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Sunday, May 07, 2023

Lost in Translation: Legislative Drafting and Judicial Discretion

by Madhav Goel and Renuka Sane.

Precisely drafted legislation that reflects its objective and boundaries, and judicial discretion that confines itself to legislative intent are critical pillars of a rule of law economy. There are concerns that both are broken in India. In a new paper, Lost in Translation: Legislative Drafting and Judicial Discretion we discuss these issues in the context of the decision of the Supreme Court in Vidarbha Industries Power Ltd. v. Axis Bank Ltd. (Vidarbha) pertaining to the Insolvency and Bankruptcy Code, 2016 (IBC, or Code).

The IBC sought to introduce an objective test for initiating insolvency, providing that as long as a financial creditor files for insolvency and the objective criteria of "debt" and "default" are established, the National Company Law Tribunal (NCLT) is expected to initiate the corporate insolvency resolution process (CIRP). Until 2022, this intent had been respected. However, Vidarbha conferred discretion on the NCLT to not accept an insolvency petition by relying on the use of the word may in the phrase, may admit the petition, in Section 7. This has opened the gates to increased discretion in the admission of IBC petitions, potentially derailing the entire reform process. In fact, in a majority (56%) of the reported cases the NCLT has chosen to not admit the application for initiation of CIRP. These range from instances where the corporate debtor is owed money, to where the Court suspects the intention of the creditor to file for insolvency. Furthermore, there are two instances where the NCLT/NCLAT has exercised the discretion conferred by Vidarbha in respect of applications by operational creditors under Section 9 of the Code. This is despite the fact that the statutory language of Section 9 as well as the decision in Vidarbha nowhere confers such discretionary powers upon the NCLT/NCLAT. By doing so, the NCLT/NCLAT have potentially opened the door to further expansion of the scope of discretion conferred by Vidarbha to extend to applications under Section 9 as well, an outcome fraught with its own issues.

The Vidarbha judgement raises three questions:

  1. Quality of drafting: The Bankruptcy Legislative Reform Commission's recommendation on lack of discretion was clear. The legislation, however, provided no rationale for why it chose to ignore the BLRC report and allow for the possibility of discretion by using the word may in Section 7. If it was an inadvertent change in the language of the provision, then that highlights the need to make the drafting process more robust. If the change was deliberate, then the lack of publicly available reasoning is harmful as it not only goes against the fundamental tenet of rule of law that material decisions ought to be accompanied with reasons, but also because the lack of reasoning has led to uncertainty in the law. Interestingly, the Government itself is pushing for a review of the decision in Vidarbha, a situation that could have been avoided if the drafting processes were more robust, transparent, and accompanied with reasons.
  2. Legislative intent: The jurisprudence on the treatment of the words "may" and "shall" has been fairly fluid. The rule of thumb is that the former implies conferral of discretion, while the latter implies a mandatory obligation. However, the rule can be dispensed in certain cases, and the courts can interpret "may" as "shall" and "shall" as "may". These are cases where an analysis of the real intention of the legislature points to dispensing with the rule of thumb. In these instances, the Courts have gone beyond the statutory language and treated the legislative intent as its north star in interpreting the words "may" and "shall". That approach was missing in Vidarbha, and it is unclear why.
  3. Tests for applying discretion: The Court did not provide guidelines for exercise of this discretion or for determining insolvency. Unchecked discretion eventually leads to abuse of power. In Vidarbha, the Court failed to provide tests for exercise of discretion to admit/not admit an insolvency petition, thus creating a situation that will lead to greater uncertainty of law. Consequent to Vidarbha, NCLTs will devise their own methods to assess whether a corporate debtor is financially healthy and solvent, thus leading to greater uncertainty and lesser consistency of law. This can already be seen from the fact that the NCLT/NCLAT has exercised discretion in 13 cases to dismiss the CIRP initiation applications for myriad reasons, whereas there are at least 10 other cases where the NCLT/NCLAT has expressly declined to exercise the discretion.

The economic effect of unguided discretion and lack of certainty in the law will be that prolonged litigation and delayed timelines will result in erosion of the economic value of the corporate debtor's assets, reducing the chances of it being brought back to life. As a consequence, the Ministry of Corporate Affairs has proposed a series of amendments to the IBC, one of which seeks to clarify the law that it is mandatory for the NCLT to admit petitions under Section 7 once "debt" and "default" are established. While it fixes the obvious mistake in the initial drafting, it does not guarantee that the judiciary will take cognizance of legislative intent. There is therefore a need for deeper reform, both of legislative drafting, and of the way the judiciary interprets economic and commercial laws.

The authors are researchers at TrustBridge.

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