Author name: CBCL

Angel Tax on Non-resident Investors under ITA: An Obstacle to FDI in India?

Taxation Law /

[By Parth Bindal and Somasundararajan B] The authors are students of School of Law, UPES.   ABSTRACT In this piece, the authors critically argue that the decision of the government of India to bring “non-resident investors” under the purview of the Angel Tax regime after the removal of the wording “person being a resident” from section 56(2) (vii b) of the Income Tax Act, 1961(hereinafter referred to as said section), post the amendment made under the said section through passing of Finance Act, 2023 by Parliament,(Act 2023) will hurt the private business entities raising capital through foreign investors and will also be a contradiction to governments primary intention of making India an Investor friendly global destination. INTRODUCTION The Indian law makers introduced the Angel Tax Regime in India through the amendment made in the said section, through the passing of the Finance Act, 2012. In the memo of the Finance Bill, 2012, it was observed that the angel tax regime is required to put a “check & control” mechanism on the detrimental practice of misrepresenting unaccounted funds and black money as an investment in a private company’s share capital, which must be avoided.   The regime governing the angel-tax aspect before the passing of the Finance Act, of 2023, had two-layer domain structure which  required private companies to disclose the source of the investment in possession of the investor (section 68 of ITA) & ensure that compliance with Fair Market Value (FMV) where the investment at a premium is obtained from resident shareholders under the said section. Interpretation of the wording, “person being a resident” under the said section, explains that it is only applicable to resident investors and the legislature intended to keep non-resident investors outside the purview of tax compliances before the Act of 2023. The exclusion of non-resident investors is justifiable since such transactions are governed and regulated by the FEMA and rules made thereunder i.e., Foreign Exchange Management (Non-Debt Instruments) Rules, 2019 (“FDI Norms”). FDI Norms mandate non-residents engaging in Foreign Direct Investment (FDI) transaction with private entities are bound by the pricing standards, which requires companies to issue equity securities to a non-resident at a price not lower than the fair valuation of the respective securities (as determined by an internationally recognized pricing technique) & subsequently verified by a chartered accountant or through a SEBI registered merchant banker. Another issue is the difference of opinion between the taxpayer and the income tax authority over what the FMV should be. This is because as per clause (a) of the explanation to the said section, FMV shall be the greater of the following values: (i) determined using an established method; & (ii) as may be demonstrated to the satisfactory satisfaction of the income tax authorities by the company. The “prescribed method” under Rule 11UA of the Income-tax Rules, 1962 (“hereinafter referred to as the ITR”) enables a taxpayer to value a company’s unquoted shares using either the value of net assets per share or the discounted cash flow (“DCF”) approach derived by a merchant banker. Even though it is a “prescribed method” in ITR but under the said section, and certain Income Tax Appellate Tribunal (ITAT) decisions show that the tax authorities went beyond to object to the DCF method’s application. Furthermore, the majority of startups raise capital based on their funding requirements & a financier’s view of their expansion possibility, the valuations they receive are probably going higher than those obtained using the net value of assets or discounted cash flow methods. The autonomy provided to tax officials under the said section to decline such an assessment are a source of dispute, leading to a slew of litigation. To mitigate the impact of such autonomy; the Finance Act of 2012 included an exemption for investments made by venture capital companies or venture capital funds (“VCFs”). The Finance Act of 2019 extended the aforementioned exemption to considerations paid by Category I & Category II Alternative Investment Funds (“AIFs”). Following that, the government notified certain groups of people that would be considered exempt from the provisions of the said section. For example, the Ministry of Commerce and Industry notified enterprises who would be eligible under the umbrella of “start-up” as exempt. Yet, other start-ups & smaller private companies do not seek capital solely through VCFs & AIFs. As a result, the subject of valuation disagreements among investee companies & tax authorities stays contentious, & the measure has been dubbed an “angel tax.” Another important aspect to note is that these lacunae were attempted to be rectified with subsequent amendments in the said section. But the latest development of bringing non-resident investors into the ambit of the angel tax regime may result as counter-productive in terms of the government’s efforts in making India a global destination for investors and puts a break in its efforts to make India an investor-friendly state with additional compliance for them under FDI Norms. This move will majorly affect fundraising by start-ups that are not registered with DPIIT. According to a report by market research platform Tracxn, financing for Indian startups fell 75% to $2.8 billion in the initial quarterly period of the year 2023, as opposed to the identical time period the previous year (YoY), where it came at $11.9 billion. According to the ‘Tracxn Geo Quarterly Report: India Tech – Q1 2023′ report, the decrease in funding for startups is likely caused by increasing interest rates & inflation, which has an important effect on funding. BLOW TO NON-RESIDENT ANGLE INVESTORS? The current amendment to the discussed said section through Finance Act, 2023 will pose a great challenge to the private companies and start-ups which are not registered with DPIIT. Surprisingly the said section also contains deemed income provision, which conveys that if the buyer of particular kinds of property (including securities) gets such property for an amount less than its FMV calculated in the prescribed way, the difference of the FMV over the price paid is subject to tax in the acquiring company’s hands. The tax authorities believe that

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Resolving the Clash: IBC and Benami Act

