Not all homebuyers to get first claim on liquidation proceeds
All financial creditors—both secured and unsecured—have equal rights in deciding a turnaround plan for a bankrupt builder, but if the firm slips into liquidation, they are no longer equal in the priority list for asset sale proceeds
New Delhi: Homebuyers will figure among the first to lay hands on the proceeds of a real estate firm in liquidation only if they qualify as secured creditors. If not, as unsecured creditors, they will have to wait for their turn till dues to employees of the firm are paid from the sale of assets, going by the Insolvency and Bankruptcy Code (IBC) amendment which raised the status of homebuyers as financial creditors.
The code, as amended through an ordinance last week, granted homebuyers the status of financial creditors without specifying whether they are secured or unsecured creditors. All financial creditors—both secured and unsecured—have equal rights in deciding a turnaround plan for a bankrupt builder, but if the firm slips into liquidation, they are no longer equal in the priority list for asset sale proceeds.
Experts said different factors will come into play in deciding whether a homebuyer will be classified as a secured creditor—one who has a right over assets of the company.
A government official, who asked not to be named, said Tamil Nadu, where there is a practice of having two separate agreements between homebuyers and builders for land and apartment, the customer will get the status of a secured creditor.
Another scenario where homebuyers may be secured creditors is when the builder recognizes revenue from the project in his books under what is called the ‘percentage of completion method’, the official said. This method prescribes early revenue recognition from the project without waiting for its completion. Percentage of completion method prescribed by accounting rule maker Institute of Chartered Accountants of India’s (ICAI) guidance note on real estate transactions was replaced by Indian Accounting Standards (Ind AS) 115 from 1 April, said Jigar Parikh, partner at EY India. The new system requires specific conditions to be complied with to recognize revenue based on percentage of completion method. One key condition is whether the builder has the right to recover payments for work completed to date.
The view that accounting treatment of a project may confer secured creditor status to homebuyers, however, is contested by some experts. “Homebuyers are unsecured creditors, while lenders of the corporate debtor are secured creditors. The asset does not exist at the time homebuyers take loan from banks for purchase. They get a right on the asset only after the title is transferred to them. Accounting treatment of real estate project meant to show its progress does not confer an ownership right to homebuyer,” said Shardul S. Shroff, executive chairman of law firm Shardul Amarchand Mangaldas and Co.
Shroff said that with the amendments to the IBC, homebuyers can carefully play their cards in deciding the future course of the project in their best interest.
Homebuyers would prefer to have the bankrupt builder turned around so that the project gets completed rather than sending it into liquidation, which is the last resort.
The amendment enables homebuyers to move company law tribunals to start bankruptcy proceedings against defaulting builders as well as to be part of a panel of creditors having voting right at par with secured or unsecured financial creditors for deciding on the corporate rescue plan. If their outstanding amount is significant, without homebuyers’ support, the committee of creditors will not be able to approve any resolution plan.
“If dues to homebuyers is more than 34% and if they come together, the lenders cannot approve a resolution plan without support from homebuyers, as the minimum votes needed for approving a resolution plan is 66% as per the amended code,” said Manoj Kumar, a partner at law firm Corporate Professionals.
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