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Supreme Court empowers Creditors: Guarantors Liable for Non-Corporate Borrowers’ Defaults under IBC

In the case of K. Paramasivam v. Karur Vysya Bank & Anr.[i], the Supreme Court has rendered a significant decision, affirming that proceedings under s. 7 of the Insolvency and Bankruptcy Code, 2016 (‘IBC’) can be instituted against a corporate entity that has solely acted as a guarantor, securing the dues of a non-corporate entity. The Court underscored that the liability of the guarantor is co-extensive with that of the principal borrower, thereby enabling the financial creditor (‘FC’) to initiate proceedings against the guarantor without a prior lawsuit against the principal borrower.


Facts:

  • K. Paramasivam, the appellant, serves as the promoter, shareholder, and discharged/suspended director of Maharaja Theme Parks and Resorts Pvt. Ltd. (‘MTPR’), a company registered under the Companies Act, 1956.

  • The respondent, a FC extended credit facilities to three entities: Sri Maharaja Refineries (a partnership firm), Sri Maharaja Industries (a sole proprietorship of K. Paramasivam), and Sri Maharaja Enterprises (a sole proprietorship of P. Sathiyamoorthy).

  • MTPR assumed the role of a corporate guarantor for the loans obtained by the aforementioned three principal borrowers. These principal borrowers defaulted in their repayment obligations to the FC, prompting the FC to initiate corporate insolvency resolution proceedings (‘CIRP’) against MTPR, contending that, as a guarantor, it bore responsibility for repaying the loans, thereby becoming the corporate debtor (‘CD’) in this case.

  • The central issue thus revolved around the permissibility of commencing CIRP against a corporate guarantor when the principal borrower was not a corporate entity.


Held:

  • The Supreme Court dismissed the appeal filed by the CD and upheld the order passed by the National Company Appellate Tribunal (‘NCLAT’). The court referred to the decision of Laxmi Pat Surana v. Union Bank of India[ii], wherein it was held that s. 7 of the IBC empowers FCs to initiate proceedings against either the principal borrower or the guarantor in case of default by the CD. The Court reiterated that the liability of the guarantor is identical to that of the principal borrower.

  • The Court conducted an exhaustive examination of key terms defined in the IBC, including CD, corporate guarantor, financial debt, and claim. It clarified that the liability stemming from a guarantee offered by a corporate entity, in the event of non-repayment by the non-corporate principal borrower, qualifies as a ‘financial debt’ as defined in the IBC.


Analysis:

  • A guarantor assumes a legal obligation to settle outstanding dues on behalf of the borrower in case of default. The court noted that the term ‘corporate guarantor’ was encompassed within the IBC by an amendment[iii] and emphasized that this did not limit the application of Section 7 of the IBC to exclude guarantees extended for loans to non-corporate entities.

  • This judgment highlights s. 7 of the IBC as an enabling provision, granting FCs the authority to initiate CIRP against a CD, which can either be the principal borrower or a corporate entity providing a guarantee. The judgment reaffirms that the scope of Section 7 of the IBC should not be constrained to exclude corporate entities providing guarantees for non-corporate borrowers.

  • The jurisprudence concerning the liability of guarantors under the IBC continues to evolve, and the legal framework governing their protection and resolution will develop further through subsequent legal precedents.


End Notes:


[i] 2022 SCC OnLine SC 1163

[ii] (2021) 8 SCC 481

[iii] By Ord. No. 6 of 2018, sec 3 (w.e.f. 06.06.2018)


Authored by Kushagra Gahlot, Advocate at Metalegal Advocates. The views expressed are entirely personal and do not constitute legal opinion.

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