NCLAT Establishes Regulation 35A as Directory in Handling Fraudulent Transactions Beyond Prescribed Timeframes

Introduction

The case of Aditya Kumar Tibrewal v. Om Prakash Pandey And Others adjudicated by the National Company Law Appellate Tribunal (NCLAT) on April 6, 2022, marks a significant development in the interpretation of the Insolvency and Bankruptcy Code, 2016 (hereinafter referred to as the Code). This case revolved around the rejection of an application filed by the Resolution Professional (RP) under Sections 43, 45, 49, and 66 of the Code, challenging transactions allegedly executed with the intent to defraud creditors.

The principal issues centered on the applicability of Regulation 35A of the Insolvency and Bankruptcy Board of India (Insolvency Resolution Process for Corporate Persons) Regulations, 2016 (hereinafter referred to as CIRP Regulations, 2016), and whether the timelines prescribed therein are mandatory or directory in nature. Additionally, the case delved into whether transactions aimed at defrauding creditors could be challenged beyond the timeframes set under Section 46 of the Code.

Summary of the Judgment

The RP filed an application (I.A. No. 742/KB/2020) seeking to declare certain transactions executed by the corporate debtor as undervalued and fraudulent under Sections 43, 45, 49, and 66 of the Code. The Adjudicating Authority (NCLT, Kolkata Bench) dismissed the application, citing non-compliance with Regulation 35A and Section 46 of the Code. Aggrieved by this decision, the RP appealed to the NCLAT.

Upon review, the NCLAT overturned the decision of the NCLT, holding that the timelines prescribed under Regulation 35A are directory, not mandatory. Furthermore, it clarified that transactions alleged to defraud creditors under Sections 49 and 66 are not bound by the timeframes set out in Section 46. The Tribunal emphasized that the rejection based solely on procedural non-compliance was erroneous, especially in light of substantial allegations of fraudulent transactions that were substantively pleaded in the application.

Analysis

Precedents Cited

The judgment extensively referenced landmark cases that delineate the distinction between mandatory and directory provisions in statutory law:

State of Uttar Pradesh Vs. Manbodhan Lal Shrivastava (AIR 1957 SC 912): Highlighted that the intent of the legislature determines whether provisions are mandatory or directory, not merely the language used.
Montreal Street Railway Vs. Normandin (AIR 1917 PC 142): Established that provisions related to public duties that can cause significant inconvenience if strictly enforced are typically directory.
Lalaram Vs. Jaipur Development Authority (2016) 11 SCC 31: Reinforced that procedural timelines often serve as guidelines to expedite justice rather than rigid mandates.
Surendra Trading Company Vs. Juggilal Kamlapat Jute Mills Company Limited and Ors. (2017) 16 SCC 143: Confirmed that time limits in procedural statutes are usually directory, allowing flexibility based on circumstances.
Kailash Vs. Nanhku and Ors. (2005) 4 SCC 480: Emphasized that procedural laws aim to facilitate justice and should not obstruct it, even if timelines are not strictly adhered to.
Smt. Rani Kusum vs. Smt. Kanchan Devi (2005) 6 SCC 705: Asserted that procedural provisions are tools to aid justice and should not be interpreted in a way that hinders the dispensation of justice.
Sushil Kumar Sen Vs. State of Bihar (1975) 1 SCC 774: Reinforced that procedural laws are subordinate to substantive justice.
Blyth vs. Blyth (1966) 1 All ER 524: Clarified that individuals cannot claim rights over procedural modalities set by statutes.

Legal Reasoning

The Tribunal analyzed Regulation 35A within the broader framework of the Code, emphasizing that its provisions are designed to facilitate an efficient insolvency resolution process rather than impose rigid deadlines. By interpreting the term "shall" within Regulation 35A as directory, the Tribunal underscored that flexibility is inherent, especially in circumstances where the Resolution Professional faces genuine impediments, such as uncooperative suspended directors.

Furthermore, the Tribunal differentiated transactions that fall under Section 46 (which prescribes timelines for avoiding undervalued transactions) from those under Sections 49 and 66 (which deal with fraudulent transactions). It contended that fraudulent transactions are not constrained by the timelines of Section 46, allowing the RP to challenge such transactions irrespective of when they were executed.

The Tribunal also considered the lack of response from respondents as an implicit acknowledgment of the allegations, further strengthening the RP's position. The judicial emphasis was firmly on the substantive merits of the case rather than procedural technicalities.

Impact

This judgment has far-reaching implications for corporate insolvency proceedings in India:

Flexibility in Procedural Timelines: By categorizing Regulation 35A as directory, the Tribunal provides Resolution Professionals with the discretion to file applications even beyond prescribed timelines, provided there are valid reasons.
Strengthened Stance Against Fraudulent Transactions: Clarifying that Sections 49 and 66 are not bound by Section 46 timelines empowers RPs to challenge fraudulent transactions irrespective of when they occurred, enhancing the protection of creditor interests.
Emphasis on Substantive Justice: The judgment reinforces that substantive justice takes precedence over procedural compliance, ensuring that merit-based decisions are upheld even if procedural norms are not strictly followed.
Increased Accountability of Directors: By allowing actions under Sections 49 and 66 beyond Section 46 timelines, directors and related parties are held more accountable for their actions within the insolvency framework.

Complex Concepts Simplified

Regulation 35A of CIRP Regulations, 2016

Regulation 35A outlines the procedures for identifying and challenging transactions deemed preferential or undervalued in the context of corporate insolvency. It sets specific timelines for Resolution Professionals to form opinions and apply to the Adjudicating Authority for relief.

Directory vs. Mandatory Provisions

Mandatory Provisions: Requirements that must be strictly followed. Non-compliance can render actions invalid.
Directory Provisions: Guidelines that suggest preferred actions but allow flexibility based on circumstances without invalidating processes if not strictly adhered to.

            Sections 43, 45, 49, and 66 of the Insolvency and Bankruptcy Code
            Section 43: Grants the liquidator or RP power to avoid certain transactions deemed prejudicial to the interests of creditors.
Section 45: Defines what constitutes an undervalued transaction.
Section 49: Deals with transactions defrauding creditors, allowing the Adjudicating Authority to declare such transactions void and reverse their effects.
Section 66: Pertains to fraudulent or wrongful trading, holding directors liable for contributing to the debtor’s insolvency through fraudulent intentions.

        

Conclusion

The NCLAT's decision in Aditya Kumar Tibrewal v. Om Prakash Pandey And Others underscores the judiciary's commitment to ensuring that substantive justice is not obfuscated by procedural constraints. By classifying Regulation 35A as directory and exempting Sections 49 and 66 from Section 46's timelines, the Tribunal has fortified the framework's robustness against fraudulent practices.

This ruling not only empowers Resolution Professionals to act decisively against fraudulent activities but also enhances the overall efficacy of the insolvency resolution process. Moving forward, stakeholders in corporate insolvency must be cognizant of these interpretations to navigate the legal landscape effectively, ensuring that the primary objective of maximizing debtor assets and safeguarding creditor interests is achieved without undue procedural hindrances.