Special Statement:

1. The cases involved in this article are derived from the final judgment documents published on China Judgments Online. The author's research and judgment on the cases are based on this and represent personal opinions only.

2. If the case involved in this article enters the trial supervision procedure and the court re-establishes the facts of the case in accordance with the law, it will not fall within the scope of this article.

 

I. Case Origin

(I) Company A's Bankruptcy Reorganization and Company B's Declaration of Claims are Confirmed

1. Company A's Bankruptcy Reorganization On September 18, 2016, Company A entered bankruptcy reorganization proceedings.

2. Company B's Declaration of Claims is Confirmed After Company B declared its claims to the administrator of Company A, the final confirmed amount of Company B's claims against Company A was 115723995.09 yuan, and the nature of the claim was ordinary claim. According to the 'Draft Reorganization Plan of Company A' passed by the creditors' meeting, the repayment rate for ordinary claims was determined to be 30%, so the amount of repayment Company B should receive is 34717198.53 yuan.

(II) Company B's Bankruptcy Reorganization and Company A's Declaration of Claims are Not Confirmed

1. Company B's Bankruptcy Reorganization On February 23, 2018, Company B entered bankruptcy reorganization proceedings. Subsequently, due to Company B's serious insolvency, inability to pay off debts due, and no investors willing to implement the investment plan within the statutory period and the grace period granted by the court, the court declared bankruptcy on November 27, 2018.

2. Company A's Declaration of Claims is Not Confirmed On June 28, 2018, Company A declared its claims to the administrator of Company B, amounting to 34802656.80 yuan. After review by the administrator of Company B, the claims declared by Company A were not confirmed. Subsequently, due to Company B's serious insolvency, inability to pay off debts due, and no investors willing to implement the investment plan within the statutory period and the grace period granted by the court, the court declared bankruptcy on November 27, 2018.

(III) Company A Claims Offset of Debt to Company B's Administrator, Company B Objects to the Offset Claim and Files a Lawsuit

1. Company A Claims Offset of Debt to Company B's Administrator On July 9, 2018, Company A issued a 'Notice of Debt Offset' to the administrator of Company B, claiming to offset the amount of 34802656.80 yuan receivable from Company B with the repayment of 34717198.53 yuan obtained by Company B in Company A.

2. Company B Objects to the Offset Claim and Files a Lawsuit Company A raised an objection to Company B's administrator regarding the non-confirmation of the claim. Company B's administrator still insisted on its initial review opinion, and did not confirm the claim declared by Company A, and disagreed with the offset. Therefore, a dispute arose between the two parties, and Company B's administrator sued to the court of first instance.

 

II. Court Opinions

(I) Court of First Instance's Opinion

The focus of the dispute in this case is: whether Company A's claim of 34802656.8 yuan for debt offset is valid. According to the facts found, in Company A's reorganization case, the draft reorganization plan determined the repayment rate for ordinary claims to be 30%, and only 30% of the confirmed debt amount of 115723995.09 yuan of Company B can be repaid, that is, the repayment amount that Company B should receive is 34717198.53 yuan. Now, in Company B's bankruptcy liquidation case, the amount of claim declared by Company A and the amount required for offset is 34802656.8 yuan. Because the repayment amount of 34717198.53 yuan obtained by Company B is the amount converted after the 30% repayment rate determined in Company A's reorganization procedure, and the 34802656.8 yuan claimed by Company A for offset is carried out before the repayment rate in Company B's bankruptcy liquidation procedure is determined, which does not comply with the principle of fairness. If the offset is carried out before the repayment rate of Company B's bankruptcy liquidation procedure is determined, it will greatly reduce Company B's bankruptcy property and damage the interests of other creditors of Company B. Therefore, Company A's claim of 34802656.80 yuan for debt offset is invalid.

(II) Court of Second Instance's Opinion

This court holds that the focus of the dispute in this case is whether Company A's claim of 34802656.80 yuan for debt offset to Company B is valid. Article 40 of the 'Enterprise Bankruptcy Law of the People's Republic of China' stipulates that if a creditor owes a debt to the debtor before the bankruptcy application is accepted, it may claim offset to the administrator. Article 41 of the 'Provisions of the Supreme People's Court on Several Issues Concerning the Application of the (II)' stipulates that a creditor who exercises the right of offset in accordance with the provisions of Article 40 of the Enterprise Bankruptcy Law shall submit an offset claim to the administrator. The administrator shall not actively offset the mutual debts between the debtor and the creditor, unless the offset benefits the debtor's property. According to the above legal provisions, the premise for Company A to claim 34802656.80 yuan for debt offset to Company B is that it has a claim of 34802656.80 yuan against Company B. In this regard, Company A has filed a separate lawsuit with the Sanya Intermediate People's Court during the trial of the first instance, requesting confirmation that it has a claim of 34802656.8 yuan against Company B. The case has been concluded by means of withdrawal of the lawsuit, and the claim has not been finally confirmed by the court's judgment. Therefore, it is still uncertain whether Company A has a claim against Company B. At present, Company B is in the stage of bankruptcy liquidation, and the debt repayment ratio has not been finally determined. The first instance judgment based on this finding that Company A's claim of 34802656.80 yuan for debt offset is invalid has factual and legal basis and should be maintained. Company A's appeal claim that its claim of 34802656.8 yuan for debt offset to Company B is valid is not supported by law and will not be supported by this court.

