Ever since the implementation of the Insolvency and Bankruptcy Code, 2016 (“Code”), several key aspects of the law have been in the limelight for their contentious definitions and ambiguous interpretations. The question about the nature of lease rentals under the Indian debt-recovery and bankruptcy regime remains a problem that provokes thought.
Operational Debt: Meaning and Interpretation
To understand the nature of an amount due and payable, it is crucial to peruse through the definition of “operational debt” and related terminology as per the Code. Section 5(21) of the Code states that an “operational debt” is a claim for goods and services, employment or related dues, and statutory dues payable to the Central or State Government or any local authority under a given law at the time in force.
Therefore, where a given debt fulfilling the prerequisites of Section 5(21) of the Code, it may be categorized as an “operational debt”.
The Intention of the Banking Law Reforms Committee
According to the Report of the Banking Law Reforms Committee (“BLRC”)[1], which established the groundwork of the Bankruptcy Code, the liability of the operational creditors flows from the provision of any goods or services, thereby forming part of a “transaction on operations.”
The BLRC further expressly clarified that the entity which leases out an environment to the Corporate Debtor from a specific duration is an operational creditor for the Code and the lease rentals under such agreement shall be the “operational debt”.
While differentiating between creditors under the Code, the BLRC stated that the Corporate Debtor may have “financial creditors in the form of loan and debt contracts” and operational creditors such as employees, lessors, goods and services providers.
Judicial Interpretation
Despite the Report of the Committee, the Judiciary seems to have overlooked the original intent behind the Code. In the most recent of Ravindranath Reddy v. G. Kishan, the National Company Law Appellate Tribunal (“NCLAT”) concluded that debts flowing out of a lease agreement shall not fall within the ambit of the term “operational debt”, as defined under Section 5(21) of the Code. In arriving at this rationale, the NCLAT relied upon the findings of the bench in Pramod Yadav & Another v. Divine Infracon Private Limited, where the NCLAT found that the word “operation” has not been expressly defined under any law presently in force. Furthermore, the NCLAT also referred to Jindal Steel & Power Limited v. DCM International Limited, wherein the Court held that the operational debt, based on which the Insolvency Resolution Process has been initiated, must have arisen under a law in force, and not out of an agreement between the parties.
Therefore, it is sufficiently clear that the intention of the BLRC was overlooked b the NCLAT in passing its verdict. While the Committee intended lease rentals to be included within the ambit of operational debt under the Code, the Legislature did not follow through with this in the final draft of the IBC.
Yet, in the landmark case of Mobilox Innovations Private Limited v. Kirusa Software Private Limited, the Hon’ble Supreme Court (in paragraph 16) took notice of the 2015 Report and clarified as “Operational creditors are those whose liability from the entity comes from a transaction on operations. Similarly, the lessor that the entity rents out space from is an operational creditor to whom the entity owes monthly rent on a three-year lease.” Thus, the Supreme Court recognizes lease rentals as operational debt for the Code, under the intention of the BLRC.
Similarly, another landmark judgement passed in Swiss Ribbons Limited v. Union of India, the apex court laid down the distinction between operational and financial creditors. It was concluded that for proceedings to be initiated under the IBC, it is important for the operational creditor to satisfy the criteria provided under Section 5(21). It was further discussed that the primary objective of the IBC is to maximize asset value and balance the interests of all the related stakeholders. Where the definition of operational creditors is interpreted in a positivist and restricted manner, the objectives of the Code shall stand defeated.
Coming back to the case of G. Kishan, we observe that the NCLAT erred in accurately defining the terms “goods and services” mentioned in Section 5(21) and instead, adopted the definition of the term “essential goods and services” which is provided under Regulation 32 of the Insolvency and Bankruptcy Regulations, 2016.
In conclusion, we find that the judgment of the NCLAT in G. Kishan limits the powers of the creditors, thereby going against the creditor-in-control model, as initially envisioned by the BLRC. With no satisfactory rationale by the NCLAT in the recent case, lease rentals continue to remain a grey area within the Code. Yet, the cases of Mobilox Innovations and Swiss Ribbons provide strong precedent for the interpretation of the Code, although the reasoning needs to be reaffirmed for the sake of clarity.
Article by Mr. Sumer Karekar in April, 2021 while interning at the Chambers of Advocate Shankarlal Raheja.
Disclaimer: The views herein are personal and while careful attention has been given to ensure that the information is accurate the author assumes no liability or responsibility for any reliance thereon. This article is merely an information-sharing activity and is not a substitute to legal advice. It must be noted that we shall not be liable for any loss or damage caused due to any reliance thereof.
