Related Party Prohibited From Participating In CoC, Cannot Overcome Bar Merely By Assignment Of Debt: NCLT Mumbai

Brief Facts

The corporate debtor was admitted into insolvency on October 13, 2023. Before the initiation of CIRP, a financial assistance to the tune of Rs. 3,48,742 was provided to the corporate debtor by Rolta Pvt. Ltd, a related party. Thereafter, an agreement was executed between the applicant and the related party on November 11, 2023 in which the debt was assigned to the applicant by the related party for a consideration of Rs. 3,25,000. Subsequently, a claim for the assigned debt was filed by the applicant before Resolution Professional (RP) who admitted it and categorised the applicant as an unsecured financial creditor. But voting rights to the applicant were denied on the ground that the debt was assigned by a related party.

The applicant filed an interlocutory application in which directions to attend CoC meetings and receive all notices of future meetings were claimed. It was contended that assignment of debts transferred all rights in the debt including participation in the CoC.

NCLT's Analysis

The NCLT carefully analysed the arguments of the applicant and observed that bar created under section 21(1) of the IBC on the related party from participating in the meetings of CoC is integral to the IBC which cannot be altered by an assignment of debt. The prohibition on assignor's rights will remain intact even if the rights are transferred to a third party. The tribunal further observed that one cannot transfer better title than what they possess therefore if assignor is prohibited from participating in the meetings of the CoC, assignee will also be restricted from exercising this right. It was observed as under:

“As is the settled principle of law that “one cannot assign a better right or title that he himself possess”. Thus a related party having a bar of not being allowed to be part of CoC cannot get over the said bar merely by assignment. The assignment of debt will carry the prohibition or bar which were there in the hands of related party. Assignment is transfer of one's rights to recover debt to another person and that the rights of the Assignee are no better than that of an Assignor. Thus, the Assignee does not get the right to change its status from a related to an unrelated party merely by the assignment of the debt”.

The NCLT further noted that relationship between assignor and corporate debtor is crucial at the time of assigning the debt. Since, the assignor was prohibited from exercising rights in the meetings of the CoC due to restrictions on related party under section 21(1) of the IBC, same restrictions will be inherited by the assignee. The tribunal held as under:

“Thus, it is evident that firstly the bar is because of the relationship of the parties and secondly the bar is on the person who's holding the debt and not the nature of the debt per-se. That is precisely the reason why the RP has in fact admitted the debt but not allowed the Applicant to be a member of CoC which seems to be justifiable in view of the objective of the law”.

The NCLT relied on the Supreme Court Judgment in Phoenix ARC Pvt. Ltd. v. Spade Financial Services Ltd wherein it was held that the objective of the IBC is to prevent related party from influencing the CIRP. Related party cannot be allowed to participate in the meetings of the CoC as it would create conflict of interest. Restrictions have also been imposed because it ensures that the CIRP is conducted in a fair and transparent manner. It was held as under:

“The Hon'ble Supreme Court in Phoenix ARC Pvt. Ltd. Vs. Spade Financial Services Ltd. (2021) (3) SCC 475 in fact while appreciating the Insolvency Law Committee Report and quoting from the same has held that the objective is to prevent erstwhile promoters and other related parties of the Corporate Debtor from gaining control of the Corporate Debtor during the CIRP by virtue of any loan that may have been provided by them. It is evident that the objective is to exclude a related party of the Corporate Debtor from the CoC so as to obviate the conflict of interest that may arise if a related party is allowed to become a part of CoC. Thus, the Hon'ble Supreme Court held that the true test for determining whether the exclusion in the first proviso to Section 21(2), applies must be formulated in a manner which would advance the object and purpose of the Statute and not leads to its provision being defeated by indigenous strategies. The Hon'ble Court also held that if the definition of the expression “related party under Section 21(24) applies at the time when the debt was created, the exclusion in the first place to Section 21(2) would stand attracted”.

Conclusion

The NCLT concluded that the assignee was not entitled to participate in the meetings of the CoC because the debt had been assigned to him by a related party. Same restrictions that are imposed on the related party will be applicable on the assignee therefore the assignee cannot be allowed to participate in the meetings as well. Accordingly, the present application was dismissed.

Case Title: Greenshift Initiatives Pvt. Ltd.v.Sonu Gupta (RP)

Court: National Company Law Tribunal, Mumbai

Case Reference: I.A. 331 of 2024 in C.P.(IB) No. 1122/MB/2021
Judgment Date: 13/08/2024

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