 

III. Three-Dimensional Thinking on the Exercise of Bankruptcy Offset Rights

 

(I) Thinking from the Perspective of the Administrator

When the administrator manages the debtor's property and performs its statutory duties, from which aspects should it review the bankruptcy offset rights claimed by the creditor?

 

1. Administrator's Review of Bankruptcy Offset Rights

(1) Whether the creditor actively proposes the offset to the administrator Article 41 of the 'Provisions of the Supreme People's Court on Several Issues Concerning the Application of the (II)' stipulates that: 'A creditor who exercises the right of offset in accordance with the provisions of Article 40 of the Enterprise Bankruptcy Law shall submit an offset claim to the administrator. The administrator shall not actively offset the mutual debts between the debtor and the creditor, unless the offset benefits the debtor's property.' According to the above provisions, the exercise of the bankruptcy offset right can be by the creditor or the administrator (the administrator's exercise of the bankruptcy offset right must benefit the debtor's property). In this case, Company A exercised the bankruptcy offset right to Company B based on its declaration of claims to Company B. According to the second instance court's determination that 'according to the above legal provisions, the premise for Company A to claim 34802656.80 yuan for debt offset to Company B is that it has a claim of 34802656.80 yuan against Company B', it can be seen that, without considering whether the claim has been confirmed, Company A's claim meets the formal requirements in terms of the subject qualification.

(2) Whether the creditor's claim has been declared and confirmed by the court for the creditor to offset the claim shall be subject to the creditor's declaration, the administrator's review, the creditors' meeting verification, and the court's ruling confirmation. In this case, the Second Instance Court held that 'Company A had filed a separate lawsuit with the Sanya Intermediate People's Court during the trial of the First Instance Court, requesting confirmation that it had a claim of 34,802,656.8 yuan against Company B. The case was closed by means of withdrawal of the lawsuit, and the claim was not finally confirmed by the court's judgment. Therefore, it is not possible to determine whether Company A has a claim against Company B.' That is, although Company A declared the claim to the administrator of Company B, the claim was not confirmed by the administrator, and it is impossible to determine whether Company A has a claim against Company B. According to the legal provisions and the determination of the Second Instance Court, the B company administrator's view that 'the offset has no legal basis and does not have legal effect' was supported by the court.

(3) Whether there are circumstances under which offsetting is prohibited under the Enterprise Bankruptcy Law. Article 40 of the Enterprise Bankruptcy Law stipulates three circumstances under which the right of offset may not be exercised: ① The debtor's debtor obtains a claim against the debtor after the bankruptcy application is accepted; ② The creditor knows that the debtor has been unable to pay off debts due or the fact of bankruptcy application, and bears debts to the debtor; however, this does not apply if the creditor bears debts due to legal provisions or reasons that occurred one year before the bankruptcy application; ③ The debtor's debtor knows that the debtor has been unable to pay off debts due or the fact of bankruptcy application, and obtains claims against the debtor; however, this does not apply if the debtor's debtor obtains claims due to legal provisions or reasons that occurred one year before the bankruptcy application. The facts found by the court of first instance and the court of second instance in this case are: the B company administrator did not confirm the claim declared by A company, and A company raised an objection to the B company administrator, and the B company administrator still insisted on its initial review opinion and did not confirm the claim declared by A company. Although the judgment in this case does not mention whether the right of set-off claimed by Company A exists in the circumstances where set-off is prohibited by law, the author believes that in practice, when the administrator examines the right of set-off in bankruptcy, it is necessary to examine whether there is a prohibition of set-off in the right of set-off claimed by the creditor in order to avoid losses to the debtor.

 

2. How to handle objections to the right of set-off in bankruptcy by the administrator

Article 42 of the Provisions of the Supreme People's Court on Several Issues Concerning the Application of the Enterprise Bankruptcy Law of the People's Republic of China (II) stipulates that: 'If the administrator receives a notice from the creditor claiming to set off debts and has no objection after review, the set-off shall take effect from the date the administrator receives the notice. If the administrator has an objection to the set-off claim, it shall file a lawsuit with the people's court within the agreed objection period or within three months from the date of receiving the notice claiming to set off debts. The people's court shall not support any overdue filing without justified reasons. If the people's court rules to reject the administrator's claim for invalidation of the set-off, the set-off shall take effect from the date the administrator receives the notice claiming to set off debts.' According to the above provisions, if the administrator has an objection to the right of set-off claimed by the creditor, it shall file a lawsuit with the people's court within the agreed objection period or within three months from the date of receiving the notice claiming to set off debts. Although the judgment in this case does not mention the time when Company B filed the lawsuit, it can be seen from the fact that Company A did not raise an objection to the time limit and the court did not review the time limit that Company B's filing of the lawsuit should be in compliance with the legal provisions.

