2023 (12) TMI 1016 - AT - Insolvency and Bankruptcy

Appeal Dismissed: Port's Claim as Secured Creditor Denied Under Insolvency Code; Lacked Asset Possession for Section 171 Claim.

The Appellate Tribunal dismissed the appeal challenging the liquidator's classification of the Appellant as an Operational Creditor instead of a secured ... Possession of goods - lien of the Appellant on the goods as a bailee - waterfall mechanism - main plank of argument of the Appellant is Section 171 of the Act on the basis of which it is claimed that the Appellant should have been declared as a secured creditor and should have been included in the list of stakeholders for the purpose of distribution in terms of Section 53 of the Code - HELD THAT:- Section 3(30) of the Code defines secured creditor which means a creditor in favour of whom security interest is created. Section 3(31) deals with security interest which means right, title or interest or a claim to property, created in favour of, or provided for a secured creditor by a transaction which secures payment or performance of an obligation and includes mortgage, charge, hypothecation, assignment and encumbrance or any other agreement or arrangement securing payment or performance of any obligation of any person. Provided that security interest shall not include a performance guarantee. Section 3(4) deals with ‘charge’ means an interest or lien created on the property or asset of any person or any of its undertakings or both as the case may be as security and includes a mortgage. The wharfingers as the Appellant claiming itself to be a security for a general balance of account any goods bailed to them whereas in the present case, the goods are not in possession of the Appellant which is also admitted by the Appellant during the course of hearing and thus there was no actual lien to invoke Section 171 of the Act. There are no error committed by the Adjudicating Authority in passing the impugned order and as such the present appeal is found without merit and the same is hereby dismissed. ISSUES PRESENTED AND CONSIDERED 1. Whether a claimant asserting a general lien under Section 171 of the Indian Contract Act, 1872 can be treated as a 'secured creditor' for purposes of distribution under Section 53 of the Insolvency and Bankruptcy Code, 2016 where the claimant is not in possession of the goods on which lien is asserted. 2. Whether the liquidator's categorization of the claimant as an operational creditor (rather than a secured creditor) and consequent distribution of sale proceeds after a going-concern sale can be reversed or set aside under Section 42 of the Code once liquidation sale proceeds have been distributed and application for closure of liquidation process has been filed. ISSUE-WISE DETAILED ANALYSIS Issue 1: Applicability of Section 171 (general lien) to qualify as 'secured creditor' under the Code Legal framework: Section 171 of the Indian Contract Act, 1872 recognizes a general lien for certain classes (including wharfingers) allowing retention of goods bailed to them as security for a general balance of account, in the absence of a contract to the contrary. The Code defines 'secured creditor' (Section 3(30)) as a creditor in favour of whom a security interest is created; 'security interest' (Section 3(31)) includes rights, title or interest in property created to secure payment or performance and expressly includes mortgage, charge, hypothecation, assignment and encumbrance; 'charge' (Section 3(4)) means an interest or lien created on property or assets as security. Precedent Treatment: No specific judicial precedent was relied upon by the claimant to directly support the application of Section 171 as creating a security interest under the Code. The Tribunal considered statutory definitions in the Code for the characterization of secured interests. Interpretation and reasoning: The Tribunal held that Section 171 operates by conferring a right to retain goods bailed to the class of persons specified (including wharfingers) as security for a general balance. Critical to invoking Section 171 is actual possession of the goods by the claimant (a bailment situation). In the present facts the claimant admitted lack of possession of the goods at the relevant time; the goods/assets were in the possession of the liquidator and the corporate debtor had been sold as a going concern with proceeds distributed. The Tribunal contrasted the possessory basis of a general lien under Section 171 with the Code's statutory concept of security interest which requires a right, title or interest created in favour of a creditor. Mere invocation of Section 171 absent possession could not create the requisite security interest under the Code. Ratio vs. Obiter: Ratio - A claimant cannot be treated as a secured creditor under the Code on the basis of Section 171 unless the claimant has possession of the goods (i.e., an actual lien/bailment) that gives rise to the right to retain goods as security. Obiter - Observations on the conceptual distinction between possessory liens and statutory categories of security interest under the Code clarify scope but do not extend to other hypothetical contractual arrangements. Conclusions: The Tribunal concluded that Section 171 was inapplicable on the facts because the claimant was not in possession of the goods and therefore had no actual lien to invoke Section 171; consequently the claimant did not qualify as a secured creditor under the Code. Issue 2: Finality of liquidator's distribution and availability of Section 42 relief once liquidation proceeds have been distributed Legal framework: The liquidator is empowered to classify claims and distribute liquidation proceeds in accordance with Section 53 of the Code. Section 42 provides a remedy to apply to the Adjudicating Authority to set aside actions of the liquidator on specified grounds. Precedent Treatment: The Tribunal relied on the factual sequencing and statutory scheme rather than on external precedents in assessing whether the liquidation process could be reversed at the stage when sale proceeds were distributed and an application for closure filed. Interpretation and reasoning: The Tribunal observed that the liquidator had sold the corporate debtor as a going concern, distributed sale proceeds in accordance with Section 53, and filed an application for closure of the liquidation process. Given that distribution had been completed and the claimant failed to establish a substantive legal basis (possession-based lien or other security interest) to be classed as a secured creditor at the time of distribution, the Tribunal found no error in the liquidator's categorization and actions. The Tribunal noted the claimant's lack of any alternative statutory provision or precedent to support reversing completed distributions at that stage. Ratio vs. Obiter: Ratio - Once the liquidator has lawfully categorized stakeholders, effected distribution under Section 53 and there exists no legal entitlement (such as a recognized security interest) to reclassify a claimant as a secured creditor, an application under Section 42 seeking to set aside the liquidator's action will fail. Obiter - Comments pointing to procedural impracticality of reversing a completed going-concern sale and distributions are ancillary to the core legal holding. Conclusions: The Tribunal concluded there was no ground to set aside the liquidator's email or reclassify the claimant after distribution; the Section 42 application was properly dismissed as misconceived. Cross-reference and integrated conclusion The Tribunal's determinations under Issues 1 and 2 are interdependent: because the claimant could not establish a possessor-based lien under Section 171 (Issue 1) and therefore did not hold a security interest as defined in the Code, the liquidator's classification as an operational creditor and subsequent distribution of proceeds (Issue 2) were lawful and not susceptible to reversal under Section 42. The appeal was dismissed as without merit.