FSP’s Insolvency: IBC’s Nightmare
In the first week of December 2019, the RBI filed a case of insolvency against Dewan Housing Finance Limited (DHFL) under the IBC, which was admitted by the Mumbai bench of the NCLT.
DHFL became the financial service provider to come under the purview of the Insolvency and Bankruptcy Code (IBC).
The case was necessitated due to default in repayment for various financial creditors. In particular, default in repayment of two tranches of external commercial borrowings (ECB) from State Bank of India (SBI) by DHFL to the tune of USD 240 million.
With an estimated total Rs. 1 lakh crores in liabilities and a staggering 85,000 financial creditors, DHFL’s insolvency is touted to be the largest insolvency case of a financial service provider / non banking financial company or nonbank to come under the IBC scanner.
The case against DHFL is a direct outcome of notification of the (Insolvency and Liquidation Proceedings of Financial Service Providers and Application to Adjudicating Authority) Rules, 2019 by the government on 15 th November 2019. These Rules enable bringing “systemically important” financial service providers (FSP’s) under the purview of the Insolvency Code.
In the said notification, the Central government notified “Non-banking Financial companies” including “housing companies” with asset size of Rs. 500 crores or more as financial service providers. DHFL fit the bill perfectly.
Section 227 of the IBC Code enables the Central government to notify in consultation with financial sector regulators, FSP’s categories of FSP’s that may come under the purview of the IBC for insolvency and liquidation proceedings.
Rule 5(a)(i) of the (Insolvency and Liquidation Proceedings of Financial Service Providers and Application to Adjudicating Authority) Rules, 2019 lays down a generic framework for the corporate insolvency resolution process of FSP. Such rule can be invoked against defaulting FSP’s.
A look at key features of the (Insolvency and Liquidation Proceedings of Financial Service Providers and Application to Adjudicating Authority) Rules, 2019:
- Only an appropriate regulator can make an application against a financial service provider for corporate insolvency resolution under the IBC Code. The manner and mode of application is like the one under the IBC Code.
- On admission under the IBC, the adjudicating authority shall appoint an administrator who has the same meaning and powers as the “insolvency professional”, “resolution professional”, “interim resolution professional” and or “liquidator”.
- The moratorium or interim moratorium shall commence from the date of filing the application with the adjudicating authority until its admission / rejection and the license shall not be suspended or cancelled during the interim moratorium period.
- An Advisory committee shall be constituted by the appropriate regulator within 45 days from
commencement of insolvency proceedings to advise the administrator on the functioning of the FSP. All details relating to such committee shall be decided by the appropriate regulator.
- A resolution plan detailing how the plan will effectively resolve the requirements of engaging in the business of the FSP has to be provided. Further the appropriate regulator must issue a “no objection” certificate subject being satisfied with the “fit and proper” criteria of the business of the FSP. The “NOC” is deemed to have been issued by the appropriate regulator if the limitation period exceeds 45 working days.
- Till such time the procedure and code of conduct for insolvency of FSP’s are expressly notified under the Code, the mode and manner of making an application, the fee and other documents and details required are the same as those contained under the National Company Law Tribunal Rules 2016.
- The liquidation and or voluntary liquidation process as contained under the Code shall mutatis mutandis apply to the liquidation / voluntary liquidation process of a financial service provider.
- Only an Administrator proposed by the appropriate regulator and appointed by the Adjudicating Authority can act as an insolvency professional or interim insolvency professional in the insolvency process of a financial service provider.
- “Interim moratorium” and “Moratorium” shall not apply to any third party assets or properties in custody or possession of the financial service provider, including any funds, securities and other assets required to be held in trust for the benefit of third parties. The Administrator shall take custody of third-party assets or properties (securities, funds and other assets held in trust) in possession of the financial service provider.
The way ahead
The Finance minister has indicated the possibility of introducing a separate IBC code equivalent for the financial service providers. The (Insolvency and Liquidation Proceedings of Financial Service Providers and Application to Adjudicating Authority) Rules, 2019 introduced in 2019 is an interim mechanism to deal with FSP’s till such time a full-fledged legislation exclusively governing FSP’s is brought out. Industry and trade experts have given it a thumbs up stating this as the need of the hour.
While the DHFL case is important as it becomes the first FSP to come under the Insolvency scanner, it is also important to see how effective the provisions of the insolvency code will be in resolving the case. Given the size of the company and nature of defaults, there is apprehension if the case can be effectively resolved within the timeline contained in the code. Also considering that the DHFL has a range of financial creditors – Banks, mutual funds, depositors, investors etc. This may also give rise to the same concern of prioritizing the claims of such financial creditors. Then the concern of operating creditors will arise. Industry experts also are of the view that initiating insolvency proceedings on a giant financial service provider may open a pandoras box for other players. This may intimidate the investor community at large. All answers lie in the effective resolution of DHFL. It’s show time folks.