Real Estate & Insolvency Law
Most builder-buyer agreements provide for penalty in case of delays but not termination. The addition of homebuyers as financial creditors has created a peculiar situation which is against the scheme of the IBC.
Rajat Prakash, Managing Partner Athena Legal Siddharth Mahajan, Partner Athena Legal
In view of widespread unrest amongst the buyers, in 2016 the government came up with RERA which governed all aspects of a real estate project. Also in 2016 Insolvency and Bankruptcy Code, 2016 (“IBC”) was enacted to overcome the problem of huge nonperforming assets accumulated with the banks on account of bad loans.
Under IBC, if a company fails to repay an operational debt or financial debt of a minimum of Rs. 1 Lac, an insolvency resolution process can be initiated against the company (“Corporate Debtor”) by financial creditors, operational creditors or the company itself by petitioning the National Company Law Tribunal (“NCLT”).
IBC envisages corporate insolvency resolution process (“CIRP”) leading to the sale of the Corporate Debtor or its liquidation to recover the unpaid debt. Once the CIRP is initiated IBC provides for the suspension of the board of the company, appointment of a Resolution Professional (“RP”) to conduct CIRP and run the company for a period of the CIRP under directions of the Committee of Creditors ( “CoC“). Under IBC the process of the sale of the Corporate Debtor or liquidation has to be completed in maximum of 270 days after the NCLT gives its approval to initiate CIRP. Also read http://realtyplusmag.com/indian-real-estate-how-and-why-a-trillion-dollar-economy/
Subsequent to enactment of IBC various developers were being dragged to NCLT by their creditors with no clarity regarding homebuyers’ rights either as financial or operational creditors and consequently what was their status for repayment? Due to these challenges, the homebuyers were included as a class of Financial Creditors by an Ordinance amending the IBC dated June 6, 2018.
The primary object of the IBC is to turn around the stressed asset by sellig it as a going concern with liquidation being the last resort. To achieve this objective CoC is supposed to be composed of representaives of financial creditors who are the individuals with knowledge of finance and that is the reason even operational creditors have been kept out of the CoC. Addition of homebuyers to CoC has altered this premise of the law
Under amended provisions the money given to real estate companies by homebuyers got the commercial effect of a borrowing and consequently the amounts raised from home-buyers by the developers for real estate projects were brought within the ambit of “financial debt”. This enabled homebuyers to raise their claims under IBC against the developer as financial creditors. Homebuyers could now initiate CIRP and be part of the CoC that has the power to approve resolution plans. Being financial creditors, the voting share of Homebuyers in CoC was proportionate to the financial debts owed to them. Subsequently the Ordinance became law after being passed by the parliament.
Such is the status of the homebuyers that the NCLT has to admit the petition of the homebuyers under section 7 of the IBC even if it is a disputed debt and the homebuyer is himself in default.
Under IBC even one homebuyer amongst several homebuyers in the project can move NCLT to initiate CIRP against the developer. Once the CIRP is initiated the board of the developer company is suspended and the RP takes over the operations of the company while also calling for the bids to take over the company.
Change in management and control of the developer company pursuant to initiation of CIRP is very critical from the perspective of promoters. No promoter wants to lose his / their control over the affairs of the company. Hence, it is imperative that the settlement is reached with the homebuyer(s) moving NCLT before the CIRP is initiated otherwise such settlement can also be reached before the CoC is constituted and claims are called by the RP from other creditors. However, in case the CoC is constituted the CIRP can be withdrawn with the 90% vote by the CoC.
The relationship of the financial creditor is governed with its debtor by an agreement which determines the default which usually is failure to repay the loan i.e. monies however, in cases of builder-buyer agreements nature of default is very different. It is likely that some clarity will emerge about the law once the Supreme Court decides on various challanges against the initiation of CIRP agaisnt various developers. Till such time developers need to be cautious about the initiation of actions under IBC against them.