Insolvency Law /

[By Mohd. Fahad Ansari and Avnee Byotra] The authors are students of National University of Study and Research in Law (NUSRL) Ranchi.   INTRODUCTION At the time of writing this article, a petition is pending before the Apex Court challenging the NCLAT Chennai judgement of C Ramasubramaniam Liquidator v. Deputy Commissioner of Income tax (Benami Prohibition)  (“Ramasubramaniam”). The judgement of the Apex Court will decide the range to which the Insolvency and Bankruptcy Code, 2016 (“Code”) will be given an overriding effect over the other civil proceedings. The above disturbing judgement of the NCLAT is also followed by the NCLAT Chennai on 13 March, 2023 in M/S. Senthil Papers and Boards v. The Deputy Commissioner of Income Tax. The issue is with regards to the conflict between the power of the government to confiscate property under the Prohibition of Benami Property Transactions Act, 1988 (“Benami Act”) and the objective of the Code which seeks to ensure a corporate debtor “as a going concern” during the moratorium imposed under the CIRP. Through this article, the authors submit that the Ramasubramaniam judgement can potentially undo the overriding effect of the Code, and if the Apex Court do not overturn it, the objectives of the Code will be derailed. THE ISSUE The main issue at hand is the clash which arises due to the presence of non-obstante clauses in both Section 238 of the Code and Section 67 of the Benami Act. While it is true that the conflict of the Code with other statutes is not so uncommon, the position whether the Code will override the Benami Act or not is still unsettled as no binding judgement has been pronounced yet. The code came into effect in 2016 so as to embark a shift in the insolvency proceedings from debtor in control to creditor in control process with an aim of speedy recoveries and optimizing the value of the debtor’s assets. For achieving this change, Section 14 of the Code has a moratorium provision, under which no legal proceedings can take place till the completion of the CIRP. This was enacted so as to ensure that during the completion of CIRP, the property of the corporate debtor remains intact, and the stake of each creditor is also safeguarded. This is further strengthened by Section 238 of the Code according to which the Code has supremacy over any other statute which contains inconsistent provisions with that of the Code. The Benami Act came into force so as to prevent the occurrence of benami transactions and reclaim properties in such transactions.  To fulfil its objective, Section 24(3) of the Benami Act allows attachment of property by an initiating officer, so as to restrict the transfer of the benami property. In the Ramasubramaniam case, the provisional attachment order was issued so as to prohibit the transfer of the property by the appellant. However, the attachment order disturbed the CIRP since it would compel the corporate debtor to go in liquidation. Coming to the facts of the present case, the CIRP was initiated against the appellant and as a result, the moratorium was imposed on 15 August, 2018 which was further extended till 17 October, 2019. During this period, an attachment order was released by the initiating officer under the Benami Act against the corporate debtor on 1 November, 2018. The said order was challenged before the NCLAT Chennai which rejected it. The tribunal opined that it is incompetent to decide the matter since the matter is related to the Benami Act and it does not have the authority to settle the dispute. By rejecting the appeal, the tribunal cleared the way for the Benami Act to override the Code. The tribunal hereby after drawing an analogy between the conflict in the Prevention of Money Laundering Act (“PMLA”) and the Code noted that just like under PMLA, the state is the victim under the Benami Act as well. The order of the tribunal has once again reflected the attitude of the judicial/quasi-judicial bodies of giving preference to the government’s interest over the Code’s economic efficiency. TRACING THE CONFLICT BETWEEN THE CODE AND THE PMLA Since the NCLAT relied heavily on judgements resolving the conflict between the Code and the PMLA, it is important to have a look at such judgements. The Delhi High Court in The Deputy Director Directorate of Enforcement v. Axis Bank held that the government under Section 8 of the PMLA can attach property which is acquired from the “proceeds of crime”. The court held that the nature of the procedure under the PMLA is criminal, and the proceedings under the Code and the PMLA can take place at the same time since both are independent of each other. On the same lines, in Rajiv Chakraborty Resolution v. Directorate of Enforcement, the Delhi High Court ruled that unlike the creditors, the government by attaching the property does not purport to recover the debts. Instead, the attachment is to prohibit the accused from enjoying the rights over the attached property. The court further ruled that the imposition of the moratorium under the Code is aimed towards the maximization of the debtor’s asset’s value, both the objects are different and can be fulfilled simultaneously. However the same consideration cannot be applied in cases covering the conflicts between the Code and the Benami Act. Firstly, in order to solve the clash between these statutes, it becomes pertinent to note the nature of the proceeding under each statute. As discussed above, under Section 5 of the Benami Act, the property is attached in order to restrict the accused from exercising ownership rights over the property that has been seized .This is cemented by Section 19 of the Benami Act, which confer the authorities the same power which is vested to the courts under the C.P.C., 1908. Therefore, the nature of the attachment and the proceedings under the Benami Act are civil instead of criminal. Notwithstanding the fact that benami transactions are an offence under the Act,

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Project-wise CIRP: Balancing Stakeholders’ Interests In Real Estate Insolvency

