Insolvency is a financial stringency i.e. when an individual or an organization/company is no longer capable to pay the debts he/it owes. Insolvency usually leads to insolvency proceedings, in which legal action can be taken against the insolvent, and assets may be liquidated to pay off the outstanding debts.
Before declaring an entity or a person as insolvent, a competent court defines two conditions −
Act of insolvency means, when a person (debtor) shows that he is not able to pay his liabilities.
An order of adjudication must be passed by the court of law, before legally declaring any person insolvent. To pass an order of adjudication by the court of law, a petition should be filed by any of the creditor or creditors or by the debtor himself. Petition by the creditor may be filled only in following conditions;
After filing the petition, the competent court will fix date of hearing and then it may declares that the debtor is insolvent or not. If insolvency of a person starts from an earlier date, and not from the date of adjudication passed by the court. This is known as Doctrine of Relation Back.
Under Presidency Towns Act, to conduct the insolvency proceedings, an official is appointed by the court is known as Official Assignee and in case of Provincial Insolvency Act, known as Official Receiver. The property of the insolvent vests in the official assignee or receiver to realize the assets and distribute the sale proceeds of the assets in the manner given below −
Order of discharge is an order issued by the court of law to the insolvent. Normally, this order releases the insolvent from all current and provable debts and liberates him from the legal obligations imposed on as insolvent. The order of discharge is issued on the basis of the report submitted by the official receiver and on the application of the insolvent.
An interest @ 6% pa will be paid to the creditors for the period, after the order of adjudication, if, any surplus remains, after full payment to the creditors.
As per the Presidency Towns Insolvency Act, any property transferred by the insolvent without any consideration during the two years preceding the order of adjudication shall be void. Under the Provincial Insolvency Act, such transfer became inoperative, if made with two years of petition of the insolvency except followings −
The Insolvency Act in India is based on English Bankruptcy Act and following two acts are applicable on the Indian Territory −
Above Insolvency Acts are applicable to any Individual, Partnership Firm, and Hindu Undivided Family only. Companies Act, 1956 applies to Joint stock companies and the term liquidation is used instead of Insolvency. In case of insolvency, a person is not able to pay his liabilities but in case of liquidation, company may be liquidated even it has the sufficient amount to pay its liabilities.
Under the Presidency Towns Insolvency Act, insolvent has to submit following documents to the court of law −
No provision, for the submission of a Statement of Affairs under Provincial Insolvency Act. The form of Statement of Affairs as prescribed by the rule made under Presidency Towns Act is given below −
Statement of Affairs
(As required by the Indian Insolvency Act)
In the Court of Justice
To the insolvent – you are required to fill up carefully and accurately, this sheet and the several sheets, A,B,C,D,E,F,G, and H, showing the state of your affairs on the day on which the order of adjudication was made against you viz. the …………day of …………..20…….
Such sheets, when filled up will constitute your Schedule and must be verified by Oath or Declaration.
Unsecured Creditors as per List A
Fully Secured Creditors as per list B
Less: Estimated value of Securities
Less: Amount thereof carried to List C
Balance thereof contra
Partly secured creditors as per List C
Less: Estimated value of Securities
Preferential Creditors as per List D (Creditors for rent, taxes, salaries and wages, etc.) payable in full as per contra
Property as per List E, viz.
Book debts as per list F, viz.
Estimated to produce
Bills of exchange or other similar
Securities on hand as per List G
Estimated to produce
Surplus from securities in the hands of creditors fully secured (per contra)
Deduct: Creditors for preferential rent, rates, taxes, wages, etc. (per contra)
Deficiency as per explained in list H
I /We ………………make oath, solemnly affirm, and say, that the above statement and the several lists hereunto annexed marked A,B,C,D,E,F,G, and H are to the best of my/our knowledge and belief, a full and complete of my/our affairs on the date of the abovementioned order of adjudication made against me/us.
Affirmed------------------ at. ………….this……………day of Sworn Before me.
Just like Balance sheet, the statement of affairs is divided in to two part of Assets and Liabilities and liabilities of the insolvent are classified as −
Trade creditors, stridhan ornament and personal belongings etc. of lady) of Mrs., bills payable, bank overdraft, partly paid shares held, uncompleted contracts guarantees given for others, etc., wages, rent, salaries, etc.
Loan taken from wife is usually treated like any other loan taken and makes wife creditor of the insolvent. In case, it is proved that loan is paid by wife out of amount received from insolvent, then be treated as the capital of insolvent.
@ 6% interest will be paid to the creditors after the date of adjudication, if there is a sufficient balance left after the payments to creditors.
The creditors who have sufficient securities against their claims will be included in this list and after paying these creditors, balance amount will be shown on the asset side of the statement of affairs as available balance to distribute among other creditors.
Un-paid or unsatisfied amount of the partly secured creditors will be shown as expected to rank column as unsecured creditors, to be divided for unpaid amount.
Following creditors comes under the category of preferential creditors and such creditors get preference over the un-secured creditors.
As per the law, following creditors come under category of the preferential creditors −
The assets as shown in the statement of affairs of insolvent are classified into the four categories as follows −
Following are the main differences between Balance Sheet and Statement of Affairs −
Specimen of Deficiency Account List H
Excess of Assets over liabilities i.e. capital on ……..
Net profit arising from carrying on business after deducting usual trade expenses, income or profit from other source i.e.
Deficiency as per statement of Affairs
Excess of Liabilities over assets
Net Loss arising from carrying on business after deduction from profit, usual trade expenses
Bad debts as per list F
Expenses incurred since…….
Other than usual trade expenses, viz.
House hold expenses (Drawings)
Losses through betting
Excess of private liabilities over private assets, etc.
From the above, it is clear that debit side of the deficiency account shows capital account and credit side of the deficiency accounts shows losses and drawing and the difference of two sides is a deficiency as shown in the Statement of affairs Account.
Insolvency of the partnership firm differs from the insolvency of any individual or HUF (Hindu undivided family). The assets of an individual are used to pay the business liabilities, but in case of partnership firm, assets of the partners are used to pay his personal liabilities first, and then balance, if any, may be utilized to pay the business debts. After paying the personal debts of a partner, surplus assets will appear in the Statement of Affairs and will be shown as “Property as per List E.”
In case, if personal asset of a partner is in possession of any creditor as security, still such creditor will get his dues first as unsecured creditor from the firm and then for the balance amount, he may sell the property, owned by him to recover his dues.