What is a Preferential Transaction

A simple understanding of the concept is that when the liquidator or Resolution Professional 1
during the liquidation of a particular company finds that a particular beneficiary would have
got the benefit way below others but in lieu of transferring unwarranted benefit the
company(corporate debtor) before transferring benefit to original creditor transfers some
asset or credit to another creditor then such transactions will be called Preferential
Transaction.

A corporate debtor shall be deemed to have Following transfers shall not be referred to
given a preference in the following as a preference transaction:
circumstances:

a) If there is a transfer of property or an a) The transfer made in the ordinary course

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.
b) If the transfer 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 of the
Code.
of the business or financial affairs of the
corporate debtor or the transferee.
b) Any transfer creating a security interest
in property acquired by the corporate debtor
to the extent that
(i) such security interest secures new value
and was given at the time of or after the
signing of a security agreement that contains
a description of such property as security
interest and was used by corporate debtor to
acquire such property; and

(ii) such transfer was registered with an

information utility on or before thirty days
after the corporate debtor receives
possession of such property.

 The SC held that if a transaction satisfied the abovementioned ingredients,

preference would be deemed/presumed to have been given by the corporate debtor
to a creditor. A deeming fiction would be created, whereby any such transaction
would be considered preferential in nature, irrespective of whether the parties to
the transaction intended or even anticipated to be so.2

1
Section 25(1) of IBC casts a duty upon the Resolution Professional to preserve and protect the assets of the
Corporate Debtor, including to continue the business operation of Corporate Debtor. Section 25(2)(j) casts a
duty upon Resolution Professional to apply for the avoidance of any such transaction before the Adjudicating
Authority by Chapter III of the Code.
2
Hindustan Cooperative Housing Building Society Limited v. Registrar, Cooperative Societies and Anr (2009)
14 SCC 3012 pp. 13-16; Pioneer Urban Land and Infrastructure Ltd. v. Union of India, (2019) 8 SCC 416
  In Commissioner of Income Tax, Bombay v. Bombay Corporation,3 Lord
Dunedin observed: Now when a person is ‘deemed to be’ something the only
meaning possible is that whereas he is not in reality that something the Act of
Parliament requires him to be treated as if he were.

SOME POINTS TO KEEP IN MIND WHILE DECLARING A

TRANSACTION AS PREFERENTIAL TRANSACTION

 Not all debts constituted financial debt ( financial debt necessary to constitute
preferential transaction): In the case of Pioneer Urban Land and Infrastructure
Ltd. & Anr. v Union of India & Ors 4 the SC had considered the elements of a 1)
disbursement 2) borrowing and 3) consideration for time value of money as
essential ingredients of a ‘financial debt’ under the Code. The court noted that the
transactions listed in the definition of ‘financial debt’ under the Code could only be
considered financial debts if they carried these essential ingredients.

 Role of financial creditor: In Swiss Ribbons Pvt. Ltd. & Anr. v Union of India &
Ors5 the court had elaborated upon the role of a financial creditor. The court
in Swiss Ribbons held that a financial creditor was a guardian entity that was
involved in the functioning of the corporate debtor from the beginning, and whose
interests were intrinsically interwoven with the well-being of the corporate debtor.6

 The NCLT, Special Bench at Chennai7 the court dealt with a transaction where a
transfer is made to a creditor by the corporate debtor in pursuance of mutual
dealings and obligations between the parties. The Ld. Tribunal held that as the
adjustments are made in respect of payments to be made against each other, it
cannot be held as preferential transaction. As these adjustments do not have the
effect of putting such a creditor in a beneficial position as to the other creditors, in
the event of waterfall.

Note: National Company Law Appellate Tribunal (NCLAT) in Central Bank of India v.
Resolution Professional of the Sirpur Paper Mills Ltd. and Ors 8 ruled that the preferential
payment to dissenting FC is inconsistent with the Code and the Insolvency and Bankruptcy
Board of India (IBBI) did not have power to issue regulations to that effect. Subsequently,
IBBI brought amendment to CIRP regulations dated October 5, 2018 removing the concept of
dissenting FCs and payment of minimum of liquidation value to dissenting FC. However,
Government/IBBI reversed the amendment and introduced the concept of dissenting FCs

3
2018 SCC OnLine SC 1119.
4
(2019) 8 SCC 416.
5
(2019) 4 SCC 17.
6
Nikhil Mehta & Sons (HUF) v. AMR Infrastructure Limited ,2017 SCCOnline NCLAT 219.
7
Mr. S. V. Ramkumar, RP v. M/s. Orchid Health Care Pvt. Ltd.
8
2018 SCC OnLine NCLT 31011
under section 30(2)(b) and CIRP regulation 38(1)(b) through an amendment dated August 16,
2019 and November 27, 2019, respectively.

STEPS TO BE TAKEN BY RESOLUTION PROFESSIONAL(RP)/ LIQUIDATOR TO

AVOID PREFERENTIAL TRANSACTION

A three step process to be followed by the RP once the transaction has taken place9:

a) RP to form an opinion on preferential and other transactions within 75 days of the

commencement
b) RP to make a determination on preferential and other transactions within 115 days of
commencement
c) RP to field applications to Adjudicating Authority for appropriate relief within 135
days of commencement

THINGS TO BE TAKEN CARE OF BY THE RP WHILE FILING THE

AVOIDANCE APPLICATION

1. In the first place, the resolution professional shall have to take two major but distinct
steps:
i) sifting through the entire cargo of transactions relating to the property or an
interest thereof of the corporate debtor backwards from the date of
commencement of insolvency and up to the preceding two years. 10
ii) The other distinct step shall be of identifying the persons involved in such
transactions and of putting them in two categories; one being of the persons
who fall within the definition of 'related party' in terms of Section 5(24) of the
Code and another of the remaining persons.

