Examining The Interplay Between Sections 29A And 240A Of IBC: Clarifying The Status Of MSMEs Within Insolvency Resolution Framework

In this article, we analyse the interplay between sections 29A and 240A of the IBC.

1. Introduction

The Insolvency and Bankruptcy Code (hereinafter refer as “IBC”) which is a primarily legislation in India was enacted to resolve the insolvency of the corporate entities in a time bound manner. A clear cut time line has been provided under the code within which the entire process has to be completed. Additionally, since we follow a creditor-in –control model, the insolvency process has to be overseen by the designated professionals like Interim Resolution Professional and Resolution Professionals. It is their bounden duty to preserve the assets of the corporate debtor and keep it as a going concern while the entity is going through the process of insolvency. The role of the erstwhile management of the corporate debtor is negligible in the insolvency process. Furthermore, persons related to the corporate debtor have been kept out of the process so that the CIRP could be conducted in a transparent and fair manner without being influenced by any interested parties. It is in this context, the scheme of section 29A and section 240A has to be analysed and see how they are sub-serving the objectives of the IBC.

2. Rationale Behind Incorporation of Sections 29A and Section 240A

The main motive behind incorporation of section 29A of the IBC is to protect the insolvency process from being contaminated. It restricted the backdoor entry of the erstwhile management of the corporate debtor whose misconduct or mismanagement contributed to the insolvency. It helped protecting the interests of the creditors and maintaining the integrity of the insolvency process.

Per contra, the primary intention behind introduction of section 240A of the IBC was to provide some relaxations to the MSMEs from the shadow of section 29A of the IBC. It was contemplated that the MSMEs are the major driving force of the economy therefore they should not be pushed into liquidation on the ground that no one came forward to resolve the insolvency of these entities. It permitted the promoters of the corporate debtor to submit the Resolution Plan and maintain the continuity of business operations. In this way, it is serving a broader purpose of protecting the viable businesses.

3. Insolvency Committee Report (2018)

The Report of the Insolvency Law Committee which was submitted in March, 2018 recommended that the MSMEs should be exempted from the restrictions laid down under section 29A of the IBC. The committed observed as under:

“(i) in recognition of the importance of Micro, Small and Medium Enterprises (MSMEs) to the Indian economy and the unique challenges faced by them, it has been recommended to allow the Central Government to exempt MSMEs from application of certain provisions of the Code. Illustratively, since usually only promoters of an MSME are likely to be interested in acquiring it, applicability of section 29A has been restricted only to disqualify wilful defaulters from bidding for MSMEs;”

The committee in the above report further observed that :

“27.4 However, given that MSMEs are the bedrock of the Indian economy, and the intent is not to push them into liquidation and affect the livelihood of employees and workers of MSMEs, the Committee sought it fit to explicitly grant exemptions to corporate debtors which are MSMEs by permitting a promoter who is not a wilful defaulter, to bid for the MSME in insolvency. The rationale for this relaxation is that a business of an MSME attracts interest primarily from a promoter of an MSME and may not be of interest to other resolution applicants.”

4. Statutory Framework

Section 29A of the IBC was inserted by the Act No.8 of 2018 w.e.f. 23.11.2017. It lists the persons who are disqualified from submitting a resolution plan during the CIRP of the corporate debtor. The primary aim of this provision is to ensure that specific persons who are responsible for financial distress or misconduct are not given any kind of opportunity to regain control of the distressed assets. It disqualifies persons like undischarged insolvents, wilful defaulters, or promoters of companies with non-performing assets from submitting the resolution plan.

However for the purpose of this article clause (c) and (h) of section 29A of the IBC are relevant. These two clauses do not prohibit the promoters of the corporate debtor from submitting the resolution plan when it comes to the insolvency of MSMEs by virtue of section 240A of the IBC.

The relevant portion of section 29A is reproduced as under:

29A. A person shall not be eligible to submit a resolution plan, if such person, or any other person acting jointly or in concert with such person—

(a) is an undischarged insolvent; (b) is a wilful defaulter in accordance with the guidelines of the Reserve Bank of India issued under the Banking Regulation Act, 1949;

(c) [at the time of submission of the resolution plan has an account,] or an account of a corporate debtor under the management or control of such person or of whom such person is a promoter, classified as non-performing asset in accordance with the guidelines of the Reserve Bank of India issued under the Banking Regulation Act, 1949 [or the guidelines of a financial sector regulator issued under any other law for the time being in force,] and at least a period of one year has lapsed from the date of such classification till the date of commencement of the corporate insolvency resolution process of the corporate debtor:

Provided that the person shall be eligible to submit a resolution plan if such person makes payment of all overdue amounts with interest thereon and charges relating to non-performing asset accounts before submission of resolution plan;

(h) has executed [a guarantee] in favour of a creditor in respect of a corporate debtor against which an application for insolvency resolution made by such creditor has been admitted under this Code 3 [and such guarantee has been invoked by the creditor and remains unpaid in full or part.

Section 240A was inserted in the IBC by Act No.26 of 2018 with effect from 06.06.2018. Section 240A of the IBC provides that clause (c) and (h) of section 29A of the IBC will not be applicable to the MSMEs. This means that Resolution Applicant is not disqualified to submit a Resolution Plan merely on the ground that his account has been classified as Non-Performing Assets (NPAs). Additionally, the applicant is not prohibited from submitting the Resolution Plan just because the debt, for which a personal guarantee in favour of the creditor of the corporate debtor was given, remains unpaid.

