Can Flat Buyers Initiate Insolvency Proceedings Against Builders Under The Insolvency & Bankruptcy Code?

Can Flat Buyers initiate insolvency proceedings against Builders under the Insolvency & Bankruptcy Code? This question assumes greater significance now because many real estate giants are facing insolvency proceedings in various Company Law Tribunals under the new I & B Code, 2016 across the country.  Latest is the case of J.P. Infratech which is one of the largest real estate Developer in North India. Flat buyers are in absolute legal chaos.

The ‘locus standi’ of the flat buyers for initiating Insolvency Resolution Process against the defaulting Real Estate Developer Companies is a grey area. Under Chapter II of the I & B Code, 2016, either the Financial Creditor, Operational Creditor or the Corporate Debtor  can initiate Insolvency Resolution Process as per Sec.7, 9 and 10 respectively. But the legal question as to whether a flat purchaser who invested his hard earned money for purchasing residential/ commercial flats would come in any of the above category, is still not attained finality by any of the judicial pronouncements.

Nikhil Mehta & Sons (HUF) & Ors Vs. AMR Infrastructures Ltd (CP No.(ISB)-03/(PB)/2017, is one of the earliest cases considered the question regarding the ‘locus standi’ of the flat buyers to initiate the resolution process under the Code. In the above case the flat buyers reached different agreements/MOU with the Developer Company for purchase of three units being a residential flat, shop and office space in their projects. One of the unit was purchased by the above Purchasers under the 'Committed Return Plan' as per which the purchasers were to pay a substantial portion of the total sale consideration upfront at the time of Execution of the MOU, and the Corporate Debtor undertook to pay a particular amount to the buyer each month, as Committed Returns/Assured Returns from the date of execution of the MOU till the time of handing over the actual physical possession to the buyer. In the said projects the purchasers had an option to choose the construction/ time linked payment plan as per which they were required to pay a certain percentage of the sale consideration amount at various stages of construction of the project. Though the Corporate Debtor started paying the committed returns as per the MOU, later they stopped the payment, and finally the buyers approached the NCLT, Delhi with an Application U/s 7 of the I & B Code, 2016, claiming that since there is an assured returns, they will come under the category of ‘Financial creditor”. By Order dated 23.01.2017, NCLT dismissed the application holding that the flat purchasers will not come under the category of ‘financial creditor’ and even the arrears of ‘assured returns’ would not cover the definition ‘financial debt”.

 In the Appeal preferred against the said order, National Company Law Appellate Tribunal (NCLAT), by order dated 21.07.2017 in Company Appeal (AT) (Insolvency) No. 07 of 2017, after scrutinising the consideration of the ‘assured return’ agreement with the purchaser and its treatment in Annual Returns of the Corporate Debtor and the TDS deduction shown in Form No.16-A, held that the 'Corporate Debtor' treated the appellants as 'investors' and borrowed the amount pursuant to sale purchase agreement for their commercial purpose treating at par with 'loan' in their return; thereby, the amount invested by appellants come within the meaning of 'Financial Debt', as defined in Section 5(8)(f) of I & B Code which reads as “any amount raised under any other transaction, including any forward sale or purchase agreement, having the commercial effect of a borrowing”. With the above finding, NCLAT remitted the matter back to the NCLT with a direction to admit the Application for Resolution Process preferred by the flat purchaser under Sec.7 of the Code treating them as ‘Financial Creditors’.

But the above judgment of NCLAT will not help the common flat buyers, because the agreement to pay Committed Return Plan, would available only in rarest of rare situations.

In this context, it is relevant to verify the destiny of some other Flat purchasers in the case C.P No.(IB)-30(PB)/2017 titled Mukesh Kumar & Anr Vs. AMR Infrastructures Ltd, who have filed Application for Corporate Insolvency Resolution Process against the same Corporate debtor (AMR Infrastructures Ltd) under Sec.9 of the Code claiming themselves as “Operational Creditors”. In that case NCLT examined whether the flat buyers will come under the definition of ‘Operational Creditor’ or not. Sec.5(20) defined ‘Operational Creditor’ “means a person to whom an operational debt is owed and includes any person to whom such debt has been legally assigned or transferred”. Sec.5(21) defined the term ‘Operational Debt’ “means a claim in respect of the provision of goods or services including employment or a debt in respect of the repayment of dues arising under any law for the time being in force and payable to the Central Government, any State Government or any local authority.”.

NCLT held that a flat purchaser cannot be treated as ‘Operational Creditor’ within the meaning of Sec.9 of the Code as the debt incurred by the Developer Company has not arisen out of provisions of goods, services or employment. It was further found that flat buyers cannot be treated as ‘financial creditors’ within the meaning of Sec.5(8) of the Code since such debts are not disbursed against the consideration of the time, value of money.

Appeal preferred against the above order along with two similar Appeals were disposed by the NCLAT by its judgment dated 21.07.2017 in Company Appeal (AT) (Insolvency) No.8, 12 and 50 of 2017 titled Rubina Chadha & Anr etc Vs. AMR Infrastructure Ltd. Considering the factual aspect that in Nikhil Mehta case, NCLAT remitted the matter back to NCLT with a direction to entertain the application for resolution process under Sec.7 against the same Corporate Debtor, in the above Appeals, NCLAT refused to decide the question of law that whether a flat buyer who invested his hard earned money for purchasing flat with the Developer Company can be treated as an ‘Operational Creditor’ for the purpose of initiating Insolvency Resolution Process under the I&B Code, 2016 with the following findings;

“The appellants herein, whether they are ‘Financial Creditor’ or ‘Operational Creditor’ or ‘Secured Creditor’ or ‘Unsecured Creditor’, as claim to be creditors are now entitled to file their respective claims before the ‘Interim Resolution Professional’, as may be appointed and the advertisement as may be published in the newspaper calling of such application(s) with regard to resolution of ‘Corporate Debtor’ – AMR Infrastructure Ltd. In such case, their claim should be considered by the Interim Professional (IRP) and the Committee of Creditors, in accordance with the provisions of the ‘I&B Code’.”

While holding so, NCLAT considering the apprehension of the Appellants purchasers that in case if the application under Sec.7 preferred by 'Nikhil Mehta and sons' is dismissed they will be left with no other option, and in that case granted a liberty to the parties to approach the NCLAT again with interlocutory application for recall of the above order for their decision on merit.

A perusal of the above judicial pronouncements shows that still the question whether a flat buyer can approach the NCLT with an application for Resolution Process is not finally determined.

In the above circumstances, in order to protect the interests of common people who used to invest their life savings for accomplishing their dream of own home, it is highly necessary to amend the definition of the term ‘Operational debt’ in Sec.5(21) of the Insolvency & Bankruptcy Code.

As of now the remedy available to the Flat buyers under the Code is to wait till an Insolvency Resolution Process is ordered against such Corporate Debtor (Defaulting Builder) on application preferred by any of its financial/operational creditor or corporate debtor itself under Sec.7, 9 or 10 of Code. Thereafter Flat Buyers have to prefer their claims before the Interim Resolution Professional after public announcement as envisaged in Sec.18(b) of the I & B Code.