2. In the next step, the resolution professional ought to identify as to in which of the
said transactions of preceding two years, the beneficiary is a related party of the
corporate debtor and in which the beneficiary is not a related party. It would lead to
bifurcation of the identified transactions into two sub-sets: One concerning related
party/parties and other concerning unrelated party/parties with each sub-set requiring
different analysis. The sub-set concerning unrelated party/parties shall further be
trimmed to include only the transactions of preceding one year from the date of
commencement of insolvency.

3. Having thus obtained two sub-sets of transactions to scan, the steps thereafter would
be to examine every transaction in each of these sub-sets to find:

9
Regulation 35A of the Insolvency and Bankruptcy Board of India Regulations, 2016
10
Innoventive Industries Ltd. v. ICICI Bank & Anr. [(2018) 1 SCC 407 ]
 (i) as to whether the transaction is of transfer of property or an interest
thereof of the corporate debtor; and
(ii) as to whether the beneficiary involved in the transaction stands in the
capacity of creditor or surety or guarantor qua the corporate debtor.
These steps shall lead to shortlisting of such transactions which carry
the potential of being preferential.

4. In the next step, the said shortlisted transactions would be scrutinised to find if the
transfer in question is made for or on account of an antecedent financial debt or
operational debt or other liability owed by the corporate debtor. The transactions
which are so found would be answering to Clause (a) of Sub-section (2) of Section 43.

5. In yet further step, such of the scanned and scrutinised transactions that are found
covered by Clause (a) of Sub-section (2) of Section 43 shall have to be examined on
another touchstone as to whether the transfer in question has the effect of putting such
creditor or surety or guarantor in a beneficial position than it would have been in the
event of distribution of assets per Section 53 of the Code. If answer to this question is
in the affirmative, the transaction under examination shall be deemed to be of
preference within a relevant time, provided it does not fall within the exclusion
provided by Sub-section (3) of Section 43.

6. Lastly the transaction will have to pass through another filtration to find if it does not
answer to either of the Clauses (a) and (b) of Sub-section (3) of Section 43. 11After all
this a final application can be filed.

 Note: Normally an Avoidance application has to filed and deliberated upon before
the Resolution plan but in the case of M/S VENUS RECRUITERS PRIVATE
LIMITED v. UOI and Ors.12 It was stated that “Section 26 read with Sections
43, 44, 45, 47 and 50 of the IBC as well as Regulation 39(4) read with Form-H of
the Schedule of the 2016 CIRP Regulations. A conjoint reading of all these
provisions shows that insofar as avoidance applications are concerned, they can
always survive even beyond the order of the NCLT accepting the Resolution
Plan”.

APPEAL13
If the Resolution Professional is not satisfied by the steps taken by the Ajudicating Authority
there is always an option of Appeal
Before NCLT

11
Mr. Ram Ratan Kanoongo Applicant Vs. Mr. Sunil Kathuria & Others. [2020] 156 CLA 162 (NCLT).
12
2020 SCC OnLine Del 1479 ; (2020) 159 CLA 533 :
13
Arcelormittal India Private Limited V. Satish Kumar Gupta & Ors. (2019) 2 SCC 1
(1) Any person aggrieved by the order of the Adjudicating Authority under this part may
prefer an appeal to the National Company Law Appellate Tribunal.(should not be contrary to
Companies Act,2013)
(2) It shall be filed within thirty days before the National Company Law Appellate Tribunal:
Provided that the National Company Law Appellate Tribunal may allow an appeal to be filed
after the expiry of the said period of thirty days if it is satisfied that there was sufficient cause
for not filing the appeal but such period shall not exceed fifteen days.
(3) An appeal against an order approving a resolution plan Under Section 31 may be filed on
the following grounds, namely--
(i) the approved resolution plan is in contravention of the provisions of any law for
the time being in force;
(ii) there has been material irregularity in exercise of the powers by the resolution
professional during the corporate insolvency resolution period;
(iii) the debts owed to operational creditors of the corporate debtor have not been
provided for in the resolution plan in the manner specified by the Board;
(iv) the insolvency resolution process costs have not been provided for repayment in
priority to all other debts; or
(v) the resolution plan does not comply with any other criteria specified by the Board.
(4) An appeal against a liquidation order passed Under Section 33 may be filed on grounds of
material irregularity or fraud committed in relation to such a liquidation order.

Appeal to Supreme Court.

(1) Any person aggrieved by an order of the National Company Law Appellate Tribunal may
file an appeal to the Supreme Court on a question of law arising out of such order under this
Code within forty-five days from the date of receipt of such order.
(2) The Supreme Court may, if it is satisfied that a person was prevented by sufficient cause
from filing an appeal within forty-five days, allow the appeal to be filed within a further
period not exceeding fifteen days.

Two most important judgemnts that cover almost all necessary elements:

1) Jaypee Infrastructure Ltd. through Interim Resolution Professional v. Axis Bank

Ltd., (2020) 8 SCC 401 

2) Venus  Recruiters  Private Limited V. Union of India and Others ,2020 SCC

OnLine Del 1479