ASSIGNMENT SUMBITTED TO VIT SCHOOL OF LAW,

VIT UNIVERSITY, CHENNAI.

Keshav Priya S
Reg. No: 23LCL1001

Case Analysis: Lalit Kumar Jain vs. Union

of India.

Assignment Submitted To

Prof. Jayandra Kasture

Assistant Professor

VIT School of Law,

VIT Chennai

(2023)
Case Analysis: Lalit Kumar Jain vs. Union of India.

Forum: Supreme Court of India

Bench: Justice L. Nageswara Rao and Justice S. Ravindra Bhat.

Case No/Citation: Transfer Case (Civil) No. 245/2020, 2021 SCC OnLine SC 396.

In what came as a landmark judgment, the Hon'ble Supreme Court upheld the Notification
dated 15th November 2019 passed by the Central Government, which allows creditors to
initiate insolvency proceedings against personal guarantors, i.e., the bankers can pursue
insolvency proceedings against promoters, guarantors, etc. of defaulter companies
simultaneously or after the conclusion of the Corporate Insolvency Resolution Process
("CIRP") under the Insolvency and Bankruptcy Code, 2016 ("Code").

Background of the case:

The judgment was passed on a common question of law arising out of the various petitions
that were filed by defaulting promoters of companies such as Bhushan Power and Steel,
Reliance Communications, Bhushan Steel and Punj Lloyd in various High Courts under
Article 226 of the Constitution of India.The Apex Court transferred[iii] all these cases to
itself to decide on the common question of law relating to the validity of the notification.

Prior to the said notification which was challenged by the petitioners, the jurisdiction for
initiating insolvency and bankruptcy proceedings against Personal Guarantors vested with the
Debt Recovery Tribunal. While the notification was welcomed amongst the creditors on
account of greater accountability of the Personal Guarantors, various writ petitions were filed
in different High Courts challenging the said notification and the associated rules thereto.

Issue Raised:

The issue that was raised by the various petitioners, who being either directors, or promoters,
or in some instances chairman or managing directors was that the Government could not have
selectively brought into force the Code and applied some of its provisions to only one sub-
category of individuals, i.e., personal guarantors to corporate creditors.
Arguments by the Petitioners:

It was contended by the petitioners that the notification issued by the Central Government
was an act of ‘excessive delegation’ and that the Central Government did not have any
authority - legislative or statutory – to impose conditions on the enforcement of the Code. It
was further contended as a corollary, that the enforcement of Sections 78, 79, 94-187, etc. of
the Code in terms of the impugned notification solely in relation to personal guarantors is
ultra vires the powers granted to the Central Government.

Further, it was argued that according to Section 1(3) of the Code[v] the government cannot
selectively choose to make the insolvency proceedings made applicable only to the personal
guarantors. Thus, the power delegated under Section 1(3) is only as regards the point(s) in
time when different provisions of the Code can be brought into effect and that it does not
permit the Central Government to notify parts of provisions of the Code, or to limit the
application of the provisions to certain categories of persons. The notification, however,
notified various provisions of the Code only in so far as they relate to personal guarantors to
corporate debtors, therefore, being ultra vires to the proviso to Section 1(3) of the Code.

This argument was premised on the nature and content of Section 1(3), which the Petitioners
characterize to be "conditional legislation". Unlike delegated legislation, they say, conditional
legislation is a limited power which can be exercised once, in respect of the subject matter or
class of subject matters. As long as different dates are designated for bringing into force the
enactment, or in relation to different areas, the executive acts within its powers. However,
when it selectively does so, and segregates the subject matter of coverage of the enactment, it
indulges in impermissible legislation.

Further, the petitioners argued that the Central government did not bring into effect Section
243 of the IBC which would have repealed the only two Acts under which the insolvency
proceedings against an individual could be initiated. Therefore, now there were two self-
contradictory legal regimes for insolvency of the personal guarantors.

Moreover, it was also argued that the liability of a guarantor is co-extensive with that of the
principal debtor. However, the impugned notification allows creditors to unjustly enrich
themselves by claiming in the insolvency process of the personal guarantor as well in that of
the corporate debtor. Initiating proceedings against the corporate debtor as well as the
personal guarantor to a corporate debtor would amount to a "double recovery" which is
impermissible under the Code. Thus, since the claims against the principal debtor are
extinguished upon the conclusion of the insolvency process, any liability owed by its
guarantors must also be extinguished, being coextensive by virtue of Section 128 of the
Indian Contract Act, 1872.

Counter Arguments by the Respondents:

On the other hand, the Union of India being the respondents argued that the Parliament
always wanted to deal with personal guarantors differently from partnership firms and
proprietorship firms, and other individuals and this can be seen from the amendments done in
2018, whereby IBC was amended to include three classes of debtors, which were personal
guarantors to the corporate debtor[vii], partnership firms and proprietorship firms[ix] and
individuals.[x] Thus the respondents submitted that there had been a clear distinction between
personal guarantors to corporate debtors from partnership/proprietorship firms and other
individuals.

Along with this, even Section 60(2) was also amended to include the words a "corporate
guarantor or personal guarantor as the case may be". Thus, implying that, a personal
guarantor could be subjected to insolvency proceedings which could be resolved and decided
by the NCLT.

It was contended by the respondents that; Section 1(3) of the IBC calls for flexibility during
its interpretation to better implement the objectives of the IBC. Further reliance was placed
on numerous decisions such as Basant Kumar Sarkar v. Eagle Rolling Mills Ltd.[xi] and
Bishwambhar Singh v. State of Orissa, to show that a stage-wise implementation was valid
and not ultra vires as it helps in understanding the impact that is caused by the
implementation.

