NCLAT Delhi: Proceedings U/S 66 Of IBC For Fraudulent Or Wrongful Trading Can Be Initiated Against Third Parties

Background Facts:

Royal Refineries Pvt. Ltd. (Corporate Debtor) was involved in trading bullion, importing and exporting gold after manufacturing activities and engaging in the local gold market, faced significant disruption in its business operations due to a search by the Department of Revenue Intelligence (“DRI”) in May 2019. Consequently, its business was virtually halted from May 2019 onward.

On 13.11.2019, the Corporate Debtor was admitted into the Corporate Insolvency Resolution Process (“CIRP”). During the CIRP, the Resolution Professional (“RP”) filed an application before NCLT Mumbai under Section 66 with Section 26 of IBC arguing that transactions totaling Rs. 158.07 crores the Corporate Debtor and Royal India Corporation Limited (Appellant) fell within the purview of Section 66 of the IBC.

NCLT Mumbai in its Order dated 07.01.2021 based on documents seized by the DRI, found that there was a balance of Rs. 158.07 crores due from the Appellant to the Corporate Debtor and directed the Appellant to return Rs. 119.08 crores to the Corporate Debtor's accounts. The Appellant has filed the appeal against the said Order of NCLT Mumbai.

NCLAT Verdict:

The NCLAT Delhi dismissed the appeal and held that proceedings under Section 66 of IBC for fraudulent or wrongful trading can be initiated against third parties.

The Appellate Tribunal noted that the RP was unable to find any books of account or documents for the period from May 2019, when the DRI search occurred, until the initiation of the CIRP on 13.11.2019. Additionally, the Statutory Auditor reported that the books of account were not made available to conduct the statutory audit. The RP informed the Committee of Creditors that there were no corresponding assets or inventory with the Corporate Debtor. Consequently, an application under Section 66 of the IBC was filed, indicating that the RP had adhered to Regulation 35A of the CIRP Regulations, 2016.

NCLAT observed that under Section 66(1) of the IBC, the Adjudicating Authority has the power to issue an order against "any person" involved in conducting the business of the Corporate Debtor in a way that defrauds its creditors or serves any fraudulent purpose. Such individuals can be held liable to contribute to the assets of the Corporate Debtor as deemed appropriate by the authority. A plain interpretation of this provision indicates that action can be taken against 'any person' to recover amounts associated with fraudulent transactions.

It observed that the Customs Department found that both the Appellant and the Corporate Debtor were managed by Mr. Manoj Punamia and his wife, who were shareholders of the Appellant Company. Therefore, the Appellant cannot be considered a third party, as both entities were under the same management.

NCLAT pointed out that during the DRI's search, documents and accounts were found indicating that the Appellant owed Rs. 158.07 crores to the Corporate Debtor. However, through entries showing the sale of gold to the Corporate Debtor, this outstanding amount was reduced to Rs. 31 crores. The situation demonstrates how the outstanding amount of approximately Rs. 158 crore was reduced to Rs. 31 crore through alleged entries, thereby decreasing the amount due to the Corporate Debtor and reducing the likelihood of recovery, which caused a loss to the Corporate Debtor's creditors.

In conclusion, NCLAT noted that NCLT Mumbai's Order dated 07.01.2021 was correct since Section 66 of IBC empowers the Adjudicating Authority to order recovery from such fraudulent transactions as a contribution to the Corporate Debtor's assets and the same has been upheld by the Supreme Court in its decision in Phoenix Arc (P) Ltd. vs. Spade Financial Services Ltd..

Case Title: Royal India Corporation Ltd. vs. Mr. Nandkishor Vishnupant Deshpande, RP of Royal Refinery Pvt. Ltd. and Ors.

Case No.: Comp. App. (AT) (Ins) No. 137 of 2021

Counsel for Appellant: Mr. Sanchar Anand, Ms. Deeksha Gaur and Mr. Arjun, Advocates.

Counsel for Respondent: Mr. Kaustav Som, Mr. Arpit Lahoti, Advocates for R1. Mr. Saurabh Ajay Gupta, Mr. Nishant Bishnoi, Ms. Srishti Prabhakar, Advocate for R-2 & 3.

Click here to Read/Download Order