Insolvency Law /

[By Aishwarya S & Meenakshi Gopakumar] The authors are students of National University of Advanced Legal Studies, Kochi.   INTRODUCTION The Insolvency and Bankruptcy Code (IBC) has been under judicial scrutiny since its inception. The judiciary has played a crucial role in the influence of IBC on real estate for the benefit of the homebuyers and the Corporate Debtor (hereinafter “CD”) by introducing two novel methods, namely “Reverse CIRP” and “Project-wise CIRP”. These methods have been explored as plausible solutions to the conflict of interest between homebuyers as financial creditors (hereinafter “FCs”) and the other FCs under the IBC. Though these methods are still being debated as viable solutions for homebuyers under the IBC, the Ministry of Corporate Affairs released a consultation paper on 18th January 2023 (hereinafter “consultation paper”), wherein one of the proposals provides for the inclusion of Project-wise CIRP within the IBC framework. Project-wise CIRP refers to the initiation of the CIRP process for a specific real estate project with the objective of resolving the insolvency of the project and completing the project in a time-bound manner. It deviates from the general practice in the sense that this form of CIRP can be initiated only against the defaulted project(s) of the company instead of the entire company. Though this process is prima facie simplified, all the projects rest with one entity, and their segregation into different projects during CIRP may pose certain challenges. Through this article, the authors seek to analyse the practical implications of Project-Wise CIRP in IBC and show that it is a welcome step to balance the interests of the key stakeholders in the resolution process. JUDICIAL DEVELOPMENTS SO FAR The idea of project-wise CIRP was explored by the judiciary for the first time in the case of Flat Buyers Association v Umang Realtech Private Ltd. (hereinafter “Winterhills” case). It was observed that the asset maximization of a particular project should take place for balancing the creditors, such as allottees, financial institutions, and operational creditors.  In light of the same, the Adjudicating Authority proposed that the CIRP be project-basis. The rationale for the adoption of project-wise CIRP was elaborated in the case of Manish Kumar v. Union of India. It was held that the complaints by the allottees in various projects might be of different nature. Therefore, such inclusion of all the projects in CIRP, regardless of whether a default has been committed or not, is more cumbersome.  This method has been adopted widely in recent cases like Whispering Tower Flat Owner Welfare Association vs. Abhay Narayan Manudhane and RP of Corporate Debtor Ram Kishor Arora, Suspended Director of M/s. Supertech Ltd. v. Union Bank of India & Another. However, in the case of Mr. N. Kumar RP of M/s. Sheltrex Developers Pvt. Ltd. Vs. M/s. Tata Capital Housing Finance Ltd., it was pointed out that the Winterhills case cannot be taken as a precedent for project-wise CIRP since the said case had unique facts and circumstances and that there is no concept of limited CIRP or project-specific CIRP under the IBC. Though there has been one dissenting judgment so far, it is seen that the judiciary has mostly leaned towards the practice of project-wise CIRP in the interest of all the stakeholders, especially the homebuyers. POSITIVE AND NEGATIVE IMPLICATIONS OF PROJECT-WISE CIRP: Project-wise CIRP has been carried out for more than two years, and it has significantly helped in the evolution of IBC in the context of real estate. In this section, the authors will be focusing on the practical implications of the same to two key stakeholders: CDs and homebuyers.    A. BENEFITS      (i) Projects which have not been at default can still be continued: In the consultation paper released, the justification provided for introducing project-wise CIRP is two-fold: firstly, the default is often project-specific, and the other projects can still continue to do well. To this end, the initiation of CIRP of specific projects which have defaulted will help the CD to focus on other projects which are still performing well; secondly, a tailored resolution can be achieved based on the status of the project and the objectives of the stakeholders, primarily the allottees of the relevant project. The aforementioned rationale serves to balance the interests of the multiple stakeholders in the real estate project. This will benefit most of the stakeholders, if not all, in the following ways: (i). the CD can still continue to work on the non-defaulted projects in a smooth manner, and with reverse CIRP (if successful), it can complete the defaulted projects. (ii). the homebuyers of the defaulted projects get their possession based on a tailor resolution where their preference is given primacy. (iii). in the event of initiation of CIRP against the entire company, the homebuyers of projects (which are performing well) will also be negatively affected via the insolvency process.      (ii) Homebuyers will get possession after the completion of the project The homebuyers, as FCs are treated differently compared to other FCs, where the homebuyers prefer ownership and possession of the plot, apartment, or building rather than repayment of the amount with suitable haircuts or commencement of the liquidation process. The homebuyers, as financial creditors of the defaulted project, will get possession after the completion of the project through the methods of reverse and project-Wise CIRP.      (iii) Courts can monitor the projects individually The ideas of project-wise and reverse CIRP have been borne out of judicial wisdom. Though the Interim Resolution Professional (hereinafter “IRP”) oversees these methods for the completion of the defaulted projects, the courts also play a crucial role by closely monitoring the status of the completion of the projects and allotment. They lay down strict timelines and direct the IRP and the management to file status reports. This will ensure the timely completion of the projects and ensure accountability on the part of the CD. The process can be carried out in an efficient manner if there is a clear segregation of the projects.

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Applying Promissory Estoppel on government policies to protect investor sentiments

