Third-party Security Beneficiaries under the Insolvency and Bankruptcy Code

[By Akshay Dhekane]

The author is a student of National Law University, Delhi.



Professor Roy Goode has succinctly put the importance of security in banking as “vast sums of money which might not otherwise be dispensed are lent in reliance on real security over all kinds of asset, including land, goods and receivables”. However, the complexity of raising finance increases when third-party security beneficiaries are involved. A third-party security is an arrangement where the creditors receive security to secure the debt of a borrower from a third-party (generally a parent or subsidiary company). When dealing with these beneficiaries, one of the most contentious matters that arises is the determination of the status of third-party security beneficiaries. For this reason, this article will examine key cases, particularly focusing on the recent Supreme Court decision in M/S Vistra ITCL (India) Ltd & Ors. v Mr. Dinkar Venkatasubramanian & Anr (“Vistra ITCL”). The article explores a way in which third-party security beneficiaries can be treated as financial creditors. For this, it analyzes the current legal framework and expresses the needed alterations by analyzing the definition of financial debt under Section 5(8) of the IBC.

Two approaches had emerged regarding the treatment of third-party security beneficiaries. The first approach, as taken by the NCLT in SREI Infrastructure Finance Limited v Sterling International Enterprises Limited considered such creditors as financial creditors of the third-party security provider, based on the mortgagor’s liability for repaying the underlying debt. Here, the mortgagor (vide the Transfer of Property Act, 1882) was held to be obligated to repay the mortgage money hence, it was vital to recognize their security interest and treat them as a financial creditor. This approach, however, failed to gain traction and was overruled. The second approach as laid down in Anuj Jain IRP for Jaypee Infratech Limited v Axis Bank Limited (“Anuj Jain”) states that providing security does not qualify as a ‘financial debt’ under Section 5(8) of the Code, and therefore, such creditors should not be categorized as financial creditors vis-à-vis the security provider. This position was reaffirmed by the Supreme Court in Phoenix ARC Pvt. Ltd. v Ketulbhai Ramubhai Patel (“Phoenix ARC”). In Phoenix ARC, the creditor was held to be a secured creditor only against the third-party security provider. However, while treating Phoenix as a secured creditor, the scope of the decision was limited to deciding the claims only.


The recent decision of the Supreme Court in Vistra ITCL attempted to tweak the prevailing legal framework by holding Vistra (the third-party security beneficiary) to be a secured creditor and entitled to all the rights and obligations available to a secured creditor. While adjudicating the case, the court decided not to recognize Vistra as a financial creditor, citing the prevailing legal position established in Anuj Jain and Phoenix ARC. In Anuj Jain, the court held that the mortgage in that case did not create a financial debt as the definition of financial debt was interpreted in a narrow manner. In Phoenix ARC, the court held that the “pledge of shares” did not meet the criteria of constituting a “disbursement of any amount against the consideration for the time value of money.” Consequently, the pledge of shares did not fall within the purview of subclause (f) of sub-section (8) of Section 5 of the IBC.


The jurisprudence that has evolved from these cases (in a broad and abstract manner) establishes that a debt can be classified as a “financial debt” when it is disbursed against the time value of money. The courts have taken the view that the debt so “disbursed” must be towards the corporate debtor. As per Vistra ITCL, even if the corporate debtor was the direct and real beneficiary of the debt, the creditor cannot be treated as a financial creditor considering the lack of an obligation to repay, perform the promise, or discharge the liability of the borrower. The corporate debtor’s liability is distinguished and limited by the fact that it needs to have entered into a contract to perform the promise, or discharge the liability of the borrower in case of their default to make the third-party creditor to be their “financial debtor”.

The features of the expressions used in Sections 5(7) and 5(8) of the Code in defining the terms “financial creditor” and “financial debt” should be revisited. A third-party security can be treated as a financial debt under Section 5(8) of the IBC in the following ways:

For convenience, the requirements under Section 5(8) of the IBC are divided into three parts. First, it is shown that the term ‘debt’ as used in defining ‘financial debt’ includes third-party security. Second, the argument progresses to explicitly demonstrate the fulfillment of the disbursal requirement. The third part involves assessing whether this disbursement was made ‘against the consideration of the time value of money’.

a.     there exists a debt

Firstly, it needs to be noted that the definition of financial debt must be construed in an extensive manner. When the words “means and includes” are used together, they become difficult to interpret.[1] When ‘include’ is used in a definition after ‘mean’, it is used to imply a comprehensive explanation of the meaning that must be consistently associated with these words or expressions for the purposes of the Act. In Swiss Ribbons Private Limited v. Union of India (“Swiss Ribbons”) the definition of financial debt was interpreted to be an inclusive one. Further, in Nikhil Mehta & Sons v AMR Infrastructure Limited (“Nikhil Mehta) to clarify the position of homebuyers/allottees as financial creditors, the definition was read in an extensive manner. The Insolvency Law Committee hereafter the “ILC”) in its 2018 report backed the same viewpoint, deeming this definition inclusive.

A collective reading of Section 5(7), Section 5(8), and Section 3(11) of the IBC makes it clear that for someone to become a creditor, there must be a debt owed by any person, or it must be transferred or assigned. So, there is no limitation on a secured creditor owing a debt. A “secured creditor,” as defined in Section 3(30), refers to a creditor in whose favour a security interest is created, and “security interest”, in terms of Section 3(31), means “a right, title, interest, or claim of property created in favour of or provided for a secured creditor by a transaction which secures payment for the purpose of an obligation”.[2] A third party security beneficiary has a claim over the assets of the corporate debtor to secure repayment of the amount disbursed by them, thus creating a security interest. Further, the ILC Report 2020 states that a “security interest” is based on the “payment or performance of any obligation”, regardless of whether the debt is financial or operational. It highlights that the security interest is inherently linked to the underlying debt or obligation, serving to secure the due performance or payment. Additionally, it emphasizes the responsibility of the security provider to repay the debt owed by the borrower to the creditor, up to the extent of the security interest, in cases of non-payment by the borrower. If the borrower defaults, and the debt is discharged by the security provider through the security so entrusted, it ceases to be the liability of the debtor.

