Insolvency Law: Supreme Court Lays Down The Law On Preferential Transactions

A host of concerns surrounding preferential transactions under the Insolvency and Bankruptcy Code were recently addressed by the National Company Law Appellate Tribunal. The tribunal's findings have now been affirmed by the Supreme Court of India in the case of electronics manufacturing company NTL Electronics India Pvt.

Payments by a company that gave unfair preference to one creditor over others prior to insolvency initiation are referred to as preferential transactions and can be wound up under the IBC.

At the NCLAT, it was alleged that NTL had engaged in preferential transactions while discharging its liabilities for loans and advances received from certain related parties.

This prompted the resolution professional to file an avoidance application to reverse the transactions. Such an application is filed to reverse mala fide transactions entered into with the intent to devalue the assets of the company when it is on the verge of insolvency.

The appellate tribunal had reached three key conclusions on how preferential transactions must be viewed. These have now received the apex court's approval.

• One, while dealing with preferential transactions, there is no requirement of the existence of a fraudulent intention or motive in order to label them as such.

• Any transaction under any notice, demand, or threat shall not lose its character as a preferential transaction merely on the basis of those alleged grounds. Whether a transaction was carried out voluntarily or not has nothing to do with it getting classified as 'preferential'.

• The provision on preferential transactions allows an exception for transfers made in the ordinary course of business. In order for this exception to apply, the transaction must be a regular part of business operations and unaffected by special circumstances.

  Transactions that deviate from typical financial activities of the business, such as arranging money from relatives and other parties due to financial instability, which was what happened in NTL's case, cannot be considered under this exception, it said.