Whether Mortgage Offered by Subsidiary Co. to Secure Parent Co’s Debt Will Be Treated As a Preferential Transaction

01 Mar 2020

Whether Mortgage Offered by Subsidiary Co. to Secure Parent Co’s Debt Will Be Treated As a Preferential Transaction

 

Whether Mortgage Offered by Subsidiary Co. to Secure Parent Co’s Debt Will Be Treated As a Preferential Transaction

[Anuj Jain, Interim Resolution Professional for Jaypee Infratech Ltd (JIL) v. Axis Bank Limited Etc. (Civil appeal no: 8512-8527 of 2019), SC

 

Essential elements of a Preferential Transaction - The Apex Court after careful consideration and analysis of the Section 43 and its sub-sections held that if the following conditions are met and satisfies the conditions prescribed under Section 43(2) and Section 43(4) then a transaction is deemed to be a preferential transaction under the Code.

A corporate debtor shall be deemed to have given a preference, if

(a)   the transaction is of transfer of property or interest of the corporate debtor, for the benefit of a creditor or surety or guarantor, for or on account of an antecedent financial debt or operational debt or other liability owned by the corporate debtor; [Section 43(2)]
(b)   such transfer has the effect of putting such creditor or surety or guarantor in a beneficial position than it would have been in the event of distribution of assets in accordance with Section 53 of the Code; [Section 43(2)] and
(c)   such transaction has been carried out during the period of two years preceding the CIRP commencement when the beneficiary is a related party (other than by reason only of being an employee), or [Section 43(4)]
(d)   in case of an unrelated party, during the period of one year preceding the CIRP. [Section 43(4)]

The Supreme Court has clarified that when analysing preferential transactions under the Code, intent of the parties for ascertaining fraudulent transactions is immaterial.

 

 The Apex Court held as under:-

(a)   Though there is no direct creditor-debtor relationship between JIL and the lenders of JAL, it is true that the ultimate beneficiary of the mortgage transactions which created security interest which benefitted JAL.
(b)   JAL had admitted to providing financial, technical and strategic support to JIL and was owed operational debt, therefore, JIL owed antecedental financial debts as also operational debts and other liabilities to JAL.
(c)   In case JIL went into liquidation, then JAL was an operational creditor of JIL and it would have stood at a much lower priority in terms of getting the money. Thus, the said transactions put JAL in an advantageous position in relation to other creditors.
(d)   The mortgage transactions took place within the look-back period of two years since JAL was a related party of JIL.
(e)   The mortgage transaction was not carried out in the ordinary course of business, as at the relevant time JIL was under tremendous financial stress and, therefore, could not have been providing mortgages to secure finances of its holding company.

In view of the afore-stated facts, the Apex Court while overturning NCLAT's order held the mortgage transactions on grounds of being preferential transactions without considering it necessary to deal with the potentially fraudulent and undervalued nature of those transactions

 
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