IBC: How Will The Fresh Start Route For Small Debtors Work?

From debt slavery, hanging of the third-time insolvent debtor by Genghis Khan to the insolvency laws enacted in 1900s—the personal insolvency regime has come a long way, points out the bankruptcy regulator IBBI, as it emphasises that it’s time to chart the route for the next big thing under the IBC—individual insolvency.

While the Insolvency and Bankruptcy Code has laid down the framework for personal insolvency, it hasn’t been notified as yet. It contemplates three options for individual insolvencies: a resolution process, bankruptcy and a fresh start process.

While the framework for resolution process and bankruptcy for individuals is similar to how it works for companies, the fresh start process is attempting to do something new — giving a clean slate to small debtors.

Fresh Start Process: What’s It About?

The process seeks to cover debtors with -

annual income less than Rs 60,000
debt less than Rs 35,000
assets less than Rs 20,000
with no dwelling unit

The process can only be initiated by the debtor before the debt recovery tribunal through a resolution professional. If the tribunal passes an order of discharge of debt, the creditor will have to write it off, subject to an entry in the credit history of the individual.

The target group is the extremely vulnerable population that has no hope in hell of repaying the debt — in some sense, it’s like a debt waiver, Renuka Sane, associate professor at the National Institute of Public Finance and Policy, told BloombergQuint. Sane is party of the IBBI working group on personal insolvency.

It’s different from your conventional loan waiver since the choice is on the debtor to make a fresh start or not. Also, the record of whether a debtor took a fresh start or not is noted. The debtor will have to weigh the trade-offs between getting a fresh start now and potentially getting expensive credit in the future.

Renuka Sane, Associate Professor, NIPFP

Loan waivers have been made available to all kinds of agricultural borrowings but given the thresholds, the fresh start process will be much narrower in its scope, Sane said. The hope is once this process is notified, she said, the impetus to announce large-scale loan waivers will come down and even if they are announced, the IBC machinery can be used to implement it.

This seems to be a welfare legislation to be used mainly for farmer distress- except that many farmers who have no assets and are heavily in debt will still have a dwelling house, Suharsh Sinha, partner at law firm AZB & Partners, pointed out. The dwelling unit may be in shambles but it’s there and so a huge number of those who should benefit from this process will get excluded, he added.

There should be some qualification as to what will constitute as a dwelling unit- it could be based on area, valuation or basic amenities like running water or electricity. Just because you’re living in a hut shouldn’t qualify as a dwelling unit and exclude you from the process.

Suharsh Sinha, Partner, AZB & Partners

Equally, the debt threshold should be increased as well since, for instance, price for a tractor is more than Rs 1 lakh, farming implements are more than this limit as well. And so, this threshold should be raised to make the process more relevant, Sinha added.

Impact On Creditors

The personal insolvency regime covers debt to the extent it hasn’t been secured. This because secured creditors can enforce their security against a personal loan outside of the IBC. So, an application for a fresh start under personal insolvency can only be made against unsecured debt.

Once such an application is filed, the unsecured creditor can object to it only on limited grounds — inclusion of a debt as a qualifying debt or if the details of the qualifying debt are incorrect. Qualifying debt means amount due by the debtor excluding debt that’s secured or has been incurred three months prior to the date of fresh start application.

This will apply to all kinds of lenders — moneylenders, self-help groups, microfinance institutions and banks, among others, Sane said.

It will be hard to implement it against moneylenders initially. Presumably, in the first few years of its operation, assuming it gets notified, the formal sector lenders like banks and NBFCs who are giving very low- unsecured loans will likely be affected by this.

Renuka Sane, Associate Professor, NIPFP

If the debtor has no ability to repay, the creditors’ ability to enforce against this debt is minimal anyway. And so, it’s better for them to go through this process, write-off the debt and move on, she said.

But what about institutional capacity, Sinha asked. The debt recovery tribunals will be tasked to deal with the fresh start cases and given the pendency and capacity of the 38 DRTs that exist today, it would end up becoming a long-drawn process, he added.

This needs to be an administrative process and not a judicial one. For instance, U.K. allows for a Debt Relief Order through approved intermediaries. A similar process should be followed for fresh start cases. So basically you draw up your assets and expenses, get it certified by a public notary or file an affidavit with the authorised agency who writes-off your debt and gives you a fresh start.

Suharsh Sinha, Partner, AZB & Partners

The target group this process is intended for won’t be able to hire lawyers, professionals and go through the court process, he added.

Watch the full interview with Sane here: