Introduction
The Insolvency and Bankruptcy Code (IBC) 2016 was introduced as a revolutionary reform to India’s debt recovery mechanism, promising swift resolution of insolvency matters within strict timelines. However, like many well-intentioned legal frameworks, certain provisions of the IBC are increasingly being misused by unscrupulous borrowers and guarantors to frustrate legitimate recovery efforts by financial institutions. This blog examines a concerning trend where Sections 94 and 95 of the IBC are being weaponized to trigger interim moratoriums and stall SARFAESI proceedings, creating significant obstacles for creditors.
Legal Framework Understanding
Section 94 of the IBC allows a debtor who has committed default to apply for initiating an insolvency resolution process. Upon filing such an application, Section 96 provides for an interim moratorium that commences immediately. Under Section 96(1)(b), during the interim moratorium period, any legal action or proceeding pending in respect of any debt shall be deemed to have been stayed, and creditors cannot initiate any legal action or proceedings in respect of any debt. This interim moratorium continues until the application is either admitted or rejected by the National Company Law Tribunal (NCLT). If the application is admitted, Section 101 provides for a formal moratorium period of 180 days from the date of admission.
The Diary Number Exploitation
A disturbing trend has emerged where borrowers file applications under Section 94, or cause creditors to file applications under Section 95, and obtain merely a diary number or lodging number, and immediately claim the protection of interim moratorium under Section 96. This practice has been clarified by the Kerala High Court in Jeny Thankachan v. Union of India which observed that “mere uploading of an application under Section 94 or 95 of the IBC 2016 cannot be taken as filing of an application. The filing of an application as contemplated under Section 96 should be defectless and devoid of any procedural lapses. Only when an application is filed without any defects and satisfying the statutory procedural requirements of filing and only when the adjudicating authority numbers the application, there can be a legal and acceptable filing of application.
Operational Creditor Collusion Tactics
Another concerning pattern involves borrowers colluding with compliant operational creditors to file applications under Section 95. These arrangements often involve pre-planned defaults or artificially created operational debts designed specifically to trigger IBC proceedings. Once the application is filed, borrowers use the interim moratorium to stall ongoing SARFAESI proceedings, effectively buying time to restructure assets or create additional legal obstacles. This practice is particularly prevalent in cases where matters are already pending in NCLT, as borrowers exploit existing proceedings to create additional layers of protection.
Guarantor Strategy Misuse
Recent amendments allowing individuals including guarantors to approach NCLT under individual insolvency provisions have opened significant avenues for misuse. Borrowers now strategically position themselves as guarantors in existing or new insolvency proceedings, thereby triggering interim moratorium protections under Section 96. The guarantor provision has been exploited by borrowers who arrange to guarantee debts in ongoing insolvency proceedings, sometimes involving related entities or friendly parties. Once the guarantor status is established, they file applications under Section 94, creating automatic moratorium protection that can last for extended periods while multiple proceedings run parallel across different forums.
SARFAESI Proceedings Impact
When borrowers file Section 17 applications under SARFAESI Act in DRT and simultaneously trigger interim moratorium through IBC applications, it creates a complex legal situation. The interim moratorium under Section 96 operates automatically upon filing and continues until the NCLT either admits or rejects the application. This means DRT cannot proceed with SARFAESI matters during the entire interim period, and if the application is eventually admitted, the formal moratorium under Section 101 provides additional protection for 180 days. Banks are prevented from taking possession of secured assets during the interim moratorium period, sale proceedings are stalled for indeterminate periods depending on NCLT’s processing time, recovery timelines are severely impacted with no certainty on resolution, and NPAs continue to accumulate while borrowers exploit procedural delays.
Indefinite Delay Mechanism
The most concerning aspect of this misuse is the absence of any specific time limit for the interim moratorium period under Section 96 in individual insolvency cases. Unlike corporate insolvency where timelines are more structured, individual insolvency proceedings can drag on for months or years before the NCLT makes a decision on admission. During this entire period, all recovery proceedings remain stayed, creating a legal vacuum that borrowers exploit to their advantage. The lack of time limits means that borrowers can effectively hold recovery proceedings hostage by filing applications that may take years to be processed by overburdened NCLTs.