Taxation Law /

[By Rahul Kumar and Aditya Singh] The authors are Advocate at Sarvada Legal and student at Dr. Ram Manohar Lohiya National Law University, Lucknow.   Introduction Promissory estoppel is a legal principle that states that a promise made by one party can be enforced by the other party if the promisee relies on the promise to their detriment. This principle is often applied in contract law to enforce promises made by one party to another.  The Hon’ble Supreme Court of India, in the case of Hero Motocorp v Union of India, held that this principle shall not be applicable to the legislative powers of the State. One reason for this is that governments are not bound by the same rules and regulations as private parties. Governments have sovereign immunity, which means that they cannot be sued or held liable in the same way as private parties. While such a stance does make sense from a broader perspective, as policies are often a representation of the ideology of the party in power, and when parties change, so do the policies, it does little to take into consideration the interests of an investor who has made substantial investments into an activity based on such policies. The authors of this piece aim to elucidate why it is necessary not to have a blanket ban on the applicability of Promissory Estoppel on Governments and that there must be certain exceptions to the same, keeping in mind the volatile nature of investor sentiments and the impact of withdrawing incentives. Domestic Scenario The history of Promissory estoppel is very interesting in India. The landmark case on this subject matter is M. Ramanatha Pillai v The State of Kerala, wherein the Supreme Court held, “Therefore, as a general rule, the doctrine of estoppel will not be applied against the State in its governmental, public or sovereign capacity. An exception, however, arises in the application of estoppel to the State where it is necessary to prevent fraud or manifest injustice”. The court, in Sipahi Singh, reiterated this position by stating that “- it is well settled that there cannot be any estoppel against the Government in the exercise of its sovereign legislative and executive functions. In the case of Motilal Padampat Sugar Mills Co. Ltd, P.N. Bhagwati took a contrasting view, holding that, if on the basis of a promise made by a government, an entity changes its legal position to its detriment, the State could not be permitted to resile from the said promise. This was an innovative deviation from the established standpoint of the Supreme Court established in Ramanatha Pillai and Gwalior Rayon Silk Manufacturing. This daring stance was then criticized in the case of Ram Shiv Kumar, and it was held that the findings of the two-judge bench in Motilal Padampat were not in consonance with the stance taken in Ramanatha Pillai and Gwalior Silk, which were decisions of larger benches. Interestingly, when this conflict was brought to the forefront in Godfrey Philips, Justice Bhagwati upheld his own findings in Motilal Padampat and endorsed the judgement. Furthermore, in Union of India v Indo-Afghan agencies, the Supreme Court explicitly mentioned that “Under our jurisprudence, the Government is not exempt from liability to, carry out the representation made by it as to its future conduct, and it cannot on some undefined and undisclosed ground of necessity or expediency fail to carry out the promise, solemnly made by it, nor claim to be the judge of its own obligation to the citizen on an ex parte appraisement of the circumstances. in which the obligation has arisen.” In the instant case of Hero Motocorp, Justice Gavai and Justice Nagarathna have, in clear terms, mentioned that there can be no promissory estoppel against the legislature in the exercise of its legislative functions. The court further noted that Section 174(2)(c) provided that any tax exemption granted as an incentive against investment through a notification shall not continue as a privilege if the said notification is rescinded. International Scenario To better understand the impact of changing tax regulations and other incentives offered to investors, one needs to look no further than the crisis that unfolded in Europe, resulting in several arbitration cases, mainly in Spain, the Czech Republic and Italy. The disputes stemmed from the changes brought to the incentive programmes doled out by the governments to attract investors from around the globe. While there were various awards and lines of reasoning adopted by the various tribunals, it could be seen that the general notion was that if there was a specific commitment by a Host State, then that would give rise to a legitimate expectation that these commitments would not then be modified to the detriment of the investor. The case of PV Investors v Spain, is an important one as it highlights the duty of the Host nation to stay true to its words. It concerns a dispute between a group of investors and the Spanish government over the retroactive changes made to the country’s solar energy regulations The case was heard by the International Centre for Settlement of Investment Disputes (ICSID), which is an international arbitration institution that resolves disputes between investors and states. In its decision, the ICSID tribunal found that the Spanish government had indeed breached the principle of fair and equitable treatment, as well as the principle of protection of legitimate expectations. The tribunal also found that the retroactive changes had caused a significant reduction in the value of the investors’ projects and that the investors had suffered a substantial loss as a result. The tribunal ordered the Spanish government to compensate the investors for the damages caused by the retroactive changes. There were many such cases in which the tribunals had a similar stance and looked to protect investor sentiments. The need for application of Promissory Estoppel There are several reasons why promissory estoppel should apply to governments, especially in the context of protecting investor sentiments. First, governments often make promises to attract businesses

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Holier than Thou? A Tussle for Primacy Between IBC And PMLA

Insolvency Law /

[By Naman Maheshwari] The author is a student of Gujarat National Law University.   Introduction The Insolvency & Bankruptcy Code, 2016 (IBC) was enacted with the prime objective to revive distressed corporate debtors through a time-bound Corporate Insolvency Resolution Process (CIRP). But since its enactment, IBC has been at loggerheads with the Prevention of Money Laundering Act, 2002 (PMLA), owing to an overlap in their area of application. Legislative, judicial and other regulating authorities have faced difficulties in harmonizing the intent of the provisions of IBC and PMLA, since both the legislations contain a “non-obstante” clause. Section 71 of the PMLA provides an overriding effect to the provisions of the PMLA, while Section 238 of the IBC gives overriding effects to the provisions of the IBC, thereby restricting the operation of one legislation over the other. Recently, the High Court of Delhi in Rajiv Chakraborty vs. The Directorate of Enforcement has added fuel to the fire of conflict between IBC and PMLA by holding that moratorium as given under Section 14 of the IBC would not prevent the authorities under PMLA from confiscating/attaching the properties by virtue of Sections 5 and 8 of the PMLA. The author tries to provide a better understanding of the interplay of PMLA and IBC by analysing the judgement of the High Court of Delhi in Rajiv Chakraborty. Facts of the Case EIEL, the Corporate Debtor herein, was admitted to CIRP on 08.05.2018. Then came the Provisional Attachment Order (PAO) under Section 5 of the PMLA on 07.10.2019. The adjudicating authority confirmed the attachment by an order dated 17.03.2020. There was another PAO dated 08.07.2020, and the same was confirmed by the adjudicating authority on 01.01.2022. A writ petition was filed before the High Court of Delhi against the NCLAT for setting aside the impugned PAOs. It was dismissed by the High Court. Current Position of Law In order to understand the current legal framework, and to provide analysis of the case, , the author divides the factual matrix into 3 different possible scenarios, where the Tribunals/Courts have taken different views. Scenario I:   PAO under Section 5 of PMLA is passed before the commencement of CIRP and before the commencement of the moratorium period under Section 14 of IBC In the aforementioned scenario, tribunals and courts have held that proceedings of PMLA will supersede those of IBC, and therefore, a moratorium as prescribed under Section 14 will not be applicable. The NCLAT, in the case of Varrsana Ispat Ltd. v. Deputy Director, Directorate of Enforcement has propounded that proceedings under PMLA relate to ‘proceeds of crime’. Therefore, PMLA would take precedence over IBC as a moratorium under Section 14 is not applicable to criminal proceedings. Further, the NCLAT held that attachment by ED is not in the capacity of a creditor of the corporate debtor, because ‘proceeds of crime’ would not amount to debt. An appeal was preferred before the Supreme Court of India and was consequentially dismissed. The NLCAT reiterated the above decision in the case of Kiran Shah v. Enforcement Directorate and held that the adjudicating authority under IBC has no power to intervene in matters that fall under the purview of the authority under PMLA. With regard to the objectives of the legislation, NCLAT held that the objectives, text, and shape of the IBC and PMLA are distinct and different, and there is no inconsistency between both legislations. Therefore, both legislations can be invoked simultaneously without one necessarily having to precede over the other, and an appeal against any decision of the adjudicating authority of the PMLA lies before the Appellate Tribunal constituted under PMLA. Scenario II: PAO under Section 5 of PMLA is passed after initiation of CIRP and after commencement of the Moratorium period under Section 14 of IBC In the aforementioned scenario, tribunals and courts have held that IBC proceedings will supersede the proceedings under PMLA, and therefore, the moratorium provided under Section 14 would be applicable. The PMLA Appellate Tribunal (PMLAT) in the case of Bank of India vs. The Deputy Director of Enforcement, Mumbai was of the considered opinion that proceedings under Section 8 of the PMLA are civil proceedings and in the case of secured charge created, much prior to the PAO, in respect of any property that is confiscated or attached by the authority under PMLA, the secured creditor will have the first right over the property. The Tribunal held that the continuation of proceedings that have been initiated after the moratorium has commenced under Section 14 runs contrary to the intent of the legislature and creates hurdles in the time-bound resolution process. The PMLAT, by attributing precedence to IBC further held that by virtue of the non-obstante clause under Section 238 of the IBC, authorities under PMLA have no jurisdiction and cannot continue with the proceedings in case a moratorium has commenced. Scenario III: PAO under Section 5 of the PMLA is passed after the adjudicating authority has approved the resolution plan under Section 31 of the IBC In such a factual matrix, tribunals/courts are of the view that IBC proceedings will supersede PMLA, and therefore, any attachment/confiscation/seizure has to be vacated by the authority under PMLA. This conflicting scenario came before NCLAT in the case of M/s Bhushan Power and Steel (BPSL) vs. Enforcement Directorate. It was held that proceedings under PMLA are criminal proceedings. Consequently, the ED would have the power to order attachment. Later, the Ministry of Corporate Affairs intervened to resolve the difference between the two legislations. Immediately, an Ordinance was promulgated by the President of India, inserting Section 32A in the IBC. Through this amendment, it was made clear that once a Resolution Plan is approved by the adjudicating authority, all attachments/seizures/confiscations cease to operate. The NCLAT in the case of JSW Steel Limited abated all the criminal proceedings against the Corporate Debtor as soon as the Resolution Plan submitted by M/s JSW Steel got approved. Analysis of the Judgement The High Court of Delhi in the

