, small and medium enterprises from certain provisions of the Code, reducing voting thresholds of the committee of creditors, among others. Subsequently, the Insolvency and Bankruptcy Code (Amendment) Ordinance, 2018, was promulgated on June 6, 2018, incorporating these recommendations.
What amendments have been proposed regarding real estate allottees?
The Code defines a financial creditor as anyone who has extended any kind of loan or financial credit to the debtor. The Bill clarifies that an allottee under a real estate project (a buyer of an under-construction residential or commercial property) will be considered as a financial creditor. These allottees will be represented on the committee of creditors by an authorised representative who will vote on their behalf.
This committee is responsible for taking key decisions related to the resolution process, such as appointing the resolution professional, and approving the resolution plan to be submitted to the National Company Law Tribunal (NCLT). It also implies that real estate allottees can initiate a corporate insolvency resolution process against the debtor.
Can the amount raised by real estate allottees be considered as financial debt?
The Insolvency Law Committee (2017) had noted that the amount paid by allottees under a real estate project is a means of raising finance for the project, and hence would classify as financial debt. It had also noted that, in certain cases, allottees provide more money towards a real estate project than banks. The Bill provides that the amount raised from allottees during the sale of a real estate project would have the commercial effect of a borrowing, and therefore be considered as a financial debt for the real estate company (or the debtor).
However, it may be argued that the money raised from allottees under a real estate project is an advance payment for a future asset (or the property allotted to them). It is not an explicit loan given to the developer against receipt of interest, or similar consideration for the time value of money, and therefore may not qualify as financial debt.
Do the amendments affect the priority of real estate allottees in the waterfall under liquidation?
During the corporate insolvency resolution process, a committee of creditors (comprising of all financial creditors) may choose to: (i) resolve the debtor company, or (ii) liquidate (sell) the debtor’s assets to repay loans. If no decision is made by the committee within the prescribed time period, the debtor’s assets are liquidated to repay the debt. In case of liquidation, secured creditors are paid first after payment of the resolution fees and other resolution costs. Secured creditors are those whose loans are backed by collateral (security). This is followed by payment of employee wages, and then payment to all the unsecured creditors.
While the Bill classifies allottees as financial creditors, it does not specify whether they would be treated as secured or unsecured creditors. Therefore, their position in the order of priority is not clear.
What amendments have been proposed regarding Micro, Small, and Medium Enterprises (MSMEs)?
Earlier this year, the Code was amended to prohibit certain persons from submitting a resolution plan. These include: (i) wilful defaulters, (ii) promoters or management of the company if it has an outstanding non-performing asset (NPA) for over a year, and (iii) disqualified directors, among others. Further, it barred the sale of property of a defaulter to such persons during liquidation. One of the concerns raised was that in case of some MSMEs, the promoter may be the only person submitting a plan to revive the company. In such cases, the defaulting firm will go into liquidation even if there could have been a viable resolution plan.
The Bill amends the criteria which prohibits certain persons from submitting a resolution plan. For example, the Code prohibits a person from being a resolution applicant if his account has been identified as a NPA for more than a year. The Bill provides that this criterion will not apply if such an applicant is a financial entity, and is not a related party to the debtor (with certain exceptions). Further, if the NPA was acquired under a resolution plan under this Code, then this criterion will not apply for a period of three years (instead of one). Secondly, the Code also bars a guarantor of a defaulter from being an applicant. The Bill specifies that such a bar will apply if such guarantee has been invoked by the creditor and remains unpaid.
In addition to amending these criteria, the Bill also states that the ineligibility criteria for resolution applicants regarding NPAs and guarantors will not be applicable to persons applying for resolution of MSMEs. The central government may, in public interest, modify or remove other provisions of the Code while applying them to MSMEs.
What are some of the other key changes being proposed?
The Bill also makes certain changes to the procedures under the Code. Under the Code, all decisions of the committee of creditors have to be taken by a 75% majority of the financial creditors. The Bill lowers this threshold to 51%. For certain key decisions, such as appointment of a resolution professional, approving the resolution plan, and making structural changes to the company, the voting threshold has been reduced from 75% to 66%.
The Bill also provides for withdrawal of a resolution application, after the resolution process has been initiated with the NCLT. Such withdrawal will have to be approved by a 90% vote of the committee of creditors.
