Avoidance Transactions Under IBC: Legislative Intent, Judicial Divergence and Doctrinal Gaps

Introduction

The Insolvency and Bankruptcy Code, 2016 (IBC), was enacted to reorganise corporate persons, partnership firms, and individuals in a time-bound manner with the objective of maximising the value of their assets. This position has been affirmed in a number of judgments, including Swiss Ribbons (P) Ltd. v. Union of India¹ (Swiss Ribbons) and Innoventive Industries Ltd. v. ICICI Bank².

As noted in the handbook Understanding the IBC: Key Jurisprudence and Practical Considerations³, avoidance transactions are based on the doctrine of restitution, specifically the avoidance of unjust enrichment. They involve the interplay between two fundamental principles of insolvency law:

1. the pari passu principle of distribution, which establishes that unsecured creditors are entitled to equal treatment in a Corporate Insolvency Resolution Process (CIRP); and

2. the determination of what falls within the purview of the property of the estate of the corporate debtor (CD).

The United Nations Commission on International Trade Law (UNCITRAL) Legislative Guide on Insolvency Law defines avoidance provisions as “provisions of the insolvency law that permit transactions for the transfer of assets or the undertaking of obligations before insolvency proceedings to be cancelled or otherwise rendered ineffective and any assets transferred, or their value, to be recovered in the collective interest of creditors. Avoidance provisions constitute one of the key tools in insolvency law to maximise the assets of the CD and prevent opportunistic and value-destroying actions by the CD or certain creditors before the insolvency commencement date. These provisions are aimed at preserving the CD’s asset pool for the collective benefit of all stakeholders. While the specific conditions for avoidance may vary depending on the type of transaction, in general, avoidable transactions are those in which, before the initiation of the CIRP, there has been asset dilution by the CD or the granting of an unfair advantage or unjust enrichment to any creditor(s).

The underlying principle behind avoiding such transactions is to protect the general body of creditors as a whole, to prevent unfair advantage being conferred on certain creditors at the cost of others, and to maximise the overall pool of assets available in the insolvency resolution and liquidation processes. Such transactions may be “avoided” by the adjudicating authority (AA) upon an application made by the resolution professional (RP) or the liquidator. Under Section 25(2)(j) IBC, the RP must apply for avoidance of transactions by Chapter III.

The Insolvency Law Committee Report dated 20-2-2020⁴ (ILC Report) observed that Sections 43–51, 66 and 67 IBC provide for the transactions that may be avoided by the RP or liquidator collectively referred to as “avoidable transactions”, and the actions that may be taken against erstwhile management for fraudulently or wrongfully trading in insolvency (referred to as, “improper trading”).

The ILC Report further emphasised that the purpose of avoiding transactions and penalising improper trading actions, while often linked to the preservation of commercial morality, is primarily to increase the asset pool available for distribution to creditors.

This article examines the intent and significance of avoidance transactions, analyses the statutory provisions governing them with a close consideration of their nuances, and evaluates the judicial approach to their interpretation, highlighting instances where a liberalised stance endorsed by the judiciary in select cases may be necessary to better fulfil the objectives of the IBC.

Statutory framework

The Supreme Court, in Jaypee Infratech Ltd. Interim Resolution Professional v. Axis Bank Ltd.⁵ (Jaypee Infratech Ltd.), while examining what constitutes a “preferential transaction” under Section 43 IBC, referred to para 177 of the UNCITRAL Legislative Guide on Insolvency Law, the Guide notes that such transactions may be avoided where: (a) they occur within the specified suspect period; (b) they involve a transfer to a creditor in respect of a pre-existing debt; and (c) the effect of the transfer is that the creditor receives a greater percentage of its claim from the debtor’s assets than other creditors of the same rank or class. It further observes that many insolvency laws require, in addition, that the debtor was insolvent or on the verge of insolvency at the time of the transaction, and in some jurisdictions, proof of intent to prefer is also necessary. The underlying rationale is that transactions occurring in proximity to the commencement of insolvency proceedings are likely to disrupt the principle of equitable treatment among similarly placed creditors.

