Legal Guide

What are the Three Types of Bankruptcies Prevalent in India?

by Mansi Gehrana · 3 min read

Three types of bankruptcies

Introduction

  • The idea of bankruptcy is comparable to voluntary surrender. 
  • In this instance, the individual willingly appears before the Court and formally admits that he is unable to pay any additional obligations. 
  • In this case, the Court assumes control of the asset liquidation process and distributes the money to the debtor’s creditors. 
  • An insolvent person and a bankrupt person can be distinguished primarily by the fact that a bankrupt can post the distribution of proceeds to creditors and perhaps start over.
  • There are, in total, three types of bankruptcies & insolvencies derived under the Insolvency & Bankruptcy Code.

What is the need for having Bankruptcy Laws?

The World Bank’s Index on the ease of settling disputes places India near the bottom of the list of nations. Therefore this Code will undoubtedly improve how simple it is to conduct business here. The Code attempts to give the creditor control in the event of a default by the debtor. 

In comparison to many other nations throughout the world, the amount of time needed to conclude a bankruptcy case is very long. India ranks 130th in the world for ease of doing business as a result of this problem. Corporate borrowers of these loans from nationalized banks make up more than 50% of all bad debts. 

Due to several factors, such as conflicting jurisdictions, recovering from such defaulters is typically close to impossible. As a result, these instances go on for years and years with no rehabilitation. 

Bankruptcy was covered by roughly twelve statutes in the past & as such, there was no bifurcation between the types of bankruptcies, but now the Code has identified three types of bankruptcies. 

Based on those twelve regulations, it took our nation more than four years to dissolve a corporation. Therefore, with the advent of the IBC, the Code has classified three types of bankruptcies. 

What are the factors that are responsible for these three types of Bankruptcies?

Certain factors contribute to the bankruptcy of an organization. These points are not exclusive but inclusive, which leads to all these three types of bankruptcies. 

  • There is a considerable chance that a firm or organization may go bankrupt when production exceeds demand.
  • When accounting management doesn’t do its job effectively and spends money excessively without a good plan, there is a great likelihood that the organization or company will go bankrupt.
  • One of the reasons a business goes bankrupt is when its products or services haven’t evolved to suit customers.
  • One factor contributing to the company’s insolvency is increasing vendor costs.
  • Paying a sizable sum of money in the form of damage and the business is unable to continue because they do not have enough money to manage the enterprise. Thus, it contributes to the company’s bankruptcy.

What are the three types of Bankruptcy prevalent in India?

There are three types of bankruptcies which are either provided by the Code itself or developed by the jurisprudence. 

  1. Corporate Bankruptcy (Insolvency)– Corporate Bankruptcy is a type of bankruptcy out of the three types of bankruptcies as provided under the Code where a corporation is unable to pay its debt of basically unsecured business loans. A firm is deemed insolvent if it is unable to pay its creditors’ debts in full. There are two techniques to assess the insolvency of a corporation:
  • The cash-flow test determines whether a corporation will be unable to pay its debts when they become due, whether now or in the future.
  • The balance sheet test verifies that, after accounting for future liabilities, the company’s assets are worth less than its liabilities.

The Corporate Insolvency Resolution Process is a tool for creditors to get paid. A financial creditor, an operational creditor, or the corporate entity itself may start CIRP if it becomes bankrupt.

Following the submission of an application, CIRP is started. CIRP is the procedure used to establish whether a defaulter is capable of making restitution or not (IRPs will evaluate the assets and liabilities to determine the repayment capability). The corporation is restructured or liquidated if a person is unable to repay the loan.

2) Personal Bankruptcy (Insolvency)– Personal Bankruptcy is a type of bankruptcy out of the three types of bankruptcy where an individual is unable to pay their dues. The purpose of India’s personal insolvency laws is to deal with the situation of a person who is unable to pay their debts. 

The protection of the bankrupt debtor, the division of property among creditors, and the release of the debtor from creditor demands are the three main goals of India’s personal insolvency laws. 

An individual or creditor may submit an insolvency petition to start insolvency procedures. The factors that mostly constitute the Acts of Personal Bankruptcy out of the three types of bankruptcies are- 

  • Committing Fraud
  • Intent to delay the creditors of the debtor
  • Imprisoned
  • Departs themselves from the place of business or residence. 3)Group Bankruptcy– The last in the row of the three types of bankruptcies is Group Bankruptcy. While group firms can be held liable for the debts of their affiliates and subsidiaries, India generally adheres to the independent juristic personality of corporations. However, over time, exceptions have been made through judicial rulings and legislative initiatives. 

There may be operational linkages (dependency on a group company for the supply chain) or financial ones (inter-corporate guarantees for loans made by one group firm) between businesses within a group. In these situations, handling the insolvency of each group firm separately could be costly and lead to creditors obtaining less value.

Therefore, these are the three types of bankruptcies prevalent in India. One may consult a Business Lawyer & seek legal advice in case of bankruptcy. 

Conclusion

It is a positive change because it is exactly the opposite of past deeds and legislation. The Code’s strict procedures will undoubtedly inspire people and businesses to be more positive. As most international corporations have a predetermined standard that must be satisfied with the aid of such Codes, it will, in turn, attract foreign money.

Apart from the recognition of three types of bankruptcies, the Code also includes clauses addressing cross-border insolvency through various bilateral and reciprocal agreements with other nations. The unified Code anticipates a planned and timed process for insolvency resolution and liquidation & also identifies three types of bankruptcies, which could dramatically increase debt recovery rates and restore the floundering Indian corporate bond markets.

Bankruptcy is the state where an individual, corporate, or group of corporations is unable to pay off its debt. To know more about the three types of bankruptcies, consult a corporate lawyer.

Mansi Gehrana

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Mansi Gehrana

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