NCLT Chennai Dismisses Liquidator's Plea, Says Director's Mortgage Of Personal Property To Bank Not Fraudulent

The National Company Law Tribunal (NCLT) at Chennai has dismissed an application filed by the liquidator of Srivatsa International Private Limited alleging that the company's suspended directors committed fraud by mortgaging a property to Yes Bank.

A coram comprising Judicial Member Jyoti Kumar Tripathi and Technical Member Ravichandran Ramasamy held that offering property as collateral to secure credit for the corporate debtor's business operations does not by itself amount to fraudulent trading under Section 66 of the Insolvency and Bankruptcy Code.

"Directors transfer the property as collateral to a financial institution specifically to secure credit for the CD's own business operations doesn't constitute an act to defraud the creditor further analyzing the nature of the transaction, this Tribunal observes that the act of the Directors in offering the property as collateral to a financial institution must be viewed through the lens of commercial necessity rather than fraudulent intent. There is a fundamental legal distinction between a 'sham transfer 'which seeks to hide assets from the reach of creditors and a registered mortgage, which serves as a security for debt of the CD", the tribunal observed.

The company was admitted into CIRP on December 4, 2020, and was subsequently sent into liquidation. The liquidator alleged that certain immovable properties reflected in the company's balance sheet were not handed over by the suspended directors. He contended that although the company had taken over the assets and liabilities of two partnership firms in 2010–11, ownership records of certain lands were never updated in the revenue records.

The dispute primarily concerned land and a building in Vadiveeswaram Village, Nagercoil, which was reflected in the company's fixed assets. The property stood in the name of one of the suspended directors and was mortgaged to Yes Bank as part of a personal guarantee to secure loan facilities for the corporate debtor. The bank later initiated recovery proceedings under the SARFAESI Act and took possession of the property.

The liquidator sought to declare the transaction fraudulent under Section 66 of the IBC and requested that the property be restored to the liquidation estate.

Examining Section 66, which deals with fraudulent trading and wrongful trading, the Tribunal referred to the NCLAT's decision in Regen Powertech Pvt Ltd v Wind Construction Pvt Ltd and its own earlier ruling on wrongful trading. It emphasised that a high degree of proof is required to establish fraudulent intent.

Referring to the explanation to Section 66, the Bench noted that there is a statutory presumption in favour of directors and partners. “As per Section 66, the NCLT is mandated to presume that all directors and partners of the corporate debtor have exercised necessary care and proper due diligence in conducting the affairs of the corporate debtor and the burden of proof is on the liquidator,” it observed.

The tribunal clarified that for a transaction to be categorised as fraudulent, there must be a demonstrable “dishonest intention” to keep assets out of the reach of creditors. It further observed that the act of the directors in offering the property as collateral to a financial institution must be viewed through the lens of commercial necessity rather than fraudulent intent.

The coram also held that a third-party secured creditor acting on a registered mortgage deed in the ordinary course of business cannot be penalised merely because recovery proceedings render the asset unavailable to the liquidator.

Holding that the liquidator had failed to establish the essential ingredients required under Section 66, the Tribunal dismissed the application.

For Applicant: Advocate A.G Sathyanarayana

For Respondents: Advocates Mubarak Ahmad and Ranjana G