Building on this international perspective, the Court clarified that two essential elements must be satisfied for a transaction to be regarded as preferential under Section 43: (i) there must be a transfer of property, or an interest therein, of the CD for the benefit of a creditor, surety, or guarantor on account of an antecedent financial or operational debt or other liability; and (ii) such transfer must place the recipient in a more advantageous position than they would have been in the event of distribution under Section 53. The “relevant time” for determining such transactions is two years for related parties and one year for unrelated parties. Notably, the provision operates irrespective of the debtor’s intent, as the use of the term “deemed” in the section creates a legal fiction where any transaction meeting the statutory conditions is presumed to be preferential.

Under Section 45 IBC, a transaction is deemed to be undervalued if the CD either makes a gift to a person or transfers one or more assets for a consideration significantly lower than the value provided by the CD, and such transaction is not in the ordinary course of business. In such cases, the RP or liquidator, as applicable, may apply to have the transaction declared void and its effects reversed.

Section 49, dealing with transactions defrauding creditors, applies where the CD has engaged in a deliberately undervalued transaction under Section 45(2) with the intent of placing assets beyond the reach of persons entitled to claim against it, or of adversely affecting their interests. The key distinction between Sections 49 and 46 lies in this element of deliberate intent.

Section 50 IBC pertains to extortionate credit transactions, which may be set aside upon application by the RP to the AA. These are transactions wherein the creditor has stipulated unconscionable terms and received exorbitant payments from the CD.

It is pertinent to note that under Section 47, a creditor is expressly empowered to file an avoidance application for undervalued transactions, a provision which is absent in respect of other avoidance applications. Further, in all avoidance transaction provisions except Section 48, there exists a saving clause protecting third-party interests acquired in good faith and for value, and shielding bona fide recipients from repayment obligations. The conspicuous absence of such a saving provision in Section 48 raises an interpretative question: Whether a court can pass orders that adversely impact a third-party’s interest that would otherwise be protected under other avoidance transaction provisions.

In addition, the IBC provides for the recovery of contributions in cases involving fraudulent or wrongful trading by the CD. The provisions on such trading are contained in Section 66, which is bifurcated into two distinct sub-sections.

(a) Section 66(1) deals with fraudulent trading. Where it is found that the business of the CD has been carried on with intent to defraud its creditors or for any fraudulent purpose, the AA may pass an order directing that any persons who were knowingly parties to the carrying on of such business shall be liable to make such contributions to the assets of the CD as the AA may deem fit.

(b) Section 66(2) deals with wrongful trading. This provision imposes personal liability on a Director or partner of the CD for the non-exercise of due diligence in preventing the onset of insolvency or in minimising potential losses to the CD. It applies where such a person has entered into a transaction knowing, or where he ought to have known, that there was no reasonable prospect of avoiding the commencement of a CIRP in respect of the CD.

The distinction in legislative intent between avoidance applications under Sections 43 to 50 and the provisions relating to fraudulent and wrongful trading under Section 66 IBC, has been elucidated in Piramal Capital & Housing Finance Ltd. v. 63 Moons Technologies Ltd.⁶ (Piramal Capital). The Court observed:

56. … The Legislature has consciously kept the applications in respect of fraudulent trading or wrongful trading falling in Chapter VI, outside the purview of Section 25(2), which requires the resolution professional to undertake the actions and file applications for the avoidance of transactions in accordance with Chapter III. Both, the avoidance applications under Chapter III and the applications in respect of fraudulent trading or wrongful trading under Chapter VI, operate in different situations. The powers of the Adjudicating Authority in respect of the avoidance applications filed under Chapter III and the powers of the Adjudicating Authority in respect of the applications pertaining to the fraudulent and wrongful trading filed under Chapter VI, have also been separately circumscribed.