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The Curious Case of Reverse CIRP: A Headway in Insolvency Law?

Insolvency Law /

[By Soumya Modi and Kunal Dave] The authors are students of National Law School of India University, Bangalore and National Law Institute University, Bhopal.   INTRODUCTION Due to the claims of homebuyers, the Insolvency and Bankruptcy Code, of 2016 (hereinafter, the Code or IBC) has seen several developments since its inception.  A recent judicial experiment in this respect is the National Company Law Appellate Tribunal-devised “Reverse Corporate Insolvency Resolution Process (reverse CIRP)” which has no genesis under the Code. This concept was formulated to protect the interests of the allottees of the real estate projects whose interests (getting possession of the unit) conflicted with the interest of other financial creditors who were concerned with the repayment of their money. Furthermore, even though real estate allottees are now financial creditors, the tribunal thought that they do not have the commercial expertise to understand the viability of a resolution plan.[i] Considering this unique position of homebuyers, the National Company Law Appellate Tribunal (NCLAT) brought in this innovation. However, judicial innovations may not always lead to desirable outcomes. The danger looms over the phenomenon of reverse CIRP, given the porousness with respect to the funds of the project. In terms of Section 4(2)(l)(D) of the Real Estate (Regulations and Development) Act (hereinafter, RERA), 70% of the amount realized for the real estate project has to be kept in a separate account only for meeting project costs. However, India has bore witnessed to several flagrant violations of this requirement. The ongoing Supertech controversy got triggered when Supertech Limited did not maintain 70% funds in this account. Additionally, Maharashtra has also witnessed a large number of instances of divergence of funds from such accounts. The tribunals have not consistently implemented this condition in most reverse CIRP cases. The likely outcome would be the enhancement of the risks of some stakeholders (promoters) benefiting at the expense of others. The thrust here is that an objective legal criterion for keeping a check on the funds is critical for an effective reverse CIRP process. Therefore, a shift from the ex-post determination in reverse CIRP cases to formulating an ex-ante regime can help in overcoming the self-serving tendencies that the promoter may have as well as bring a sense of predictability to the process. This blog will provide an overview of the reverse CIRP process, and reveal its shortcomings. Further, it will take into consideration the implications of this shortcoming from the Meld Model which is a synthesis of exclusive legal positivism (ELP).[ii] In furtherance of this model, this blog will adopt an ELP lens to the situation of reverse CIRP and will analyze the consequence of departing from it through law and economics to make a case for an ex-ante regime. AN OVERVIEW OF REVERSE CIRP In light of the specific concerns of homebuyers, the NCLAT formulated the doctrine of Reverse CIRP while deciding an appeal in Flat Buyers Association Winter Hills v. Umang Realtech Pvt. Ltd. The idea essentially provides that in the case of real estate companies, the promoter will disburse funds as a lender and not as a promoter to ensure the completion of the project. The NCLAT has also in later judgments ruled that the reverse CIRP should be carried out in a project-wise manner.[iii] The project-specificity of the process reverberates in the recently proposed Amendments to IBC. Since the IBC as it stands currently provides for insolvency resolution of a company as a whole, the default in one project would trigger the Corporate Insolvency Resolution Process (CIRP) against the entire company. In order to address these difficulties, the Ministry of Corporate Affairs has proposed certain Amendments that provide for a ‘project-wise Resolution’. SHORTCOMINGS IN THE CURRENT REGIME While the proposed Amendment comes in as a relief to the real estate developers as well as the allottees, the specific contours of the process still remain largely undefined, especially in terms of a monitoring mechanism. In Flat Buyers, the tribunal directed the Resolution Professional to ensure the completion of the project with the funds provided by the lender and the amount generated from allottees. However, no reference was made by the tribunal of the 70% requirement. Similarly, the Supreme Court in Anand Murti vs Soni Infratech Pvt. Ltd. and Amit Katyal vs Meera Ahuja upheld the concept of reverse CIRP but did not mandate this requirement under RERA.[iv] Further, in the case of Whispering Tower v. Abhay Narayan, the Tribunal allowed project-wise reverse CIRP, but no mention was made of this requirement. However, in Suspended Director of M/s. Supertech Ltd. v. Union Bank of India (Hereinafter, Supertech), the tribunal directed the RP to ensure that all receivables are maintained in a separate account.[v] Although the Tribunal’s vigilant stance in Supertech is appreciable the same can be attributed to the peculiarities of the facts in the case as the Uttar Pradesh-RERA had reported prior mismanagement of this separate fund. Therefore, there is no consistency in the approach of the courts for putting a monitoring mechanism in place for the utilization of funds by the promoters. THE MELD MODEL    (i) THE ELP ANALYSIS Exclusive Legal Positivists posit that a legal question can only be settled by referencing legally binding sources. When analyzing reverse CIRP as formulated in Flat Buyers, from the perspective of ELP, it is clear that the NCLAT’s reasoning is not grounded in any source of law. In fact, by making it a promoter-driven process the tribunal has supplanted its logic over that of the legislature. This is because the NCLAT created new terms that would conflict with Section 29A of the Code, which disqualifies the promoter of the debtor company from becoming a resolution applicant. As mentioned in the case of Chitra Sharma v. UOI, this section prevents the backdoor entry of promoters who may attempt to regain control of the entity.[vi] NCLAT in Flat Buyers introduced the terms ‘intended Lender’ and an ‘outsider financial creditor’ who essentially are promoters who ‘intend’ to be a lender while staying outside the CIRP process.