By considering these interpretations, the argument concludes that the security provider undertakes an obligation to repay the debt to the creditor, as secured by the security interest, in the event of default by the borrower. Thus, allowing us to consider the security beneficiary to be a creditor.

b.     there is disbursement

Secondly, as per the Black Law’s Dictionary “disbursement” means “1. The act of paying out money, commonly from a fund or in settlement of a debt or account payable. 2. The money so paid; an amount of money given for a particular purpose”.[3] Thus, disbursement would mean that the money was paid for a specific purpose. This payment constitutes a parting of funds with the creditor. In the present case, this condition is met in situations where the security beneficiary disburses assets or funds to the debtor or security provider to meet the payment obligations. However, the disbursement will also exist when the security beneficiary pays the money for the settlement of the debt of the debtor. Here, though the disbursement does not flow towards the debtor, it is for the debtor’s benefit.

In Phoenix ARC, the court highlighted the precise direction of disbursal, concluding that the creditor must channel the fund disbursal towards the corporate debtor.[4] However, placing such a blanket restriction runs counter to situations where the companies (especially in the case of parent and subsidiary companies) are closely knitted, have group centralisation and interdependence; and also when the debt so disbursed is for the real and direct benefit of the corporate debtor, as in the Vistra ITCL case. The workings of this mechanism can be developed by relying on the ‘group of companies’ doctrine. As per this doctrine, a non-signatory is held to be bound by the terms of the arbitration agreement as a signatory is in a normal course of action. Similarly, here the corporate debtor (who is the security provider) can be held liable for the actions of its subsidiary if it has benefitted from the debts. The determining factor for considering the direction of disbursement needs to be construed in a manner that looks at ‘who has actually enriched from a particular transaction’.

c.      there is time value of money

Thirdly, there needs to be a disbursement against the time value of money. The Black’s Law Dictionary has defined “time value,” as “price associated with the length of time that an investor must wait before an investment matures or the related income is earned.”[5] The NCLT in Nikhil Mehta reasoned that the concept of time value arises from the fact that future earnings from money are devalued. As a result, the investor/lender receives recompense for lending money and delaying its utilization until a later juncture (such as repayment or maturity). This can also be understood as remuneration for the opportunity cost. The underlying principle can be most sensibly construed as a transfer of consideration from the recipient of funds (debtor) to the provider of funds (financial creditor).

For the third-party security beneficiary, the time value of money can be seen in the protection and assurance of the debt repayment. By holding security, they can secure the timely receipt of payments, allowing them to access funds sooner than they would have if relying solely on the borrower’s repayment schedule, thus reducing their financial risks. The security provider, who is typically the borrower or a related party, also experiences the time value of money in this arrangement. By offering security, they provide the creditor with the confidence to extend credit or provide financial assistance. In return, the security provider may gain certain benefits, such as lower interest rates or more favorable terms on the debt. This can result in potential cost savings over time, as the overall financial obligations are reduced.

Hence, it is clear that for a security creditor to be considered a financial creditor, a lot would depend on the content of the contract through which the third-party security is provided and what could be covered using the security. However, it is also true that the strict compartmentalization drawn, thus keeping the third-party security beneficiaries out of the game, needs to be looked at. Particularly, the reasoning for distinguishing between a secured creditor and a financial creditor may not hold much water.

Lastly, the distinction between a secured and a financial creditor needs to be reconsidered. According to Swiss Ribbons, a beneficiary of third-party security cannot be classified as a ‘financial creditor’ as financial creditors play a distinct role from inception, evaluating the viability of the corporate debtor and participating in loan restructuring and business reorganization during financial distress. While secured creditors’ role was held to be limited to recovery only. This distinction is flawed as it oversimplifies the roles of financial and secured creditors. It overlooks the fact that secured creditors can also have a vested interest in the viability of the corporate debtor and actively participate in the resolution process. Additionally, the argument fails to acknowledge that financial creditors may prioritize their own stake over the revival of the corporate debtor, potentially impacting their decision-making and actions.


The interpretation of the IBC concerning the categorization of a creditor as a financial creditor or otherwise carries significant implications for a company’s financing. The Vistra ITCL case, by recognizing security providers as secured creditors, has expanded the scope and provided for clear implementation of the resolution plan against the third-party beneficiaries. This case is a welcome step as it has allowed for equal treatment of the third-party security beneficiaries. However, this expansion will make the prevailing challenges imperative to solve, like that of treatment of security creditors in terms of distribution of the liquidation value, especially considering the prevailing jurisprudence.

If a third-party security beneficiary is recognized as a financial creditor, they shall be in a better situation as they shall have a say in how the Committee of Creditors treats the assets, which are provided to them as security, and how the distribution of proceeds thereof shall occur. Since the borrower since has already defaulted, it acts as a legally prudent and equitable recourse available to these creditors.

Considering the importance that the third-party security beneficiaries play in financing the companies, it is necessary to balance their interests by considering the method proposed above.


[1] CRAISE ON STATUE LAW (Goodman and Greenberg (eds.) 7th ed. 1999.-Indian reprint, page 219)

[2] Anuj Jain Para 46.1.

[3] Disbursement, Black’s Law Dictionary (9th ed. 2009).

[4] Phoenix ARC Para 10.

[5] Time Value, Black’s Law Dictionary (9th ed. 2009).


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