Bridge funding for real estate insolvency turning a challenge due to lack of clarity on rules

Reverse insolvency a challenge

Real estate companies undergoing the so-called reverse insolvency are facing bridge funding challenges due to lack of clarity on the applicability of rules.  Under the normal insolvency route, any creditor who provides bridge funding gets super priority in terms of dues. However under reverse insolvency, there is no clarity on how such funding will be treated. Hence, potential creditors are reluctant to infuse bridge capital, say legal experts. Generally, bridge capital is considered senior to other existing debts in an insolvency case.

The issue is currently being faced in the ongoing insolvency of real estate firm Supertech. It had also surfaced during the Umang Realtech case. Insolvency experts say clarity on how bridge funding is treated will potentially have an impact on many ongoing and future real estate insolvency cases.

Normally, any company that defaults on its debt obligations is put through the process as specified in the Insolvency and Bankruptcy Code(IBC). However, in the real estate sector, there could be cases where a large real estate firm developing numerous projects defaults on its debt obligations in one project. In such cases, instead of putting the whole company under the IBC, tribunals have the discretion of putting a specific project in the insolvency process.

However, unlike the IBC, there is no framework for reverse insolvency in India and tribunals provide guidance on a case to case basis.

No legal precedents or legislative clarity

“Under the IBC, interim finance/bridge funding has been included under the definition of ‘insolvency resolution process cost’ and is thereby given super priority over other debts during resolution. However, their treatment under a reverse insolvency process is still uncertain because of a lack of legislative/judicial precedents,” reiterated Siddharth Srivastava, partner, Khaitan & Co.

“Given the legislative uncertainty regarding treatment of interim finance in reverse insolvency cases, investors aim to achieve such status contractually, through definitive documents with the RP/ promoters,” Srivastava added.

The lack of clarity on bridge funding makes it difficult for projects under insolvency to raise sustenance capital. This adds to other difficulties in implementing reverse insolvency, say legal experts.

“It is impossible to bifurcate the financials of a particular real estate project from the balance sheet of the corporate debtor. Needless to say, even bridge funding will not exactly bode well with any reverse insolvency model in the absence of specific rules and regulations to that effect,” said  Sukrit Kapoor, partner, King Stubb & Kasiva, Advocates and Attorneys.

In 2022, the central government had proposed to tweak the IBC norms to include a special framework for reverse insolvency for real estate firms. However, final rules are yet to be notified in this regard. Until the rules are notified, the industry would have to approach reverse insolvency based on the NCLT’s guidance, say experts.

“Given the absence of explicit legal provisions governing such scenarios, Tribunals may need to rely on principles of fairness and equity on a case by case basis. In the absence of clear guidelines, it becomes imperative to explore how the integration of reverse CIRP and bridge funding can align with the underlying principles of the insolvency code.” said Piyush Agrawal, Associate Partner, Aquilaw.