Distribution of Assets under IBC

The Insolvency and Bankruptcy Code, 2016 (IBC) is one of the most important reforms in India’s commercial and financial law system. It was enacted to create a unified legal framework for insolvency and bankruptcy matters, replacing a patchwork of old and inconsistent laws. The Code aims to ensure faster resolution of insolvency cases, improve credit recovery, and enhance investor confidence.

One of the most crucial parts of the Code is the process of distribution of assets during liquidation. When a company fails to recover through the Corporate Insolvency Resolution Process (CIRP) and is ordered to be liquidated, its assets are sold and distributed among creditors. This distribution follows a specific order of priority known as the “waterfall mechanism”, governed by Section 53 of the IBC.

This article explains the framework, procedure, and legal principles involved in the distribution of assets under IBC in simple and clear language.

Purpose of Distribution under Section 53 of IBC

Section 53 of the Code ensures a fair and transparent mechanism for distributing the liquidation proceeds of a company. Before the IBC, there were multiple laws governing the order of priority, such as the Companies Act, the SARFAESI Act, and the Recovery of Debts Act. Each law gave preference to different types of creditors, leading to confusion and long delays.

The IBC resolved this inconsistency by creating a single, uniform priority system. The purpose of Section 53 is:

• To establish a clear hierarchy among creditors.
• To ensure transparency and fairness in payment.
• To promote certainty and predictability in the liquidation process.
• To balance the interests of workmen, secured creditors, financial institutions, and the government.

This unified approach helps maintain trust in the insolvency process and strengthens India’s financial ecosystem.

Statutory Basis – Section 53 of the IBC

Section 53 of the Insolvency and Bankruptcy Code provides the legal foundation for distribution of assets during liquidation. The section begins with a non-obstante clause, which means it overrides any other law that may conflict with it.

It lays down that the proceeds from the sale of liquidation assets shall be distributed in the following order of priority and within such period and manner as may be specified by the Insolvency and Bankruptcy Board of India (IBBI).

Waterfall Mechanism: Order of Priority

Section 53 introduces the “waterfall mechanism”—a structured order that determines how the proceeds from the sale of a company’s assets are distributed among different classes of stakeholders. Higher-ranking creditors are paid in full before any funds are allocated to lower-ranking ones.

The order is as follows:

Insolvency Resolution and Liquidation Costs

These costs are at the top of the waterfall. They must be paid in full before any other dues.

They include:

• Fees and expenses of the insolvency professional.
• Remuneration of the liquidator.
• Costs related to preserving, managing, or protecting the assets.
• Any other expenses necessary to complete the liquidation process.

This ensures that professionals managing the process are compensated, allowing the liquidation to proceed efficiently.

Workmen’s Dues and Secured Creditors (Who Relinquish Security)

The next level includes two categories that rank equally:

• Workmen’s dues for the 24 months preceding the liquidation commencement date.
• Secured creditors who voluntarily give up their security interest and opt to participate in the liquidation pool.

This equal ranking protects workers’ rights while also recognising the claims of secured financial institutions. If funds are insufficient, both groups share proportionately.

Employees’ Dues (Other than Workmen)

The third level includes wages and unpaid dues owed to employees other than workmen for the 12 months preceding the liquidation commencement date. This covers managerial or administrative employees who do not fall within the definition of “workmen”.

Unsecured Financial Creditors

Creditors who have extended loans or financial assistance without any security fall under this category.

They are paid after secured creditors and employees. The inclusion of unsecured creditors before government dues promotes private financing and strengthens India’s bond market.

Government Dues and Remaining Secured Debts

This category consists of:

• Dues payable to the Central and State Governments for the two years preceding the liquidation commencement date.
• Any unpaid balance of secured creditors who enforced their security interest but could not recover the full amount.

Both these sub-categories rank equally. The decision to place government dues below unsecured creditors was deliberate—it signals to investors that India prioritises repayment of private debts to improve credit availability.

Remaining Debts and Dues

All other debts and obligations not covered above are included in this category. This may include unpaid operational debts, trade creditors, and miscellaneous claims.

Preference Shareholders

After all debts are settled, preference shareholders are paid from any remaining amount. Their right of payment ranks above that of equity shareholders.

Equity Shareholders or Partners

Equity shareholders or partners are at the bottom of the waterfall. They receive the balance amount, if any, after all other claims have been paid. In most cases, there are no funds left at this stage.