Judgement:

The Supreme Court looking at contentions of both sides held that the Notification is not an
instance of 'legislative exercise', or amounting to impermissible and selective application of
provisions of the IBC. There is no compulsion in the IBC that it should, at the same time, be
made applicable to all individuals, (including Personal Guarantors) or not at all. The Central
Government envisaged a stage-by-stage induction of the Code keeping in mind the object and
purpose of the Code, which is permissible in law.
The Supreme Court stated that looking at the previous amendments it can be said that they
were brought with the objective of furthering and strengthening the objectives of the IBC.
The Apex Court also observed that even in the unamended IBC prior to 2018, the
adjudicating authority for insolvency and liquidation for corporate persons, including
corporate debtors and personal guarantors, was NCLT.

Thus, the Supreme Court observed that the forum for adjudicating insolvency processes must
be common, i.e., the NCLT, in order to look at the complete picture about the nature of the
assets available, either during the corporate debtor's insolvency process or even later.
Moreover, keeping in mind the intimate connection between personal guarantors and
corporate debtors, allowing insolvency proceedings in separate forums in relation to the
aforementioned parties could lead to uncertain outcomes which will defeat the purpose of the
Code.

The Supreme Court further held that "the sanction of a resolution plan and finality imparted
to it by Section 31 does not per se operate as a discharge of the guarantor's liability." Relying
upon its earlier decisions[xiii], the Supreme Court noted that "the release or discharge of a
principal borrower from the debt owed by it to its creditor, by an involuntary process, i.e. by
operation of law, or due to liquidation or insolvency proceeding, does not absolve the
surety/guarantor of his or her liability, which arises out of an independent contract". The
Supreme Court relied upon a UK judgment[xiv] to explain that a creditor can proceed against
either the corporate debtor or the surety or both. It was observed that the approval of a
resolution plan does not ipso facto discharge a Personal Guarantor (of a corporate debtor) of
her or his liabilities under the contract of guarantee.

The Supreme Court further noted that Section 243, which provides for the repeal of the
personal insolvency laws has not been notified. It was noted that Section 238 gives the IBC
an overriding effect over the other prevailing enactments and maybe this is the rationale for
not notifying Section 243. Section 243(2) saves pending proceedings under PTI Act and PIA
Act[xv] and if Section 243 is notified, the impugned notification would not cover proceedings
which are pending against personal guarantors in other forums, thereby defeating the purpose
of bringing the proceedings under the scope of adjudicating authorities/IBC.
Analysis of the Case:

This judgment is perceived as a welcome move by creditors, who may now recover their dues
from both the corporate debtor and the personal guarantor thereof under one forum
simultaneously. Further, now even if any creditor wants to proceed against the personal
guarantor to the corporate debtor following the CIRP of the latter, it shall be permissible
under the IBC, as the judgment clearly lays down that the resolution plan does not extinguish
the guarantors' liability. However, when viewed from a different perspective, the effect of this
judgment will necessarily result in disincentivizing individual personal guarantors from
extending a guarantee cover to the corporate debtors.

Further, in view of this judgment passed by the Supreme Court as well as by the NCLAT in
Lalit Mishra & Ors. v. Sharon Bio Medicine Ltd. & Ors, the right of subrogation available to
the personal guarantor, ceases to exist in furtherance of the larger purpose of the Code to
revive corporate entities.

The aforesaid right of subrogation is an essential principle of law fo guarantee and is

envisaged in the Contract Act under Section 140 which states that "Where a guaranteed debt
has become due, or default of the principal - debtor to perform a guaranteed duty has been
taken place, the surety, upon payment or performance of all that is liable for, is invested with
all the rights which the creditor had against the principal – debtor". Thus, cessation of this
right would adversely affect a personal guarantor, thereby, leaving him/her virtually
remediless if the resolution plan (which is approved by the COC) envisages extinguishment
of the personal guarantor's right of subrogation. For instance, the NCLT has in the past
approved of resolution plans extinguishing such rights of personal guarantors in State Bank
of India v. Calyx Chemicals & Pharmaceuticals Limited[xvii], and IDBI Bank Ltd. v. EPC
Constructions India Limited.

The Supreme Court has hence selectively applied the principle of guarantee, stating that the
Code, under Section 238, is equipped with overriding powers vis-à-vis other statutes. The
resultant situation is that while the liability of a personal guarantor under the Contract Act is
retained, his corresponding right is restricted, which goes against established general
principles of law and equity, and would amount to 'unjust enrichment' by the corporate
debtor.
Conclusion:

The judgment is a welcome move for the creditors as the same has been passed keeping in
mind the objectives of the IBC. This judgment gives NCLTs the jurisdiction to deal with
personal guarantors of corporate debtors alongside the CIRP proceedings of corporate
debtors/principal borrowers, thereby having a more comprehensive system in place for the
recovery of debts. The combined process would also ensure that those responsible do not
skirt their liabilities, which was previously possible due to the separate frameworks that
existed for recovery of dues from borrowers and their guarantors.

In contrast, the position as settled by the Supreme Court in the present judgment, in order to
benefit creditors, has left personal guarantors in a precarious position. The Supreme Court in
Swiss Ribbons Private Limited v. Union of India[xix], noted that the object and purpose of
the Code is to ensure the revival of the corporate debtor and have warned against using the
Code as a mere 'recovery tool'. However, the present 'creditor-centric model' has led to just
that, at the cost of general principles of contract and law. The Code has thus become virtually
a tool benefitting the creditors by allowing them to proceed against the personal guarantor for
recovery of their dues without providing the corresponding right of subrogation to the
personal guarantor. Further, the creditors themselves, through the committee of creditors
(CoC) are the ones approving the resolution plan under Section 30 of the Code, which would
leave the guarantor with no recourse if his contractual rights are extinguished.