The Vakilkaro Brief: NCLAT Holds Related Party Payment Preferential Under Section 43 of IBC

National Company Law Appellate Tribunal (NCLAT) exposes an important point related with preferential transactions under the Insolvency and Bankruptcy Code, 2016. It was held by the Tribunal that payments made by a corporate debtor, who is in a financial distress, to related party creditors during the statutory lookback period may be considered preferential transactions if such payments give the related party a position better than the other creditors. This event has put a light on In reality how Actually dealings between related parties are subjected to strict scrutiny during insolvency proceedings, more so when the payments lead to reduction in the recoveries by non-related creditors.

Key Takeaways

• NCLAT Clarifies When Related Party Payments Become Preferential Transactions The Update In the decision, NCLAT observed that payment of Rs 8.93 lakhs by a corporate debtor to a related party financial creditor during the lookback period is a preferential transaction as per Section 43 of the IBC.
• Understanding Preferential Transactions Under IBC Section 43 of the Insolvency and Bankruptcy Code, 2016 kind of covers those preferential transactions that get made by a corporate debtor right before the insolvency proceedings actually start.
• And if that transfer leaves that particular party in a more advantageous position than the other creditors when assets are distributed later, under Section 53 of the IBC, then it falls within this idea.
• According to the Resolution Professional, both of these transactions were preferential in terms of Section 43 of the IBC, mainly because they were done within the lookback period and also when the company was already under financial stress.
• So finally, the Tribunal concluded that the payment is to be treated as a preferential transaction under Section 43 of the IBC.

NCLAT Clarifies When Related Party Payments Become Preferential Transactions

The Update

In the decision, NCLAT observed that payment of Rs 8.93 lakhs by a corporate debtor to a related party financial creditor during the lookback period is a preferential transaction as per Section 43 of the IBC.

The Impact

This judgment further deepens the level of vigilance over dealings between related parties during Corporate Insolvency Resolution Process (CIRP) and elucidates really even transfers within the internal group can be unwound if they result in one creditor benefiting to the detriment of others.

The Action

As a precaution, companies suffering from financial distress should be mindful of making payments to related parties, Mostly creditors, during the time leading up to insolvency proceedings.

Understanding Preferential Transactions Under IBC

Section 43 of the Insolvency and Bankruptcy Code, 2016 kind of covers those preferential transactions that get made by a corporate debtor right before the insolvency proceedings actually start. In simple terms, a transaction can be seen as preferential if the corporate debtor transfers property or money, for the benefit of a creditor, surety, or guarantor, in connection with some existing debt. And if that transfer leaves that particular party in a more advantageous position than the other creditors when assets are distributed later, under Section 53 of the IBC, then it falls within this idea. Overall, this clause is to stop troubled companies from giving a special edge to selected creditors just before the insolvency process begins. Also, for related parties, the IBC allows a two year lookback period, calculated before the insolvency commencement date.

Facts of the NCLAT Case

The matter came up from CIRP proceedings which were started against KSS Ltd. In that process, the Resolution Professional appointed a transaction auditor who then pointed out two transactions done in January 2022 that involved connected parties, more or less. The first one related to a transfer of Rs. 39 lakhs made to M/s K Sera Sera Miniplex Ltd., which is a wholly owned subsidiary of the corporate debtor. The second one related to a payment of Rs. 8.93 lakhs to M/s K Sera Sera Digital Cinema Ltd., another related company. According to the Resolution Professional, both of these transactions were preferential in terms of Section 43 of the IBC, mainly because they were done within the lookback period and also when the company was already under financial stress. At first, the NCLT ordered the suspended directors to refund the entire amount, about Rs. 47.93 lakhs, jointly and severally. Later on, the issue was assailed before the NCLAT.

Why One Payment Was Held Preferential?

