Numerous legislations dealing with insolvency had been enacted in the past which repeatedly failed, leading to the enactment of Insolvency and Bankruptcy Code, 2016. From time to time the constitutional validity of the Code has been put into question by various stakeholders. The Code has been claimed to be in violation of Article 14 of the Constitution of India and called discriminatory.
In Swiss Ribbons Pvt Ltd. v. Union of India , the Supreme Court while taking up issues pertaining to the constitutional validity of Insolvency and Bankruptcy Code, 2016, upheld its validity in entirety rejecting the multifaceted challenges.
In this article, the rationale behind the Supreme Court while rejecting various petitions challenging constitutional validity of the Code has been discussed.
Provisions alleged to be in contravention of the Constitution of India
It was asserted that there lies no actual difference between financial and operational creditors as both contribute their money in the business either in the form of money or goods and services . In an abundance of applications before the High Court and National Company Law Tribunal (NCLT), the operational creditors have alleged that the categorization between the two is arbitrary and the legislator has applied no intelligible differentia while creating such differentiation.
Further, Section 12A which was introduced in June 2018 on recommendation of Insolvency Law Committee, its withdrawal mechanism of an admitted application was made the primary ground for challenging it. The provision was pertaining to “withdrawal of an application by the adjudicating authority admitted under Section 7, 9 and 10 of the Code on an application by applicant approved by ninety percent of the members of committee of creditors”. It has been purported as thwarting the process of settlement between the creditors and corporate debtors by giving rampant power into the hands of committee of creditors.
Another provision that has caused colossal uproar is Section 29A which has put prohibition on promoters to bid for their own company. It has been claimed that such is in violation of their fundamental right. The provision is manifestly arbitrary sine it does not provide exception for safeguarding efficient promoters and giving the provision a retrospective application would take away the vested rights of erstwhile promoters. It was averred that despite the person not being a wilful defaulter, his account would be categorized as Non-Performing Asset (NPA) and the period of one year that was provided had no rational basis.
Section 53 provides the hierarchy for distribution of assets on liquidation. The preference is given to secured claims while unsecured claims are given the lowest priority. During the process of liquidation, due to its ranking beneath all creditors (including unsecured creditors who are indeed financial creditors), operational creditors are likely to not get anything . Hence, Section 53, specifically Section 53(1)(f) has been asserted to be discriminatory and arbitrary violating Article 14 of the Constitution of India.
Supreme Court’s Rationale
Classification of creditors
Taking the nature of debt, economic competency of creditors and the amount of proof required for commencement of an insolvency resolution proceeding into consideration and after carefully examining it, the Supreme Court upheld the classification between financial and operational creditors to be neither arbitrary nor discriminatory nor violative of Article 14 of the Constitution of India.
Speaking about the absence of voting rights of operational creditors in Committee of Creditors (CoC) being violative of their rights, the Supreme Court observed that financial creditors are involved in business of providing loans and while providing such loan they assess the viability and feasibility of the business of the debtor. They are on a better footing to evaluate the resolution plan. On the contrary, the operational creditors are concerned only with the recovery. This clearly explains the reason for the presence of financial creditors in the Committee of creditors.
The Supreme Court has made certain observations with respect to financial and operational creditors. They are:
- Financial creditors are secured creditors while operational creditors are unsecured creditors.
- The contract entered into with financial creditors is for loans, finance etc while those entered with operational creditors are for the supply of necessary goods and services for the business.
- The amount of money due to a financial creditor is higher than that to an operational creditor.
- Unlike a financial creditor, an operational creditor is not required to prove that there exists a default on the part of the debtor but only has to claim his right of payment of such debt due to him.
- It is unnecessary to give a notice of default to a financial debtor since they are conscious of the way in which the loan has been structured and also of any such defaults made. While in operational debt, operational creditors have to be given a notice of default in order to curtail premature initiations and help reach a settlement.
- The financial creditors are from inception into assessment of feasibility of corporate debtors. When there is financial stress, they can get involved in loan and business debtor’s business restructure. However, the same cannot be done by operational creditors.
It can be said that the underlying aim of the Code being protection of the corporate debtor as a going concern and at the same time making sure that all creditors have maximum recovery, there exists considerable distinction between the two. Henceforth, there exists an intelligible differentia between the two creditors having direct relation to objects sought to be achieved under the Code.
