Insolvency and BankruptcyNCLTRulings

Subscription money advanced for the purchase of share doesn’t fall within “financial debt”, NCLT rejects complaint against Affinity Beauty Salon

NCLT ruling

NCLT, New Delhi Principal Bench rejects the complaint against Affinity Beauty Salon Pvt. Ltd. (Corporate debtor) which was filed by ACPC Enterprises (‘Financial Creditor/ Petitioner’) in order to initiate Corporate Insolvency Resolution Process. NCLT further clarifies that subscription money advanced for the purchase of share cannot come under the ambit of financial debt defined u/ 7 of the Insolvency and Bankruptcy Code, 2016 (‘Code’). As the subscription amount has neither been disbursed against the consideration for time value of money nor this money is borrowed against the payment of the interest.

In the present case, both parties had entered into a share subscription agreement (SSA) wherein 2,50,000 shares had to be transferred as Cumulative Convertible Redeemable Preference shares (CCRPS) in favour of the petitioner against the payment of sum of Rs. 2,50,00,000. Later, the Petitioner/ Corporate Debtor alleged that CCRPS were not registered with the ROC in favour of the Petitioner on the ground it was an unregistered partnership firm. Later, Petitioner got itself registered with the ROC. However, Petitioner issued a letter sum notice to the Corporate Debtor that if CCRPS were not dully issued and registered with ROC within 7 days then money paid by financial debtor, it would be liable to pay the due along with interest. Thereafter, Corporate debtor sold off his profit-making business of Affinity Express Franchise due to which CCRPS got drastically devalued.

Hence, corporate debtor claimed that as shares were not issued therefore share subscription money should be treated as debt and payable with interest therefore Corporate resolution process should be initiated. However, Respondent opposed that petition was not maintainable  u/s 7 read with Rule 4 of the Insolvency & Bankruptcy (Application of Adjudicating Authority) Rules, 2016.

NCLT stated that the first requirement for initiating Corporate resolution process is that petitioner should come under the ambit of “financial creditor”. Therefore, NCLT analysed the terms “financial creditor” as any person to whom financial debt is owed and includes a person to whom such debt has been legally assigned or transferred to. Further,  it defined financial debt as a debt along with the interest which is disbursed against the against the consideration for time value of money and includes money borrowed against the payment of interest etc. After the interpretation of respective terms and analysing the facts NCLT held that Affinity Beauty Salon Pvt. Ltd. cannot be treated as financial creditor as it lacks necessary ingredients of consideration for the time value of money and the money was not borrowed against the payment of interest.

NCLT further clarified that allotment could not be made to an unregistered partnership firm, therefore, there was no trap of a financial loan or financial debt in term of Sec 5 (7) and 5 (8) of the Code in the transaction of SSA”.

Petitioner claimed that Respondent had guaranteed to pay back entire subscription consideration along with the guaranteed return hence subscription amount would be treated as debt u/s 3 (11) of the Code. NCLT highlighted that “debt” defined u/s 3(11) of the Code is a general definition but Sec. 4 provides that Part II has to be applied related to insolvency and liquidation for corporate debtor where minimum amount of default is one lac rupees. In addition, debt has not been defined Sec. 5 (7) and (8) however debt has been used for financial creditor and financial debt.

Hence, NCLT dismissed the complaint and held that “Every debt is not essentially a financial debt.”

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