A has contained similar provisions for a number

fundamental objective of insolvency law is ensuring parri passu (on equal footing) treatment of creditors of the same
class. When borrowers become financially distressed, individual creditors are
incentivized to press for payment in priority to other creditors to maximize
their individual recovery. Borrowers themselves are incentivized to prioritize
payments to certain lenders (for example, those who hold a personal guarantee
from the promoters of the borrower). Insolvency legislation in various
jurisdictions, for example, the United States of America (“US”) and
England, describes such payments as “preferences”
and allows for insolvency professionals appointed over insolvent debtors to
apply to a Court to set them aside and recover the monies paid out into the
common pool available to all creditors with unsecured claims in accordance with
the legislative order of priority.

Insolvency and Bankruptcy Code, 2016 (“IBC”) has introduced provisions
prohibiting “preferential transactions”
in Indian insolvency legislation.1
Resolution professionals have a duty to report such transactions to the
committee of creditors and to file applications to set them aside.2
The US Bankruptcy Code (“US Bankruptcy Code”) has contained similar
provisions for a number of years. This article considers the preferential
transaction provisions in the IBC and how these might be interpreted based on
the US Bankruptcy Code and decisions of the US Courts. It also briefly considers
additional defenses available to creditors in the US, which might be argued in

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“Preferential Transaction” Provisions
in IBC

the IBC, a liquidator or resolution professional may apply to the National
Company Law Tribunal (“NCLT”) to set aside a transaction made within a “relevant time” if the transaction: (a)
is a transfer of property or an 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; and (b) 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

The “relevant time” period is: two years
preceding the insolvency commencement date in the case of a “related party” and one year in the case
of any other person.4
The term “related party” is widely
defined and includes, for example, promoters; directors; key managerial
personnel; entities related to the aforementioned categories of persons; “any person on whose advice, directions or
instructions, a director…is accustomed to act”; and “any person associated with the corporate debtor on account of: (i)
participation in decision-making processes…; (ii) having more than two
directors in common…; (iii) interchange of managerial personnel…; or (iv)
provision of essential technical information to, or from, the corporate debtor”.5

provisions are similar to the relevant provisions in the US Bankruptcy Code,
which provide that a trustee in bankruptcy may apply to set aside “any transfer of an interest of the debtor in
property” which: was made to or for the benefit of a creditor; was made on
account of an antecedent debt; was made while the debtor was insolvent; was
made within 90 days before the filing of a bankruptcy petition or within one
year if made to an “insider”; and
enabled the creditor to receive more than it would have received in
liquidation.6 As such,
US legislation and Court decisions may be of assistance in predicting how the
NCLT will interpret certain terms and adjudicate certain issues.7 In
particular, they may assist with determining the following:

the payment must be made to
– US legislation provides that a recipient must be an actual creditor.8 If
a debtor transfers property to a person to whom he/she owes nothing, the
transfer is not a preference but could be set aside as a fraudulent conveyance.9
The equivalent under the IBC would be an application to set aside such a payment
as a transaction at an undervalue.10

can be liable to repay
– The US Courts have adopted a wide interpretation (as appears to be the
intention under the IBC).11
For example, they have held that this could include junior creditors who have indirectly
benefited where a payment to a senior creditor increases the value of the
junior creditor’s interest in the collateral.12

would be considered a “related party” – The wide definition of
related party is potentially problematic. For example, several bank lenders in
India hold equity in borrowers pursuant to the Reserve Bank of India’s
Strategic Debt Restructuring Scheme and could fall within the definition as a
result. The US Courts have adopted a pragmatic approach in similar cases. They
have held that a lender who has an affiliate with an equity interest in a debtor
(a common situation in the case of bank lenders) should not be deemed an
insider in the absence of evidence that the lender used his/her affiliate to
influence the debtor’s decisions.13
They have also held that a unique relationship with the debtor without more is
not enough to support a finding of insider status.14

a transfer is deemed to have occurred
– The IBC does not state when a transfer will be deemed to have occurred. This
is of some importance in determining whether the transfer in question falls
within the “relevant time” period. By
way of comparison, the US Bankruptcy Code provides that a transfer is deemed to
have been made: on the date it occurred if perfected within 30 days; on the
date it was perfected if this was more than 30 days after the transfer
occurred; and immediately before a bankruptcy petition was filed if it was not
perfected before bankruptcy.15
Perfection is deemed to have occurred when a transfer is fully effective
against third parties under the relevant state law.16


