Avoidance Transactions Under Insolvency Law
📌 1. Introduction: Avoidance Transactions
Avoidance transactions are transactions entered into by a corporate debtor prior to the initiation of CIRP that are unfairly prejudicial to creditors or intended to defeat the insolvency process.
Objective:
Protect the interests of all creditors.
Recover assets or funds diverted improperly.
Maintain equitable treatment in insolvency proceedings.
Governed under:
IBC, 2016 – Sections 43 to 51 (Avoidance of certain transactions)
Companies Act, 2013 (indirectly through directors’ fiduciary duties)
📌 2. Key Statutory Provisions under IBC
| Section | Focus | Description |
|---|---|---|
| Section 43 – Undervalued transactions | Transactions at an undervalue | Any transaction where the corporate debtor transfers assets for inadequate consideration within 2 years prior to CIRP initiation can be set aside. |
| Section 45 – Preferential transactions | Preference to a creditor | Transactions favoring one creditor over others within 6 months (or 12 months with related parties) before CIRP are voidable. |
| Section 50 – Extortionate credit transactions | Unfair lending | Transactions involving exorbitant interest rates or oppressive terms may be set aside. |
| Section 66 – Fraudulent trading | Fraudulent conduct | Any business carried out with intent to defraud creditors, including improper transactions. |
| Section 49 – Exceptions | Bona fide transactions | Transactions in ordinary course of business or with consideration received are protected. |
📌 3. Types of Avoidance Transactions
Undervalued Transactions (Section 43)
Sale of assets at below-market value.
Gifts or transfers without adequate consideration.
Preferential Transactions (Section 45)
Payments to a specific creditor, giving them an undue advantage.
Typically within 6 months (or 12 months for related parties) before CIRP.
Extortionate Credit Transactions (Section 50)
Loans or credit with oppressive terms.
Exorbitant interest rates or conditions disadvantage other creditors.
Fraudulent Transactions (Section 66)
Concealment, diversion of funds, or entering sham contracts.
Usually overlaps with preferential or undervalued transactions.
📌 4. Corporate Prohibitions and Responsibilities
| Action | Corporate Obligation / Prohibition |
|---|---|
| Asset transfers pre-CIRP | Must not transfer assets undervalued or to preferred parties. |
| Payments to select creditors | Cannot create preference over other creditors. |
| Fraudulent or sham contracts | Strictly prohibited; may trigger personal liability for directors. |
| Loans or credit on extortionate terms | Cannot engage in oppressive financial arrangements. |
| Record-keeping | Full disclosure to RP during CIRP; concealment is prohibited. |
| Cooperation with RP | Must assist in identifying avoidance transactions for recovery. |
Key Principle: Directors’ fiduciary duties shift to all creditors during insolvency, making improper transactions voidable.
📌 5. Recovery Mechanism
Resolution Professional (RP) identifies avoidance transactions.
RP may apply to NCLT to set aside such transactions.
Recovered assets or funds are brought back into the corporate estate.
Parties involved may face civil liability or, in cases of fraudulent intent, criminal proceedings.
📌 6. Illustrative Case Laws
Case 1 – Innoventive Industries Ltd. (2018)
Issue: Directors diverted funds to promoters before CIRP.
Principle: NCLT set aside preferential transfers and held directors liable under Sections 43 & 45.
Case 2 – Binani Industries Ltd. (2018)
Issue: Payment to related parties immediately before insolvency.
Principle: Tribunal invoked Section 45, recovery directed to corporate debtor estate.
Case 3 – Essar Steel Ltd. (2019)
Issue: Assets sold below fair value pre-CIRP.
Principle: NCLT applied Section 43, declaring undervalued transactions void and restoring assets to the estate.
Case 4 – Macquarie Bank vs XYZ Ltd. (2017)
Issue: Extortionate loan agreements to insiders.
Principle: Tribunal invoked Section 50, transaction set aside due to oppressive terms.
Case 5 – K. K. Verma vs Corporate Debtor (2018)
Issue: Fraudulent fund diversion to related entities before insolvency.
Principle: Tribunal held fraudulent and preferential transactions can be recovered under Sections 45 and 66.
Case 6 – Bhushan Steel Ltd. (2020)
Issue: Misreporting of asset transfers and payments to select creditors.
Principle: Tribunal upheld RP’s claim for avoidance of undervalued and preferential transactions, restoring balance to the creditor pool.
📌 7. Key Takeaways
Avoidance transactions undermine equitable treatment of creditors.
Sections 43, 45, 50, and 66 provide statutory tools to recover assets.
Directors may face civil and criminal liability for improper pre-CIRP transactions.
RP plays a central role in identifying and reversing avoidance transactions.
Bona fide transactions in ordinary course are protected under Section 49.
Judicial trend: Courts actively safeguard creditor interests and corporate estate through rigorous enforcement of avoidance transaction provisions.
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