The legal complexities surrounding initiation of corporate insolvency resolution process (“CIRP”) against borrowers and guarantors has attained some conclusion through judicial pronouncements over the years. However, the treatment of live or uninvoked bank guarantees (“BGs”) given on behalf of corporate debtors undergoing CIRP is still nebulous. This article examines this issue in light of the ever-evolving jurisprudence under the Insolvency and Bankruptcy Code, 2016 (as amended) (“Code”) and discusses the challenges coloured with CIRP of a corporate debtor tossed in with the recommendations made by the Insolvency and Bankruptcy Board of India (“IBBI”). 

What does the legislation provide?

The Code or the applicable regulations do not contain any direct provisions as regards treatment of uninvoked BGs which may address this issue pending CIRP of the corporate debtor. Consequently, one has to rely on the existing framework to ascertain the treatment of uninvoked BGs during CIRP. 

IBBI had issued a Discussion Paper dated 27th August 2021 (“Discussion Paper”), inter alia addressing the issue of ‘Treatment of live bank guarantees and line of credit as claims in a CIRP’. The Discussion Paper, at the outset, emphasised that mere issuance of BGs would not confer a right to payment, and such right would arise as an indemnity only when the corporate debtor defaults under its contract with the beneficiary and the bank had to honour the commitment. Resultantly, the prima facie view underlined is that uninvoked BGs would not qualify as a ‘claim’ as defined under the Code and the Discussion Paper contemplated three scenarios in case of CIRP vis-à-vis BGs, which are as follows:

  • Scenario 1 - Where the BG was invoked by the beneficiary before CIRP was initiated against the corporate debtor:

This would squarely fall within the definition of a ‘claim’ given that payment under the BG has already been made by the bank on behalf of the corporate debtor and the bank would be entitled to file a claim in relation thereto.

  • Scenario 2 - Where the BG remains uninvoked during the CIRP of the corporate debtor:

While no payment has been made by the bank at the time, the corporate debtor would not be liable to indemnify the bank in the absence of creation of any right for the bank. However, the BG has the possibility of being invoked by the beneficiary and would reflect as a liability in the balance sheet of the corporate debtor. Such claim may be considered as a contingent liability and acted upon accordingly.

  • Scenario 3 - Where the BG is invoked by the beneficiary during the CIRP:

As the bank would have honoured the BG and made the payment, it would be entitled to file a claim for such payment from the corporate debtor. Usually, resolution professionals have admitted such claims even after the time limit prescribed for filing the claims or in a few cases, admitted it with approval of the Adjudicating Authority (“AA”).

In this background, the Discussion Paper proposed an amendment in the applicable regulations, albeit limited to cases falling under Scenario 3, to provide that banks would be eligible to submit their claim to the resolution professional. While the Discussion Paper invited comments from the public, the suggestions have not been codified yet; thus, leaving a grey area open to interpretation by courts / tribunals on a case-to-case basis. 

Different facets to the same problem?

To initiate CIRP under the Code, undoubtedly, there must be a default by the corporate debtor in payment / repayment of a claim. But, for a creditor to file a claim, satisfying the test of commission of default is not a sine qua non. Given this, addressing the issue of claims filed in relation to uninvoked BGs is not straightforward and merits deliberation.

  • BGs which remain uninvoked during CIRP

In this scenario, if the BG remains uninvoked during the subsistence of the CIRP of the corporate debtor, the bank issuing such BG should file its claim in the CIRP. However, in the absence of an event of default triggering invocation of the BG, the claim filed by banks may reasonably be treated as a contingent claim as touched upon in Scenario 2 in the Discussion Paper. The beneficiary may choose not to file a claim since it has the option to call upon the bank to honour the BG, provided the BG is valid and has not expired.

For instance, in Canara Bank v. IVRCL Limited[1], the AA was examining this issue where the bank had challenged the decision of the resolution professional rejecting its claim based on an uninvoked BG for the reason that it remained uninvoked and the claim had not crystallised. Relying on the definition of ‘claim’ under the Code and observing that maturity of claim or default of debt or invocation of guarantee has no nexus with filing of the claim, the AA directed the resolution professional to admit the claim. This reasoning emanated basis that post-initiation of CIRP, claims based on uninvoked BGs cannot be treated as inadmissible as its invocation has become almost a fait accompli.

