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An in-depth analysis of bankruptcy and insolvency

Surviving economic turmoil: Understanding the dynamics of bankruptcy and insolvency

bankruptcy and insolvency

Introduction

Insolvency and bankruptcy are related concepts that are frequently used interchangeably, but they have different meanings. Before starting the road to understanding bankruptcy and insolvency, it is necessary to define these terms.

Bankruptcy is a legal process indicating an individual or entity’s inability to repay existing debts. On the other hand, Insolvency refers to a broader financial situation in which a person’s liabilities outweigh their assets, making it difficult to meet financial obligations.

In this article, you will get a detailed guide on the difference between insolvency and bankruptcy along with the code applicable to it.

What is bankruptcy?

Imagine you’re drowning in debt and have no plan of repaying it. This is where bankruptcy comes in. Bankruptcy is a legal situation or procedure in which an individual or business is unable to pay its debts. 

It is a formal court proceeding in which assets are liquidated to pay creditors or a repayment strategy is set up over time.

Officials evaluate the real amount of outstanding debt, which varies based on the kind of bankruptcy and the nature of the applicant’s debts and business. In bankruptcy, creditors’ obligations are forgiven and written off, either totally or partially, or they’re paid off by selling the company’s assets.

What is insolvency?

To put it simply, being insolvent is the inability to make debt payments. Both individuals and businesses may become insolvent, often as the outcome of problems including reduced monthly cash flow, rising costs, or bad money management. 

Also, insolvency can be temporary and can be solved with proper management.

Bankruptcy can result from insolvency, however not all insolvent firms file for bankruptcy. Recognising the indicators of insolvency early on enables you to investigate feasible options and take precautionary steps.

Also Read: How to build financial resilience in times of economic uncertainty?

Difference between bankruptcy and insolvency

As we’ve discussed the meanings of the two, let’s look at the differences between insolvency and bankruptcy:

Definition

Bankruptcy is a legal process that resolves insolvency by liquidating or restructuring the debtor’s assets for the benefit of creditors.

Insolvency is a financial situation in which an individual or business is unable to repay its debts when they fall due.

Bankruptcy is a formal legal process governed by specific rules and regulations, which frequently includes court-supervised hearings to ensure a fair distribution of assets to creditors.

Insolvency is a financial situation that may or may not result in a formal declaration of bankruptcy.

Impact on the business 

Bankruptcy is permanent and the final phase in which the individual’s assets are sold to repay the debt.

Insolvency can be temporary and the beginning phase indicates the inability to pay dues.

Time frame

Bankruptcy proceedings have a precise timeframe, and the process is normally finished within a set time frame, which may vary depending on the type of bankruptcy.

Insolvency itself does not have a set timeframe. It largely depends on how a company handles its financial difficulties, whether through bankruptcy or other ways.

Impact on debts

Bankruptcy proceedings can result in the repayment of some or all debts, depending on the form of bankruptcy and the resolution strategy agreed upon by creditors.

On the other hand, Insolvency proceedings do not result in a repayment of debt.

Process

Bankruptcy is done voluntarily by the debtor, indicating a proactive intention to seek legal protection and a systematic strategy for resolving financial difficulties.

Insolvency is not voluntary; it occurs when an individual’s cash inflows are lesser than their cash outflows.

Impact on creditworthiness

Bankruptcy can have long-term implications on creditworthiness and financial credibility.

In case of insolvency, it is less severe than bankruptcy. Can have long-term consequences, such as leaving an impression on a person’s credit report for several years.

What is Insolvency and Bankruptcy Code India?

India, like many other countries, has recognised the importance of establishing a comprehensive legal system to address insolvency and bankruptcy. The Insolvency and Bankruptcy Code, 2016 (IBC) is an Indian law that establishes a consolidated framework for insolvency and bankruptcy proceedings involving businesses, partnerships, and individuals. 

This Bankruptcy and Insolvency Act was introduced in response to the massive accumulation of non-performing loans held by banks and the delay in debt resolution.

Here are key points you need to know regarding the Insolvency and Bankruptcy Code applicability:

  • The IBC is primarily applicable to companies, partnerships, and individuals.
  • The adjudicating body for corporate insolvency resolution is the National Company Law Tribunal (NCLT). The Debt Recovery Tribunal (DRT) handles insolvency matters involving individuals and partnerships.
  • The Insolvency and Bankruptcy Code, 2016, is expected to expedite long-pending cases and resolve them within 180 days. The deadline may be stretched if creditors have no opposition to the extension.
  •  Licenced Insolvency Professionals (IPs) are appointed to oversee the procedure for resolving insolvency. They play an essential part in the resolution process, ensuring fairness and managing their settlement.

Also Read: Addressing the racial wealth gap through financial literacy initiatives

Conclusion

To summarise, while bankruptcy and insolvency are both related to financial issues, they are distinct concepts with different features and consequences. If you have understood the intricacies of these terms, you can easily make informed decisions and take the best line of action to properly solve your financial challenges. Read more such concepts on StockGro blogs.  

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StockGro Team

StockGro is India’s first and largest ‘Social Investment’ platform aimed at helping you master the art of “Trading & Investment”. Trade, Invest and get rewarded to Learn everything about ‘Investments’ the fun-filled way.

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