Moratorium and Consumer Penalties under the IBC
Table of Contents
The moratorium under the Insolvency and Bankruptcy Code, 2016 (“the IBC”) provides a temporary stay on legal proceedings against a debtor, but does not extend to Penalties under the IBC imposed under consumer protection laws. Recent judicial clarifications emphasize that regulatory penalties, such as those issued by the National Consumer Disputes Redressal Commission (NCDRC) are distinct from “debts” and therefore not subject to moratorium. This ensures that consumer rights are upheld and that entities cannot evade accountability for unfair trade practices by using the IBC’s provisions.
Moratorium Penalties under the IBC
Section 14 of the IBC imposes a moratorium on corporate debtors undergoing corporate insolvency resolution process (CIRP), effectively halting legal and other proceedings against them. This moratorium is a key mechanism to protect the corporate debtor’s assets during the CIRP and prevent dissipation while a resolution plan is being considered. The primary objective is to provide a “breathing space” for the company to restructure and revive, preventing creditors from taking actions like initiating lawsuits or enforcing security interest. Further, section 96 provides for an interim resolution moratorium upon the filing of an insolvency application. This aims to protect the debtor’s assets and prevent creditors from taking immediate action to recover debts. However, the Supreme Court has clarified that this protection is limited and does not encompass penalties arising from regulatory non-compliance read more Section 34 of Arbitration Act
Consumer Penalties: Not Covering Debts
Section 27 of the Companies Protection Act empowers consumer courts, District Forums, State Commissions, and the National Commission, to impose penalties, including imprisonment and fines, on parties who fail to comply with their orders. The penalties under section 27 are considered regulatory and punitive in nature. They are designed to enforce rights and deter non-compliance with consumer protection laws. The Supreme Court has clarified that these penalties are not the same as financial debts. They are not part of debt recovery proceedings but rather serve as a means of ensuring compliance with consumer forum orders. Section 79(15) of the IBC excludes regulatory fines and penalties from being classified as “debts”. This means that if a company or individual is undergoing CIRP, any outstanding regulatory fines or penalties are not subject to the same treatment as other debts and are not covered by the moratorium.
Landmark Supreme Court Judgments
In the recent decision of the Supreme Court in Saranga Aggarwal v. Bhavesh Sheth upheld that the moratorium under section 96 of the IBC does not extend to regulatory penalties imposed by regulatory bodies. The court differentiated between the debt recovery and regulatory penalties imposed under consumer protection laws. It held that the latter are not part of the “debt” covered by the moratorium. This decision highlighted the importance of consumer protection and reasoned that allowing a stay on regulatory penalties would enable developers to evade their responsibilities under consumer law, undermining its very purpose. Further, the court upheld the NCDRC’s decision, emphasizing that penalties imposed by consumer forums are meant to deter unfair trade practices and should not be stayed under the IBC moratorium. Hence, the Supreme Court reinforces the principle that the IBC’s moratorium is not a shield for developers to escape their obligations under consumer protection laws.
Implications for Debtors & Resolution Professional or Interim Resolution Professional
Debtor & Personal Guarantor Liability:
The landmark case clarifies that an insolvency moratorium under the IBC does not protect individuals from penalties imposed by the NCDRC or District Commissions for violating consumer protection laws, particularly in the context of real estate. It ensures that homebuyers and homeowners retain their rights to pursue legal action against developers and personal guarantors for violations, even if the developer is undergoing insolvency proceedings. It also reinforced that personal guarantors, who provides guarantees for the developer’s obligations, can still be held liable for these penalties, even if the developer is facing insolvency. Further, it does undermine the fundamental rights of consumers to seek justice under consumer protection laws.
RP/IRP Responsibilities:
During the moratorium period under the IBC, the resolution professional (RP) or interim resolution professional (IRP) must ensure the corporate debtor continues to comply with the regulatory and consumer-related penalty obligations, which are not stayed by the moratorium. The professionals are responsible for ensuring the corporate debtor complies with all applicable laws and regulations, including those related to consumer protection and regulatory penalties. This includes taking necessary actions to ensure any ongoing legal proceedings or penalties.
Practical Impacts of Penalties under the IBC
- Consumer Safety and Public Interest: The IBC does not shield unscrupulous developers or debtors from penalties imposed under consumer protection laws. The Supreme Court has clarified that the interim moratorium does not apply to penalties imposed by consumer forums for violations of consumer rights. This ensures that consumer protection remains a priority and that developers cannot use insolvency proceedings as a protection to evade their obligations, meaning that authorities can still pursue and enforce penalties against consumer rights violations.
- CIRP Planning Considerations: in CIRP, Committee of Creditors (CoC) and professionals must factor in that consumer penalties, like those related to preferential transactions, are treated as ongoing obligations. These penalties, if not accounted for, can negatively impact the resolution plan’s cash flow and overall liability.
Best Practices for Stakeholders
- Resolution Professionals & CoCs: RPs and CoCs should treat consumer protection proceedings and penalties are distinct obligations, separate from insolvency debts. This is because consumers have rights under various laws like the Consumer Protection Act, and these rights should not be affected by the insolvency proceedings of the corporate entity.
- Corporate Debtors & Guarantors: These stakeholders must continue to comply with NCDRC and other consumer protection orders, even during insolvency proceedings. The IBC is designed to resolve financial distress but not to nullify obligations arising from regulatory statutes or to shield entities from consequences of violating consumer protection laws.
- Creditors & Homebuyers: As regulatory penalties are not subject to the moratorium under the IBC, creditors and homebuyers can still pursue actions to recover penalties related to regulatory breaches. The Supreme Court ruling adds clarity to the recovery process and ensures that developers cannot evade their regulatory responsibilities by invoking the moratorium.
Conclusion
The Supreme Court’s rulings uphold that IBC moratoriums apply only to financial debt—not regulatory penalties, ensuring continued accountability, and protection for consumers during insolvency. Hence, the moratorium under section 96 of the IBC is limited in scope, applying only to legal actions or proceedings ‘in respect of any debt’, including ensuring compliance with consumer protection laws and are district from debt recovery proceedings.
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