- Ravi Sawana, Partner at LKS & Apurva Chaudhary, Associate at LKS.
Objective of the Insolvency and Bankruptcy Code, 2016
The legislation of the Insolvency Bankruptcy Code, 2016 (“Code”) was inter-alia aimed at (i) consolidation and amendment of the laws relating to reorganization and insolvency resolution in a time bound manner and (ii) for maximization of value of assets of corporate debtor to promote entrepreneurship. The re-organisation and re-starting of the business than putting an end to it through liquidation, is the primary objective of the Code. It is based on principles of public interest that facilitate economic growth by ensuring balance of various interests of the stakeholders and that it is a legislation that is meant to be beneficial, and not adversarial to the corporate debtor. It also seeks to protect the new management of the Corporate Debtor from any liability or obligation that would relate to the past periods.
Relevant provisions of the Code
Chapter II of the Part II of the Code deals with the Corporate Insolvency Resolution Process (“CIRP”). It starts with filing of an application for initiation of the CIRP u/s. 7, 9 or 10 of the Code. If such application is admitted, then the Adjudicating Authority u/s. 13 of the Code shall inter-alia, cause a public announcement of initiation of CIRP, calling for claims u/s. 15 and declare a moratorium u/s. 14 of the Code. The moratorium shall be ordered to prohibit, inter-alia, the institution of any proceedings or continuation of any pending proceedings against the corporate debtor, including the execution of any judgement, decree or order. Further, the public announcement u/s. 15 of the Code shall inter-alia notify the creditors to submit their respective claims.
The term ‘claim’ has been defined in the Code to mean a “right to payment” whether secured or undisputed or fixed or legal or equitable. Further, in terms of Section 3(11) of the Code, the “liability / obligation” in respect of such a claim constitutes a ‘debt’ and includes both, a financial and an operational debt.
A ‘creditor’ is simply defined u/s. 3(10) of the Code to mean a person to whom a debt is owed. Consequently, an “operational creditor” is a person to whom an “operational debt” is owed, which means a debt arising from provision of goods or services or a from statutory dues payable to the Central Government, any State Government or any local authority.
During the CIRP, the resolution professional u/s. 29 of the Code shall prepare an “information memorandum” which shall enable the resolution application to prepare and submit a resolution plan. It contains relevant information such as the claims against the corporate debtor. Post approval of the resolution plan by the Adjudicating Authority, it becomes binding on all the stakeholders including the Central Government, any State Government or any local authority to whom statutory dues are owed.
Lastly, it is important to note that Section 238 of the Code provides for the overriding effect of the Code over any other law for the time being in force. That is, the other laws shall not have any overriding effect over the resolution plan.
The ‘clean slate’ principle
Every creditor (including tax authorities) of a corporate debtor is required to file a claim during the CIRP, in respect of the debts owed to it. Such claim is considered by the resolution professional which if accepted, culminates into a ‘resolution plan’. Thus, claims submitted during the CIRP stand settled / frozen and claims not forming part of the resolution plan shall stand extinguished.
If the tax authorities fail to file a claim during the CIRP, such a claim shall stand extinguished upon approval of the resolution plan. It would no longer be enforceable. Post approval of the resolution plan, the successful resolution applicant starts on a “clean slate” without carrying the baggage of past claims against the corporate debtor. The contention stands fortified in the case of Ghanashyam Mishra & Sons (P.) Ltd.
Inter-play between the Income-tax Act, 1961 (‘IT Act’) and the Code:
The proceedings ongoing / completed under the IT Act or tax demands remaining unpaid also have a major impact during the CIRP proceedings. As any other creditor, the income-tax department is also required to submit its claims before the resolution professional. The claims by the tax department against a corporate debtor can arise in following three scenarios. The enforceability of such claims upon approval of resolution plan is discussed below.
a. Cases where the demand pertaining to period prior to approval of a resolution plan stands unpaid
In this scenario, either the corporate debtor has outstanding tax demands pertaining to periods prior to the CIRP or the assessment proceedings are ongoing against the corporate debtor which stands frozen on account of the moratorium.
“Claims” as defined under the Code mean “right to payment” and includes “disputed claims” and “claims that have not been reduced to a judgement”. Hence, any tax dues arising out of any pending assessment or remaining unpaid shall qualify as a ‘claim’. Upon moratorium coming into force, the tax authorities shall not be allowed to take any steps towards the recovery of any tax demands. Such tax claims will have to be submitted to the resolution professional. These claims would then be settled as per the resolution plan (if the claims were submitted during the CIRP) or would stand extinguished (if the claims were not submitted during CIRP). Thereafter, the tax department shall have no recourse to the successor in respect of such tax claims. If the tax is reduced, then the tax authority shall have to issue fresh demand notice under Section 156A of the IT Act in accordance with the order of the Adjudicating Authority.
b. Cases where the demand pertaining to period prior to approval of a resolution plan has been paid under protest and a dispute pertaining to the demand is pending.
In this scenario, an income-tax demand has been raised on a taxpayer who has challenged the same before an appellate authority. However, such tax demand has been paid in full by the taxpayer. The payment of such tax demand shall be considered to have been paid “under protest”, as was held by the Hon’ble Apex Court in the case of Mafatlal Industries Ltd. and later followed by the Hon’ble Delhi High Court in the case of Cisco Systems (India) Pvt. Ltd.
The question is, where such tax demand has been paid and taxpayer is undergoing CIRP, is there no outstanding tax demand and thus, the tax officer would not have any claim to be submitted before the resolution professional. The answer is that such an assumption of tax officer would be incorrect. The payment of tax under protest does not give the tax department any right over such payment. The ‘right over such payment’ subsists until the conclusion of appellate proceedings. Therefore, during the pendency of appellate proceedings, the tax department is still required to submit a claim. Failure to do so shall render such claim of the Government extinguished, after the approval of the Resolution Plan and any demands already paid by the taxpayer shall be refundable to it. This proposition stands fortified by Hon’ble Orissa High Court in the case of Sree Metaliks Ltd..
c. Cases where assessment / re-assessment notices are issued to the successor after the approval of a resolution plan for periods before such approval.
In this scenario, after the approval of resolution plan, the tax department has issued assessment / reassessment notices to the successful resolution applicant in respect of the pre-CIRP periods. No claim with respect to such notices was filed before the resolution professional. The question is whether such notices, issued post the approval of resolution plan, valid.
In the author’s view, No. Once the resolution plan is approved, all the claims pertaining to the period prior to such approval, stand settled /extinguished. No new assessment / re-assessment notices can be issued for such prior periods. The successor shall not be met with any unforeseen liability pertaining to prior periods, which did not form part of the Resolution Plan. The Hon’ble Bombay High Court in Murli Industries Ltd. has approved this.
Conclusion
The Code is a progressive piece of legislation which ensures that a successor, in every possible way, gets a “clean slate”. If the tax demands stand frozen / settled / extinguished, then no recourse is available against the successor. Post the successful resolution of the Corporate Debtor, the tax department is debarred from raising any claims pertaining to past periods. Saddling the successor with past dues of the corporate debtor would not only violate the clean slate principle enshrined in the Code but also defeats its object. The Courts time and again have fortified this proposition. The objective of the Code and the consequent changes in other laws including IT Act, highlights the balanced and concise approach taken to resolve insolvency and promote debt market, ensuring that businesses can emerge from insolvency proceedings with a clean slate.
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