Albeit a contingent claim, what assumes greater importance is to proffer treatment to uninvoked BGs in the resolution plan for the corporate debtor, should any future liability arise upon invocation. This would provide necessary comfort to the banks which are called upon by beneficiaries to honour BGs pending CIRP of the corporate debtor. Failing such treatment and non-inclusion in the resolution plan, if BGs are invoked post approval of a resolution plan for the corporate debtor, banks may be in a murky position of having to honour the BGs and yet being unable to reclaim any payment from the corporate debtor. 

  • BGs which are invoked during CIRP

Upon initiation of CIRP, a moratorium is imposed thereby restraining any enforcement action against the corporate debtor. Given the specific exclusion of a performance guarantee from the definition of ‘security interest’ under Section 3(31) of the Code and further exclusion of a surety in a contract of guarantee to a corporate debtor from the applicability of a moratorium imposed against the corporate debtor, it has been held by courts / tribunals[2] that the moratorium imposed would not impact the invocation of a performance guarantee or BGs by a beneficiary which have been issued by banks on behalf of the corporate debtor, provided an event has occurred triggering such invocation. Hence, imposition of moratorium against the corporate debtor cannot act as a resistant to avoid honouring BGs. With the flexibility of invocation of BGs, once the payment has been made pursuant to invocation, the bank’s claim should be treated as ‘admitted’ as opposed to ‘contingent’. 

In either scenario, the endeavour is to secure and safeguard the interests of banks issuing BGs, which forms an intrinsic part of day-to-day financial transactions. It is therefore of utmost importance that regardless of invocation during the CIRP of the corporate debtor, the resolution plans should account for such BGs so that banks are not left high and dry. Otherwise, there runs a risk that upon approval of the resolution plan, any claim which does not form part of such plan would stand extinguished, as held in Ghanshyam Mishra and Sons Private Limited through the authorised signatory v. Edelweiss Assets Reconstruction Company Limited & Ors.[3]. Therefore, claims based on uninvoked BGs may reasonably be admitted as contingent claims, as stated in the Discussion Paper and perhaps the position n Ghanshyam Mishra (supra) could be distinguished so as to not flung unsettled claims on the successful resolution applicant post approval of the plan.

Does the conundrum end?

Although a contested issue, some principles have been clarified to a certain extent. Be that as it may, permitting invocation of BGs issued on behalf of the corporate debtors during CIRP might be challenging for banks who are called upon to honour it.

Given the timelines provided under the applicable regulations[4] for submission of a claim during a CIRP, post invocation, there could be limitations for the banks’ ability to file the claim in the CIRP of the corporate debtor within the stipulated time frame. In case the claim is filed beyond the permitted timelines, its fate would remain uncertain with a possible exclusion from the resolution plan if approved and further be extinguished if not included in the resolution plan. Needless to add, this may entail being embroiled in litigation justifying admission of the claim at a belated stage. Therefore, banks should independently file their claims based on uninvoked BGs in a time bound manner. Further, as BGs may be invoked by beneficiaries, the applicable regulations should mandate treatment of uninvoked BGs in the resolution plans, should they be invoked during CIRP instead of a blanket wipe out of uninvoked BGs upon approval of the resolution plan. As crucial financial instruments which act as the backbone for fulfilment of payment obligations, BGs should not be permitted to be extinguished simply upon the approval of the resolution plan.

These nuances merit consideration and possibly a revisit to the Discussion Paper to weave the recommendations into the applicable regulations to crystallise what remains a grey area.

Authors:

Ankit Sinha

Partner, Juris Corp

Email: [email protected]

Aditi Sinha

Senior Associate, Juris Corp

Email: [email protected]

Disclaimer:

This article is intended for informational purposes only and does not constitute a legal opinion or advice. Readers are requested to seek formal legal advice prior to acting upon any of the information provided herein. This article is not intended to address the circumstances of any particular individual or corporate body. There can be no assurance that the judicial / quasi-judicial authorities may not take a position contrary to the views mentioned herein.

[1]  IA No. 436 of 2018 and CP(IB) No. 294/07/HDB/2017; decided on 1st February 2019

[2] Mitsubishi Heavy Industries Ltd. v. Punj Lloyd Ltd. and Ors. [Company Appeal (AT) (Insolvency) No. 1479 of 2023; decided on 9th August 2024]; Bharat Aluminium Co. Ltd. v. M/s JP Engineers Pvt. Ltd. & Anr. [Company Appeal (AT) (Ins.) No. 759 of 2020; decided on 26th February 2021]

[3] Civil Appeal No. 8129 of 2019; decided on 13th April 2021

[4] The Insolvency and Bankruptcy Board of India (Insolvency Resolution Process for Corporate Persons) Regulations, 2016