2025 (6) TMI 199 - AT - IBC

Tribunal Strikes Down Preferential Transactions: Related Party Payments Reversed Under Insolvency Code Sections 43 and 44

AT upheld the order finding preferential transactions under IBC Sections 43 and 44. Payments made to related parties during look back period were deemed ... Violation of principles of natural justice - preferential transactions under Sections 43 and 44 of the Insolvency and Bankruptcy Code - submission of the Appellant the order is ex-parte cannot be accepted since notices were issued on the application and the Appellants have filed their reply - HELD THAT:- The Adjudicating Authority has categorically held in Para 4.3 the transactions were not made in ordinary course of business. It is relevant to notice that with regard to one transaction where there was explanation, in Para 3.3, it was held to be not covered under Section 43. The Appellant being related party and payments were made from the Corporate Debtor’s account to the Appellant during the look back period, there are no error in the finding of the Adjudicating Authority that payments were not in the ordinary course of business. Conclusion - The payments made to related parties during the look back period were preferential transactions under Section 43 of the I&B Code, not exempt under the ordinary course of business exception, and must be refunded to the Corporate Debtor. The procedural contention of ex-parte order was rejected. There is no merit in the Appeals. Appeals are dismissed. 1. ISSUES PRESENTED and CONSIDEREDThe core legal questions considered by the Appellate Tribunal are:Whether the impugned order was passed ex-parte against the appellants, thereby violating principles of natural justice.Whether payments made by the Corporate Debtor to related parties during the look back period qualify as preferential transactions under Sections 43 and 44 of the Insolvency and Bankruptcy Code (I&B Code), or whether such payments were made in the ordinary course of business and thus exempt from the purview of Section 43.The applicability of the 'ordinary course of business' exception under Section 43(3) of the I&B Code to payments made to related parties during the financial distress of the Corporate Debtor.Whether the payments made during the look back period put the recipients in a more favorable position than they would have been in case of distribution of assets under Section 53 of the I&B Code.2. ISSUE-WISE DETAILED ANALYSISIssue 1: Whether the order was passed ex-parte against the appellantsRelevant legal framework and precedents: The principles of natural justice require that parties affected by an order must be given adequate notice and an opportunity to be heard before an order is passed against them.Court's interpretation and reasoning: The Tribunal rejected the appellants' submission that the order was ex-parte. It was noted that notices were duly issued to the appellants and that they had filed their reply affidavit. This is evident from Para 3 of the impugned order, which records the appellants' detailed response to the Resolution Professional's Transaction Audit Report.Key evidence and findings: The appellants filed a reply affidavit dated 15.09.2021, contesting the Transaction Audit Report and asserting that the payments were adjustments made in the ordinary course of business and reflected in the Corporate Debtor's financial statements.Application of law to facts: Since the appellants participated in the proceedings by filing replies and no procedural lapse was found, the order cannot be deemed ex-parte.Treatment of competing arguments: The appellants argued lack of opportunity to be heard, but the Tribunal found this argument untenable in light of the record.Conclusion: The order was not passed ex-parte; procedural fairness was observed.Issue 2: Whether payments made during the look back period to related parties were preferential transactions under Sections 43 and 44 of the I&B CodeRelevant legal framework and precedents: Section 43 of the I&B Code deals with avoidance of preferential transactions, defining a preferential transaction as one where a debtor makes a payment or transfers an asset to a creditor (who is a related party) during the look back period while the debtor is insolvent, thereby putting the creditor in a more favorable position than they would have been in the distribution under Section 53. Section 43(3) excludes transactions made in the ordinary course of business.Court's interpretation and reasoning: The Tribunal upheld the Adjudicating Authority's finding that payments made during the look back period were preferential. It emphasized that the payments put the recipients in a better position than they would have been under the insolvency resolution process. The Tribunal agreed that the payments were made when the Corporate Debtor was under financial distress.The Tribunal also analyzed the appellants' claim that these payments were made in the ordinary course of business over a period of 6-7 years. It held that only transactions within the look back period are relevant for Section 43 analysis; payments outside this timeframe are not subject to scrutiny under this provision. Further, the Tribunal found that the payments during the look back period were not in the ordinary course of business, especially from the perspective of the recipients, who were related parties.Key evidence and findings: The Transaction Audit Report relied on bank transactions, which the appellants argued did not reflect the true nature of the payments. However, the Tribunal