India: Preferential Payments On Winding Up Of The Company

Last Updated: 7 January 2014
Article by Karan Gandhi

Most Read Contributor in India, September 2016

Section 530 under the Chapter V of Part VII of the Companies Act, 1956 provides for the sequence of the payments which shall be made in the course of winding up of a company. However, Section 529A is an exception to Section 530 which starts with a notwithstanding clause providing for the overriding preferential payments. Section 529A was introduced in the Companies Act, 1956 by the Companies (Amendment) Act, 1985 in order to provide a protection to the workmen and the secured lenders of the Companies. Sub Section 2 of Section 529A further provides that 'the debts payable to the workmen and secured creditors of the Company shall be paid in full, unless the assets are insufficient to meet them, in which case they shall abate the equal proportions'.

Similar to the provisions above, where a claimant has proceeded with filing its claim with the Debt recovery tribunal under the provisions of Recovery of Debts Due to Banks and Financial Institutions Act, 1993 Section 19 (19) of this Act provides that where a certificate of recovery is issued against a company registered under the Companies Act, 1956, the Tribunal may order the sale proceeds of such company to be distributed among its secured creditors in accordance with the provisions of section 529A of the Companies Act, 1956 and to pay the surplus, if any, to the company.

However, comparing the above two stated provisions of the Companies Act, 1956 and the Recovery of Debts Due to Banks and Financial Institutions Act, 1993, ambiguity lied on the fact that in case the Company is under the course of winding up, who shall be the appropriate authority to decide on the distribution to settle the claims and in case, the Company is not in the course of winding up but after paying its debts to the secured creditors who applied under the Recovery of Debts Due to Banks and Financial Institutions Act, 1993 to the tribunal for the recovery and the settlement was made, who shall be settled on priority.

Hon'ble Supreme Court of India recently in the case of Bank of Maharashtra v Pandurang Keshav Gorwardkar & Ors reported in 2013(4)ABR390, decided this issue. In this case, the counsel appearing for the bank argued that unless an order of winding up was made and the liquidator or the provisional liquidator has been appointed and all the steps as provided in Sections 443 to 450 and 456 (dealing with the winding up) are taken, it cannot be said that Company is in winding up and until the Company is in winding up, the workmen of the Company have no claims on the assets of the Company nor do they have any locus to approach the DRT to participate in a proceeding filed by a bank or financial institution; they are not creditors secured or otherwise. The only remedy that the workmen have is to approach the appropriate Court e.g., Industrial Tribunal etc., for determination and realization of their dues. Section 19(19) of the 1993 Act and Section 529A of the Companies Act do not help the workmen as they are not secured creditors. However, where the order of winding up has been made and liquidation proceedings started against a Company, in such a case the liquidator would be control of all the assets of company. But in view of exclusive jurisdiction conferred on DRT,no leave of the Company Court needs to be taken by DRT for adjudication under Section 17 and execution of the recovery certificate issued under the 1993 Act. However, while allowing the appeal the Hon'ble Supreme Court in the present case held as follows:

  1. If the debtor company is not in liquidation nor any provisional liquidator has been appointed and merely winding up proceedings are pending, there is no question of distribution of sale proceeds among secured creditors in the manner prescribed in Section 19(19) of the 1993 Act.
  2. Where a company is in liquidation, a statutory charge is created in favour of workmen in respect of their dues over the security of every secured creditor and this charge is pari passu with that of the secured creditor. Such statutory charge is to the extent of workmen's portion in relation to the security held by the secured creditor of the debtor company.
  3. The above position is equally applicable where the assets of the debtor company have been sold in execution of the recovery certificate obtained by the bank or financial institution against the debtor company when it was not in liquidation but before the proceeds realized from such sale could be fully and finally disbursed, the company had gone into liquidation. In other words, pending final disbursement of the proceeds realized from the sale of security in execution of the recovery certificate issued by the debt recovery tribunal, if debtor company becomes company in winding up, Section 529A read with Section 529(1)(c) 529(3)(c) proviso come into operation and statutory charge is created in favour of workmen in respect of their dues over such proceeds.
  4. The relevant date for arriving at the ratio at which the sale proceeds are to be distributed amongst workmen and secured creditors of the debtor company is the date of the winding up order and not the date of sale.
  5. The conclusions (ii) to (iv) shall be mutatis mutandis applicable where provisional liquidator has been appointed in respect of the debtor company.
  6. Where the winding up petition against the debtor company is pending but no order of winding up has been passed nor any provisional liquidator has been appointed in respect of such company at the time of order of sale by DRT and the properties of the debtor company have been sold in execution of the recovery certificate and proceeds of sale realized and full disbursement of the sale proceeds has been made to the concerned bank or financial institution, the subsequent event of the debtor company going into liquidation is no ground for reopening disbursement by the DRT.
  7. However, before full and final disbursement of sale proceeds, if the debtor company has gone into liquidation and a liquidator is appointed, disbursement of undisbursed proceeds by DRT can only be done after notice to the liquidator and after hearing him. In that situation if there is claim of workmen's dues, the DRT has two options available with it. One, the bank or financial institution which made an application before DRT for recovery of debt from the debtor company may be paid the undisbursed amount against due debt as per the recovery certificate after securing an indemnity bond of restitution of the amount to the extent of workmen's dues as may be finally determined by the liquidator of the debtor company and payable to workmen in the proportion set out in the illustration appended to Section 529(3)(c) of the Companies Act. The other, DRT may set apart tentatively portion of the undisbursed amount towards workmen's dues in the ratio as per the illustration following Section and disburse the balance amount to the applicant bank or financial institution subject to an undertaking by such bank or financial institution to restitute the amount to the extent workmen's dues as may be finally determined by the liquidator, falls short of the amount which may be distributable to the workmen as per the above illustration. The amount so set apart may be disbursed to the liquidator towards workmen's dues on ad hoc basis subject to adjustment on final determination of the workmen's dues by the liquidator.
  8. The first option must be exercised by DRT only in a situation where no application for distribution towards workmen's dues against the debtor company has been made by the liquidator or the workmen before the DRT.
  9. Where the sale of security has been effected in execution of recovery certificate issued by the DRT under the 1993 Act, the distribution of sale proceeds has to be made by the DRT alone in accordance with Section 529A of the Companies Act and by no other forum or authority.
  10. The workmen of the company in winding up acquire the standing of the secured creditors on and from the date of winding up order (or where provisional liquidator has been appointed, from the date of such appointment) and they become entitled to the distribution of sale proceeds in the ratio as explained in the illustration appended to Section 529(3)(c) of the Companies Act.
  11. Section 19(19) of the 1993 Act does not clothe DRT with jurisdiction to determine the workmen's claim against the debtor company. The adjudication of workmen's dues against the debtor company in liquidation has to be made by the liquidator. In other words, once the company is in winding up the only competent authority to determine the workmen's dues is the liquidator who obviously has to act under the supervision of the company court and by no other authority.
  12. Section 19(19) is attracted only where a debtor company is in winding up or a provisional liquidator has been appointed in respect of such company. If the debtor company is not in liquidation or if in respect of such company no order of appointment of provisional liquidator has been made and merely winding up proceedings are pending, the question of distribution of sale proceeds among secured creditors in the manner prescribed in Section 19(19) of the 1993 Act does not arise.


Therefore, it is the settled position of Law that where a winding up petition against a debtor company is pending and a bank or financial institution has been repaid its loans following an order of sale by a Debt Recovery Tribunal, the disbursements made by the Debt Recovery Tribunal cannot be reopened when the debtor company subsequently goes into liquidation. However, if the debtor company goes into liquidation before the Debt Recovery Tribunal has fully disbursed the sale proceeds, the Debt Recovery Tribunal can disburse the undisbursed proceeds only after giving notice to, and hearing, the liquidator.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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