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Difference between Financial Creditor and Operational Creditor under IBC, 2016

Akansha Gupta

| Updated: Aug 30, 2021 | Category: IBC Proceedings, Insolvency and Bankruptcy

Difference between Financial Creditor and Operational Creditor under IBC, 2016

Currently, the validity of petitions to initiate a corporate insolvency resolution procedure is mostly dependent on the applicant first convincing the Tribunal that it is either a “Financial Creditor” or an “Operational Creditor” under the Insolvency and Bankruptcy Code, 2016. Under the IBC, 2016, a financial creditor and operational creditor are two critical components of the insolvency process.

On May 28, 2016, the most anticipated, the IBC, gained the President’s consent. The term “Creditor” is defined under Section 3 (10) of the Code:-

“Creditor” means any person to whom a debt is owed and includes a financial creditor, an operational creditor, a secured creditor, an unsecured creditor and a decree-holder;”

Meaning of Financial Creditor

Section 5(7) of the Insolvency and Bankruptcy Code defines a “Financial Creditor” as:-

“A person who owes a financial debt, including anybody to whom such debt has been legally assigned or transferred.”

To determine if a person is a financial creditor, the debt owed to that person must come under the definition of a “Financial Debt” as defined by Section 5(8) of the IBC.

Section 5(8) of the IBC defines a “Financial Debt” as follows:-

“A debt, including any interest, that is disbursed in consideration for the time worth of money & includes:-

  1. Borrowed money that will be repaid with interest;
  2. Any sum raised by acceptance under any acceptance credit arrangement or its de-materialized counterpart;
  3. Any sum raised as a result of a note purchase facility or the issuance of bonds, notes, debentures, loan stock, or other similar instruments;
  4. The sum of any liability arising from a lease or hire purchase agreement that is classified as a finance or capital lease in The Indian Accounting Standards or other such accounting standards as specified;
  5. Receivable sold or discounted other than a non-recourse receivable sold;
  6. Any sum raised via any other transaction, along with any forward sale/purchase agreement, that has the commercial impact of borrowing;
  7. Any counter-indemnity duty arising from a bank or financial institution’s guarantee, indemnity, bond, documented letter of credit, or other instruments;
  8. The amount of any liabilities in relation to any of the guarantees or indemnities for any of the items specified to in sub-clause (a) – (h).”

Meaning of Operational Creditor

Section 5(20) of the IBC defines an “Operational Creditor” as:-

“Anyone who owes an operational debt, including anybody to whom such liability has been legitimately assigned or transferred.”

To determine if a person meets the criteria of an operational creditor, the debt owed to that person should meet the definition of an operational debt as established in Section 5(21) of the Insolvency and Bankruptcy Code.

Section 5(21) of the IBC defines “Operational Debt” as follows:-

“a claim for the supply of goods or services, as well as employment, or a debt for the repayment of dues originating under any legislation now in effect and payable to the Central Govt., any State or any regional government.”

Key differences between financial Creditor and Operational Creditor

  • A financial creditor is someone who owes a financial debt, while an operational creditor is anyone who owes an operational debt.
  • The phrase debt under financial creditors refers to a debt with interest, if any, that is distributed against the consideration for the time worth of money, while debt under operational creditors refers to a demand for the provision of goods and services in exchange for repayment of government dues.
  • In case of any default, a financial creditor might file an application for initiation of a resolution process against a corporate debtor before an adjudicating officer either jointly or with other financial creditors, while an operational creditor might deliver a demand notice of unpaid operational debtor copy for invoice requesting payment of the amount which is involved in that default. The operational creditor may later file an application.
  • A financial creditor may provide the name of the proposed resolution professional with the application for the appointment of an interim resolution professional, but an operational creditor must suggest a resolution professional to be an interim resolution professional.
  • The creditor’s committee will be composed of only financial creditors and corporate debt creditors. The operational creditors will not be the members of the creditor’s committee. The operational creditors do not have the power to vote in the committee of creditor’s meeting.

