2026 (2) TMI 439 - AT - IBC

Preferential transactions under Section 43: related-party payments during two-year look-back held preferential and avoidable; appeals dismissed

Payments totalling Rs. 19,66,698.77 made to a director-related party within the two-year pre-insolvency period were held to be preferential because they ... Preferential transactions u/s 43 - Ordinary course of business exemption - Related party within two-year look-back period - Look-back period and effect on distribution u/s 53 - Directory nature of Regulation 35A of the CIRP Regulations - Principles of natural justice and recall of ex-parte orders - violation of mandatory timelines for determining a preferential transaction - Power of the Resolution Professional/Liquidator to avoid preferential transactions - Whether the transactions amounting to Rs. 19,66,698.77 made in favour of the Appellant during the look-back period constitute preferential transactions under Section 43 of the Insolvency and Bankruptcy Code, 2016. - HELD THAT:- We note that at the time of initiation of CIRP there was substantial secured financial debt in the books of the Corporate Debtor. The claim of secured Financial Creditor Canara Bank was for an amount of Rs. 11.96 Cr. It is also on record that the appellant, who was a Director of the Corporate Debtor had also extended unsecured loan to the Corporate Debtor and the balance amount of said loan as on 21.09.2020 was Rs. 1.55 Cr. It is also undisputed that the insolvency commencement date is 20.09.2022 and that the payments of Rs. 19.66 lakhs, which are treated as preferential transaction, were made to the appellant within two years prior to this date i.e. in the period between 21.09.2020 and 20.09.2022. It is also an admitted fact the appellant is a related party. Once the amounts are credited to and routed through the accounts of the Corporate Debtor and used to discharge its liability towards a related party, the transaction cannot be taken outside the scope of Section 43(4) merely by pointing to the alleged source of those funds. What is relevant is the effect of the transaction, namely that the Corporate Debtor’s liability towards the Appellant stood reduced by that amount which is contrary to the provisions of Section 43(2) which has been extracted above. Thus, we are of the view that the Adjudicating Authority was correct in holding that the payments amounting to Rs. 19,66,698.77 satisfy the requirements of a preferential transaction under Section 43 of the Insolvency and Bankruptcy Code, 2016. Issue is accordingly decided against the Appellant and in favour of the Respondent. Whether the impugned order dated 28.08.2024 suffers from any procedural illegality, violation of principles of natural justice, or jurisdictional error so as to warrant interference by this Appellate Tribunal u/s 61 of the Insolvency and Bankruptcy Code, 2016. - The fact that appellant was set ex-parte on 04.06.2024 and this was in the knowledge of counsel for the appellant as his proxy counsel was present in the court. The right course of action should have been to file an application for setting aside the said ex-parte order. It is an admitted position that the Appellant had filed a reply to the application under Section 43, setting out all his factual and legal objections. The impugned order shows that the Adjudicating Authority has taken note of these submissions and has decided the matter on merits. Therefore, this is not a case where the Appellant was condemned unheard or denied a reasonable opportunity of being heard. The objection of the appellant regarding the violation of mandatory timelines for determining a preferential transaction and for filing an application before the Adjudicating Authority in accordance with Regulation 35A of the CIRP Regulations is equally untenable. It is settled law that the timelines prescribed under Regulation 35A are directory and not mandatory. We further note that under Section 35(1)(l) of the Code, the Liquidator is expressly empowered to investigate the financial affairs of the Corporate Debtor to determine undervalued or preferential transactions during liquidation, which was initiated by the Adjudicating Authority on 06.06.2023. The Adjudicating Authority, therefore, acted well within its jurisdiction in entertaining and deciding the application under Section 43. Thus, the Appellant’s objection that the application under Section 43 was time-barred cannot be accepted, and the Adjudicating Authority was justified in entertaining and deciding the application, which clearly supports the case of the Respondent. Both the appeals are dismissed. Issues: (i) Whether payments amounting to Rs. 19,66,698.77 made to the director-appellant during the two-year look-back period constitute preferential transactions under Section 43 of the Insolvency and Bankruptcy Code, 2016; (ii) Whether the impugned order dated 28.08.2024 suffers from procedural illegality, denial of natural justice, or jurisdictional error warranting interference under Section 61 of the Insolvency and Bankruptcy Code, 2016.Issue (i): Whether the transactions of Rs. 19,66,698.77 are preferential transactions under Section 43 of the Insolvency and Bankruptcy Code, 2016.Analysis: The Appellant contended the amounts were third party funds routed through a common loan account and automatically appropriated by the Financial Creditor, amounting to transactions in the ordinary course of business exempt under Section 43(3)(a). The Respondent relied on ledger and accounting records showing repayments to a related party within two years prior to the insolvency commencement date, thereby meeting the ingredients of Section 43(2) and Section 43(4)(a). The Tribunal examined that the appellant was an admitted related party and unsecured creditor, that the insolvency commencement date and the look back period were established, and that repayments reduced the Corporate Debtor's liability to the appellant. The Tribunal found absence of documentary evidence establishing these payments as routine commercial transactions or justified ordinary course transactions and held that the effect of the transactions - reduction of the Corporate Debtor's liability in favour of a related party within the look back period - is determinative.Conclusion: Issue (i) is decided against the Appellant and in favour of the Respondent; the payments of Rs. 19,66,698.77 are held to be preferential transactions under Section 43 of the Insolvency and Bankruptcy Code, 2016.Issue (ii): Whether the impugned order dated 28.08.2024 is vitiated by procedural illegality, denial of reasonable opportunity, or jurisdictional error.Analysis: The Appellant alleged he was proceeded ex parte and was unaware of the final hearing date. The Tribunal noted the Appellant had filed a substantive reply and that the Adjudicating Authority had considered the replies on record. The Tribunal applied precedent holding internal counsel miscommunication or mistaken noting of dates is not sufficient cause to set aside ex parte proceedings where material on record supports the order. The Tribunal also addressed the contention on Regulation 35A timelines, following binding authority that Regulation 35A is directory; Section 35(1)(l) and Section 43 empower avoidance proceedings in liquidation. The recall application was found belated and akin to a review, not warranting relief under the NCLT Rules.Conclusion: Issue (ii) is decided against the Appellant and in favour of the Respondent; no procedural illegality, denial of natural justice, or jurisdictional error is found to warrant interference.Final Conclusion: The Adjudicating Authority's orders dated 28.08.2024 and 01.04.2025 stand upheld; both appeals are dismissed and pending applications, if any, are closed.Ratio Decidendi: A transaction that results in reduction of the corporate debtor's liability to a related party within the statutory look back period amounts to a preferential transaction under Section 43 of the Insolvency and Bankruptcy Code, 2016, unless contemporaneous and substantiated evidence shows it was made in the ordinary course of business; timelines in Regulation 35A are directory and do not bar avoidance proceedings pursuant to Section 35(1)(l) and Section 43.