IBC Constitutional Validity: Swiss Ribbons and Pioneer Urban

Within three years of its enactment, almost every central feature of the Insolvency and Bankruptcy Code had been challenged before the Supreme Court: the different treatment of financial and operational creditors, the bar on promoters, the order of distribution, the inclusion of homebuyers and the provisions on personal guarantors. The Court upheld the Code each time, treating it as economic legislation that deserves latitude. This note covers the constitutional basis of the Code and the leading judgments on its validity.

1. Legislative Competence

Figure 1: Constitutional sources of the Code

• Concurrent subject. Bankruptcy and insolvency is a Concurrent List subject (Entry 9, List III), so both Parliament and State legislatures may legislate on it; where a State law conflicts with the Code, the Code prevails under Article 254.
• Innoventive Industries v ICICI Bank, 2017. In its first major judgment on the Code, the Supreme Court held that the Maharashtra Relief Undertakings (Special Provisions) Act, 1958, which allowed the State to suspend liabilities of relief undertakings, was repugnant to the Code and could not block insolvency proceedings; the Court also explained that admission under section 7 depends only on the existence of a financial debt in default.
• Overriding effect. Section 238 gives the Code effect over any inconsistent law, and as a later and special law it generally prevails over earlier central laws (Topic 77)

2. The Tribunals

• NCLT and NCLAT. Constituted under sections 408 and 410 of the Companies Act, 2013, and designated as the adjudicating and appellate authorities for corporate persons under sections 60 and 61 of the Code.
• Madras Bar Association cases. In Union of India v R. Gandhi (2010) the Supreme Court upheld Parliament's power to create the NCLT and NCLAT but required changes to their composition and appointments; later judgments, including those of 2015, 2020 and 2021, continued to test the qualifications, selection and tenure of tribunal members.
• Swiss Ribbons on the tribunals. The Court accepted that appointments were being made in line with these judgments, held that the tribunals should be administered by the Ministry of Law rather than the Ministry of Corporate Affairs, and directed that circuit benches of the NCLAT be set up within six months.

3. Swiss Ribbons v Union of India, 2019

Decided on 25 January 2019 by a bench of R.F. Nariman and Navin Sinha JJ, on writ petitions under Article 32 filed by companies against which insolvency proceedings had been initiated. The Court upheld the Code in its entirety, observing that legislation dealing with economic matters must be given greater latitude, since it often proceeds by experiment, and that the Code is a beneficial legislation aimed at reviving the corporate debtor rather than a recovery law.

Figure 2: The main challenges and holdings

• Classification of creditors. Financial creditors are generally banks and financial institutions involved from the outset in assessing the viability of the debtor and can restructure loans; operational creditors supply goods and services, are owed smaller amounts and are not equipped to assess viability. This intelligible differentia has a rational relation to the object of the Code, so their different treatment, including the absence of operational creditors from the CoC, does not violate Article 14.
• Protection of operational creditors. The CIRP Regulations required the resolution plan to show how it dealt with the interests of all stakeholders, including operational creditors, and the Court noted that operational creditors must be treated fairly; the 2019 amendment later guaranteed them a minimum payment (Topic 41)
• Section 7 and information utilities. Default may be proved by records of an information utility, but such a record is only prima facie evidence and the corporate debtor may rebut it.
• Section 12A. The high threshold of 90 per cent of the CoC for withdrawal is valid because the proceeding, once admitted, is collective and affects all creditors; before the CoC is constituted, the NCLT may permit withdrawal under Rule 11 of the NCLT Rules, 2016, and an arbitrary refusal by the CoC can be set aside by the NCLT or NCLAT (Topic 20)
• Section 29A. Its retrospective application is valid because a resolution applicant has no vested right to have its plan considered; ineligibility need not be based on malfeasance, since persons whose accounts have been non-performing for over a year are excluded as a matter of policy; and related party must be read as a person connected with the business activity of the resolution applicant (Topic 38)
• Section 53. Placing operational creditors below financial creditors in liquidation is valid, since repayment of financial debt returns capital to the economy for fresh lending (Topic 57)
• Resolution professional. The resolution professional has administrative, not adjudicatory, powers and cannot decide claims; a liquidator, by contrast, determines claims in a quasi-judicial capacity, subject to appeal under section 42.
• Assessment. The Court concluded that the experiment of the Code was proving largely successful and that, for defaulters, the paradise is lost.

