NCLAT Upholds Section 66 IBC: Corporate Debtor Must Restore Rs 3.18 Crore Fraudulent Transactions
The National Company Law Appellate Tribunal (NCLAT), New Delhi, in Gopal Kalra v. Akhilesh Kumar Gupta (Company Appeal (AT) (Ins.) No. 567 of 2024), upheld the order of the National Company Law Tribunal (NCLT) directing the appellant to contribute Rs. 3.18 crores to the assets of the corporate debtor. The bench comprising Justice Rakesh Kumar Jain (Judicial Member), Mr. Naresh Salecha (Technical Member), and Mr. Indevar Pandey (Technical Member) affirmed that once transactions are declared fraudulent under Section 66 of the Insolvency and Bankruptcy Code, 2016 (IBC), the Adjudicating Authority has the power to direct restoration of the demonstrated financial loss to the corporate debtor's assets. The judgment reinforces the importance of the avoidance framework under the IBC in protecting creditor interests against fraudulent transactions.
The Avoidance Framework Under the IBC
The Insolvency and Bankruptcy Code, 2016 contains a comprehensive avoidance framework designed to protect the value of the corporate debtor's estate for the benefit of all stakeholders. Sections 43 to 51 and Section 66 form the core of this framework. Section 43 deals with preferential transactions, Section 45 addresses undervalued transactions, and Section 50 covers extortionate credit transactions. These provisions collectively empower the resolution professional or liquidator to identify and challenge transactions that have diminished the corporate debtor's assets or were conducted with fraudulent intent.
Section 66(1) of the IBC specifically addresses fraudulent trading. It provides that if, during the corporate insolvency resolution process (CIRP) or a liquidation process, it is found that any business of the corporate debtor has been carried on with intent to defraud creditors or for any fraudulent purpose, the Adjudicating Authority may, on application by the resolution professional or liquidator, direct any persons who were knowingly parties to the carrying on of such business to make contributions to the assets of the corporate debtor as it may deem fit.
Section 66(2) addresses wrongful trading, providing that where a director or partner of the corporate debtor knew or ought to have known that there was no reasonable prospect of avoiding insolvency and did not exercise due diligence to minimise potential losses to creditors, the Adjudicating Authority may direct such director or partner to make contributions to the corporate debtor's assets. The provision thus serves a dual purpose: it addresses both intentional fraud under sub-section (1) and negligent conduct under sub-section (2).
Facts of the Case
The present appeal was filed under Section 61 of the IBC against an order passed by the NCLT in an Interlocutory Application filed by the Resolution Professional. The application sought to hold the appellant accountable for fraudulent transactions identified through a forensic audit of the corporate debtor's books of accounts.
The forensic audit revealed a pattern of suspicious financial entries relating to the purchase and sale of LED bulbs. The audit uncovered purchases of Rs. 9.33 crores and sales of Rs. 9.88 crores, which were subsequently nullified through the issuance of debit notes amounting to Rs. 6.28 crores and credit notes amounting to Rs. 10.06 crores. Despite this systematic offsetting in the books of accounts, actual payments to the tune of Rs. 3.43 crores had been disbursed to fictitious vendors, while Rs. 0.52 crores remained outstanding and to be recovered from fictitious customers. The net financial loss to the corporate debtor was accordingly computed at Rs. 3.18 crores.
The appellant contended that the transactions, while perhaps constituting poor business decisions, did not amount to fraud in the absence of actual loss or allegations of siphoning of funds. It was argued that the goods were taken on credit with payment contingent on sales, and therefore no genuine loss was caused to the bank or the corporate debtor. The respondent (the liquidator, Mr. Akhilesh Kumar Gupta, appearing in person) submitted that the appellant had failed to provide any explanation for the suspicious purchase and sale transactions flagged by the forensic auditor. It was contended that the appellant had entered into transactions with fictitious and non-existent entities through deliberate and wilful misconduct, as confirmed by the audit report and by on-ground verification conducted by the auditor.
Key Holdings of the NCLAT
1. Forensic Audit Established Real Financial Loss, Not Notional Loss
The NCLAT noted that the forensic audit clearly revealed a net financial loss of Rs. 3.18 crores to the corporate debtor, thereby debunking the appellant's claim that the loss was merely notional. The issuance of debit and credit notes in the absence of stock and delivery records, combined with dealings with parties that were non-existent upon on-ground verification, clearly indicated a fraudulent scheme to fabricate business activity. The Tribunal held that mere assertions of commercial intent or a revival strategy cannot stand against proven evidence that no genuine trade occurred. The distinction between a notional loss and an actual loss was critical: the money had physically exited the corporate debtor's accounts and was paid to fictitious vendors with no corresponding return in the form of goods, cash, or receivables.