 

(II) Reflections from the perspective of creditors

1. Time for creditors to exercise the right of set-off in bankruptcy

The exercise of the right of set-off in bankruptcy shall be premised on the bankruptcy claim confirmed by the court's ruling. In theory, although the creditor may file a request for set-off of the bankruptcy claim to the administrator after declaring the claim to the administrator, in fact, the time when the right of set-off in bankruptcy actually takes effect is after the court rules on the bankruptcy claim, when the creditor's administrator claims the right of set-off in bankruptcy (the time must be before the distribution of bankruptcy property). Therefore, the author believes that, for creditors, the time to file a request for set-off with the administrator should be after the court rules on the bankruptcy claim and before the distribution of bankruptcy property. In this case, Company A filed a request to exercise the right of set-off in bankruptcy to the administrator of Company B when its declared claim was not confirmed by the administrator of Company B, and raised the 'appeal claim that the set-off act was valid' in the second instance, which was determined by the court of second instance as 'without legal basis'. It can be seen that the court of second instance obviously does not recognize that the creditor's exercise of the right of set-off in bankruptcy meets the time requirements.

2. Form of creditor's exercise of the right of set-off in bankruptcy

In this case, Company A issued a Notice of Set-off of Claims and Debts to the administrator of Company B, claiming to exercise the right of set-off in bankruptcy. The administrator of Company B believes that: 'If the declaring creditor owes debts to the debtor before the bankruptcy reorganization application is accepted, it may claim set-off to the administrator, but shall submit a written set-off application to the administrator instead of a set-off notice.' Regarding the method that should be adopted by the creditor to exercise the right of set-off in bankruptcy, the author believes that: According to Article 42 of the Provisions of the Supreme People's Court on Several Issues Concerning the Application of the Enterprise Bankruptcy Law of the People's Republic of China (II), 'If the administrator receives a notice from the creditor claiming to set off debts and has no objection after review, the set-off shall take effect from the date the administrator receives the notice.' The method for the creditor to exercise the right of set-off in bankruptcy is 'notice', that is, notifying the administrator. The law does not stipulate the specific form of the 'notice' here. Of course, in order to better promote the bankruptcy reorganization procedure, the creditor should use a 'written notice' when exercising the right of set-off in bankruptcy.

 

(III) Reflections from the perspective of the court

1. The focus of the court's attention on disputes over the right of set-off in bankruptcy

The court of first instance held that: 'The focus of the dispute in this case is: whether the set-off of claims and debts of 34,802,656.8 yuan claimed by Company A is valid.' The court of second instance held that: 'The focus of the dispute in this case is whether the set-off of claims and debts of 34,802,656.80 yuan claimed by Company A to Company B is valid.' According to the focus of the dispute in the case summarized by the courts of first and second instance above, it can be seen that the focus of the court's trial of the bankruptcy set-off case is: whether the set-off of claims and debts claimed by the creditor is valid. It can be seen that in bankruptcy set-off dispute cases, the parties shall conduct evidence presentation and cross-examination based on the provisions of laws and judicial interpretations, focusing on 'whether the set-off of claims and debts claimed by the creditor is valid'.

 

2. Scope of review by the court in bankruptcy set-off cases

The appellate court in the second instance held that: "Whether Company A has a legitimate claim against Company B and the specific amount of the claim are not within the scope of review in this case. Therefore, whether Shanghai Shanglian Company, which has a close relationship with the claim, participates in the litigation does not affect the outcome of this case. The first instance court's finding that the third party, Shanghai Shanglian Company, has no legal interest in this case and its rejection of Company A's application to add Shanghai Shanglian Company as a third party to the litigation is appropriate. Company A's appeal that the first instance court did not review the evidence proving the existence of the claim and disagreed with its application to add a third party, resulting in procedural violations, is not tenable and is not supported by this court." Regarding Company A's claim, the appellate court holds a negative attitude, that is, the focus of the court's trial of the bankruptcy set-off right dispute case is "whether the creditor's claimed set-off of debts is valid." For content that does not fall within this scope or does not affect the trial result of this case, the court shall not review and determine it.

 

[Case Index] Hainan Provincial High People's Court (2019) Qiong Min Zhong No. 112 Second Instance Civil Judgment