Author: Anisha Parveen, Jamia Hamdard, New Delhi
To the Point
Bankruptcy is a legal procedure through which individuals or companies unable to repay their outstanding debts can seek relief from some or all of their financial obligations. Under Indian law, bankruptcy is governed by the Insolvency and Bankruptcy Code, 2016 (IBC), which offers a time-bound process for resolving insolvency in a structured and judicial manner. While the IBC was initially geared towards corporate entities, Part III of the Code, notified in December 2019, also applies to individuals and personal guarantors. Filing for bankruptcy may seem like a fresh start, but it comes with several legal, financial, and reputational consequences. Therefore, it is essential to assess both its benefits and drawbacks before initiating the process.
Use of Legal Jargon
Under the IBC, an individual who is unable to pay their debts may be referred to as a “debtor,” while the person or entity to whom the debt is owed is called the “creditor.” The process may involve filing an application for “insolvency resolution” or, if no resolution is achieved, entering “bankruptcy proceedings.” The forum for adjudication is the Debt Recovery Tribunal (DRT), and appeals lie before the Debt Recovery Appellate Tribunal (DRAT). Once an application is admitted, a Resolution Professional (RP) may be appointed to supervise the process. The debtor may propose a repayment plan, which must be approved by creditors. In the event of failure, the DRT may pass a bankruptcy order, after which a bankruptcy trustee is appointed to take over the debtor’s estate.
The Proof
The Insolvency and Bankruptcy Code, 2016 is the primary legislation governing insolvency in India.
Sections 94 to 120 deal specifically with insolvency resolution and bankruptcy for individuals and partnership firms.
Section 94 allows a debtor to initiate insolvency proceedings voluntarily by filing an application before the DRT.
Under Section 100, if the application is admitted, a moratorium is declared, staying all legal actions against the debtor. If creditors do not approve the repayment plan under Section 114, then bankruptcy proceedings may be initiated under Section 121.
Furthermore, Section 128 of the Indian Contract Act, 1872, clarifies that a guarantor’s liability is co-extensive with that of the principal debtor, which has implications when personal guarantors file for bankruptcy.
Chapter 7 allows individuals to eliminate most unsecured debts like credit card bills and medical expenses. But before that, they must sell off non-essential (non-exempt) assets—like stocks or collectibles—to repay part of the debt. Essential items like your main home, basic furniture, and car (exempt assets) are usually protected.
Chapter 11 allows businesses (and some individuals) to reorganize their debts and repay creditors over time while continuing operations. They may downsize, renegotiate contracts, or sell assets—but major decisions need court approval. A reorganization plan must be submitted within one hundred twenty days and approved by creditors and the court.
Abstract
Filing for bankruptcy can be both a shield and a sword—it may offer debtors relief and an opportunity to start afresh, but it also restricts their economic freedoms and affects their creditworthiness. The process under Indian law is detailed and time-bound, aimed at maximizing the value of assets and ensuring fair treatment of creditors. However, the decision to file must be guided by one’s financial condition, future plans, and legal obligations. The provisions of the IBC ensure that debt resolution is not merely a matter of private negotiation but part of a regulated legal framework. Still, it imposes responsibilities and consequences that every debtor must weigh carefully.
Case Laws
M/s. Vistra ITCL (India) Ltd. & Ors. Vs. Mr. Dinkar Venkatasubramanian & Anr., (2023) the Supreme Court addressed a complex legal issue regarding the status and rights of a secured creditor who is not directly a financial or operational creditor under the Insolvency and Bankruptcy Code (IBC), 2016.
Background:
KKR India Financial Services and L&T Finance had given loans to WLD Investments Pvt. Ltd. And BRASSCO Engineering Ltd.
As security for these loans, the Corporate Debtor pledged shares of JMT Auto Ltd. To Vistra ITCL (India) Ltd.
Vistra, holding the pledged shares, filed a claim as a secured creditor in the insolvency proceedings of the Corporate Debtor.
However, the Resolution Professional (RP) rejected Vistra’s claim, saying it was not a financial or operational creditor under the Code.
Supreme Court’s Key Findings:
Security Interest Can Be Created for Third Parties:
The Court held that it is valid and legally permissible for a person (here, the Corporate Debtor) to create a security interest (like a pledge) in favour of a third party (Vistra), even if the loan was taken by someone else (i.e., not the Corporate Debtor).
