Introduction
An insolvency regime that focuses exclusively on distributing whatever assets remain in a distressed company misses a critical dimension of corporate failure: the possibility that assets were moved out of the company, or liabilities were created against it, in the period before insolvency in ways that were improper, fraudulent, or harmful to the general body of creditors. Without a mechanism to reverse such transactions, the insolvency process operates on a depleted estate, and those who engineered the depletion escape accountability.
The Insolvency and Bankruptcy Code addresses this gap through its avoidance transaction provisions, contained in Sections 43 to 51. These provisions empower the Resolution Professional (or Liquidator in liquidation) to challenge transactions entered into by the corporate debtor in specified periods before the commencement of the insolvency proceeding, where those transactions have the effect of reducing the value available to creditors. The categories of avoidable transactions include preferential transactions (Section 43), undervalued transactions (Section 45), extortionate credit transactions (Section 50), and fraudulent trading and wrongful trading (Section 66).
In the years since the IBC’s commencement, avoidance applications have been filed in many of India’s largest insolvency cases. The results have been instructive, sometimes successful and often not, revealing significant challenges in establishing the facts and legal standards necessary to succeed in avoidance litigation. This article examines the legal framework for avoidance transactions, the judicial interpretation of the relevant provisions, the evidentiary challenges practitioners face, and the reforms that would make the avoidance regime more effective.
Legal Framework
Section 43 of the IBC targets preferential transactions: transactions where the corporate debtor has transferred any property or interest, or done any act, that enables a creditor to receive more than they would have received in the insolvency had the transaction not occurred and had the company’s assets been distributed in accordance with Section 53. The look-back period for preferential transactions is two years for transactions with related parties, and one year for transactions with others, running backwards from the insolvency commencement date.
Section 45 addresses undervalued transactions: transactions where the corporate debtor makes a gift or otherwise enters into a transaction at a value significantly less than the value received by the corporate debtor. The look-back period is the same as for preferential transactions. An important distinction from preferential transactions is that undervalued transactions can be set aside even where there is no creditor who receives more than their insolvency share; the wrong is the disposal of the corporate debtor’s property at undervalue, reducing the estate available to all creditors.
Section 50 targets extortionate credit transactions: transactions where credit was obtained at exorbitant rates that are grossly unfair, on terms that require grossly inequitable payments in exchange for credit. This provision has seen limited use in practice, partly because the standard for what constitutes extortionate credit in commercial lending relationships is uncertain.
Section 66 is the most significant and conceptually complex avoidance provision. It provides two distinct grounds for personal liability of directors and other officers: fraudulent trading (where the business of the corporate debtor was carried on with intent to defraud creditors or for any fraudulent purpose) and wrongful trading (where the director knew, or ought to have known, that there was no reasonable prospect of avoiding insolvent liquidation of the corporate debtor, and failed to take every step to minimise the potential loss to creditors).
The application to avoid these transactions is made by the RP (or Liquidator) before the NCLT. The procedure follows the standard NCLT adjudication process, with the RP filing the application, the respondent filing a reply, and the NCLT adjudicating on the basis of affidavit evidence, documents, and oral submissions.
Judicial Developments
The most significant avoidance transaction litigation under the IBC has arisen in the context of large industrial insolvencies. In the Bhushan Steel insolvency, the RP filed avoidance applications challenging a series of transactions, including intercorporate loans, asset transfers, and alleged preferential payments to related parties in the period before insolvency. The Bhushan Steel avoidance proceedings illustrated the complexity of tracing transactions through a large corporate group with multiple levels of holding and subsidiary companies, and the difficulty of satisfying the NCLT that transactions were improper rather than merely imprudent.
The Jaypee Infratech insolvency generated avoidance applications against NBCC (National Buildings Construction Corporation), which had received payments from Jaypee in the period before CIRP commencement. The applications raised questions about whether state-owned enterprises could be respondents in avoidance proceedings and whether the special status of government undertakings affected the analysis under Section 43. The NCLT Mumbai ultimately took the position that government entities were not immune from avoidance proceedings.
