Supreme Courts clarifies the meaning of a ‘financial’ debt in insolvency proceedings

The Supreme Court of India’s April judgment in Global Credit Capital Limited v. Sach Marketing Pvt. Ltd. goes some way towards resolving a question that professionals administering an insolvency process in India often have to grapple with: is a creditor an operational or financial creditor?


The key question before the court was whether the Respondent, Sach Marketing Pvt. Ltd. (Sach), was a ‘financial’ or ‘operational’ creditor of the bankrupt company, an alcoholic beverage manufacturer named Mount Shivalik Industries Ltd. (Shivalik). This was a contentious issue because Sach’s right to participate in the bankruptcy process and vote on the resolution plan along with the rest of the committee of creditors would depend on it being classified as a ‘financial’ creditor. As an ‘operational’ creditor it would not be entitled to participate in the process.

The dispute arose under two agreements, one from 2014 and one from 2015, under which Sach was to work as a ‘sales promoter’ to help promote the sales of beer manufactured by Shivalik.

For its work as a sales promoter, Sach would be paid a fixed INR 4000 (USD 48) per month, with no additional commission. Under the 2014 agreement, Sach would have to deposit a ‘minimum security deposit’ of INR 5.3m (USD 63,600), on which Shivalik would pay it interest at 21% per annum. The terms under the 2015 agreement were the same, except for the amount of security deposit, which was INR 3.2m (USD 39,200), though the interest that Shivalik would pay was the same 21%. The agreement did not link the forfeit of this deposit to any conditions of performance by Sach. At the end of the agreement, Shivalik had to return the entire security deposit along with the interest on this to Sach.

Sach filed its claims for a return of the security deposit as a ‘financial’ creditor, which the insolvency resolution professional refused to accept. The professional classified it as an ‘operational debt’. Sach filed an application before the National Company Law Tribunal (NCLT) challenging this classification of its claim as an ‘operational’ debt. The NCLT dismissed the challenge, which Sach appealed before the National Company Law Appellate Tribunal (NCLAT). The NCLAT allowed Sach’s appeal, and found that Sach should be treated as a financial creditor. The insolvency professional appealed this classification before the Supreme Court.

Supreme Court’s decision:

Expanding on the principles behind classification, the court said that a debt could be classified as ‘operational’ only if the claim was connected or related to the service that was part of the contract. The court looked at the definition of ‘operational’ debt under the Insolvency & Bankruptcy Code, 2016 (IBC), which said that it was a claim relating the provision of goods or services.

In the present case, the court observed that it was surprising that the payment for the service was just INR 4000 (USD 48) per month. Additionally, the ‘security deposit’ necessarily had to be paid back by Shivalik along with interest, and it was entirely unlinked to conditions of performance of service by Sach. The court noted that the security deposit had no correlation with any other clause under the agreements.

The court found that a claim for the payment of INR 4000 (USD 48), which was directly linked to the services Sach was to provide under the agreement, would be an ‘operational’ debt. However, the security deposit and interest on it had no relation to the service Sach was to provide, and could not be classified as an ‘operational’ debt. The Supreme Court agreed with the NCLAT that this was a financial debt.


The court said that the provision for interest payments represented consideration for the time value of money. The court also said that under the Insolvency & Bankruptcy Code, any transaction that had the commercial effect of borrowing was a financial debt, such as in the present case.

To back this up, the court observed that the bankrupt Shivalik had provided for the interest owed to Sach in its book of accounts, and that Sach had showed revenue from interest on the security deposit in its own financial statements. Shivalik had also treated the security deposit as long-term loans and advances in its own financial statements, making it clear that the transaction was treated as a borrowing by both parties.

Two-fold test to determine if a debt is a ‘financial’ debt:

The decision emphasizes the importance of going beyond the words of the document to determine the true nature of the transaction and to see whether in substance, a transaction had the commercial effect of a borrowing even if it was disguised otherwise.

This ruling by the Supreme Court provides a two-fold test that insolvency administrators and other legal advisors can adopt to see whether a debt is classified as ‘financial’ debt: (i) does the transaction account for the time value of money? And (ii) does the transaction have the commercial effect of borrowing?