Passing of constitutional muster by Section 12A
The Supreme Court while holding Section 12A as not being violative of Article 14 referred to the aim of the Code as stated in the BLRC Report. The report observed that the collective participation of all key stakeholders is required during the process of negotiation as well as during assessment of the viability. It is the duty of the law to ensure that while reaching a negotiation solution the liabilities of non-participating creditors are also met. Once the proceedings of the resolution process are initiated, it is anticipated to include all creditors and not just the applicant creditor. Through this, the purpose of the Insolvency and Bankruptcy Code is achieved which is to reach a settlement for inclusion of benefits of all other creditors. Hence, the high thrust of ninety percent votes of committee of creditors is required while withdrawing an application.
To prevent CoC from having rampant power, the Code has provisions relating to appeal where such withdrawal can be challenged. Under the Code, the power has been given in the hands of NCLT to decide upon such withdrawal. It can be inferred that NCLT have the last say and not CoC. Hence, Section 12A passes the constitutional muster.
Constitutional validity of Section 29A
Relying upon the judgement given in Arcelor Mittal India Private Limited v. Satish Kumar Gupta & Ors , the Supreme Court held that promoters possess no vested right to be regarded as resolution applicants. Given that the elementary assumption of existence of vested right has been negated, it can be said that there is no violation of promoter’s right by retrospective application .
Speaking about the rationale behind one year period provided under Section 29A, the Supreme Court referred to the guidelines provided by RBI. RBI’s Master Circulars after giving adequate grace period to defaulters categorize any loan as NPA. Only when a person is unable to repay his debt within the period, he is declared to be ineligible to be a resolution applicant. Since the period of one year is a policy matter decided by Master Circular, it cannot be considered to be at fault.
It would not be good in law to oust a person from being a resolution applicant merely because he happens to a relative of an ineligible person. The Supreme Court discussing upon the ineligibility of relatives of erstwhile promoters as resolution applicant stated that such restraint would only apply if such person has connection with business activity of resolution applicant. And in case of absence of such connection, no person could be disqualified under Section 29A(j).
Section 53 is neither discriminatory nor manifestly arbitrary
Negating the challenges against Section 53 of the Code, the Supreme Court explained the relatively higher importance of repayment of financial debts which is vital for infusing capital in the economy  and further lending of money to other business entities. This creates intelligible differentia justifying the distinctive treatment in the waterfall mechanism. Unsecured debts have different types and if there exists a rightful interest that requires protection having direct relation to the object sought to be achieved, then Article 14 will not be attracted.
The Insolvency and Bankruptcy Code, 2016 has created a solid base for developing insolvency law and improved the recovery rate of debt in the nation. Adjudging upon the challenges questioning the Code, the Supreme Court has approved the Code in totality to be in consonance with the Constitution of India and its provisions not violating Article 14. Devising a policy related to a financial problem is a herculean task and it is impossible for the legislature to enact a legislation which is totally problem free. Henceforth, the Supreme Court observed that legislation cannot be declared as unconstitutional because of the mere fact that there is likelihood of injustice.
 (2019) 4 SCC 17
 Surbhi Jaju (Feb 2, 2019), “Constitutional Validity of Insolvency and Bankruptcy Code”, Retrieved from https://blog.ipleaders.in/constitutional-validity-of-insolvency-and-bankruptcy-code/
 Chintan Chinnappa (Feb 21, 2019), “Challenge to the Insolvency and Bankruptcy Code, 2016: What the Supreme Court held”, Retrieved from https://www.barandbench.com/columns/supreme-court-constitutional-validity-ibc-2016
 (2019) 2 SCC 1
 Karthik Sundaram (Feb 14, 2019), “Dissecting the landmark SC verdict, upholding IBC’s constitutional validity – Part I”,
Retrieved from http://www.lawstreetindia.com/experts/column?sid=272
 Nandini Gore, Khushboo Bari (March 19, 2019), “The Viewpoint- IBC judgment: The Defaulter’s Paradise is Lost”, Retrieved from https://www.barandbench.com/columns/the-viewpoint-ibc-judgment-the-defaulters-paradise-is-lost
- Whether the Insolvency and Bankruptcy Code, 2016 passes the constitutional muster in entirety?
- Whether there is sufficient intelligible differentia between a financial and operational creditor?
- Whether unbridled power has been vested in the Committee of Creditors (CoC) under Section 12A?
- Whether Section 29A takes away the right of erstwhile promoters to be considered as resolution applicants?
- Whether putting operational creditors i.e. unsecured creditors at the lowest priority is discriminatory and arbitrary?