The JKG Infrastructure proceedings within the Bhushan Steel insolvency established important procedural precedents about the joinder of parties in avoidance applications, the discovery obligations of respondents who hold relevant documents, and the standard of proof for establishing that a transaction was entered into at a relevant time with the requisite intent.
Across these cases, NCLT decisions have grappled with a fundamental tension in the avoidance regime: the desire to hold those responsible for corporate failure accountable through asset recovery, on one hand, and the need to protect the finality of commercial transactions and the legitimate expectations of counterparties to those transactions, on the other. Courts have been cautious about setting aside transactions that, while commercially imprudent, were entered into for genuine business reasons at the time they occurred.
The interaction between avoidance proceedings and PMLA (Prevention of Money Laundering Act, 2002) attachment proceedings has created significant legal complications. The Enforcement Directorate (ED) frequently attaches assets of companies that are also in CIRP or liquidation, claiming that the same transactions that the RP is seeking to avoid as preferential or fraudulent under the IBC are also proceeds of crime under the PMLA. The Supreme Court’s decisions in multiple cases, including Kiran Shah v. ED (2023), have attempted to clarify the priority between IBC proceedings and PMLA attachment, but the relationship between the two regimes remains contentious.
Contemporary Issues and Analysis
The evidentiary burden in avoidance proceedings is one of the most significant practical challenges for RPs. To succeed in a preferential transaction application, the RP must establish that the transaction occurred within the look-back period, that the counterparty was a creditor of the corporate debtor, that the transaction had the effect of enabling the creditor to receive more than their insolvency share, and in some circumstances, that the transaction occurred when the corporate debtor was unable to pay its debts as they fell due. Obtaining and preserving the documentary evidence to establish these facts, particularly where the corporate debtor’s records are incomplete, destroyed, or controlled by an uncooperative promoter, is a substantial undertaking.
For fraudulent trading applications under Section 66, the burden is even more demanding. While the civil standard of balance of probabilities applies, establishing “intent to defraud” requires evidence of actual fraudulent purpose, not merely evidence of financial imprudence or commercial failure. Directors routinely defend fraudulent trading allegations by arguing that the transactions they authorised were genuinely believed to be in the company’s commercial interest at the time, even if those transactions ultimately harmed creditors. Proving fraudulent intent, as opposed to negligent or reckless management, is genuinely difficult without direct evidence of the directors’ state of mind.
The wrongful trading provision, which applies an objective rather than subjective standard (what the director ought to have known), is theoretically easier to establish, but it requires expert evidence on the state of the company’s finances at the relevant time and the reasonable steps a director in that position ought to have taken. Insolvency practitioners have noted that the absence of a large body of precedent on what constitutes “every step to minimise potential loss to creditors” creates uncertainty about the standard of conduct required.
IBBI has flagged the need for improved access by RPs to investigative data held by other regulatory agencies. The Serious Fraud Investigation Office (SFIO), the Reserve Bank of India, and the Enforcement Directorate frequently hold information relevant to avoidance proceedings: forensic audit reports, transaction analysis, bank records, and evidence of asset transfers. Currently, this information is not routinely shared with RPs, even when the relevant agencies are conducting parallel investigations of the same corporate failure. The absence of a data-sharing mechanism significantly impairs the RP’s ability to mount effective avoidance claims.
Comparative and International Perspective
The United Kingdom’s avoidance provisions under the Insolvency Act, 1986 (Sections 238 to 246) are the direct intellectual ancestors of the IBC’s provisions and provide a useful comparative framework. Section 238 (transactions at undervalue) and Section 239 (preferences) are analogous to the IBC’s Sections 45 and 43. Section 213 (fraudulent trading) and Section 214 (wrongful trading) are analogous to Section 66 of the IBC.
