While the Insolvency and Bankruptcy Code, 2016 (“IBC”) provides for insolvency resolution and liquidation of ‘corporate persons’, it excludes ‘financial service provider’ (“FSP(s)”) from the said provision. The Central Government, pursuant to its powers under Section 227 of IBC, had notified Insolvency and Bankruptcy (Insolvency and Liquidation Proceedings of Financial Service Providers and Application to Adjudicating Authority) Rules, 2019 (“FSP Rules”) for resolving specified non-banking financial companies (“Specified NBFCs”) registered with the Reserve Bank of India.
A list of entities that could be categorised as FSPs (the definition was which is linked to the terms ‘financial service’ and ‘financial service regulators’ under the IBC) is not prescribed under the IBC, the FSP Rules or any other legislation. Accordingly, the term FSP has been a subject matter of judicial interpretation. In this backdrop, the National Company Law Appellate Tribunal (“NCLAT”), in a recent order (“NCLAT Order”) passed in Nitin Pannalal Shah v. Vipul H Raja (“Nitin Shah Matter”), has held that a stockbroker (“Stockbroker(s)”) is covered within the ambit of an FSP under Section 3(17) of IBC and an application under Section 7 of IBC to initiate corporate insolvency resolution process (“CIRP”) against Stockbrokers is not maintainable under the provisions of IBC.
The Nitin Shah Matter involved challenge to the admission into CIRP of two companies namely Simandhar Broking Limited (“SBL”) and Astitva Capital Market Private Limited (“ACMPL”) (collectively referred to as “Companies”), each being registered as a stockbroker with the Securities and Exchange Board of India(“SEBI”).
In the case of SBL, the applicant investor had deposited certain margin money in the form of cash collateral with SBL to trade in the shares and securities on its behalf. Upon incurring losses in trading, SBL adjusted the margin money provided by the investor against the losses, which subsequently led to a shortfall that was payable by the investor to SBL. The investor, thereafter, filed a complaint with the Investor Grievance Redressal Panel, which rejected the claim of the investor. Subsequently, the investor filed an application under Section 7 of IBC to initiate CIRP against SBL in 2019, citing the default of payment by SBL.
The National Company Law Tribunal (“NCLT”), while passing the admission order dated April 6, 2021 (“SBL Admission Order”) cited a thin line differentiating Section 3(16)(e) of IBC (definition of financial service) and the business activities of SBL and held that since SBL is directly dealing in financial products on behalf of its clients, as opposed to rendering advice or soliciting or agreeing in that regard (as specified in Section 3(16)(e) of IBC), it cannot be said to be providing financial services, and therefore has to be treated as a ‘corporate person’ and not a FSP. Further, the NCLT also relied on the definition of ‘financial debt’ and more specifically clause (g) of Section 5(8) of IBC –which essentially covers a derivative transaction under the ambit of financial debt under IBC — to hold that such a derivative transaction can only be entered into by a company registered with SEBI. The NCLAT also stated that if such a company was held to be a FSP under the IBC, then the provisions of Section 5(8)(g) of IBC would not have been in existence.
In the case of ACMPL, the Hon’ble NCLT admitted an application under Section 7 of IBC filed by an erstwhile director of ACMPL pursuant to a default under a term loan granted by such director to ACMPL. The NCLT, while passing the order dated November 25, 2021 (“ACMPL Admission Order”), did not examine whether ACMPL was a corporate person under the IBC and simpliciter proceeded to examine the default and admitted ACMPL into CIRP.
The NCLAT, while overturning the judgment of NCLT and ruling that Stockbrokers are FSP, relied on the report of the Sub-Committee of the Insolvency Law Committee (“ILC Report”), which had also acknowledged Stockbrokers in different segments as FSPs. Further, the NCLAT examined the charter documents of the Companies and held that the services forming part of the memorandum of association were completely covered within the ambit of Section 3(16)(e) of IBC which states as follows –
(16) “financial services” includes any of the following services, namely:
(e) rendering or agreeing, for consideration, to render advice on or soliciting for the purposes of––
(i) buying, selling, or subscribing to, a financial product;
(ii) availing a financial service; or
(iii) exercising any right associated with financial product or financial service;
The NCLAT, while emphasising the definition of FSP under Section 3(17) of IBC i.e. a person engaged in the business of providing financial services in terms of authorisation issued or registration granted by a financial sector regulator, noted that a financial sector regulator has been defined to include SEBI under Section 3(18) of IBC. Since Stockbrokers are regulated by and required to be registered with SEBI (which is a financial sector regulator) and provide services covered within Section 3(16)(e) of IBC, they shall qualify as FSPs under IBC. The NCLAT also relied on its judgment in Randhiraj Thakur v. Jindal Saxena Financial Services Private Limitedwherein, while stating that IBC is a self-contained code relating to reorganisation and insolvency resolution of ‘corporate persons’, ‘partnership firms’ and ‘individual’ in a time bound manner, it had held that an exception has been specifically carved out keeping FSPs outside the purview of IBC which is why it cannot be made applicable to such entities. It is also worthwhile to note that FSPs need a different treatment given the nature of business and its importance in the economy.
