Timely amendments: Govt steps in to deal with IBC's effect on SMEs, realty

The Union Cabinet approved an Ordinance on Wednesday that amended the new Insolvency and Bankruptcy Code (IBC) in an attempt to fill in some gaps in the system that have been identified. As with the roll-out of the goods and services tax, the government needs to be commended for working swiftly to fine-tune reform that has already been implemented. In particular, the Ordinance seeks to ameliorate the effect of IBC proceedings on the real estate sector and small and medium enterprises (SMEs). Both these sectors are major sources of growth in the Indian economy, and stability and transparency in the real estate sector is particularly important for expansion of the Indian middle class.

The government has set the aim of “housing for all” by 2022, and thus transparency and security for home-buyers should be a priority. One large part of the government’s attempts to grow and modernise the real estate sector was the Real Estate (Regulation and Development) Act of 2016, or Rera. This law was supposed to increase the protection for home-buyers from unscrupulous developers. However, the promulgation of the IBC had undermined that end, since the two laws seemed not to fit well together. In particular, under the IBC, it was feared that home-buyers would be treated as unsecured creditors, meaning they would be back in the line in terms of distribution of assets when a real-estate company faced bankruptcy. This divergence has already caused some legal problems, when the National Company Law Tribunal (NCLT) in Allahabad pushed Jaypee Infratech into insolvency proceedings but home-buyers challenged it in the Supreme Court — which then appointed an amicus curiae to speak for home-buyers in IBC proceedings. 

After the ordinance, home-buyers will be treated as financial creditors, with their representatives on the committee of creditors that must approve resolution plans for a company that has been taken to the NCLT. Yet this is not the end of the road for the issue — questions remain that need to be answered. Banks are naturally unhappy at the thought that home-buyers might seize control of the process given the extent of their investment — in the Jaypee case, for example, home-buyers had put Rs 37 billion more into the company than banks. It is also unclear exactly how the representative of home-buyers will be chosen, and what it means for the effectiveness and smooth functioning of the committee of creditors.

SMEs’ concerns have been addressed by allowing promoters of companies with turnover up to Rs 2.5 billion to bid during the IBC process. Restrictions on promoters’ bids have been put in place in order to ensure that they do not game the system to their advantage. But it has become clear that, for SMEs, in particular, these restrictions may have been unrealistic, prompting too many companies to go into liquidation with a consequent loss in value. The government’s move to address this problem is timely. SMEs need to be firing on all cylinders in order to boost growth recovery and deal with the burgeoning job shortage. The government must stand by to make other useful and forward-looking changes to the IBC as needed.