With wilful defaulters and the enormous stockpile of non-performing assets on the books of public sector banks making headlines every day, several commentators have made hopeful references to the impending new insolvency legislation. The finance minister recently stated that the Insolvency and Bankruptcy Bill is likely to be passed in the second half of the Budget session and attributed many of the debt recovery challenges faced by public sector banks to the lack of a sound insolvency law framework.
But how far is the new legislation likely to go in addressing these challenges? The Bill has a number of helpful provisions for tackling large loan defaults. First, it enables the early detection of financial distress by allowing any creditor to commence an insolvency proceeding the moment a default occurs. This is in contrast to the current scenario where principal or interest on a loan needs to be unpaid for at least 90 days from its due date to be classified as an NPA. Second, the Bill contains very strict timelines for each step in the insolvency resolution process. Subject to a few exceptions, a resolution plan needs to be approved within 180 days, failing which the company goes into liquidation. Third, it enables an investigation into the affairs of the insolvent debtor and the setting aside of fraudulent, undervalued or extortionate credit transactions that occurred in the lead-up to the insolvency. There are also penalties for concealing information, misrepresentations and defrauding creditors during the insolvency resolution process.
The list above could go on. However, the success of any law lies in the ease with which it lends itself to implementation. And, as it stands now, there is insufficient clarity on the road map for implementation - including, most importantly, how the institutional architecture that the Bill contemplates is to be established.
The implementation of the new law is premised on the establishment of three institutions that currently do not exist - a regulator to be named the Insolvency and Bankruptcy Board of India (the "Board"), a new profession of insolvency professionals who are to be registered and regulated by insolvency professional agencies ("IP Agencies") and information utilities that are designed to store and release information on debts and defaults. While it is understood that these institutions would take time to mature and develop, the new legislation should, at a minimum, specify certain things about their functioning to provide a starting point for implementation.
First, let us think about the new regulator. The Bill vests the Board with wide-ranging powers. These powers include regulating insolvency professionals, insolvency professional agencies and information utilities, by laying out the eligibility requirements and standards for their functioning, carrying out investigations, and monitoring their performance. However, despite this vital role, the Bill does not necessarily envisage that the regulator will be established at the time the new law comes into effect! Section 195 of the Bill alerts us to the possibility that another financial sector regulator may perform the Board's functions if the Board is not established by this date. This could spell disaster for the effectiveness of the new law, as it is extremely unlikely that an interim regulator would frame the various regulations that the Board has been tasked with. Ideally, the Board should be in place well before the new law comes into effect, to allow sufficient time for it to develop a regulatory framework for implementation.
Second, the transition process for moving from the current legal framework to the new law needs to be thought through. The Bill needs to say which institutions will necessarily have to be operational at the time the new legislation comes into effect. To the extent that some institutions need more time to develop, it must specify the timeframe within which these institutions must be functional and the interim measures that would be in place until this point. For example, insolvency resolution professionals don't exist as a profession today. As it is likely to take time to administer their examination and develop a sufficiently large pool of such professionals, could individuals or firms with other professional qualifications (such as lawyers or chartered accountants) perform the role of insolvency resolution professionals as an interim measure? Until information utilities are established and have robust procedures for gathering, storing and disseminating information on defaults, could any other body perform their function?
Third, the two tribunals that are to hear insolvency and bankruptcy cases - the National Company Law Tribunal ("NCLT") for corporations and the Debt Recovery Tribunals ("DRTs") for individuals - have their own set of problems. The NCLT is yet to become operational and the DRTs are, by all accounts, clogged with high case pendency. Both these tribunals would also continue to hear cases under their existing mandates in addition to those under the new law. This might not be an issue that can be fixed through the legislation, but the government must ensure that the NCLT becomes operational and increase the infrastructure and resources of both these tribunals if they are to hear insolvency cases in the efficient and time bound manner that the Bill envisages.
Countries the world over differ widely in the legal frameworks they have adopted for insolvency and bankruptcy. The US has what is widely acknowledged to be a debtor-friendly regime; the administrator-led system in the UK is more creditor-friendly; while the insolvency regimes in continental Europe fall somewhere in between these two models. However, studies have shown that ultimately the effectiveness of an insolvency regime depends not so much on the specific path the law decided to take, but on whether it is backed by strong institutions for implementation. It is for this reason that the thinking about implementation must be part of the law-making process rather than an afterthought whose details can be sorted out later. The new insolvency legislation has clear and detailed substantive provisions on the insolvency and bankruptcy resolution processes. A little more thinking on the institutional provisions would go a long way in ensuring that implementation does not get off to a false start.
The writer is a Bangalore-based lawyer and was a member of the Bankruptcy Law Reform Committee. The views expressed are personal