Issuer can submit claims if bank guarantee is invoked during CIRP, clarifies Insolvency regulator

Should a live Bank Guarantee (BG) or Letter of Credit (LC) be considered as claims in a corporate insolvency resolution process? The ambiguity around the treatment of a live bank guarantee or letter of credit has nudged the insolvency regulator to propose an amendment in the law to provide that in case a letter of credit or bank guarantee is invoked by the beneficiary during the CIRP, the issuer shall be eligible to submit its claim to the resolution professional.

The proposal has been made in a consultation paper floated by the Insolvency and Bankruptcy Board of India (IBBI).

According to IBBI, the proposed amendment would help removing ambiguity regarding rejection of claims pertaining to bank guarantee and letter of credit. “This would help enhance faith amongst stakeholders in CIRP,” says the consultation paper.

Too make a case for the amendment, the consultation paper has cited three scenarios:

Scenario1: Where the LC/BG was invoked by the beneficiary before the insolvency commencement date (ICD) of the CD.

Since the creditor invoked its LC/BG and the bank has made the payment against such invocation, the banker has a right to be indemnified by the CD. Since the LC/BG has been invoked, it ceases to remain live and the right to payment being established even before the commencement of insolvency proceedings against the CD, by virtue of Section 6(3) it becomes a “claim” against the CD as on the date of insolvency commencement.

Scenario 2: Where the LC/BG remains live and remains uninvoked during CIRP. Since the beneficiary has not invoked the LC/BG, it remains live and uninvoked for its natural life.

Since, the bank has not made any payment to the supplier, there is no question of the CD indemnifying the banker, as there is no right created for the banker. However, any live LC/BG has the possibility of being invoked at any time and are hence reflected as a liability in the CDs balance sheet and the same may be considered as a contingent liability and acted upon accordingly.

Scenario – 3: Where the LC/BG is invoked by the beneficiary during the corporate insolvency resolution process.

Since the creditor invoked its LC/BG and the bank has made the payment against such invocation, the banker has a right to be indemnified by the CD and the right to payment is established and it qualifies as a claim. Market practice is that RPs have admitted such claims X Ltd. (CD) Y Ltd. (Supplier) Z Bank Ltd. (Issuing banker) Y Ltd. is a supplier of goods, against whom X Ltd. opened an LC/BG even when submitted after the 90-day period for claim submission has lapsed and in some cases claims have been admitted with approval of the Adjudicating Authority.

According to the Consultation paper, any LC/BG which are live are part of information memorandum prepared by the resolution professional and therefore, admission of claim under Scenario 2 and 3, may not be taken as burdening the resolution applicant with unexpected liabilities.

The insolvency regulator has sought public comments on its proposal to be submitted by 17 September 2021.

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