For the
purposes of the IBC, preferences do not include the following transfers:17

“(a) a transfer made in the ordinary course 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 the 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 US Bankruptcy Code contains similar defenses for creditors.18
As such, the US Courts’ decisions may provide guidance on the following issues:

“ordinary course of business” to be
measured by a subjective or objective standard – According to the US Courts,
it is the subjective standard of what is ordinary between the parties.19

sort of payments would be within the “ordinary
course of business”
– The US Supreme Court has held this includes ordinary repayments of principal
and interest.20 As
regards payments made pursuant to a restructuring agreement, the US Courts have
held that this is a question of fact and depends on the nature of industry

“new value” include a creditor’s
forbearance of his/her rights
– While this is not a settled issue in the US, some Courts have held that “new
value” does not include a creditor’s forbearance of his/her rights.22

The US
also allows creditors the following additional defenses, which might be argued
by creditors in India faced with preference challenges:

“earmarking doctrine”
– If a third party provides funds (either by way of a payment or a loan) to a
debtor to repay a specific pre-existing debt, the US Courts would generally not
treat this as a preference if the funds were clearly earmarked for this
purpose.23 Their
reasoning is that the payment would not be to the detriment of other creditors
because the debtor could not have used the funds to repay anyone else. The
third party must have directed the debtor to use the funds to pay the debt, and
the debtor must have had no control over how he/she could use the funds.

advance of new value
– Under the US Bankruptcy Code, an unsecured creditor who extends further
unsecured credit or new value after receiving a preferential transfer from a
debtor may set this off against the preferential payment.24
The purpose of this defense is to encourage creditors to continue doing
business with the borrower while replenishing the diminished estate.


provisions on preferential transactions appear to have incorporated best
practice from different jurisdictions, including the US. The key challenge
going forward will be for the NCLT to adopt a purposive interpretation to these
provisions which strike a balance between preventing unfair payments and
ensuring that lenders are willing to continue supporting a distressed business
during the time when their support is most required.

“Fraudulent preferences” were
prohibited under s.328 of the Companies Act 2013. However, the new provisions
appear substantially wider in scope.

§25(2)(j), IBC and §39(2), Insolvency and Bankruptcy Board of India (Insolvency
Resolution Process for Corporate Persons) Regulations, 2016

§43(1) and (2), IBC

§43(4)(a) and (b), IBC

§5(24), IBC

§547(b), US Bankruptcy Code

The wide variety of fact patterns in the preference area has resulted in a
substantial amount of Judge made law. For example, there are hundreds of US judicial
decisions on what payments are considered to be made in the “ordinary course of business” (a defense
available to creditors discussed further below). The decisions cited in this
article are just a minor sampling from this body of case law.

§547(b)(1), US Bankruptcy Code

§548, US Bankruptcy Code.

§45(1), IBC

See the broad range of orders the NCLT may make if it determines there has been
a preferential transaction under §44, IBC.

12Gladstone v. Bank of Am. (In re Vassau),
499 B.R.864,872 (Bankr. S.D.Cal.2013)

13Capmark Fin. Grp. Inc v. Goldman Sachs
Credit Partners L.P, 491 B.R.335 (S.D.N.Y.2013)

14Clear Thinking Grp. LLC v. Brightstar US,
Inc (In re KCMVNO) 2010 WL 4064832 at 4-5 (Bankr. D. Del. Oct 15, 2010)

§547(e)(2)(A) to (C), US Bankruptcy Code

§547(e)(1), US Bankruptcy Code

§43(3), IBC

The “ordinary course of business” and “security interest in property” for “new
value” defenses are in §547(c)(2) and (3) of the US Bankruptcy Code

19Burtch v. Detroit Forming Inc (In re.
Archway Cookies), 435 B.R.234, 240-245 (Bankr. D. Del. 2010)

20Union Bank v. Wolas, 502 U.S. 151 (1991)

21Arrow Elecs, Inc v. Justus (In. Re. Kaypro),
218 F.3d 1070, 1073-76 (9th Cir.2000)

22United Rentals Inc v. Angell, 592 F.3d
525,531-35(4th Cir.2010)

23Cadle v. Mangan (In re Flanagan), 503
F.3d 171, 184 (2d Cir, 2007)

§547(c)(4), US Bankruptcy Code


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