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Virtual Digital Assets (VDAs): “Securities” or not?

Capital Markets and Securities Law /

[By Dhvani Shah] The author is a student of Gujarat National Law University.   Introduction An estimated USD 15 billion is floating around in India’s crypto-asset sector. Indian IPs accounted for 5% of worldwide crypto asset exchange traffic from January 2018 to December 2020, indicating a large crypto community. Recent research suggests that approximately 6 million people, or roughly 0.5% of India’s total population, are active in the crypto space. India’s crypto asset sector is expanding at an unprecedented rate. It is home to an estimated 15 million Virtual Digital Assets (VDA) investors and 350 crypto-based startups. Over the next 18-27 months, such enterprises plan to invest over USD 6.7 billion. It is estimated that Indians have invested roughly USD 10 billion into VDAs. The Reserve Bank of India (RBI) and the government seem against regulating the crypto market in 2014; the RBI issued a caveat to the public against the risks of trading in virtual assets and its violation of the then-existing foreign exchange laws in the country. The tussle between RBI and regulation of the crypto asset market has been long-standing for over 9 years and has been precisely discussed in the Representation before the Government of India. What constitutes Virtual Digital Assets (VDAs) Virtual Digital Assets (VDA) have been finally defined in the Finance Act, 2022 with the introduction of clause 47A to Section 2 of the Income Tax Act, 1961. The Indian Supreme Court, in the decision of Internet and Mobile Association of India v. RBI[1]relied on the definition of ‘virtual currency (VC)’ as per the FATF Report which described VCs as a digital unit that can be traded and serves as “(1) a medium of exchange, (2) a unit of account, and (3) a store of value in the digital economy, but is not a government-issued legal tender.” The Court also deciphered the definition of VCs by various courts in different jurisdictions to mean property, commodity, or payment method. Interestingly, the Hon’ble Court also deduced that VDAs can be treated as an ‘intangible property’ or ‘good’. (For this blog, VDAs, crypto assets, and crypto-currency are used interchangeably). The VDA market requires regulation as banning its trading could do more harm than good as buying and selling of crypto can be treated as an occupation, and a blanket ban on its trading can invoke the fundamental right to freedom of trade and profession.[2] The government is also on the path to introducing Central Banking Digital Currency (CBDC) which would again make regulation of the crypto market necessary before its introduction into the Indian economy. For instance, the Enforcement Directorate, India’s principal body for investigating money laundering offences and violation of foreign exchange laws, has issued notices to WazirX, a cryptocurrency exchange for suspected breach of the Foreign Exchange Management Act, 1999 (FEMA). It is challenging for crypto asset service providers to navigate regulatory frameworks without guidance from authorities on how FEMA or other laws may affect their industry. Regulatory stability plays a crucial role in fostering consumer confidence in a market and in order to increase people’s confidence in the financial system, strict regulation is required. What constitutes Securities Now that we’ve seen the ‘what’ and ‘why’ let’s dive into the placing of VDAs in the existing legal framework.           (i) VDAs as ‘Security’ Securities are tradeable financial instruments with monetary value issued to raise capital. The Securities Contract Regulation Act, 1956 (SCRA) under Section 2(h) defines “securities” to be inclusive of marketable securities in an incorporated company, government securities, and any such instrument notified by the Central Government as securities.[3] This definition is wide in its ambit as the government can notify and expand ‘securities’ to cover other additional instruments. ‘Marketability is an important characteristic of securities[4] and should mean something that is capable of being bought and sold in the market regardless of the market size and has high liquidity and ease of transferability.[5] While this ease of transferability is a characteristic restricted to securities of a publicly listed company, VDAs also possess this feature of ease of transferability. To dissect the quality of ‘marketability’ in VDAs, these assets are capable of being freely bought and sold in the market through crypto-exchange platforms like Wazir X, CoinDCX, ZebPay, etc. that aid investors in trading in the crypto market. However, these crypto-platforms, due to lack of any guidelines on the regulatory framework, operate cluelessly and often in the fear of violation of any law they might be unaware of to be complied with. While an average VDA transaction could take anywhere between 10 minutes to an hour, start-ups like Polygon in the crypto space are trying to develop platforms to expedite the transfer process. Ease of liquidity indicates the demand for an instrument in the market i.e., a readily available buyer or seller which brings stability to the market. VDAs can be converted to the fiat currency of a nation. Some crypto assets are more liquid than others which depends on their trade-ability. While the VDA market might be less liquid than other instruments right now, it is a rapidly booming sector with great potential for liquidity in the future. The VDAs can thus be deemed to be marketable security. The other roadblock in the existing definition of ‘securities’ to include VDA is that it is issued by an incorporated company ruling out a major chunk of the crypto assets. This is because crypto assets are created via minting anonymously and hence, even if a company mints crypto, the original issuer of the minted crypto-asset would be unidentified leaving it out of the ambit of the company. Crypto-currency exchanges like ZebPay have been incorporated with the Registrar of Companies (ROC) as private companies offering IT and Software services. Attempts to have a new company incorporated in India for the express purpose of operating as a cryptocurrency exchange have been denied by the ROC. Before rejecting an incorporation application, in a few cases, the ROC has provided notice to the applicant