The UK framework has a substantially longer history of judicial interpretation, providing greater certainty about the applicable standards. In particular, UK courts have developed extensive case law on what constitutes adequate consideration in undervalue transactions, when a creditor’s position is “better” than it would have been in liquidation for preferential transaction purposes, and what a reasonable director in a given company’s circumstances ought to have done to minimise creditor losses. This body of precedent, while not directly applicable in India, provides useful benchmarks for how similar provisions should be interpreted.
The UK pari passu principle, which underlies the avoidance framework, holds that avoidance remedies exist to vindicate the principle that similarly ranked creditors should share equally in the insolvency estate. Transactions that disturb this equality by preferring one creditor, or by removing assets from the estate at undervalue, are set aside to restore the pari passu position. India’s IBC adopts the same foundational principle, and the conceptual analysis of avoidance transactions should follow similar lines.
The United States Chapter 11 fraudulent transfer and preference provisions (Sections 547 and 548 of the Bankruptcy Code) operate on broadly similar principles to the IBC’s avoidance provisions, though with some important differences in look-back periods, defences, and the standard for establishing intent in fraudulent transfer cases.
Practical and Policy Implications
The practical effectiveness of the IBC’s avoidance regime has been limited by a combination of evidentiary challenges, procedural delays, and limited investigative resources available to RPs. In the majority of large insolvency cases, avoidance applications are filed but take years to be heard and decided, long after the resolution plan has been approved and implemented. The disconnect between the timeline of the main CIRP process and the extended timeline of avoidance litigation means that avoidance recoveries rarely benefit the original creditors in the CIRP but instead flow to subsequent holders of claims or to the resolved entity.
For liquidation cases, avoidance applications have somewhat more immediate relevance, since the liquidator can use avoidance recoveries to increase the estate available for distribution. However, the same evidentiary and procedural challenges apply.
IBBI’s emphasis on improving RP capacity for avoidance transaction analysis, reflected in its regulatory guidance issued in 2022 and 2023, has improved awareness but has not fundamentally resolved the resource gap. Large insolvency cases require forensic accountants, data analysts, and experienced litigation counsel to mount effective avoidance claims; the cost of this professional resource is a charge on the insolvency estate, reducing the net benefit of any recovery.
Suggestions and Reforms
The avoidance transaction framework would benefit from several reforms. First, a statutory data-sharing mechanism should be established requiring SFIO, the Enforcement Directorate, and the Reserve Bank of India to share relevant investigative findings with the RP upon request, subject to appropriate safeguards for the integrity of parallel criminal or regulatory proceedings. The RP is performing a complementary function to these agencies in pursuing civil recovery of assets diverted before insolvency, and data-sharing would significantly improve the effectiveness of both sets of proceedings.
Second, the look-back period for fraudulent transactions (as distinct from merely preferential ones) should be extended. The current one-year and two-year look-back periods may be insufficient to capture fraudulent planning that began earlier; a five-year look-back for transactions where fraud is alleged would better serve the policy objectives of the avoidance provisions.
Third, NCLT should establish dedicated fast-track procedures for avoidance applications, with strict timelines for filing of evidence and hearing of arguments, so that avoidance proceedings can be concluded within the CIRP timeline or shortly thereafter rather than dragging on for years.
Fourth, Parliament should consider introducing a provision explicitly requiring directors to disclose all transactions above a prescribed threshold in the two years preceding the insolvency commencement date, creating a statutory disclosure obligation that assists the RP in identifying potentially avoidable transactions.
Conclusion
The avoidance transaction framework in the IBC reflects a sound policy commitment to holding accountable those who harm creditors through improper transactions in the shadow of insolvency. The provisions are broadly well-designed, drawing on established international models. However, their practical effectiveness has been constrained by evidentiary challenges, limited access to investigative data, and the disconnect between CIRP timelines and avoidance litigation timelines.
Making the avoidance regime more effective does not require wholesale revision of the substantive provisions; it requires procedural reform, data-sharing between agencies, and dedicated judicial resources for avoidance proceedings. These are achievable reforms that would significantly enhance the IBC’s deterrent effect on pre-insolvency asset stripping and improve creditor recovery in cases where such behaviour has occurred.