The NCLAT went closely into whether the payment of Rs. 8.93 lakhs really met the stipulations under Section 43, or well in other words whether it fell within the scope. The Tribunal pointed out that K Sera Sera Digital Cinema Ltd. had already put forward a financial claim above Rs. 3.08 crores, in the CIRP proceedings, and that claim was admitted by the Resolution Professional. From this it was taken as established, that the said entity was a creditor of the corporate debtor. Also, it was not like a one-off timing, because the payment happened within the two-year lookback window, which is the part that generally applies to related parties.

More importantly, the Tribunal noticed that at the moment the payment was made, the corporate debtor was itself under financial strain. So when dues owed to a related party creditor were cleared, the result was that the amount which would have otherwise gone for distribution among unrelated creditors got reduced, this is the idea behind Section 53 of the Code.

The NCLAT also held that the appellants did not come up with any material, or documents, showing that the transaction took place in the ordinary course of business. Even if they said it was typical commercial conduct, or that it was business prudence, those statements by themselves were treated as insufficient. So finally, the Tribunal concluded that the payment is to be treated as a preferential transaction under Section 43 of the IBC.

Why the Rs. 39 Lakh Transfer Was Excluded?

While looking into the second transfer of Rs. 39 lakhs that was made to K Sera Sera Miniplex Ltd., the NCLAT seemed to arrive at a somewhat different conclusion though. Even though the receiving company was a related party, and also a subsidiary of the corporate debtor, the Tribunal noted that it was not really functioning as a creditor, surety, or a guarantor, in any way, toward an antecedent debt owed by the corporate debtor.

That difference then mattered a lot, because Section 43(2)(a) says, in a direct way, that the transfer should benefit a creditor, or at least someone connected to a pre-existing liability. Since that basic requirement was missing in the facts before them, the Tribunal went on to say that the Rs. 39 lakh transfer cannot be treated as a preferential transaction under Section 43. In the end, only the Rs. 8.93 lakh payment was ordered to be refunded.

Key Legal Observations by NCLAT

The judgment provides important clarification about those related party transactions during insolvency proceedings, and it kind of ties things together in a way you might expect but also it’s a bit stricter. First, just because someone is a related party, it doesnt mean every transaction automatically becomes preferential. The recipient also has to meet the statutory requirement, meaning it must be connected to an existing debt or liability, otherwise the whole preferential angle won’t really hold.

Second, companies cannot just lean on vague statements about the “ordinary course of business”, not without documentary support. The Tribunal highlighted that the parties must show evidence, like proof of genuine business dealings, goods supplied, services rendered, or other real commercial obligations. Without that kind of backing, the claim feels more like a story than a record.

Third, when payments are made to related party creditors during financial distress, those payments will be under strict scrutiny. The reason is simple, such payments might shrink the recoveries that could otherwise be available to unrelated creditors, so the process becomes more watchful. Overall, the ruling also reinforces the principles that were laid down by the Supreme Court in Anuj Jain v. Axis Bank Ltd., which continues to be the leading precedent on preferential transactions under the IBC.

Conclusion

The NCLAT’s ruling shows the rising watchfulness on dealings between related parties under the Insolvency and Bankruptcy Code, and honestly it feels like the bar is getting higher. In the judgment, it is pretty clear that payments done to related party creditors during the statutory lookback period could be unwound or reversed if they end up unfairly giving one creditor an edge over the rest.

At the same time, this decision also helps to clarify that not every transaction involving a related party automatically becomes “preferential”. The requirements in Section 43 still have to be met, especially the presence of an antecedent debt or liability, that piece can’t just be waved away.

So for companies that are nearing financial distress, the ruling comes off as a practical reminder: group internal transactions and payments involving related parties should be structured carefully, and the paperwork should be kept proper, because otherwise they might face pushback later in insolvency proceedings.

About Vakilkaro

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Official External Resources

Use these primary/official sources to verify rules, forms, fees, timelines and regulatory updates before publication.

• Ministry of Corporate Affairs (MCA)
• National Company Law Tribunal (NCLT)
• National Company Law Appellate Tribunal (NCLAT)