Guarantor Liability Co-Extensive With Borrower, Can't Be Made Contingent By Balance Sheet Entries: NCLAT

The National Company Law Appellate Tribunal (NCLAT) at Delhi has recently observed that a corporate guarantor cannot avoid insolvency proceedings under Section 7 of the Insolvency and Bankruptcy Code by describing its guarantee obligation as a “contingent liability” in its balance sheets.

The tribunal observed that in law, a guarantor's liability is co-extensive with that of the principal borrower, and that what matters for limitation is acknowledgement of liability, not the accounting description adopted in the books.

Rejecting the defence raised by the corporate guarantor, the NCLAT observed,

“In law, the liability of the guarantor is co-extensive and not contingent – contingent upon principal borrower failing to discharge its obligation. When the appellant has signed the deed of guarantee, it has accepted only co-extensive liability along with the principal borrower and not any contingent liability. Therefore, merely because the appellant has chosen to describe its co-extensive liability arising under the deed of guarantee as contingent liability in its balance sheets may not have any legal consequence of a co-extensive liability into contingent liability."

The ruling was delivered by a bench comprising Judicial Member Justice N. Seshasayee and Technical Member Indevar Pandey.

The appeal was filed by Subrata Sardar, the suspended director of Vivek Brothers Pvt. Ltd., challenging an order of the National Company Law Tribunal, Kolkata Bench, admitting a Section 7 application filed by Central Bank of India.

Vivek Brothers had furnished corporate guarantees for credit facilities extended by a consortium of banks, led by Central Bank of India, to Eastern Gases Ltd.. After Eastern Gases defaulted, its loan account was classified as a non-performing asset in May 2017. Insolvency proceedings were initiated and eventually culminated in liquidation in August 2018.

During liquidation, the bank recovered a part of its dues. It then issued demand notices invoking the corporate guarantee and moved a Section 7 application against Vivek Brothers for the balance amount. The application was admitted by the NCLT, leading to the present appeal.

Before the NCLAT, the suspended director argued that the insolvency petition was barred by limitation. He contended that the liability reflected in the company's balance sheets was only a “contingent liability” and could not amount to an acknowledgement of debt. It was further argued that a guarantor's liability remains contingent until invocation.

Rejecting these submissions, the tribunal held that a company cannot change the legal nature of a guarantee just because it made few unilateral accounting entries. Since there was acknowledgment of the liability in its balance sheets within the limitation period, the Section 7 application was held to be filed within time.

The NCLAT therefore dismissed the appeal and upheld the admission of the insolvency proceedings.