Vistra Is a Secured Creditor — But Not a Financial or Operational Creditor:
Based on earlier judgments like Anuj Jain and Phoenix ARC, the Court confirmed that:
Vistra is a secured creditor (because it holds pledged shares),
But cannot be classified as either a financial creditor or an operational creditor, and therefore, has no voting rights in the CoC (Committee of Creditors).
This creates a legal anomaly — Vistra has a secured interest, but no say in the insolvency process.
The IBC Recognizes Other Creditors Beyond CoC:
The Court emphasized that the intent of amended Sections 30(2) and 31 of the IBC is to protect the interests of other creditors, like Vistra, who are not part of the CoC but still have legitimate claims.
Two Possible Legal Solutions Were Suggested:
Option 1: Treat Vistra as a financial creditor to the extent of the value of the pledged shares (on the date of commencement of CIRP), which would give it voting rights in the CoC. However, this would require re-examining earlier judgments (Anuj Jain and Phoenix ARC), and may need referral to a larger bench.
Option 2 (Preferred by the Court): Treat Vistra as a secured creditor entitled to all rights under Sections 52 and 53 of the IBC — including the right to realize its security interest (i.e., sell the pledged shares), even if it is not part of the CoC. The Court said this would be a fair and just outcome.
M/s Next Education India Pvt. Ltd. Vs. M/s K Techno Services Pvt. Ltd., (2023) , the Supreme Court dealt with the issue of limitation under Section 9 of the Insolvency and Bankruptcy Code (IBC), which relates to applications filed by operational creditors for initiating insolvency proceedings.
Here, the operational creditor had issued 187 invoices for services (Digital Classroom Solution) between 12.03.2011 and 30.06.2017, but payments remained due. When the creditor approached the NCLT, the Tribunal dismissed the application, holding that the limitation period began from 12.03.2011, the date of the earliest invoice, and therefore the claim was barred by limitation (since more than three years had passed).
Both NCLT and NCLAT rejected the claim.
However, the Supreme Court disagreed with this view. It held that the NCLT should have considered the invoices issued within three years before the date of filing of the Section 9 application. The Court emphasized that not all claims were time-barred, and at least those raised in the later invoices (within the three-year limitation period) should have been allowed to proceed.
Victory Iron Works Ltd. Vs. Jitendra Lohia & Anr., (2023), the Supreme Court examined the meaning of the term “asset” under the Insolvency and Bankruptcy Code (IBC), 2016, specifically in Sections 18 and 25, which outline the duties of the Interim Resolution Professional (IRP) and Resolution Professional (RP).
The Court noted that these sections use the term “asset” and not “property”, even though “property” is defined under Section 3(27) of the IBC. Interestingly, “asset” is not defined in the IBC or in any of the other laws referred to under Section 3(37) of the Code. However, in common understanding, an “asset” means any kind of property or rights over property. Therefore, any rights the Corporate Debtor holds over a property—even if it doesn’t own it completely—can be considered an asset under Section 18(f) and Section 25(2)(a).
The Court also made an important distinction between Section 18 and Section 25. The Explanation to Section 18 excludes third-party-owned assets in possession of the corporate debtor from the definition of “assets”—but only for the purposes of Section 18. This exclusion does not apply to Section 25, which means the Resolution Professional has wider powers under Section 25 to manage or take control of assets, even those not strictly owned by the Corporate Debtor, as long as the debtor holds some rights over them.
Punj Lloyd Aviation Ltd. Vs. Chipsan Aviation Pvt. Ltd., (2023), the Supreme Court dealt with how “operational debt” should be interpreted under the insolvency and Bankruptcy Code (IBC), 2016.
The NCLAT (Appellate Tribunal) had overturned the earlier decision of the NCLT (Tribunal) by relying on the Supreme Court’s ruling in Consolidated Construction Consortium Ltd. Vs. Hitro Energy Solutions Pvt. Ltd. In that ruling, the Court had said that the definition of “operational debt” under Section 5(21) of the IBC should be interpreted broadly and with a practical purpose. It should cover all those who provide or receive operational services from a company, as long as it leads to a genuine operational debt.
