No look back period for fraudulent transactions under insolvency laws

Posted On - 17 February, 2023 • By - Souvik Ganguly


The objective of the Insolvency and Bankruptcy Code, 2016 (Code) is to maximize the value of the assets of the corporate debtors and to ensure their revival. One vital aspect for reviving a debt-ridden company is reversal of avoidance transactions i.e., preferential, undervalued, defrauding creditors and extortionate transactions. The Code empowers the resolution professional / liquidator (“Insolvency Professional”) to apply to the insolvency courts for reversing avoidance transaction if it is found that the corporate debtor has been subject to such transactions in the past.

Notably, the Code provides a ‘look back period’ for which previous instances of avoidance transactions by a corporate debtor may be investigated by the Insolvency Professional. This look back period is two years for transactions with a related party and one year for any other party. However, in the case of fraudulent transactions, there is no look back period mentioned in the Code. Ordinarily, if limitation period[i] is not provided under any statute, then an action can be taken against that particular act within three years as per the Limitation Act, 1963 (Limitation Act)[ii]. In this backdrop, the National Company Law Appellate Tribunal (NCLAT) in Mr. Thomas George v. K. Easwara Pillai and Others (Thomas George Case), was faced with the issue of what would be the look back period for fraudulent transactions under the Code.

Facts of the case

CIRP was commenced against Mathstraman Manufacturers and Traders Pvt. Ltd. (MMTPL) in 2020, and Mr. K. Easwara Pillai was appointed as the Insolvency Professional. During the course of CIRP, the Insolvency Professional conducted a factory inspection of MMTPL and found that the books of accounts, records, etc., of MMTPL were either destroyed or mutilated and no statutory filings were made after 2015. Further, one director of MMTPL was also a director in Whispower Sales & Services Pvt. Ltd. (“Whispower Sales”). The Insolvency Professional found that the directors of MMTPL had wrongfully transferred certain assets of MMTPL, including land to Whispower Sales.

Upon uncovering the irregularities in the factory and registered office of MMTPL, the Insolvency Professional filed an application of fraudulent / wrongful trading under the Code against the suspended directors of MMTPL. The National Company Law Tribunal (NCLT) found that the business of MMTPL was being carried in a fraudulent manner and ordered the suspended directors to compensate the creditors of MMTPL for their losses. The NCLT also held the suspended directors as personally liable to make contributions to the assets of MMTPL. Being aggrieved by the order of the NCLT, Mr. Thomas George, a suspended director of MMTPL, filed an appeal before the NCLAT.

NCLAT’s ruling

The NCLAT ruled that as the Code does not specially provide for a lookback period as far as fraudulent transactions are concerned; the three-year limitation period cannot be applied to fraudulent transactions under the Code. Therefore, the Insolvency Professional is not barred to look beyond a period of three years from the initiation of CIRP for the purpose of determining fraudulent transactions.

While coming to such a conclusion, the NCLAT also considered the fact that the allegations of fraudulent transactions, and default in the books of MMTPL were not disputed by the suspended directors of MMTPL. It further considered that the Insolvency Professional had produced sufficient evidence to show that the suspended directors of MMTPL had carried out the transactions knowingly and dishonestly with the intention to defraud the creditors. In view of the same, the NCLT held that the suspended directors engaged in such fraudulent transactions are personally liable to make good the loss suffered by MMTPL. Accordingly, the appeal filed by the suspended director was dismissed.

Our thoughts

The objective of empowering the insolvency courts to investigate previous wrongdoings of directors and promoters is to initiate corrective measures necessary for revival of the corporate debtor. The NCLAT’s decision in the Thomas George Case is in the interest of the creditors who suffer losses due to wrongful acts of promoters and directors of corporate debtors. By refusing to limit the lookback period to three years, the NCLAT has ensured that previous transactions of the corporate debtor which were entered into with the intention to defraud the creditors do not go unpunished, and appropriate compensation is provided to the creditors for their loss. The approach taken by the NCLAT also aligns with the objective of the Code to maximize the value of assets of the corporate debtor.

While the Code empowers the Insolvency Professional, it also casts a duty on him/her to timely identify fraudulent transactions and seek relief from the insolvency courts. Timely identification and reversal of avoidance transactions can result in better recovery for the creditors. We are of the view that while the decision in the Thomas George Case will positively impact the creditors, it has magnified the role of the insolvency professional, whose expertise and attentiveness to identify such transactions will be indispensable to the further success of the Code and discourage existing owners / management of defaulting corporate debtors in conducting fraudulent transactions.

Authors: Souvik Ganguly, Altamash Qureshi and Shrishti Mishra

The information contained in this document is not legal advice or legal opinion. The contents recorded in the said document are for informational purposes only and should not be used for commercial purposes. Acuity Law LLP disclaims all liability to any person for any loss or damage caused by errors or omissions, whether arising from negligence, accident, or any other cause.

[i] In India, limitation period is the time laid down by law within which an action may be brought before the courts, and after the expiry of which recourse to courts may not be allowed for any remedy.

[ii] Article137 of Schedule 1 of the Limitation Act.