SUPREME COURT HOLDS INTEREST FREE LOANS QUALIFIED TO BE FINANCIAL DEBTS

The Two Judge Bench of the #SupremeCourt comprising of J. Indira Banerjee and J. Ramasubramanian has in a recent case of M/S Orator Marketing Pvt. Ltd. vs M/S Samtex Desinz Pvt. Ltd. passed a #Judgment dated 26-07-2021 and decided upon the issue of whether a person who gives a term #loan to a corporate person, free of #interest, can be considered as a #financialcreditor, and competent to initiate corporate insolvency resolution process (#CIRP) under Section 7 of the Insolvency and Bankruptcy Code 2016 (#IBC).

In this case, M/s Sameer Sales Private Limited (Original Lender) advanced a term loan of Rs.1.60 Crores to M/S Samtex Desinz Pvt. Ltd. (Corporate Debtor) for a period of two years, to enable the Corporate Debtor to meet its working capital requirements. The loan was to be repaid by 01-02-2020. Although the Corporate Debtor made some payments towards loan repayment, but it still failed to pay the balance amount of Rs. 1.56 Crores. Hence, the Original Lender assigned the outstanding loan to M/S Orator Marketing Pvt. Ltd., the Appellant herein.

Thereafter, the Appellant filed an Application under Section 7 IBC to initiate CIRP in respect of the Corporate Debtor before the National Company Law Tribunal (NCLT), New Delhi. The NCLT dismissed the Section 7 Petition vide Judgment dated 23-10-2020 on the ground that it was an interest free loan given to the Corporate Debtor and hence, the claim does not qualify to be a financial debt and the Applicant does not qualify to be a financial creditor under IBC.

Section 5 (7) of IBC defines “financial creditor” as any person to whom a financial debt is owed and includes a person to whom such debt has been legally assigned or transferred to; and as per Section 5 (8) of IBC, “financial debt” means a debt along with interest, if any, which is disbursed against the consideration for the time value of money.

Aggrieved, the Appellant filed an appeal under Section 61 IBC before the National Company Law Appellate Tribunal (NCLAT). The NCLAT vide Judgment dated 08-03-2021 dismissed the Appeal on the ground that the Corporate Debtor was given interest free unsecured loan by the Original Lender.

Being aggrieved by the NCLAT Judgment dated 08-03-2021, the Appellant filed an appeal before the Supreme Court.

The Apex Court made the following observations in this case:

1) The NCLT and NCLAT have clearly overlooked the following points while dismissing the Section 7 Petition:

i) That NCLT and NCLAT have overlooked the words ‘if any’ given in Section 5 (8) of IBC, which defines financial debt as a debt along with interest, if any, which is disbursed against the consideration for the time value of money and includes… and thereby wrongly dismissed the Section 7 Petition on the ground that there was no ‘interest’ element in the debt.

ii) That NCLT and NCLAT have overlooked the words ‘includes’ as given in Section 5 (8) of IBC, which provides that “financial debt” means a debt along with interest, if any, which is disbursed against the consideration for the time value of money and includes–… Hence, where the word is defined to include something, the definition is prima facie extensive and exhaustive in nature.

iii) That NCLT and NCLAT have wrongly considered financial debt to include only those debts that are borrowed against the payment of interest under Section 5 (8) (a) of IBC.

iv) That Section 5 (8) of IBC defines to include other forms of financial debt as well such as (f) any amount raised under any other transaction, including any forward sale or purchase agreement, having the commercial effect of a borrowing.

2) Hence, under Section 5 (8) (f) of IBC:

i) In case of a debt which is disbursed against consideration for the time value of money,

ii) and the debt has the commercial effect of borrowing,

iii) but there is no interest payable on the loan amount,

iv) then the principle outstanding debt amount itself qualifies to be financial debt.

Therefore, ‘Financial Debt’ would have to be construed to include interest free loans advanced to finance the business operations of a corporate body.

3) Thus, having regard to the aims and objects of IBC, when a term loan (free of interest) has the commercial effect of borrowing and is disbursed against consideration for the time value of money, it is deemed to be a financial debt under IBC.

Therefore, based on the aforesaid grounds, the Supreme Court held that in this case, interest free loan was advanced to the Corporate Debtor to meet its financial and working capital requirements, to be repaid by 01-02-2020. Hence, the loan is deemed to have both ‘commercial effect of borrowing’ and ‘consideration for the time value of money’. Further, the Corporate Debtor committed ‘default’ in repayment of loan to the Appellant. Thus, the loan/debt is deemed to be a financial debt and the Appellant is deemed to be a financial creditor under IBC. Therefore, the Apex Court held the Appellant qualified to initiate CIRP under Section 7 IBC in respect of the Corporate Debtor. As a result, the NCLT Judgment dated 23-10-2020 and NCLAT Judgment dated 08-03-2021 have been set aside.

Harini Daliparthy

Senior Legal Associate

The Indian Lawyer