Insolvency Cannot Be Initiated Against Guarantor Under Section 7 Without Invoking Guarantee First: NCLT Kochi

The National Company Law Tribunal (NCLT) at Kochi recently held that a financial creditor cannot directly initiate insolvency proceedings under Section 7 of the Insolvency and Bankruptcy Code, 2016, against a corporate guarantor without first invoking the guarantee in accordance with the contract and without proceeding against the principal borrower.

The tribunal therefore refused to initiate insolvency proceedings against Inditrade Capital Limited and dismissed the application filed by Arthan Finance Private Limited.

A bench of Judicial Member Vinay Goel and Technical Member Madhu Sinha said,

“The petitioner cannot be permitted to rely upon an earlier issued demand notice, and the petitioner cannot be allowed to file a petition under Section 7 of the Code directly against the guarantor upon commission of default by the principal borrower without invoking the guarantee in terms of the contract as per law."

Arthan Finance, a non-banking financial company, had extended a credit facility of Rs. 1.50 crore to Inditrade Rural Marketing Limited for invoice financing, secured by a corporate guarantee executed by Inditrade Capital. The facility was later restructured on 3 September 2024 into a term loan of around Rs. 1.02 crore, together with a fresh deed of corporate guarantee.

Arthan Finance claimed that the account was classified as a non-performing asset on 31 March 2025 and sought to initiate insolvency, asserting outstanding dues exceeding Rs. 1.07 crore.

Inditrade Capital objected, arguing that the default amount had been inflated to cross the statutory threshold of Rs. 1 crore through the addition of penal charges and GST, and that Rs. 15 lakh held as cash collateral had not been adjusted.

It said that no fresh invocation of the corporate guarantee was ever issued after restructuring, and therefore no crystallised liability or default existed. Arthan Finance countered that invocation was not necessary and claimed that the guarantor's liability was co-extensive with the borrower's under Section 128 of the Contract Act.

The tribunal rejected this contention and held that restructuring amounted to a novation requiring a fresh invocation of the guarantee. It stated, “Reliance on the earlier demand notice is bad in the eyes of law.” and further, “Without invocation of guarantee as required under law and as per the contract between the parties, the petitioner cannot implement the terms of the guarantee agreement against the guarantors and cannot even initiate the insolvency process under Section 7 of the Code.” 

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