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The Binding Nature Paradox of Ministerial Decisions: A Grey Area

Trade Law /

[By Krishna Ravishankar ] The author is a student of National Law University, Jodhpur.   INTRODUCTION With the wheels of the 13th Ministerial Conference (hereinafter, “MC”) bus gearing up speed to be held at Abu Dhabi, MC-12 still remains an important talking point in the realm of international trade. The most significant face of the Geneva Ministerial Conference is the adoption of the 2022 Ministerial Decision on the TRIPS Agreement (hereinafter, “MD”) which provides clarifications to the existing patent waiver provisions in order to make vaccines and associated technologies more accessible to the developing world in the face of the COVID-19 pandemic. [1]While however laudatory the policy intent of the MD might be, there still remains the question of the legal enforceability of the same. This article tries to discuss this recurrent issue in a succinct manner. MINISTERIAL DECISIONS AS SOFT LAW INSTRUMENTS The “Covered Agreement” Argument As Peter Van De Bosche highlights, the role of the Dispute Settlement Understanding (hereinafter, “DSU”) is “prompt settlement of disputes between WTO members concerning their respective rights and obligations under WTO law.”[2] This observation is further enshrined under Article 3.2 which makes the functioning of the DSU strictly applicable only to WTO Covered Agreements.[3] Article 1.1 provides the contours of a “covered agreement” as those expressly provided for in Appendix 1 of the DSU as reiterated in Panel Report of Brazil- Desiccated Coconuts.[4]The Appellate Body in the report of Guatemala- Cement 1 while interpreting Article 7.2 and Article 23.1 further states that a legal recourse for a member state shall lie under the DSU only when it arises from an alleged violation of a provision of an “explicitly mentioned covered agreement.”[5] Thus, as a result, ministerial decisions not being explicitly mentioned in Appendix 1 which doesn’t allow member states to bring alleged violations of the same within the DSU Adjudication Mechanism lack legal enforceability. [6] The Marrakesh Agreement Perspectives Considered the highest decision-making body of the WTO, the WTO Ministerial Conference under Article IV:1 has the authority to adopt decisions in furtherance of any of the mentioned multilateral trade agreements provided for in the Appendixes of the Marrakesh Agreement.[7] This decision making authority must be read with Article IX which qualifies the subject matter on which an MC can adopt such decisions with regard to covered agreements. Decisions regarding official interpretations under Article IX:2 and waivers and concessions in exceptional circumstances under Article IX:3 along with amendments to WTO Covered Agreements under Article X are the subject matters of most MDs.[8] However, decisions normally taken Article IX as recognised by the Appellate Body in EC-Chicken Cuts merely constitute official interpretations under Article IX:2 and thereby no claim for specific legal enforcement can be made because MDs don’t generally generate specific rights or obligations on Member States. [9] Mainly considered by scholars as decisions showcasing the political will of the Ministerial Conference, they have been considered to lack the legally binding nature a covered agreement has making them non-binding soft law instruments. [10] PROBLEMS WITH THE “SOFT LAW” APPROACH A major problem that has arisen with this blanket “covered agreement” and “soft-law” approach with MDs is that many ministerial decisions enacted necessarily didn’t take the colour of merely official interpretations under Article IX:2. Some of the most consequential MDs pertained to important waivers and concessions under Article IX:3 and Article IX:4 be it the Doha Ministerial Decision of 2001, the Nairobi Export Decision of 2017 as well the current TRIPS Ministerial Decision of 2022. [11]Many Ministerial Decisions which have been taken, have a hue of waivers and concessions that create specific rights and obligations under WTO Covered Agreements, making us want to re-look the approach EC-Chicken Cuts has taken. Sometimes, MDs merely dealing with interpretations or clarifications under Article IX:2 also require legal enforceability when there are specific rights and obligations created by them.  [12] Part V of the Agreement of Subsidies and Countervailing Measures which is the Dispute Settlement Part was itself incorporated through a ministerial decision. Questions, when arisen regarding its enforceability, required The Panel to step in US-Lead and Bismuth-II to clear the ambiguity.[13] It held while differentiating between a Ministerial Declaration and a Ministerial Decision that a Ministerial Declaration merely recognises the need to take certain actions hence it cannot be mandatorily enforced. [14]A ministerial decision, on the other hand, specifies a scheme on how these actions are to be given effect. These gaps that the soft-law approach has taken only open more pandora boxes than it closes. THE VIENNA CONVENTION ON LAW OF THE TREATIES: A POSSIBLE ANTIDOTE While the principle of stare decisis is not followed largely in WTO law with previous panel and appellate body reports merely having a persuasive value, tracing the jurisprudence was important to understand the sense of the grey area one is traversing. Before discussing a possible solution to how these gaps can be addressed, it is important to look at how the Vienna Convention (hereinafter, “VCLT”) has been used by Panels and the Appellate Body.[15]Article 31(3)(a) and Article 31(3)(b) which lay down the parameters for a subsequent agreement and subsequent practices supplementing that agreement have been used as an important source of interpretation of WTO law under the “customary principles of international law” of Article 3.2 of the DSU. [16] When read with Article 2 of the VCLT which defines a treaty, these two provisions act as instruments part of the same transaction thereby mandating equal legal enforcement.[17] A very important interpretation of the “subsequent agreement” arises from the Appellate Body’s decision in Japan-Taxes on Alcoholic Beverages wherein the Appellate Body held that if a subsequent agreement dealt with an interpretation or clarification of a covered agreement provision, then it must be given the same level of legal enforcement as a covered agreement itself.[18]Though it didn’t specify ministerial decisions to fall within this description of a subsequent agreement, it did surely provide some room for introspection. The next important finding comes in the Appellate Body Report in US- Clove Cigarettes wherein

