In accordance with article 128 of theIndian Contracts Act, 1872, the liability of a guarantor coincides with that of the principal debtor. Furthermore, it is well established law that upon the conclusion of insolvency proceedings against a principal debtor, this amounts to the extinction of all claims against the principal debtor, except to the extent permitted in the insolvency resolution process itself via the approval of the resolution plan by the National Company Law Tribunal (“NCLT”). This is clear from Section 31 of the Insolvency and Bankruptcy Code 2016 (“IBC”) which makes the resolution plan approved by the contracting authority, i.e. NCLT, binding on the debtor company, its creditors and its guarantors.
“…after a fair reading of the provisions of the law on contracts, I am inclined to consider that the liability of the surety being coextensive with that of the principal obligor, if the liability of the latter is reduced in an amended decree, or otherwise extinguished in whole or in part by law, the liability of the surety is also reduced or extinguished pro tanto.”
“Theoretically, since the liability of the surety is coextensive with that of the principal obligor, the obligee can act alone against the surety and recover the obligor’s liability from the surety. In such a situation, the subsequent reduction of the obligor’s liability to the surety, under bankruptcy or insolvency proceedings or otherwise, shall not obligate the creditor to repay the amount collected from the surety on behalf of the debtor to the surety.Prior to bankruptcy and insolvency, the creditor has the right to recover the after bankruptcy and insolvency proceedings of the debtor, the pre-bankruptcy and insolvency right of the creditor does not undergo any metamorphosis on the principle that, such proceedings emanate from a legal right and are involuntary in nature.”
The issue was finally settled by the Supreme Court in the Lalit Kumar case, in which the Supreme Court ruled that the approval of a resolution plan did not ipso facto relieve the personal guarantor of a debtor company of its obligations under the warranty contract. The release or release of a principal borrower from the debt he owes to his creditor, by an involuntary process, that is to say by operation of law, or following a procedure of liquidation or insolvency , does not relieve the guarantor of its liability, which arises from an independent contract.
The Supreme Court report in the case of Lalit Kumar is a welcome decision as it finally settles the law on the above-mentioned issue. It ensures that personal guarantors do not escape their obligation to repay the debt to the creditor, when the creditor receives payment of part of their claim based on full and final settlement in terms of the approved resolution plan. by NCLT. In addition, pursuit of a creditor’s claim on a guarantor would not lead to a double recovery of debt since the creditor could only recover the balance remaining due and not recovered from the main borrower, following the payment made by the debtor company under the resolution plan approved by the NCLT.
The author is a barrister practicing in the courts of Bengaluru, the views are personal.