In particular, the NCLAT disagreed with the reasoning of NCLT in relation to SBL Admission Order, observed that Section 5(8)(g) of IBC has to be read harmoniously with Section 7 (Initiation of CIRP by financial creditor), Section 5(7) (definition of financial creditor) and Section 5(8) (definition of financial debt) of IBC, and it cannot be read in any manner to include FSPs within its ambit. On the other hand, in relation to ACMPL Admission Order, the NCLAT held that the proceedings were initiated by the former director of the company with a view to stall National Stock Exchange-led proceedings in order to take the benefit of moratorium, thus rendering the ACMPL Admission Order untenable.
The debate regarding resolution of financial institutions caught pace after the Global Financial Crisis of 2007-09, post which a consensus regarding a separate framework to resolve systemically important financial institutions was achieved globally. It also led to the publication of FSB Key Attributes. The FSB Key Attributes provides guidance to resolve any financial firm which holds client assets (inter alia including investment services and brokerage) and could be systemically important/ critical in the event of failure.
The insolvency processes of broker firms in England and the United States of America (“US”) are also dealt with under a separate/ special framework dedicated to such financial institutions. In the US, if a broker dealer firm fails, then, the Securities Investor Protection Council will carry out its liquidation under the provisions of Securities Investor Protection Act, unless in cases of systemic importance, it is resolved under the provisions of the Dodd Frank Wall Street Reform and Consumer Protection Act, 2010, under the aegis of Federal Deposit Insurance Corporation. In England, certain specified investment firms are resolved under the special administration regime established under the Banking Act, 2009. Further, to the extent a failure of such a firm would have a ‘systemic’ impact on the UK’s financial system, then the Special Resolution Regime under the Banking Act, 2009 for systemic investment firms has also been specified.
It is significant to note that, prior to the NCLAT Order, the NCLT has passed certain orders pursuant to which the Stockbrokers have been made subject to an insolvency resolution process/ voluntary liquidation process under the IBC. For instance, the NCLT Mumbai Bench, vide order dated July 28, 2021, in the matter of Mayank Arora v. Pacific Shares & Stock Broker Ltd., while hearing an application to initiate CIRP against a Stockbroker under Section 9 of IBC, did not go into the question of determining whether the company was a corporate person under IBC and thereafter admitted the company into CIRP. Subsequently, the aforesaid company was also pushed into liquidation by NCLT vide its order dated April 7, 2022.
Further, under the voluntary liquidation framework,the NCLT has also passed orders in matters of Stockbrokers, such as Manoj Stocks Private Limited and IV Share and Stock Brokers Limited, pursuant to which such Stockbrokers have been liquidated and dissolved. The Insolvency and Bankruptcy Board of India, in its recent discussion paper dated October 5, 2023, has also discussed the reasons for the occurrence of such voluntary liquidations of FSPs and accordingly, has recommended that the FSP must obtain the prior permission of the appropriate regulator before initiating voluntary liquidation proceedings under IBC.Hence, the NCLAT Order comes as a relief to Stockbroker companies that were wary of being clubbed under the IBC’s regular insolvency resolution process. Such treatment of Stockbroking firms,, especially of the large ones holding client assets of significant value, could have far reaching implications on the economy. It provides clarification to the NCLT and the other benches of NCLAT, while adjudicating applications to initiate CIRP in relation to a firm providing financial services, to first examine whether or not such company qualifies as a corporate person under the provisions of IBC and, thereafter, proceed with determination of default.
 MCA Notification S.O. 4139(E), November 18, 2019, https://ibbi.gov.in//uploads/legalframwork/7bcd2585a9f75b9074febe216de5a3c1.pdf
 2023 SCC OnLine NCLAT 641
 Sub-Committee of the Insolvency Law Committee for Notification of Financial Service Providers under Section 227 of the Insolvency and Bankruptcy Code, 2016, report dated October 4, 2019.
 2018 SCC OnLine NCLAT 508
 Key Attributes of Effective Resolution for Financial Institutions by the Financial Stability Board (“FSB Key Attributes”), 15 October, 2014
 Dodd Frank Wall Street Reform and Consumer Protection Act, 2010, Section 203.
 2021 SCC OnLine NCLT 14617
 Manoj Stocks (P) Ltd., In re, 2020 SCC OnLine NCLT 9171
 CP (IB) No.4/Vol./Chd/Pb/2021, Order dated January 30, 2023.
 Discussion Paper on Streamlining the Voluntary Liquidation Process, October 5, 2023, Insolvency and Bankruptcy Board of India.