A secured creditor, as defined u/S. 3(30) of the Insolvency and Bankruptcy Code, 2016is a creditor in favour of whom security interest is created. Once the Corporate Insolvency Resolution Process (CIRP) is initiated against a corporate debtor, a moratorium is imposed u/S. 14 of the Code and the secured creditor is prohibited from enforcing its security interest. However, if no resolution is reached and liquidation proceedings are initiated u/S. 33 of the Code, the rights of the security creditor are restored.
Section 52(1) of the Code provides two ways in which a secured creditor can advance its position towards realising its security interest. A secured creditor in the liquidation proceedings may—
(a) Relinquish its security interest to the liquidation estate and receive proceeds from the sale of assets by the liquidator in the manner specified in section 53; or
(b) Realise its security interest in the manner specified in this section.
If the secured creditor relinquishes its security interest under clause (a), the security interest becomes part of the liquidation estate u/S. 36(3)(g) of the Code and the proceeds from the sale of such liquidation assets shall be distributed in the manner provided u/S.53. U/S. 53(1), debts owed to a secured creditor who relinquishes its security interest are ranked second, next only to the insolvency resolution process costs and the liquidation costs and pari passu to the workmen’s dues for the period of twenty-four months preceding the liquidation commencement date.
Alternatively, a secured creditor may not relinquish its security interest to the liquidation estate and opt-out of the liquidation proceedings under clause (b). The same has been observed in the case of Anuj Bajpai (Liquidator) v. State Bank of India. If the secured creditor opts out of the liquidation proceedings, the secured interest does not form part of liquidation estate and the creditor may enforce, realise, settle, compromise or deal with the secured assets in accordance with the applicable law and apply the proceeds to recover the debts due to it (Sec. 52(4)). In such realization, the creditor is permitted to seek facilitation of the Adjudicating Authority in accordance with law for the time being in force (S. 52(5)).
The decision of opting out of liquidation may give rise to implications that can turn out to be either lucrative or unprofitable. If the secured creditor opts out of the liquidation proceedings, one of the following two conditions may arise:
- The secured creditor realises the security interest and is able to recover the debts due to it, with or without surplus.
In such a scenario, the secured creditor exercising is not liable to pay the liquidation cost since it realises the security interest on its own. The Liquidator is naturally not entitled to raise fees for the services not rendered. The same has been upheld by the NCLT In the decision rendered Asmi Enterprises v. Yog Industries Limited.
As per S.52(8), the insolvency resolution process costs, due from secured creditors who do not relinquish their security interest, shall be deducted from the proceeds of any realisation by such secured creditors, and they shall transfer such amounts to the liquidator to be included in the liquidation estate.
This implies that the secured creditor who opts to stay out of the liquidation estate has to bear the “CIRP cost” but not the “Liquidation Cost”.
Moreover, u/S. 52(7) if the secured creditor yields an amount by way of proceeds from the enforcement of its secured assets which is in excess of the debts due to it, such shall account and tender to the liquidator for such surplus funds. This also implies that if there are two or more secured creditors having security interest over the same secured asset, only one of them can enforce its right over the asset. This is because, after the realisation of interest by one of them, it is bound to tender any excess to the liquidator. Any other secured creditor cannot subsequently enforce its right to realise the same secured asset. The same has been observed by the NCLAT in JM Financial Asset Reconstruction Company Ltd. v. Finquest Financial Solutions Pvt. Ltd.. The secured creditor having the first charge over the asset will have the right to realise the interest in such a situation.
- The Secured creditor is unable to recover debts owed to it from the proceeds of the realisation of the secured assets.
Section 52(9) of the Code provides that where the proceeds of the realisation of the secured assets are not adequate to repay debts owed to the secured creditor, the unpaid debts shall be paid by the liquidator in the manner specified in S. 53(1)(e).
As per the manner u/S. 53(1), when a secured creditor enforces security interest outside liquidation, then any debt amount left unpaid following such enforcement is ranked fifth in the waterfall mechanism, that is, after the payment of unsecured creditors and at par with the Government dues.
Herein, it is pertinent to note that Liquidation cost is to be borne by the recipients enlisted in the waterfall mechanism u/S. 53(1) of the Code. S.53(3) provides that the fees payable to the liquidator shall be deducted proportionately from the proceeds payable to each class of recipients under sub-section (1), and the proceeds to the relevant recipient shall be distributed after such deduction. Therefore, if the secured creditor is unable to recover the debt owed to it and resorts to the proceeds from the sale of the liquidation assets for the repayment of the residual amount then it becomes a recipient u/S. 53(1)(e) and shall bear both the CIRP Cost and the Liquidation cost.
[Priya Agarwal is a 5th year student at RMNLU, Lucknow and Riya Agarwal is a 4th year student at VIPS, Delhi. The authors can be reached at priyaagarwal1411@gmail.com.]
NUALS Restructuring and Insolvency Law Journal 