IBC | Difference Between 'Avoidance Transactions' & 'Fraudulent Or Wrongful Trading' : Supreme Court Explains

The Supreme Court, in its recent decision in Piramal Capital and Housing Finance Ltd v. 63 Moons Technology explained the key difference between how the Insolvency and Bankruptcy Code 2016 deals with avoidance transactions and transactions relating to fraudulent or wrongful trading. Notably, under the IBC 2016, 'avoidance transactions' are specific transactions conducted by a corporate debtor prior to insolvency proceedings that are deemed detrimental to the interests of creditors. These include (1) Preferential transactions, (2) Undervalued transactions, (3) Extortionate Credit transactions; (4) Fraudulent transactions. The bench of Justice Bela Trivedi and Justice SC Sharma noted that there was a fundamental distinction between Avoidance Applications under Chapter III and the Applications in respect of Fraudulent Trading or Wrongful Trading under Chapter VI. Firstly, the ambit of avoidance applications comes under the duties of the resolution professional (RP) under S.25(j) of IBC. The RP can file an application for avoidance of transactions in accordance with Chapter III as part of his/her larger duty to 'preserve and protect the assets of the corporate debtor, including the continued business operations'.Under S.26 of the IBC, filling of an Avoidance Application under Clause (j) of sub section (2) of Section 25 by the RP will not affect the insolvency proceedings. Secondly, the aspect of 'Fraudulent trading or wrongful trading' within the corporate debtor entity has been separately dealt with under S. 66 under Chapter 4. As per S.66(1) the Adjudicating Authority can order individuals who knowingly engaged in fraudulent business activities during the CIRP or Liquidation process to contribute to the assets of the Corporate Debtor (CD), based on an application from the Resolution Professional.The Court observed that "the legislature has consciously kept the Applications in respect of Fraudulent trading or Wrongful trading falling in Chapter VI, outside the purview of Section 25(2), which requires the Resolution Professional to undertake the actions and file applications for the avoidance of transactions in accordance with Chapter III." It was held that avoidance transactions under the IBC in a general sense were dealt with under S.25(j), but it excluded one specific kind of avoidance transaction- fraudulent and wrongful trading. "Both, the Avoidance Applications under Chapter III and the Applications in respect of Fraudulent trading or Wrongful trading under Chapter VI, operate in different situations. The powers of the Adjudicating Authority in respect of the Avoidance Applications filed under Chapter III and the powers of the Adjudicating Authority in respect of the Applications pertaining to the Fraudulent and Wrongful trading filed under Chapter VI, have also been separately circumscribed." How Does The IBC Deal With Different Transactions? The Court explained the various transactions that come under the ambit of 'Avoidance Applications' as follows-(1) Preferential Transactions - Under S.43 , the RP can file an application if he opined that at a relevant time, the CD had given preference in such transactions in the manner detailed under S.43(2). Notably, the two types of scenarios of preference that CD may give are if -(a) there is a transfer of property or an interest thereof of the corporate debtor for the benefit of a creditor or a surety or a guarantor for or on account of an antecedent financial debt or operational debt or other liabilities owed by the corporate debtor; and(b) the transfer under clause (a) has the effect of putting such creditor or a surety or a guarantor in a beneficial position than it would have been in the event of a distribution of assets being made in accordance with section 53. S.44 then empowers the Adjudicating Authority to pass orders upon the applications made under S.43. (2) Avoidance/ Undervalued Transactions - Under S.45 the Resolution Professional may file an Avoidance Application if he determines that certain transactions were made during the relevant period prescribed under Section 46 which were undervalued. In such applications, the Resolution Professional may pray to declare such transactions as void and to reverse the effect of such transactions in accordance with Chapter III. Notably, an avoidance/undervalued transaction will be considered when the CD -(a) makes a gift to a person; or(b) enters into a transaction with a person which involves the transfer of one or more assets by the corporate debtor for a consideration the value of which is significantly less than the value of the consideration provided by the corporate debtor, and such transaction has not taken place in the ordinary course of business of the corporate debtor. Here the adjudicating authority can pass orders in two instances, (1) Under S.48 , directions to - (a) require any property transferred as part of the transaction, to be vested in the corporate debtor; (b) release or discharge (in whole ...

IBC | Difference Between 'Avoidance Transactions' & 'Fraudulent Or Wrongful Trading' : Supreme Court Explains

Anmol Kaur Bawa

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