Brief difference

  Particulars  Financial Creditor  Operational Creditor
MeaningAs per Section 5 (7) of the Code, a financial creditor is anybody to whom a financial obligation is owed, including anyone to whom such debt has been lawfully assigned or transferred.As per Section 5 (20), the term “Operational Creditor” refers to a person to whom an operational debt is owed, as well as anyone to whom such debt is lawfully assigned or transferred.
Meaning of the term “Debt”As per Section 5 (8), the financial debt defines a debt, including any interest with it, payable against the consideration for time value of money, and includes things mentioned in sub-clauses (a) – (i).As per Section 5 (21), the operational debt is defined as a demand for the supply of goods or services, which includes employment, or a debt for the repayment of dues originating under any legislation now in effect and payable to the Central Government, State Government, or any local body.
Voting shareSection 5 (28) – A financial creditor’s voting rights are dependent on the proportion of the financial debt owing to such financial creditor. The approval of the creditor committee must be acquired by a vote of at least 75% of the voting shares.The operational creditor will have no voting rights at the meeting of the creditor’s committee.
Initiation of Corporate Insolvency Resolution ProgrammeAccording to Section 7 (1), Upon any event of a default, a financial creditor may, either alone or together with other financial creditors, file an application with the Adjudicating Authority to initiate the corporate insolvency resolution procedure against a corporate debtor.As per Section 8 (1) of the Code, In the event of a default, the operational creditor may submit to the corporate debtor a demand notice of unpaid operational debtor copy of an invoice requesting payment of the amount concerned with the default. When the operational creditor does not receive compensation from the corporate debtor or notice of the dispute as per Section 8 sub-section (2), the operational creditor may file an application after 10 days from the date of delivery of the notice or invoice demanding payment u/s 8 sub-section (1).
Appointment of IRPAs per Section 7(3), Along with the application, the financial creditor must provide the name of the resolution professional intended to function as an interim resolution professional.As per Section 9(4), An operational creditor may nominate a resolution professional to serve as an interim resolution professional.    
Constitution of the Committee of CreditorsAccording to Section 21(2), The committee of creditors shall be made up entirely of financial creditors, including all financial creditors of the corporate debtor.The committee of Creditors shall not include operational creditors.
Submission of Financial InformationAs per Section 215(2), A financial creditor must disclose financial information as well as information about the assets over which a security interest has been formed.As per Section 215(3), an operational creditor may submit financial information to the information utility.

Priority given to Financial Creditor

Financial creditors are given more priority since they comprise the creditor’s committee and have voting power, while operational creditors aren’t included in the committee of creditors. The fundamental problem is that some groups of operational creditors face discrimination since the statute’s provisions safeguard the rights and interests of Financial Creditors. This is supported by the fact that when the application is made by the operational creditors, the respective class has no right to formulate any suggestions during the meeting of the creditor’s committee.

View of Hon’ble NCLT on the Status of Operational Creditor

According to the Bankruptcy Law Reforms Committee in para 5.2.1 of its final report, the distinction between a financial creditor and an operational creditor is that a financial creditor is a person whose relationship with the entity is solely related to financial contracts, like a loan or debt security. An operational creditor, on the other hand, is an individual whose liabilities from the entity take the shape of future payments in return for products or services that have already been supplied.

According to the study, the IBC also provides for situations in which a creditor has engaged in both a financial and an operational transaction with the company. In such circumstances, the creditor can be classified as a financial creditor for the amount of the financial debt & an operational creditor for the amount of the operational debt.

In the case of Col. Vinod Awasthy vs. AMR Infrastructure Limited (C.P. No. (IB) 10 (PB)/2017), the National Company Law Tribunal determined that operational creditors are those whose responsibility/liability from the business arises from a transaction on operations. Therefore, an operational creditor is a wholesale vendor of spare parts whose spark plugs are retained in inventory by auto car technicians and who gets paid only when the spark plugs are sold.

Likewise, the lessor from whom the company rents space is an operational creditor to whom the company owes monthly rent throughout the course of a 3 year lease contract. The Hon’ble Tribunal further ruled that the Petitioner had not delivered any products or given any services in order to be designated as an ‘Operational Creditor.’

As a result of the above, it is clear that Tribunals are hesitant to hear petitions from anybody who does not meet the criteria of financial creditor and operational creditor as defined by the IBC. This condition must be met in order to begin business insolvency procedures under the IBC. The NCLT[1] has made it possible for the new insolvency and bankruptcy law to be strictly enforced.

Conclusion


To successfully initiate a corporate insolvency resolution procedure against a debtor, it is necessary to demonstrate that the creditor fits within the ambit and extent of the definitions of ‘Financial Creditor’ as per Section 5(7) or ‘Operational Creditor’ as per Section 5(20) of the IBC. According to the case study described above, the Tribunals are severe in construing the term of ‘Operational Creditor’ under the IBC and are refusing to accept petitions when the petitioners do not technically come within the scope of the IBC and have other viable remedies available. The Hon’ble Tribunal made similar rulings in the following instances before it, notably Mukesh Kumar vs. AMR Infrastructure Limited, (C.P. No. (IB)-30 (PB)/2017) and Pawan Dubey and Another vs. J.B.K. Developers Private Limited, (C.P. No. (IB)-19 (PB)/2017).

Read our article:Analyzing the scope of Immunity to Corporate Debtor

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Akansha Gupta

Akansha is a Delhi-based lawyer who is actively involved in publishing articles on a plethora of aspects of Indian and International laws. She holds Master in law (LL.M) focused on Business Laws from Amity University, Noida. Having expertise in the same, she has authored several publications on legal topics related to corporate, M&A and commercial laws.

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