found that the payments during the look back period were made while the Corporate Debtor was financially stressed and thus were preferential. The Adjudicating Authority's detailed observations in Paras 4.3 and 4.4 were relied upon, including the finding that the payments put the recipients in a favorable position contrary to Section 53 distribution.Application of law to facts: The Tribunal applied the deeming fiction under Section 43(2) that payments made during the look back period to related parties are presumed preferential unless proven otherwise. The appellants failed to establish that the payments were in the ordinary course of business of both parties.Treatment of competing arguments: The appellants argued that the payments were made as unsecured loans during financial crunch and repaid after receipt of funds from trade receivables, thus in ordinary course. The Tribunal rejected this, noting that the ordinary course of business exception requires the transaction to be ordinary for both parties, which was not established.Conclusion: Payments made during the look back period to related parties were preferential transactions under Section 43 and liable to be set aside.Issue 3: Applicability of the 'ordinary course of business' exception under Section 43(3) of the I&B CodeRelevant legal framework and precedents: Section 43(3) excludes transactions undertaken in the ordinary course of business from the scope of preferential transactions. The ordinary course of business must be established for both the Corporate Debtor and the recipient of the preference.Court's interpretation and reasoning: The Tribunal held that the payments during the look back period were not in the ordinary course of business, particularly from the standpoint of the recipients who were related parties. The financial distress of the Corporate Debtor was a critical factor. The Tribunal accepted one exception where a payment was reimbursements for Earnest Money Deposit and tender fees, which did not result in preference.Key evidence and findings: The appellants' own affidavits indicated that the Corporate Debtor was under financial crunch and payments were made to meet immediate liquidity needs. The Tribunal found this inconsistent with the ordinary course of business exception.Application of law to facts: The Tribunal applied the test that the transaction must be ordinary for both parties. Since the recipient was a related party and the Corporate Debtor was distressed, the exception did not apply.Treatment of competing arguments: The appellants' contention that these payments were part of longstanding business dealings was rejected as irrelevant to the look back period transactions.Conclusion: The ordinary course of business exception under Section 43(3) does not apply to the payments made during the look back period in this case.Issue 4: Whether the recipients should refund the amounts received as preferential transactionsRelevant legal framework and precedents: Section 43(5) of the I&B Code empowers the Adjudicating Authority to direct refund of preferential payments to the Corporate Debtor.Court's interpretation and reasoning: The Tribunal affirmed the Adjudicating Authority's direction that the respondents who received preferential payments during the look back period must refund the amounts within 30 days. The Tribunal relied on the detailed tabulation of amounts held preferential in Para 4.4.Key evidence and findings: The amounts ranged from small sums to crores, reflecting multiple related parties and entities.Application of law to facts: The Tribunal applied the statutory mandate to restore the Corporate Debtor's estate by setting aside preferential transactions.Treatment of competing arguments: The appellants did not contest the refund direction substantively beyond the ordinary course of business argument.Conclusion: The refund directions stand affirmed.3. SIGNIFICANT HOLDINGSThe Tribunal held:'The Corporate Debtor has paid the amount towards the antecedent debt during the look back period to the named Respondents and the said payments have put the Respondents in favourable position than what they would have been in case of distribution of assets in terms of section 53 of the Code. Accordingly, these transactions squarely falls within the deeming fiction provided in section 43(2) of the Code.''The Section 43(3) of the Code, inter-alia, provides that the transactions undertaken in ordinary course of business shall remain out of the scope of section 43 of the Code. Further, the transaction should be in ordinary course of business of both the parties i.e. the Corporate Debtor as well as recipient of the preference. In the present case, it cannot be said that it is in ordinary course of business of the recipient of the preference to realise their debts, particularly when the Corporate Debtor, a related party, is under financial stress. Hence, we do not find the explanation of the Respondent acceptable in the present case.''In view of the foregoing, the following transactions are held to be preferential in nature, and we consider to direct these parties to refund the money received in preference to the Corporate Debtor within 30 days.'The Tribunal conclusively determined that the payments made to related parties during the look back period were preferential transactions under Section 43 of the I&B Code, not exempt under the ordinary course of business exception, and must be refunded to the Corporate Debtor. The procedural contention of ex-parte order was rejected. The appeals were dismissed for lack of merit.