‘Factoring Business’ is defined under The Factoring Act, 2011 as “the business of acquisition of receivables of assignor by accepting assignment of such receivables of financing, whether by way of making loans or advances or in any other manner against the security interest over any receivables.”[1]Invoice factoring is a financial transaction, wherein a company sells its account receivable (invoice) to a third party (called a factor), at a discount. Factoring invoices are also used to mitigate credit risk. The Insolvency and Bankruptcy Code, 2016 (hereinafter, “the IBC”) did not explicitly mention an invoice factoring transaction between parties under the definition of financial debts. Such transactions are evidently growing in India and thus, it is pertinent to look into the current position of law and determine the scope of financial debts under the IBC to specifically ascertain whether invoice factoring falls within its ambit.
A brief series of decisions have been rendered on this issue and therefore it is important to look into them before further discussing the scope of financial debts under the IBC. In the case of Katragadda Narayan Rao v. Avanti Leathers Ltd., the NCLT, Amravati, relied on a commentary published by Wadhwa Law Chambers, to observe that interest paid in the form of money as well as factoring and discounting of payment are included in the definition of financial debt. Furthermore, in the matter of IFFCO Tokio General Insurance v. SKC Retail Ltd., the NCLT, Chennai, allowed commencement of CIRP in relation to a bill factoring agreement sans deeming it necessary to delve into the issue of its interpretation as financial debt in the first place. Similarly, in IFCI Factors Ltd. v. Ramswarup Industries[2], the Hon’ble Delhi High Court, while dealing with a question in relation to moratorium under section 14 of the IBC, did not explicitly debate on the issue of the bill factoring facility falling within the scope of financial debt.
Therefore, noticeably, the Indian courts and tribunals were not faced with any issue in categorising factoring transactions as forming part of the financial debt. However, to better appreciate the stance of the Indian judiciary, it is necessary to analyse the term ‘financial debt’ from the lense of expert committees’ opinions as well as certain landmark judgements.
‘Financial debt’ is defined under Section 5 (8) of the IBC as follows;
“Financial debt means a debt along with interest, if any, which is disbursed against the consideration for the time value of money and includes-
(e) receivables sold or discounted other than any receivables sold non-recourse basis;
(f) any amount raised under any other transaction, including any forward sale or purchase agreement, having the commercial effect of a borrowing; ”
Interpretation of Section 5(8) of the IBC
According to the Report of the Insolvency Law Committee, published in March 2018, the definition of ‘financial debt’ under Section 5(8) of the Code is inclusive and not exhaustive as it uses the word “includes”. Thus, it is not limited to only the kinds of financial debts illustrated therein. Moreover, the words “time value of money” have been interpreted to mean compensation or the price paid for the length of time for which money has been disbursed. This could be in the form of interest paid on the money or factoring of a discount in the payment.
In the case of Dr. B.V.S Lakshmi v. Geomatrix Laser Solutions (P) Ltd., the NCLAT held that to be considered to fall within the definition of ‘Financial Debt’ as defined under Section 5(8), the claimant has to show that:
a) There is a debt along with interest, if any, which has been disbursed and
b) Any such ‘disbursement’ has been made against the ‘consideration for time value of money’.
Therefore, if the Claimant claims to be a ‘Financial Creditor’ he/she would be required to show that the due debt is one which he/she has disbursed against the ‘consideration for the time value of money’ and the borrower has raised the amount directly or through other means like credit facility or its de-materialized equivalent, note purchase facility or the issue of bonds, notes, debentures, loan stock or any other similar instrument.
The judgement held that to show that there is a debt due which was disbursed against the consideration of time value of money, it is not necessary to show that the amount has been disbursed to the ‘Corporate Debtor’. A person can show that the disbursement has been made against the ‘consideration for time value of money’ through any instrument.
It is clear through the above interpretation that the phrase ‘time value of money’ holds a lot of prominence to understand the scope of the definition of ‘Financial Debt’ under Section 5(8) of the IBC. In an early landmark judgement, concerning the fairly novel Insolvency and Bankruptcy Code, 2016, titled Nikhil Mehta and Sons v. AMR Infrastructure Ltd. the concept of ‘time value of money’ was elaborated by the NCLAT in the following words:
“The key feature of financial transaction as postulated by Section 5(8) is its consideration for the time value of money. In other words, the legislature has included such financial transactions in the definition of ‘Financial debt’ which are usually for a sum of money received today to be paid for over a period of time in a single or series of payments in the future.”
The judgement passed in Nikhil Mehta’s case was approved by the Supreme Court of India in Pioneer Urban Land and Infrastructure v. Union of India.This judgement, passed in the year 2019, could hold major jurisprudential value in the future cases relating to understanding the scope of ‘Financial Debts’ under the IBC. Among other things, it was held in this case that “not all forward sale or purchase are financial transactions, but if they are structured as a tool or means for raising finance, there is no doubt that the amount raised maybe classified as financial debt under Section 5(8)(f).”
Lastly, in Anuj Jain v. Axis Bank, the Apex Court of India observed that any transaction which has the “commercial effect” of a borrowing shall be subsumed within clause (f) of Section 5(8).
Conclusion: Factoring Transactions fall within the definition of Financial Debt under the IBC
Given the above interpretation of Section 5(8) by the Report on Insolvency Law Committee, 2018 and the various judicial pronouncements discussed, it is firmly established that Factoring Transactions fall within the purview of the definition of ‘Financial Debt’ under the IBC. Particularly the phrase “disbursed against the consideration for time value of money” has been interpreted to include transactions pertaining to factoring or discounting of payment. Moreover, clause (e) of Section 5(8), IBC includes ‘receivables discounted’ within the scope of financial debt. Thus, factoring transactions such as invoice factoring can be included within the ambit of the definition of financial debt.
Therefore, it can be safely concluded that factoring transactions, including invoice factoring, can fall within the ambit of financial debt as defined under Section 5(8)(e) and Section 5(8)(f) of the IBC. This interpretation has largely been derived from various judicial decisions which have enlarged the scope of the definition of financial debt, in consonance with the legislative intention of providing for a wide and inclusive definition of the same. Nevertheless, this issue of factoring transactions as financial debt can come up more specifically before the courts in the future and a judgement setting up a meticulous precedent, which may or may not coincide with the understanding presented in the present Article, will be a welcome step in taking the discussion under IBC forward.
[Mrinal Bhatnagar is a final-year student at Symbiosis Law School, Pune. She can be reached mrinal.bhatnagar@symlaw.ac.in.]
[1] S. 2(j), The Factoring Regulation Act, 2011, No. 12, Acts of Parliament, 2011 (India).
[2] IFCI Factors Ltd. v. Ramswarup Industries, MANU/DE/2450/2019.
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