2. Adjudicating Authority's Power to Direct Restoration of Assets
The NCLAT upheld the NCLT's order directing the appellant to contribute Rs. 3.18 crores to the assets of the corporate debtor. The Tribunal affirmed that once transactions are declared fraudulent under Section 66 of the IBC, the Adjudicating Authority can pass an appropriate order directing the restoration of the demonstrated loss. The computation of the restoration amount was found to be precise, based on actual outflows rather than assumptions, and reflected funds that had exited from the corporate debtor's accounts without any corresponding return. The Adjudicating Authority had also noted the appellant's failure to provide any records substantiating genuine trade or to disprove the claim that the counterparty entities were fictitious.
3. Restoration Order Is Restorative, Not Punitive
The NCLAT emphasised that the direction to contribute Rs. 3.18 crores towards the assets of the corporate debtor cannot be categorised as punitive in nature. Rather, the order was issued with the sole purpose of recovering the demonstrated financial loss suffered by the corporate debtor's estate. This distinction is significant because it clarifies the remedial character of orders under Section 66: they are aimed at restoring the value of the corporate debtor's estate for the benefit of creditors, rather than imposing a penalty or fine on the wrongdoer. The order focused solely on restoring the estate and was calculated with reference to the actual financial loss identified through the forensic audit process.
4. NCLT's Factual Findings and Appreciation of Law Upheld
The NCLAT concluded that the Adjudicating Authority had passed the impugned order based on a proper appreciation of both the facts and the applicable law. The forensic audit findings, the absence of stock and delivery records, the non-existence of counterparties as established through on-ground verification, and the actual outflow of funds all collectively supported the finding of fraudulent trading under Section 66. The NCLAT found no reason to interfere with the well-reasoned order of the NCLT and accordingly dismissed the appeal.
Practical Implications
This judgment carries several important takeaways for insolvency practitioners, corporate debtors, and their former directors and management:
The ruling reinforces the independent scope of Section 66 of the IBC as a powerful tool for recovering assets lost through fraudulent trading. Resolution professionals and liquidators should proactively commission forensic audits and file avoidance applications where the evidence supports findings of fraudulent transactions.
The NCLAT's holding that mere assertions of commercial intent or revival strategy cannot override proven evidence of fictitious transactions sets a high evidentiary bar for defendants. Parties against whom avoidance applications are filed must be prepared to produce concrete documentary evidence, including stock records, delivery challans, and verifiable proof of the existence and legitimacy of counterparties.
The clarification that orders under Section 66 directing contributions to the corporate debtor's assets are restorative, not punitive, is important. This means that the quantum of the contribution will be anchored to the demonstrated financial loss rather than being set at a deterrent or exemplary level.
The forensic audit proved critical in establishing the fraudulent nature of the transactions. Companies undergoing insolvency proceedings should expect their financial records to be thoroughly scrutinised. Any attempt to fabricate business activity through fictitious entities, whether through circular trading, bogus purchase-sale entries, or manufactured debit and credit notes, will be identified and treated as fraud under Section 66.
The judgment also highlights the significance of on-ground verification conducted by auditors. It is not sufficient for entities named in the corporate debtor's books to merely exist on paper; auditors will verify their physical existence and operational status, and findings of non-existence will be treated as strong evidence of fraud.
Conclusion
The NCLAT's decision in Gopal Kalra v. Akhilesh Kumar Gupta provides important clarity on the operation of Section 66 of the IBC. By upholding the NCLT's order directing restoration of Rs. 3.18 crores, the Tribunal has reinforced that the IBC's avoidance framework is a robust mechanism for protecting creditor interests against fraudulent transactions. The judgment sends a clear message that forensic audits will be accorded due weight by tribunals, that transactions with fictitious entities will be treated as fraudulent, and that parties involved in fabricating business activity will be held accountable for the resulting financial losses to the corporate debtor's estate. For insolvency professionals, this decision provides a strong precedent to pursue avoidance applications under Section 66 with confidence when backed by credible forensic audit evidence.
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