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Impact of Consumer Protection Laws on the Banking Industry

Banking Law /

[By Saloni Mehta] The author is a student of Symbiosis Law School, Pune.   Background on consumer protection laws Consumer protection laws have substantially impacted the legal framework governing the banking industry, particularly in ensuring that banks are held accountable for their actions and that consumers are treated equitably. Consumer Protection Laws safeguard against unfair commercial practices, deceptive marketing and dangerous products. Consumer Protection regulation have recently emphasised digital privacy and expanded data breach notification obligation. Financial Services regulations to avoid predatory lending and promoting financial transactions One of the most important implications of consumer protection laws on the banking industry is the creation of regulatory agencies to oversee the sector like The Reserve Bank of India (RBI) serves as the primary monetary authority of the nation, overseeing and monitoring the banking sector. The regulatory body possesses the authority to promulgate directives and mandates aimed at safeguarding consumers, as well as to impose sanctions on financial institutions that contravene statutes pertaining to consumer protection. Furthermore, The Securities and Exchange Board of India (SEBI) is the regulatory authority tasked with the oversight of the securities market in India, which encompasses banks that engage in the issuance of securities. The regulatory framework oversees banking operations that pertain to the trading of securities, encompassing activities such as underwriting, merchant banking, and portfolio management services Consumer protection laws have led to the development of new banking regulations. For instance, many nations require banks to disclose information about their products and services, including fees, interest rates, and other charges, to consumers. These regulations are intended to enable consumers to make informed decisions regarding their banking requirement. Moreover, consumer protection laws have expanded the rights of consumers in disputes with their institutions. Consumer protection laws have shaped the legal framework of the banking industry, ensuring that consumers are treated equitably and banks are held accountable for their actions. In order to maintain the confidence of their customers and the general public, banks must remain current on these laws and regulations and ensure that they are in compliance. Importance of consumer protection laws in the banking industry – Consumer protection regulations are extremely important in ensuring that the banking industry runs in an honest and open manner, as well as preventing consumers from being taken advantage of or mistreated in any way. The Consumer Protection Act (CPA) was implemented in 1986 in India with the aim of safeguarding consumer rights and curbing any instances of unjust trade practises. It offers a range of options to consumers, including the ability to pursue compensation, lodge a complaint with the consumer forum, and appeal to higher courts. The aforementioned provision serves the purpose of mitigating fraudulent and abusive activities by endowing consumers with lawful means to seek redress against unjust commercial conduct. Indian consumer protection laws protect customers from fraud and abuse while encouraging competition and innovation. Fair, open markets safeguard consumers within this system. Laws ensure that businesses operate ethically and that consumers have equal access to high-quality goods and services at fair pricing Assisting in the prevention of consumer fraud and abuse Consumer protection laws assist in the prevention of consumer fraud and abuse by providing legal protections for consumers against predatory practises such as deceptive marketing, unfair billing, and unauthorised transactions. In this way, consumer protection laws assist in the prevention of fraud and abuse. Consumer protection laws aim to guarantee that banks and other lenders operate in a fair and transparent manner, and that they do not engage in discriminatory lending practises that unjustly target specific categories of customers. In addition, these rules help to ensure that banks and other lenders do not engage in activities that would violate the consumer protection laws. The banking sector benefits from consumer protection laws because they provide industry with standards that are not only stated but are also enforced, which in turn encourage competition and innovation. . In this way, consumer protection laws help to encourage both innovation and competition. This helps to ensure that consumers have access to a greater range of financial products and services, and that banks are driven to compete on the basis of price, quality, and innovation in their offerings to customers. Stability in the financial system can be promoted with the help of consumer protection legislation by ensuring that financial institutions are properly regulated and do not engage in practises that are abusive or dangerous and therefore have the potential to disrupt the stability of the financial system. In general, The implementation of consumer protection regulations is imperative to ensure the banking system operates with integrity , transparency and responsiveness to its clientele They safeguard customers from exploitation, foster transparent and ethical lending practices, stimulate competition and ingenuity and uphold financial stability. The effectiveness of consumer protection laws in protecting consumers While the main objective of India’s consumer protection laws is to safeguard consumers and advance ethical business practises, there are a number of obstacles that prevent them from being fully implemented and enforced. Here are some of the main things that prevent them from working effectively – The lack of consumer awareness is one of the main obstacles to the implementation of consumer protection laws in India. Even when customers are aware of their legal options, pursuing them can be a time-consuming and laborious procedure. The overwhelming number of cases in consumer forums and courts causes delays in the resolution of disputes. Additionally, many consumers may find the cost of legal counsel to be prohibitive, which restricts their access to legal remedies. India frequently lacks the infrastructure and resources necessary to effectively enforce consumer protection legislation. The ability to enforce rulings by regulatory authorities like the National Consumer Disputes Redressal Commission (NCDRC) and the State Consumer Disputes Redressal Commissions (SCDRCs) restricts their efficacy. Furthermore, The unorganised sector accounts for a sizeable component of the Indian economy, making it challenging to control and uphold consumer protection legislation. It is challenging to ensure that small firms and suppliers abide by consumer protection regulations

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