However, the original NCLT decision did not consider all the defences that were raised by the party opposing the insolvency application under Section 9 of the IBC. So, the Supreme Court has sent the matter back to the NCLT, instructing it to properly hear both sides and decide all the issues afresh.
Pros and Cons of Filing for Bankruptcy: An Indian Perspective
Pros of Filing for Bankruptcy
Automatic Stay (Moratorium) on Recovery Actions
Under Section 101 of the IBC, once an insolvency application is admitted, a moratorium is imposed. This protects the debtor from ongoing or future recovery actions, lawsuits, and enforcement of security interests by creditors. It offers a breathing space to the debtor.
Fresh Start for Honest Debtors
Filing for bankruptcy offers a second chance to individuals genuinely unable to pay their debts. Once bankruptcy is completed and debts are discharged, the debtor is legally free from most liabilities and can rebuild their financial life.
Legal Structure and Supervision
Bankruptcy proceedings are conducted under the supervision of a bankruptcy trustee and the Debt Recovery Tribunal (DRT). This ensures transparency, fairness, and legal protection for both debtors and creditors.
Time-Bound Resolution
One of the key objectives of the IBC is to provide a time-bound resolution. The law sets strict timelines for completion of the insolvency resolution and bankruptcy process, which reduces prolonged financial uncertainty.
Possibility of Negotiated Repayment Plan
Before moving to full bankruptcy, the debtor may submit a repayment plan under Chapter VII of the IBC, which, if approved by creditors, helps avoid bankruptcy altogether. This may lead to partial repayment without liquidation of all assets.
Cons of Filing for Bankruptcy
Loss of Control Over Personal Assets
Once declared bankrupt, the debtor’s assets are handed over to the bankruptcy trustee. The trustee takes over management and liquidation of the assets to pay off creditors. This results in loss of financial control and ownership.
Severe Impact on Credit Score and Borrowing Ability
Bankruptcy severely damages the debtor’s creditworthiness. Credit scores drop significantly, and the fact of bankruptcy remains on financial records for several years, making it difficult to obtain loans, credit cards, or mortgages.
Public Disclosure and Stigma
Bankruptcy proceedings are public in nature, and the declaration of bankruptcy may cause personal embarrassment, social stigma, or even professional damage, especially in conservative or closely-knit communities in India.
Legal Restrictions During Bankruptcy
A bankrupt person faces various restrictions:
Cannot act as a director of a company
Cannot borrow above a certain amount without informing the lender
May be disqualified from public office or contracts
These restrictions remain until discharge and sometimes beyond, under judicial discretion.
Not All Debts Are Discharged
Certain obligations cannot be eliminated through bankruptcy. These include:
Government fines
Court-ordered compensation
Maintenance or alimony
Secured debts (unless collateral is surrendered)
So bankruptcy may not offer full financial relief.
Conclusion
Bankruptcy under Indian law is a powerful legal mechanism designed to bring relief to overburdened debtors while balancing the rights of creditors. It allows for a transparent process that either restructures or extinguishes debts through judicial supervision. On the pro side, it offers legal protection, stops harassment from creditors through moratoriums, and helps in systematic asset distribution. On the con side, it affects one’s credit history, restricts economic activities, and carries a social stigma in many parts of India. Therefore, filing for bankruptcy should never be taken lightly—it is a serious legal choice that should be made after due consultation with financial and legal advisors. In certain cases, alternative remedies like one-time settlement (OTS) or restructuring may be more appropriate.
FAQs
Q1. Who can file for bankruptcy under Indian law?
A: Any individual, partnership firm, or personal guarantor who is unable to repay debts amounting to at least ₹1,000 (as per Section 78 of IBC) can file for bankruptcy before the Debt Recovery Tribunal.
Q2. What is the role of the Debt Recovery Tribunal (DRT) in bankruptcy cases?
A: The DRT acts as the adjudicating authority for individual and partnership insolvency cases under the IBC. It has the power to admit or reject applications, approve repayment plans, and pass bankruptcy orders.
Q3. Does filing for bankruptcy affect my credit score and ability to borrow in the future?
A: Yes, filing for bankruptcy severely affects your creditworthiness. It stays on your credit report for several years and can make it difficult to obtain loans or enter into financial contracts in the future.