60. … In cases of “fraudulent or wrongful trading” in respect of the business of the CD as contemplated in Section 66, the properties and the persons involved may or may not be ascertainable and therefore the adjudicating authority is not empowered to pass orders to avoid or set aside such transactions, but is empowered to pass orders to the effect that any persons, who were knowingly parties to the carrying on of business in such manner, shall be liable to make such contributions to the assets of the CD, as it may deem fit. The Adjudicating Authority in such applications may also direct that the director of the CD shall be liable to make such contribution to the assets of the CD as it may deem fit, as contemplated in Section 66(2). In case of fraudulent trading or wrongful trading, it would be a matter of inquiry to be made by the adjudicating authority as to whether the business of CD was carried on with the intent to defraud creditors of the CD or was carried on for any fraudulent purpose.

Judicial approach

In the realm of the IBC, being a relatively nascent legislation, the judiciary, mindful of its overarching objectives to revive the CD, maximise the value of its assets, and balance the interests of all stakeholders, has, in many instances, adopted a purposive interpretation to advance these goals. This approach has been affirmed in several landmark decisions, including Swiss Ribbons⁷, Babulal Vardharji Gurjar v. Veer Gurjar Aluminium Industries (P) Ltd.⁸, P. Mohanraj v. Shah Bros. Ispat (P) Ltd.⁹, and Jaypee Infratech Ltd.¹⁰. The National Company Law Appellate Tribunal (NCLAT) has also innovated mechanisms such as the “reverse CIRP” and project-specific resolution plans, which have not been envisaged in the IBC, as seen in Flat Buyers Association Winter Hills-77 v. Umang Realtech (P) Ltd.¹¹ , with the specific intent of safeguarding the interests of homebuyer-creditor.

However, in the context of avoidance transactions that have a substantial bearing on the assets available to creditors, there are notable instances, discussed below, where the courts have refrained from adopting a purposive approach. Instead, they have adhered strictly to the textual confines of the statute, rather than embracing a broader interpretation aimed at safeguarding creditors’ interests and promoting the fair conduct of business and commercial morality, which remain paramount.

Judicial willingness to exercise suo motu cognizance

In Sahara India v. Nandkishor¹², the appellant had made advance payments for the supply of future goods in the form of gold coins and ornaments. The memorandum of understanding (MoU) expressly stipulated that such advance payments would not attract interest. The CD, however, failed to supply the goods. When the appellant sought a refund, the CD proposed to convert the advance amount into an unsecured loan carrying 10% per annum interest on the outstanding sum until full and final repayment. The appellant accepted this offer. Subsequently, when the appellant approached the National Company Law Tribunal (NCLT) seeking classification as a financial creditor, notwithstanding the absence of an application for avoidance of the transaction by the RP, the court proceeded to take suo motu cognizance.

The NCLT observed that, under Section 43(2)(a) IBC, by executing the loan agreement, the CD had converted an operational debt into a financial debt with the intent of preferring the appellant and placing him in a more beneficial position than he would have been in under the distribution waterfall prescribed in Section 53 IBC. Such an arrangement, it noted, could not have arisen in the ordinary course of business; an operational creditor who had advanced money for the purchase of gold was being treated as a lender under the loan agreement. Considering the factual matrix, the NCLT concluded that the CD had elevated the operational creditor to the status of a financial creditor despite knowing its inability to repay in the high likelihood of insolvency, thereby granting it unsecured rights in a financial debt.

On appeal, however, the NCLAT took a different view. It held that, under Section 43 IBC, the RP or liquidator must determine whether the CD has given preference in a transaction and, if so, file an avoidance application before the adjudicating authority. In the present case, the RP had neither formed an opinion that the CD had given preference nor filed such an application. Therefore, the NCLAT held that it was beyond the NCLT’s jurisdiction to classify the transaction as preferential on its motion. The Appellate Tribunal concluded that the NCLT had overstepped its authority, as Section 44 does not empower it to act suo motu in avoidance matters.

