Position of creditors

Forms of security

What are the main forms of security over moveable and immoveable property and how are they given legal effect?

The main forms of security for different classes of asset include:

  • mortgage – mortgages create security over immovable properties and are governed by the Transfer of Property Act 1882. However, it is judicially recognised that a mortgage can also be created on movable assets;
  • hypothecation – a charge by way of hypothecation which is in the nature of a floating charge may be created on movable assets (both fixed and current assets, but not shares) under the general law of contracts; and
  • pledge – security over shares may be created by way of a pledge, which involves deposit of share certificates for physical shares or deposit instructions with depository for dematerialised shares.

Ranking of creditors

How are creditors’ claims ranked in insolvency proceedings?

In case of liquidation of a company, the following waterfall is followed for the distribution of proceeds arising out of the sale of assets:

  • cost of the insolvency resolution process and liquidation;
  • secured creditors (which choose to relinquish their security enforcement rights and workers’ dues for a period of 24 months preceding the liquidation commencement date);
  • wages and unpaid dues of employees (other than workers) for a period of 12 months preceding the liquidation commencement date;
  • financial debts owed to unsecured creditors;
  • statutory dues to be received on account of a consolidated fund of India or a consolidated fund of a state (relating to a two-year period, in whole or in part, preceding the liquidation commencement date) and debts of secured creditors (which remain unpaid after separately enforcing security on assets secured in their favour);
  • remaining debts and dues;
  • dues of preference shareholders; and
  • dues of equity shareholders or partners.

Can this ranking be amended in any way?

This ranking is prescribed by the Insolvency and Bankruptcy Code and cannot be amended. The liquidator who is responsible for distribution of liquidation proceeds is bound by the waterfall. However, any party may contractually agree to relinquish its claims or offer the proceeds payable to it to some other creditor. Nonetheless, the liquidator is not a party to or bound by any such arrangement. 

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