Section 240A is reproduced as under:

Section 240A: Application of this Code to micro, small and medium enterprises.

[240A. (1) Notwithstanding anything to the contrary contained in this Code, the provisions of clauses (c) and (h) of section 29A shall not apply to the resolution applicant in respect of corporate insolvency resolution process [or pre-packaged insolvency resolution process] of any micro, small and medium enterprises.

The principle that culls out after reading these two provisions together is that although section 29A of the IBC prohibits the promoters of the corporate debtor from submitting the Resolution Plan during the CIRP, they are qualified to submit the plan with respect to the insolvency process of the MSMEs by virtue of section 240A of the IBC.

Section 240A was inserted subsequent to insertion of Section 29A in the IBC. The clear intendment of Section 240A was to take out applicability of Section 29A, clauses (c) and (h) for micro, small and medium enterprises. The Report of the Insolvency Law Committee, March 2018 also recommended the Central Government to exempt MSME from application of certain provisions of the Code, including Section 29A.

5. Cut Off Date For Claiming Exemption: Interplay Between Section 29A and Section 240A

Having noticed the statutory framework under sections 29A and 240A of the IBC, a major question arises as to whether the date of commencement of CIRP or date of submission of the Resolution Plan has to be considered for claiming exemption under section 240A of the IBC.

The NCLAT in the judgment of Digambar Anandrao Pingle v. Shrikant Madanlal Zawar (Company Appeal (AT) (Ins.) No. 43-43A of 2021 ) highlighted the interplay between section 29A and section 240A. In this case, the question before the tribunal was whether the benefit of section 240A of the IBC could be given to the promoters of the corporate debtor when MSME certificate was obtained after the commencement of the CIRP. The tribunal observed that the benefit cannot be extended to them as it would allow the erstwhile management to regain control of the business. And this would lead to breaching the discipline of the insolvency process.

This decision was overruled by the Supreme Court in Hari Babu Thota (Civil Appeal No.4422/2023) wherein the court held that the tribunal had not laid down a correct law.

The Supreme Court in the case of Hari Babu Thota (Supra) discussed in detail the section 240A of the IBC. The court noted that this section exempts the promoters of the MSMEs from application of section 29A of the IBC. They are very much entitled to submit the resolution plan with respect to the insolvency process of the MSMEs.

The Supreme Court in the above case also perused the language used in the section and observed that the relevant date for determining whether the resolution applicant qualifies to be exempted is the date of submission of the resolution plan. The court further observed that even if the corporate debtor is registered under the MSME Act after the commencement of the CIRP, the resolution applicant cannot be disallowed to submit the plan if they satisfy the conditions under both sections 29A and 240A at the time of submission of the plan.

The court held that “we certainly can look to the statement of the Minister for purposes of a cut off date that “there is no other specific provision providing for cut off date” which submits that it should be the date of application of making a bid. Thus, to opine that it is the initiation of the CIRP proceedings which is the relevant date, cannot be said to reflect the correct legal view and thus, we are constrained to observe that the law laid down in Digambar Anand Rao Pigle (supra) case by the Tribunal is not the correct position in law and the cut off date will be the date of submission of resolution plan.”

The Supreme Court while interpreting section 29A of the IBC further held in the case of Arcelormittal India (P) Ltd. Vs. Satish Kumar Gupta (2019) 2 SCC 1 that the relevant date for ascertaining whether a resolution applicant is disqualified from submitting a resolution plan is the date of submission of the plan and not the date of commencement of the CIRP. The court in the above held as under:

“According to us, it is clear that the opening words of Section 29-A furnish a clue as to the time at which clause (c) is to operate. The opening words of Section 29-A state: “a person shall not be eligible to submit a resolution plan…”. It is clear therefore that the stage of ineligibility attaches when the resolution plan is submitted by a resolution applicant.”

The Supreme Court in Arcelormittal India (P) Ltd.(Supra) further adverted to the Report of Insolvency Committee wherein it was observed that:

“In relation to applicability of Section 29-A(c), the Committee also discussed that it must be clarified that the disqualification pursuant to Section 29-A(c) shall be applicable if such NPA accounts are held by the resolution applicant or its connected persons at the time of submission of the resolution plan to the RP.”

This interpretation was later affirmed by the Parliament by incorporating the phrase “at the time submission of resolution plan” into section 29A in 2018.

Thus, the upshot of this discussion is that the relevant date for assessing whether the Resolution Applicant qualifies to be exempted under section 240A is the date of submission of the Plan.

6. Conclusion

Section 240A was incorporated into the IBC to give some respites to the MSMEs. While section 29A of the IBC disqualified some persons from bidding in the CIRP of the corporate debtor, this particular section carved out an exception to this rule and permitted the promoters of the of the MSMEs to bid for their own businesses during insolvency process.

The recommendations of the Insolvency Committee based on which this section was added into the IBC reasoned that it was important to provide some relaxations to the MSMEs due to their pivotal role in running the economy. It is crucial also to serve the objectives of the IBC that is to revive the corporate entity. If the promoters are not allowed to participate in the bidding process, it would lead to the death of the corporate entity. Additionally, the purpose of the IBC to protect the distressed entities from being liquidated would be defeated if the benefit of section 240A of the IBC is not given to the corporate debtor.