While the statutory framework under Section 25(2)(j) obliges the RP to apply for avoidance of preferential transactions, the rigid judicial position that such applications can be entertained only if initiated by the RP, and that the AA must disregard even clear evidence of a preferential transaction in the absence of such application merits serious reconsideration. In practice, the RP, due to the onerous scope of his duties, may inadvertently fail to identify such transactions, and it is not inconceivable that there could be undisclosed negotiations with the beneficiary of such transactions. The Supreme Court’s observations in the case of Flat Buyers Association Winter Hills-77¹³ are significant in this context. Although, homebuyers are recognised as financial creditors with voting rights, they often lack the commercial sophistication of institutional creditors such as banks. This creates a heightened risk that certain classes of creditors, particularly vulnerable or less commercially astute committees, may remain unaware of prejudicial transactions, thereby allowing the resolution professional’s inaction to persist unchecked.

While avoidance applications may still be pursued during liquidation, the principle articulated in the case of Swiss Ribbons¹⁴ that liquidation should be the last resort underscores the importance of addressing such issues at the resolution stage itself. A procedural bar preventing the AA from acting upon prima facie evidence of a preferential transaction merely because the RP has not applied could jeopardise the paramount objective of protecting stakeholders’ interests and maximising value. Where the facts, as revealed in the record or through forensic audits, strongly indicate the occurrence of a preferential transaction, the AA should not be rendered powerless to act in furtherance of stakeholder protection.

Position on standing to file avoidance application

In Ambit Finvest (P) Ltd. v. Rakesh Niranjan Ranjan¹⁵, the applicant a dissenting financial creditor contended that, as per the Forensic Audit Report, certain transactions of the CD revealed that the Directors sought to portray an inflated and misleading picture of receivables to misrepresent the company’s financial standing and thereby defraud creditors. The forensic auditor recorded that no plausible explanation was furnished by the erstwhile management for fictitious sales, concluding that these transactions were designed to commit fraud upon the creditors through deliberate misrepresentation.

Despite the serious nature of these findings, the AA adopted a narrow and technical approach, holding the application to be inadmissible solely on the ground that it had not been filed by the RP.

Such a restrictive interpretation, however, may not serve the ends of justice in all cases. Where there is prima facie evidence substantiating allegations of fraud, particularly, when such evidence is derived from a forensic audit, there is merit in encouraging the AA to examine the substance of the allegations rather than being constrained by procedural formality. This is essential not only to uphold the integrity of the insolvency process and maintain commercial morality but also to ensure accountability by “sharpening the sword” against those who managed the CD before the commencement of insolvency proceedings and may have personally profited from their misconduct. The institutional framework of the IBC is designed to balance creditor recovery with deterrence of fraudulent conduct, and this balance risks being undermined if adjudication is precluded merely because the RP has not initiated the application.

In Ritu Tandon v. Rain Automotive India (P) Ltd.¹⁶, the NCLT held that, under the existing framework of Sections 43, 45, 50 and 66 IBC, avoidance applications can be filed and pursued exclusively by the RP or the liquidator, as the case may be. The Tribunal emphasised that there is no explicit statutory provision empowering an assignee or any third party to initiate or prosecute such applications on behalf of the RP or the liquidator.

Moreover, the Court has also observed that, when avoidance applications are pursued by a third party or assignee, they arguably fall outside the scope of issues arising from the CIRP or liquidation under Section 60(5)(c) IBC, as any recovery would benefit the assignee rather than the corporate debtor’s creditors but the judicial position in Tata Steel BSL Ltd. v. Venus Recruiter (P) Ltd.¹⁷ (Tata Steel BSL Ltd.), the Court held that if this position is extended, the consequences would be that beneficiaries of avoidable transactions would walk scot-free, resulting in unjust enrichment.

Judicial practice has shown that courts, where necessary, have not adhered rigidly to the literal language of the IBC. For instance, in the case of Tata Steel BSL Ltd.¹⁸ the Delhi High Court held that the timelines prescribed under Regulation 35-A for filing avoidance applications are directory, not mandatory, noting that the CIRP process itself is not strictly bound by its timelines, as affirmed by the Supreme Court in Essar Steel India Ltd. (CoC) v. Satish Kumar Gupta¹⁹.