Judicial Pronouncement on Application Requirements
The Kerala High Court in the Jeny Thankachan case provided important guidance on preventing such misuse by emphasizing that “as long as the petitioner’s application is not duly numbered by the NCLT, the interim moratorium contemplated under Section 96(1)(b)(i) cannot come into operation.” The court further noted that “the petitioner is not entitled to contend that the respondents cannot go ahead with the securitisation proceedings” until the application meets all statutory requirements and receives proper registration. The court further emphasized that “in view of the serious consequences that will follow on filing of an application under Section 96 by a debtor, on the creditors who will be disabled and disentitled from initiating or proceeding with any debt recovery legal mechanism, Section 96 should be construed strictly.”
Examples of IBC Sections 94 and 95 Misuse
Section 94 Misuse Example
Mr. A has a loan of ₹50 lakhs from XYZ Bank which has turned NPA. The bank issues Section 13(2) notice, takes symbolic possession, then approaches Chief Judicial Magistrate under Section 14 for physical possession order and issues possession notice. Mr. A files a Section 17 application in DRT along with an IA for interim relief against possession. However, he knows the DRT would reject his IA as he is not in a position to deposit the required percentage of outstanding amount (typically 25-50%) for a conditional stay, which DRT nowadays grants rather than looking into the merit of the matter. Faced with imminent loss of property and unable to meet DRT’s deposit conditions, Mr. A resorts to filing an application under Section 94 with NCLT claiming he is insolvent.
Mr. A submits an incomplete application with missing documents to NCLT, which assigns only a diary number such as Diary No. 1234/2024. He immediately approaches DRT claiming interim moratorium under Section 96 is in effect and argues that all recovery proceedings including his pending Section 17 case must be stayed due to the IBC application. The DRT proceedings get stalled indefinitely while NCLT takes months or years to process the defective application. This allows him to protect his property without depositing the substantial amount DRT would have required for interim relief.
Section 95 Misuse Example
Ms. B owes ₹1 crore to ABC Bank. After Section 13(2) notice and Section 14 proceedings, she files a Section 17 application with IA for interim relief in DRT, knowing she cannot deposit the required percentage for conditional stay. Meanwhile, there is an ongoing insolvency proceeding against XYZ Company already pending in NCLT. She orchestrates a scheme by arranging to become a guarantor for XYZ Company’s debt to an operational creditor.
The operational creditor then files a Section 95 application against Ms. B as guarantor to the ongoing XYZ Company insolvency proceeding. The application gets a diary number from NCLT. Ms. B now claims interim moratorium protection in her DRT proceedings, arguing that as a guarantor subject of pending IBC proceedings, all recovery actions against her must be stayed. This creative means allows her to protect her ₹1 crore property without having to deposit lakhs of rupees that DRT would have demanded for interim relief, all by piggybacking on an existing insolvency case through an artificially created guarantee arrangement.
DRT’s Role in Encouraging Strategic Misuse
The Debt Recovery Tribunals have inadvertently contributed to the proliferation of strategic IBC misuse by adopting a mechanical approach to interim relief applications under Section 17 of SARFAESI Act. Instead of examining the merits of borrowers’ challenges to bank actions, DRTs routinely direct borrowers to deposit substantial percentages of outstanding amounts (typically 25-50%) as a precondition for granting any interim stay on possession or sale proceedings. This approach, while ensuring some recovery for banks, often pushes genuine borrowers who may have valid grounds for challenging SARFAESI actions but lack the financial capacity to make such deposits towards desperate measures. The emphasis on deposit requirements over merit-based consideration has created a situation where borrowers, faced with the impossible choice between losing their properties immediately or arranging substantial deposits they cannot afford, resort to exploiting IBC provisions as a last resort to buy time and protect their assets, thereby contributing to the very misuse that undermines the debt recovery ecosystem.
