‘Regulator has more control than the COC’
INSOLVENCY RULES FOR FINANCIAL SERVICE PROVIDERS
The government last week came up with an interim framework for resolving financial stress in financial service providers (FSPS) through a structured resolution and liquidation proceedings. Experts decode the implications of the insolvency rules for debt-laden financial entities, and how their treatment would be different from that of the corporate insolvency resolution process for manufacturing or services outfits.
Why is there a need for a separate framework under the Insolvency and Bankruptcy Code (IBC) to deal with insolvency and liquidation proceedings for FSPS?
Financial service entities, generally banks, have a profile of creditors different from that of manufacturing or services concerns. They don’t necessarily have financial creditors, but deal with retail providers of capital, or fiduciary deposits of the government.
Experts say a separate framework for financial service providers is required to protect retail investors, and for systemic reasons. “The resolution of financial firms requires a close involvement of financial sector regulators in order to address depositor protection issues, as well as resolve matters on account of the interconnectedness of financial firms,” says L Viswanthan, partner at Cyril Amarchand Mangaldas.
The IBC has been appropriately modified by the FSP Rules to allow for a combination of regulatordriven and creditor-participative resolutions, with the final sanctity of the approval of the tribunal, he adds.
“Financial institutions are generally a fiduciary business that requires extra care,” says Abizer Diwanji, partner and national leader, financial services, EY.
Why have banks been kept outside the ambit of the interim mechanism?
This framework has not been made applicable to banks, which are governed by the Banking Regulation Act, 1949. Experts say this law provides for an enabling mechanism for resolving stress in scheduled commercial banks.
The government is also looking at re-introducing the Financial Resolution and Deposit Insurance (FRDI) Bill in Parliament with adequate safeguards to protect bank deposits. The generally accepted view is that the Reserve Bank of India should directly deal with financial stress in the banking system.
How is the initiation of resolution for FSPS different from the one for corporate persons, limited liability partnerships, and partnership firms?
Under FSP rules, only the appropriate regulator initiates the resolution process, taking into account systemic implications of the resolution of such firms, and the impact on the wider financial system.
This is a major departure from IBC provisions for manufacturing and services entities, which allow financial and operational creditors to invoke the Code and initiate the insolvency resolution process.
What is the role of the regulator, creditors, and the adjudicating authority under the resolution and liquidation framework for FSPS?
The FSP Rules envisage distinct, yet complementary roles for the regulator, creditors, and the adjudicating authority (for instance, the NCLT). The Rules require the appropriate regulator to initiate resolution (as distinct from individual creditors initiating resolution).
“Retaining the trigger to initiate insolvency with the regulators will also minimise disruption to FSPS,” says Viswanthan. Experts point out that under the FSP Rules, the regulator is more involved with the resolution process. The regulator appoints an administrator to oversee the operations of the FSP during the resolution process. There are provisions for constituting an advisory committee in the operations of the FSP to assist the administrator. With the centrality of the Committee of Creditors (COC) reinforced, their approval is required for the resolution plan. However, such approval has to be backed by a no-objection certificate by the regulator. Diwanji points out that under the FSP Rules, the regulator has better control over the resolution process than the COC does.
Given that the resolution of financial firms must be undertaken swiftly, a concept of “deemed” noobjection has been built in within 45 days of submitting the application to the appropriate regulator, says Viswanthan.
How will the process help to avoid litigation?
Experts say the FSP Rules provide for instituting an interim moratorium, which is crucial to avoid multiple proceedings at the filing stage.
“Since the regulator can initiate, or the blessings of the regulator are required for initiating, this should avoid unnecessary litigation,” says Karan Mitroo, partner, L&L Partners.
What are some of the loose ends that need more clarity?
The Rules regarding the role of the advisory committee are to be issued by the regulators. Experts say there are several unanswered questions around the composition of the Committee of Creditors, and the powers of different operational and financial creditors of FSPS. The government is yet to notify the category of FSPS to be covered.