In this context, it is pertinent to note that the ILC in Chapter 3 of its Report, observed that except for undervalued transactions under Section 47, the IBC presently confers the exclusive right to file avoidance actions on the insolvency professional. The ILC Report further recognised that procedural or resource constraints may prevent the timely filing of such applications. Drawing from comparative practices reflected in the UNCITRAL Legislative Guide on Insolvency Law, it noted that several jurisdictions permit creditors to initiate avoidance actions. Accordingly, the ILC Report recommended that creditors, whether individually, collectively, or through the Committee of Creditors (CoC), be authorised to file such applications if, after a formal request, the RP or the liquidator fails to act.

The IBC Amendment Bill, 2025, expressly incorporates the position discussed above, thereby legislatively recognising this consideration.

Interference with commercial wisdom of CoC

In the case of Ritu Tandon²⁰, the AA held that not readily realisable assets (NRRAs) arising from avoidance applications under can only be assigned once the debt or demand is determined or crystallised through adjudication by the NCLT. The Court reasoned that, in the absence of such crystallisation, there exists a risk of arbitrariness, whereby the liquidator may assign such assets for an unreasonably meagre amount, as allegedly occurred in the instant case, where assets worth Rs 26,38,37,645 were assigned for Rs 50,000.

This approach, however, departs from the position adopted in the case of Tata Steel BSL Ltd.²¹, where it was recognised that avoidance applications, by their very nature, may take considerable time for adjudication due to complex factual determinations and resistance from promoters, Directors, or related parties. Section 26 IBC expressly acknowledges the separability of avoidance proceedings from the CIRP or liquidation process. Further, in the case of Piramal Capital²², the Supreme Court observed that in cases under Section 66 involving fraudulent or wrongful trading, the persons and properties involved may not be ascertainable at the outset. Considering, the position adopted by the Court, and the strict adherence to timelines envisaged under the IBC, the view that such claims can only be pursued upon crystallisation of demand may operate to the detriment of creditors and run counter to the underlying principles of the IBC.

Regulation 37-A, Insolvency and Bankruptcy Board of India (Liquidation Process) Regulations, 2016 permits any person not disqualified under Section 29-A to acquire NRRAs, and the IBC does not even bar, on the principles of equity, the beneficiaries of impugned transactions from pursuing such claims. The commercial wisdom of the CoC, recognised as paramount in K. Sashidhar v. Indian Overseas Bank²³ and reiterated in the case of Piramal Capital²⁴, dictates that if the CoC, after due diligence and expert evaluation, approves a course of action, the scope of judicial review is limited to ensuring statutory compliance. There appears to be no cogent rationale as to why such a position ought not to be extended to the allocation of NRRA as well. By labelling the assignment consideration as meagre and restraining transfer until crystallisation, the Court’s approach in the case of Ritu Tandon²⁵ indirectly amounts to a criticism of the CoC’s commercial wisdom, something courts have consistently been reluctant to undertake.

Conclusion

The provisions for avoidance of certain transactions are designed not merely to ensure a fair and equitable distribution of an insolvent debtor’s assets among creditors, but also to uphold commercial morality by deterring unfair practices in the period preceding insolvency, including preventing individual creditors from pursuing self-help remedies that prejudice the collective estate. These provisions enhance the attractiveness of the CD for resolution applicants, help recover concealed or diverted funds for the collective benefit of creditors, and preserve the debtor as a viable going concern. Viewed through this broader lens, it is evident that avoidance provisions serve both corrective and deterrent purposes, ensuring transparency and accountability in corporate conduct. Accordingly, a purposive interpretation is essential: rigid adherence to procedural technicalities risks defeating these legislative objectives, whereas a more liberal and pragmatic approach better serves the IBC’s intent and safeguards stakeholders’ interests.