NCLAT explains essential criteria of Financial Creditor

ibc-cases-nikhil-mehta-and-sons-vs-amr-infrastructure-limited

Status as on- 07/07/2021

Case- Nikhil Mehta and Sons Vs AMR Infrastructure Ltd.

(Company Appeal (AT) (Insolvency) No. 07 of 2017)

Brief Facts of the case

  1. In the present case, the Applicants-Appellants had signed a Memorandum of Understanding with the Respondent under which the Appellants agreed to buy properties from the Respondent. The Respondent promised to pay monthly “assured returns” from the time the MOU was signed until possession was delivered to the Appellants in exchange for a substantial portion of the total money paid upfront.
  2. The Respondent defaulted on its payments after paying these assured returns for a period of time. The Appellants then filed an application under section 7 of the IBC. The question was whether this was a simple sale transaction in which the Appellants were merely buyers, or whether the Appellants were financial creditors under section 5(7) read with section 5(8) of the IBC and thus entitled to make an application under section 7 of the IBC.
  3. The Appellants contended that the transaction was a method of raising funds from the market at a low interest rate, and that the “assured returns” were in the form of interest. The Appellants relied on a SEBI order that held that such transactions in which the developer promised to pay guaranteed returns to the buyer “are not pure real estate transactions, but rather satisfy all of the ingredients of a Collective Investment Scheme as defined under section 11AA of the SEBI Act.”
  4. According to the Appellants, the transaction was in the nature of “fund mobilisation activity,” and the “assured returns” were nothing more than the interest paid on such funds. To back up their claim, the Appellants pointed to the fact that on the Respondent’s balance sheet, these assured returns were listed as “Commitment Returns” under “Financial Cost,” with TDS deducted under the heading “Interest, other than Interest on Securities.”

Held

The Hon’ble NCLAT ruled as follows:

  1. Assured returns by real estate developers is a method of raising or mobilizing funds from the open market or general public at a lower rate of interest without any security and without the involvement of any regulatory body. As a result of the transaction, the appellant is now a financial creditor.
  2. The amount due as assured returned is listed as Financial Cost in the respondent’s current balance sheet, and the respondent deducts the amount of TDS on the return amount under section 194A of the Income Tax Act, which deals with interest other than interest on securities. This makes the payment of assured return the payment of interest, which is also mentioned in the appellants’ forms 16A and 26AS.
  3. The appellants are investors who have selected a committed return plan. The respondents, in turn, agreed to pay the investors a monthly committed return. As a result, the amount owed to the appellants falls within the definition of “debt” as defined in Section 3(11) of the Code.
  4. On Financial Creditor, it was categorically held that:

“…we find that following essential criteria’s to be fulfilled for a Creditor to come within the meaning of ‘Financial Creditor’:- (i) A person to whom a ‘Financial debt’ is owed and includes a person whom such debt has been legally assigned or transferred to (ii) The debt along with interest, if any, is disbursed against the consideration for time value of money and include any one or more mode of disbursed as mentioned in clause (a) to (i) of sub-section (8) of Section 5.”

  1. On maintainability of application under I & B Code, it was held as under:

“It is the case of the Appellants that various winding up petitions have been filed and are pending against the Respondent for non-payment of the assured returns to various buyers wherein the Respondent has admitted liability and has offered to settle the claims but has not yet been able to do so. Therefore, since the provision of the Winding up under the Companies Act, stands substituted by the Insolvency and Bankruptcy Code, 2016, then the Appellants should be entitled to relief under the I & B Code itself.”

Impact of the case

In its decision, the NCLT examined the definitions of “Financial Creditor” and “Financial Debt.” It was determined that a Financial Debt would be a debt with interest disbursed against the time value of money – that is, the inflow and outflow must be separated by time and there must be some compensation for the time value of money.

The NCLT noted –

“The Key feature as postulated by section 5(8) is its consideration for time value for money. In other words, the legislature has included such financial transactions in the definition of ‘Financial debt’ which are usually for a sum of money received today to be paid for over a period of time in a single series of payments in the future. It may also be a sum of money invested today to be repaid over a period of time in a single or a series of instalments to be paid in the future.”

Based on this logic, the NCLT concluded that the current transaction was a simple sale transaction and that the mere payment of “assured returns” was insufficient to bring it within the purview of Section 5(8) of the IBC because there was no “consideration for the time value of money.”

The NCLAT upheld the NCLT’s observation regarding section 5(8) and “time value of money” as an essential requirement of a financial debt on appeal. It took a different stance on the Appellants’ status as financial creditors, however. The NCLAT noted that the Appellants were referred to as “Investors” in the MOU signed between the Appellants and the Respondent. Thus, the Appellants were “investors” in a “committed returns plan,” whereas the Respondent agreed to pay their Investors a monthly committed return. It followed logically that committed returns would be considered “debt” under section 3(11) of the IBC.

Conclusion

The NCLAT ruled in favour of the appellants, stating that the amount of assured return was the amount of interest on loan taken by the real estate developers, as evidenced by the annual returns of the respondent, as the assured returns or commitment returns are classified as financial costs that include interest on loan.

It is worth noting that the NCLAT reiterated its position in the Nikhil Mehta case in its decision in Anil Mahindro and Others v Earth Iconic Infrastructure (P) Ltd. The facts in this case were similar to those in the Nikhil Mehta case. The Appellants and the Respondents signed an MOU in which the Respondents agreed to pay “committed returns” until possession of the sale properties was transferred to the Appellants. The Appellants filed an application under section 7 of the IBC after the Respondents stopped paying the committed returns amount. The application was denied by the NCLT Delhi’s Principal Bench because the transaction was deemed to be a simple sale transaction. 4 On appeal, however, the NCLAT praised this decision. Based on its own pronouncement in the Nikhil Mehta Appeal Judgment, the NCLAT held that, in the present case, the Appellants were acting as investors, the money they gave to the Respondents was in the nature of a loan, satisfying the condition of amount “disbursed against consideration for time value of money,” and the committed returns were in the nature of “interest.” Thus, there was a debt under IBC section 5(8), and the Appellants were Financial Creditors under IBC section 5(8).

Disclaimer– The above article is based on the interpretation of related laws which may differ from person to person. The readers are expected to take legal advice before placing reliance on it. For more information, please reach at support@centrik.in

 

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