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  • Praveen Sharma

IBC Overrides Electricity Act: Capturing Fallacy in Rainbow Papers

[Praveen is a student at Maharashtra National Law University, Mumbai.]


Recently, in Paschimanchal Vidyut Vitran Nigam Limited v. Raman Ispat Private Limited and Others (Raman Ispat), the Supreme Court of India ruled that the Insolvency and Bankruptcy Code 2016 (IBC) overrides the Electricity Act 2003. The Supreme Court, while dismissing the appeal of Paschimanchal Vidyut Vitran Nigam Limited (PVVNL), provided crucial clarification regarding the rights of creditors operating under the IBC. This clarification encompasses both secured and unsecured creditors, ensuring that they hold priority in having their debts repaid before any dues owed to the state or the Central Governments are settled. In essence, this ruling reinforces the principle of prioritizing private creditors' claims over government obligations when it comes to resolving insolvency matters.


In this post, the author argues that this judgment prudently captures the fallacy in the State Tax Officer v. Rainbow Papers Limited (Rainbow Papers) and not only upholds the rights of creditors but also establishes a clear hierarchy in debt repayment.


Background of the Case


Raman Ispat Private Limited (corporate debtor) had entered into an agreement with PVVNL for supply of electricity. A clause of the agreement provided that the outstanding dues will be a charge on the assets of the corporate debtor. This recovery mechanism was derived from Electricity Act 2003, and the regulations framed under it, including the Uttar Pradesh Electricity Supply Code 2005. Dues were unpaid by the corporate debtor from time to time, and then subsequently, PVVNL attached the properties of the corporate debtor by an order of the District Collector. After an unsuccessful resolution process, the corporate debtor went into liquidation. Liquidator contended that PVVNL’s claim would fall under Section 53 of the IBC and would be classified in order of priority under Section 53. It was contended by the liquidator that PVVNL would be entitled to pro rata distribution of proceeds along with the other secured creditors from sale of liquidation assets.


The NCLT and the NCLAT sided with the liquidator and directed the District Collector to release the property. The NCLAT upheld the NCLT’s reason that PVVNL fell within the definition of ‘operational creditor’ and should realize its dues in the liquidation process.


Observations of the Supreme Court


In the appeal before the Supreme Court, PVVNL contended that Electricity Act 2003 is a ‘special enactment’ and therefore should prevail over IBC which is a ‘general law’. However, the Supreme Court held that the NCLT and the NCLAT rightfully set aside the attachment of the property of the corporate debtor and held that PVVNL can realize its dues by participating in the liquidation process as per the IBC. The Supreme Court held that Section 238 of the IBC overrides the Electricity Act 2003. The Supreme Court emphasized that the dues owed to creditors under the IBC hold a superior position compared to the electricity dues payable under the Electricity Act 2003.


Analysis of the Judgement


The Raman Ispat judgment provides a comprehensive analysis of the IBC, with special attention to the 'waterfall mechanism' stipulated in Section 53 of the IBC. Notably, the Supreme Court underlines that government debts are accorded a lower priority compared to the debts owed to unsecured financial creditors within the IBC framework. The Supreme Court's recognition of the supremacy of debts owed to unsecured financial creditors over government debts signifies a significant shift in the precedence of repayment obligations. This ruling strengthens the position of unsecured creditors and underscores the importance of honoring private financial commitments within the insolvency regime.


The Supreme Court placed significant emphasis on the 'waterfall mechanism' delineated in Section 53 of the IBC. This provision gives priority to the payment of debts to secured creditors who waive their right to enforce security when the liquidation process commences. The Supreme Court highlighted that these secured creditors, alongside the payment of workmen's dues, hold the second position in the order of repayment, right after the settlement of insolvency resolution process costs and liquidation costs. Moreover, the court pointed out that even secured creditors who choose not to waive their rights to enforce security, along with unsecured creditors, are ranked higher in the repayment scheme compared to government agencies that are owed money by the corporate debtor under Section 53 of the IBC.


In Raman Ispat judgement, the Supreme Court noted that in multiple reports leading to the creation of the IBC and in the Preamble of the IBC itself, there were consistent references to the reduction of priority for debts owed to the government. These debts encompass statutory taxes, other dues payable to the Central or the state government, as well as amounts payable into the Consolidated Fund on behalf of either government. The Supreme Court emphasized that these government-related dues should be treated distinctly and separately from the debts owed to secured creditors.


Rectifying Rainbow Papers Judgement


While contending that the Electricity Act 2003 is a special enactment and thus would prevail over IBC which is a general law, PVVNL placed reliance on the Rainbow Papers judgement. PVVNL contended that the Supreme Court in Rainbow Papers determined that when a security interest is established in favor of the government for tax claims under the Gujarat Value Added Tax Act 2003, the government assumes the role of a secured creditor within the context of the IBC. In Rainbow Papers, the Supreme Court clarified that any resolution plan that omits the payment of such taxes or statutory dues owed to the government would not align with the provisions of the IBC and, consequently, would not be legally binding on the State.


While referring to the Rainbow Papers, the Supreme Court, in Raman Ispat judgement, observed that the meticulous arrangement of Section 53 positions the amounts payable to secured creditors and workmen in the second position, just after the liquidator's costs and expenses during the liquidation process. The Supreme Court further observed that, the dues owed to the government are placed significantly lower in priority compared to secured creditors, unsecured creditors, and operational creditors. It is in this regard that the Supreme Court observed that this ‘particular design’ either went unnoticed or was not brought to the court's attention in the Rainbow Papers case. Therefore, the Supreme Court observed that the judgment failed to acknowledge the provisions of the IBC, which grant higher priority to dues payable to secured creditors over those owed to the Central or State Government.


The Supreme Court pointed out that the Rainbow Papers case overlooked the essential 'waterfall mechanism' in Section 53 of the IBC, which determines the priority of debt repayment during insolvency. This raises concerns about the judgment's thoroughness and adherence to the legislative framework. The 'waterfall mechanism' establishes a structured order of debt settlement, giving priority to insolvency resolution process costs, followed by dues to secured creditors who waive their security interest, and workmen's dues. The court's observation may impact the outcome of the Rainbow Papers case, necessitating a reevaluation considering the relevant provisions of the IBC.


Conclusion


In conclusion, the Raman Ispat judgment delivered by the Supreme Court stands as a remarkable testament to well-reasoned and conceptually clear legal interpretation. By delving into the intricate details of the case, the court adeptly highlighted the overriding authority of the IBC over the Electricity Act 2003, settling any ambiguity regarding their respective applicability.


One of the pivotal aspects of the judgment was the meticulous analysis of the 'waterfall mechanism' under Section 53 of the IBC. By recognizing that government debts hold a lower priority compared to those owed to unsecured financial creditors, the court reaffirmed the significance of adhering to a structured order of debt repayment during insolvency proceedings. This observation provides a robust foundation for maintaining fairness and transparency in insolvency resolution, ensuring the equitable treatment of all stakeholders involved.


Moreover, the court astutely brought attention to the incongruity in the Rainbow Papers judgment. By scrutinizing the provisions of the IBC and the hierarchy of debt repayment, the court skillfully exposed the oversight in the earlier ruling, which failed to acknowledge the distinct and lower priority given to government dues. This critical observation reinforces the need for comprehensive consideration of relevant provisions in all legal judgments to avoid potential discrepancies and uphold the principles of justice. As we look ahead, this landmark ruling will serve as a guiding light for future cases, promoting a more cohesive and equitable insolvency regime in the country.

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