Sub-Section (2): Disregard for Conflicting Agreements

Section 53(2) states that any contractual arrangements between creditors or claimants that disturb the statutory order of priority will be disregarded by the liquidator.

This provision ensures:

• Equality within each class of creditors.
• Prevention of private agreements that undermine statutory fairness.
• Consistent treatment of all stakeholders as per the Code.

Sub-Section (3): Deduction of Liquidator’s Fees

The fees payable to the liquidator are deducted proportionately from the proceeds payable to each class of recipients.
This ensures that the cost of liquidation is shared fairly across all claimants.

Explanation to Section 53

The Explanation appended to Section 53 provides two important clarifications:

1. Equal Treatment Within a Class: If the proceeds are insufficient to pay a class of creditors in full, each creditor within that class will be paid in equal proportion. No creditor within the same class is given preferential treatment.
2. Meaning of Workmen’s Dues: The term “workmen’s dues” has the same meaning as under Section 326 of the Companies Act, 2013, which includes wages, salaries, gratuity, provident fund, and other employment-related benefits.

Regulations Related to Sale of Assets

For the actual sale of assets, the Liquidation Process Regulations issued by the IBBI play an important role.

Regulation 32: Methods of Sale

A liquidator may sell the assets of the corporate debtor through:

• Sale of an asset on a standalone basis.
• Sale of assets collectively or in parcels.
• Slump sale (sale of business as a whole).
• Sale of the company or its business as a going concern.

This flexibility ensures maximum value realisation for the assets.

Regulation 33: Mode of Sale

The sale can be conducted by auction or private sale.
Private sale is allowed only in special cases such as when:

• The asset is perishable or likely to deteriorate in value.
• The private sale offers a higher price than a failed auction.
• The Adjudicating Authority grants prior permission.

The liquidator cannot sell to a related party without approval from the National Company Law Tribunal (NCLT).

Judicial Interpretations on Distribution and Sale

Judicial decisions have played a significant role in interpreting the provisions of Section 53 and related regulations.

Om Prakash Agarwal v. Chief Commissioner of Income Tax (TDS)

In this case, the liquidator objected to deduction of Tax Deducted at Source (TDS) from sale proceeds during liquidation, arguing that government dues cannot be collected before distribution under Section 53.

The Adjudicating Authority held that TDS deductions do not violate Section 53 because they are not a demand for tax recovery. Government dues under Section 53 apply only when the government acts as a creditor.

Significance: This case clarified that TDS deduction does not interfere with the priority order of claims.

Alchemist Asset Reconstruction Co. Ltd. v. Moser Baer India Ltd.

The liquidator sought permission for a private sale of assets. The NCLT observed that when assets are perishable or likely to lose value quickly, prior permission is not mandatory.

Requiring approval could delay the process and reduce the value of assets.

Significance: This case emphasised the importance of commercial prudence and quick decision-making by the liquidator.

R.K. Industries (Unit-II) LLP v. H.R. Commercials Pvt. Ltd.

The Supreme Court held that once the liquidator has obtained NCLT approval for a particular mode of sale, the NCLAT cannot suo motu review that decision.

The Court recognised the liquidator’s commercial discretion and limited the scope of appellate interference.

Significance: This ruling strengthened the liquidator’s authority and ensured stability in the sale process.

S.S. Chockalingam v. C.A. Mahalingam Suresh Kumar

An H1 bidder failed to pay the full bid amount within the prescribed period. The liquidator cancelled the sale and sold the asset to the second-highest bidder.

The NCLT held that the IBC does not allow extension of payment timelines in auction processes.

Significance: The decision highlighted that auction timelines must be strictly followed to maintain credibility in liquidation proceedings.

Conclusion

The distribution of assets under the Insolvency and Bankruptcy Code represents one of the most structured and transparent systems in Indian commercial law. By introducing a single waterfall mechanism under Section 53, the Code has brought predictability and fairness to liquidation proceedings.

It ensures that those who contribute to a company’s growth—workers, employees, and financial institutions—are given due priority, while maintaining a balance with government and shareholder interests.

Section 53 not only protects creditors but also reinforces the principle that insolvency is a process of equitable resolution, not punishment. It remains a cornerstone in achieving the IBC’s goal of speedy, fair, and efficient insolvency resolution in India.