Pranav B Prem

The National Company Law Tribunal (NCLT), Hyderabad Bench, has held that a person who merely mortgages his property as collateral security, without advancing any money to the borrower, cannot be treated as a financial creditor under the Insolvency and Bankruptcy Code, 2016 (IBC). Dismissing an insolvency application, the Tribunal clarified that the existence of a financial debt necessarily requires disbursal of money against consideration for the time value of money.

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The Bench comprising Judicial Member Rajeev Bhardwaj and Technical Member Sanjay Puri observed that a mortgage by itself only creates a security interest and does not result in a debtor–creditor relationship in the absence of any lending or guarantee obligation. The Tribunal stated that insolvency jurisdiction cannot be invoked unless the statutory ingredients of a financial debt are strictly satisfied.

The ruling was delivered in insolvency proceedings initiated by P.L. Srinivas Reddy against Techtrans Constructions India Pvt. Ltd. Reddy contended that he stepped into the shoes of a financial creditor after mortgaging his personal properties to secure credit facilities availed by the company. He argued that by offering his property as security and by making partial payments during recovery proceedings, he acquired the status of a creditor entitled to initiate insolvency proceedings.

The Tribunal, however, found that the credit facilities in question were sanctioned by State Bank of India directly in favour of the corporate debtor. An equitable mortgage by deposit of title deeds of Reddy’s personal property was created on March 12, 2013, solely as collateral security for loans exceeding ₹100 crore. Crucially, no amount was disbursed by Reddy to the company, nor was there any guarantee deed or contractual covenant imposing repayment liability on him.

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After the company defaulted in March 2023, SBI initiated recovery proceedings and issued a sale notice in respect of the mortgaged property. Reddy approached the Debts Recovery Tribunal, which granted interim protection subject to deposit of ₹2 crore. It was noted that he deposited only ₹1.5 crore, falling short of the condition imposed by the DRT.

Rejecting Reddy’s claim of being a financial creditor, the Tribunal held that mere creation of a mortgage does not amount to lending. It observed that unless the mortgage deed creates a primary obligation on the borrower to repay the mortgagor, or unless money is actually disbursed, no financial debt can arise. The Tribunal further clarified that part payment during recovery proceedings does not confer the right of subrogation, unless the entire debt owed to the original lender is discharged.

“A person who merely mortgages his property as collateral security does not become a creditor of the borrower in the absence of having advanced money,” the Tribunal observed. It further held that a mortgage deed, in the absence of disbursal or a covenant creating a debt obligation, does not by itself create a financial debt under the IBC.

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The Tribunal also cautioned against misuse of insolvency proceedings, observing that the IBC is not intended to be used as a defensive mechanism to obstruct lawful recovery proceedings. It emphasised that insolvency jurisdiction cannot be invoked as a substitute for recovery actions or to stall enforcement of security interests by secured lenders. Holding that there was no financial debt within the meaning of Section 5(8) of the IBC, the Tribunal dismissed the insolvency application. Taking note of the abuse of process, it imposed costs of ₹5 lakh on the applicant.

Appearance

For Applicant: Advocates VK Sajith, V Ravi Kumar, Ramalakshmi instructed by One Law

For Respondent: Advocate Prem Kumar Bothra

Cause Title: PL Srinivas Reddy vs. Techtrans Constructions India Pvt Ltd

Case No: CP (IB)/186/7/HDB/2024

Coram: Judicial Member Rajeev Bhardwaj, Technical Member Sanjay Puri