Financial Recovery Ecosystem Impact
The widespread misuse of these provisions has created a systemic impact on India’s financial recovery ecosystem. Banks and financial institutions are finding their recovery efforts significantly hampered by these strategic delays, with some cases remaining in limbo for years while borrowers exploit the interim moratorium provisions. The uncertainty created by potential IBC applications has also affected the pricing of credit, as lenders factor in the additional risks and delays associated with potential misuse of insolvency provisions. The broader economic impact includes reduced efficiency in capital allocation, as distressed assets remain locked in prolonged legal proceedings rather than being quickly resolved and put to productive use.
Criminal Prosecution for Perjury and False Affidavits
Financial institutions should actively pursue criminal prosecution against borrowers who file false or misleading applications under Sections 94 and 95 of the IBC. Section 340 of the Code of Criminal Procedure, 1973 (now Section 379 of the Bharatiya Nagarik Suraksha Sanhita, 2023) empowers courts to initiate prosecution for giving false evidence or fabricating false evidence. When borrowers submit applications with diary numbers claiming interim moratorium protection while knowing their applications are incomplete or defective, they commit perjury by making false statements on oath before the tribunal. Banks should compile evidence of such misconduct including false declarations about financial distress, fabricated operational debts in collusive arrangements, misrepresentation of guarantor status, and deliberate concealment of assets or income. Upon identifying such cases, banks can file complaints before the competent magistrate under Section 379 of BNSS seeking prosecution for offenses under Sections 191, 192, 193, and 200 of the Bharatiya Nyaya Sanhita, 2023. The threat of criminal prosecution serves as a strong deterrent against frivolous IBC applications and can expedite genuine resolution of recovery proceedings while protecting the integrity of the insolvency framework.
Reform Solutions and Preventive Measures
Addressing this misuse requires a multi-pronged approach involving judicial, legislative, and regulatory interventions. NCLT should implement fast-track screening to identify and reject frivolous applications within a specified timeframe of 30-45 days, impose heavy costs on borrowers filing vexatious applications, and enforce rigorous verification before assigning proper register numbers to prevent diary number misuse. Legislative amendments should include specifying maximum duration for interim moratorium in individual insolvency cases, perhaps capping it at 90 days regardless of NCLT processing time, including specific provisions to prevent misuse of IBC processes with penalty clauses, and requiring demonstration of genuine financial distress before granting moratorium protection.
Financial Institution Best Practices
Financial institutions need to adapt their strategies to counter these misuse tactics effectively. This includes implementing comprehensive monitoring systems to track borrower activities across all forums including NCLT, DRT, and other courts, maintaining detailed databases of all proceedings involving their borrowers and guarantors, and establishing early warning systems to identify potential misuse patterns before they impact recovery proceedings. Legal strategies should involve challenging frivolous applications immediately upon identification, filing appropriate interventions in NCLT proceedings to present the creditor’s perspective, seeking expedited hearings for obvious misuse cases, and coordinating responses across multiple forums to prevent borrowers from exploiting parallel proceedings.
Future Roadmap
The misuse of IBC provisions represents a significant threat to India’s debt recovery ecosystem that requires immediate and sustained attention from all stakeholders. While the IBC was designed to provide genuine relief to distressed debtors, its exploitation by bad faith borrowers undermines the very purpose of the legislation and threatens the stability of the financial sector. Courts must be more vigilant in identifying and penalizing frivolous applications, perhaps by implementing stricter admission criteria and faster processing of obviously vexatious cases. Regulators must issue clearer guidelines that distinguish between genuine distress and strategic misuse, while Parliament should consider targeted amendments to plug existing loopholes without undermining the legitimate benefits of the insolvency framework.
Conclusion
The strategic manipulation of Sections 94 and 95 to stall recovery proceedings not only harms individual creditors but also undermines the broader objective of efficient capital allocation in the economy. The automatic nature of interim moratorium combined with indefinite processing times has created a perfect storm for abuse by borrowers seeking to delay legitimate recovery efforts. Financial institutions, legal practitioners, and policymakers must work together to ensure that the IBC serves its intended purpose of resolution rather than becoming a tool for indefinite delay. The time has come for decisive action to prevent the weaponization of insolvency laws against the very institutions that fuel economic growth. Only through coordinated efforts involving stricter judicial oversight, targeted legislative amendments, and enhanced regulatory guidance can we preserve the transformative potential of India’s insolvency regime while protecting the rights of legitimate creditors.