4. Pioneer Urban Land and Infrastructure v Union of India, 2019

• Challenge. Real estate developers challenged the 2018 amendment that inserted an Explanation to section 5(8)(f), deeming amounts raised from allottees of real estate projects to have the commercial effect of a borrowing, and so making homebuyers financial creditors.
• Holding. Decided on 9 August 2019, the Court upheld the amendment as clarificatory; advance payments by allottees in effect finance construction, so treating them as financial creditors is reasonable and does not violate Articles 14, 19(1)(g) or 300A.
• RERA and the Code. The Real Estate (Regulation and Development) Act, 2016 and the Code can operate together; RERA's remedies are in addition to other laws, and in case of conflict the Code prevails.
• Safeguards. An allottee's application can be resisted by showing that the developer is not in default or that the allottee is a speculative investor seeking to exit because of a fall in the market; the NCLT must then consider whether the application is genuine (Topic 8)

5. Manish Kumar v Union of India, 2021

• Thresholds. Decided on 19 January 2021, the Court upheld the 2020 amendment requiring an application by allottees of a real estate project to be filed jointly by at least 100 allottees or 10 per cent of the total allottees of the same project, whichever is less, and similar thresholds for other classes of creditors.
• Pending applications. Its application to petitions already filed but not yet admitted, which had to be brought into compliance within thirty days, was also upheld.
• Section 32A. The immunity granted to the corporate debtor and its assets for offences committed before CIRP, once a resolution plan resulting in a change of control is approved, was upheld as a measure to attract resolution applicants (Topic 46)

6. Personal Guarantors

• Lalit Kumar Jain v Union of India, 2021. The Court upheld the notification of 15 November 2019 bringing Part III into force only for personal guarantors to corporate debtors, holding that this selective application was valid; approval of a resolution plan for the corporate debtor does not discharge the personal guarantor's liability (Topic 66)
• Dilip B. Jiwrajka v Union of India, 2023. Decided on 9 November 2023, the Court upheld sections 95 to 100, rejecting the argument that a personal guarantor must be heard before the resolution professional is appointed; the resolution professional is only a facilitator who reports under section 99, and adjudication occurs only at the stage of section 100.

Figure 3: Judgments upholding the Code

7. The Judicial Approach

Across these cases the Supreme Court has applied the principle, drawn from R.K. Garg v Union of India (1981), that laws on economic activity are to be viewed with greater latitude than laws touching civil rights such as freedom of speech, and that the legislature must be allowed room for trial and error. The Court examines whether a classification is reasonable and connected to the object of the Code, but does not substitute its own view of economic policy. This deference also explains its later insistence on the commercial wisdom of the committee of creditors (Topic 28).

8. Frequently Asked Questions

Why does the Code treat financial and operational creditors differently?

Because financial creditors assess the viability of a business from the start, can restructure debt and usually lend larger sums, while operational creditors are suppliers owed smaller amounts. Swiss Ribbons (2019) held this to be a reasonable classification under Article 14.

Does the Code override RERA?

Both laws operate together. Homebuyers may pursue remedies under RERA and also apply as financial creditors under the Code. If the two conflict, the Code prevails, as held in Pioneer Urban (2019).

Has any provision of the Code been struck down?

No provision has been struck down in the leading challenges. The Court has instead read some provisions narrowly, such as the meaning of related party in section 29A, and issued directions on the administration of the tribunals.

9. Related Topics

• Topic 7: Financial Debt and Financial Creditors. The basis of the classification.
• Topic 8: Real Estate Allottees as Financial Creditors. Pioneer Urban in practice.
• Topic 38: Section 29A. Ineligible resolution applicants.