Section 166 of the Insolvency and Bankruptcy Code, 2016: Effect of Order

Section 166 governs the effect of orders made in relation to undervalued transactions and preference transactions. It provides safeguards for qualifying good-faith third parties and addresses sums recovered for the bankrupt's estate.

Scope: This provision concerns orders under Section 164 and Section 165. The application of Part III bankruptcy provisions depends on the relevant commencement notifications and debtor category; they should not be assumed to apply to every individual insolvency case.

Section 166: Statutory provisions explained

Sub-section (1): General protection

Subject to sub-section (2), an order under Section 164 or Section 165 does not create a right against a person interested in property acquired through an undervalued or preferential transaction. It also does not require a person to pay the bankruptcy trustee for a benefit received through such a transaction. The protection is framed to cover persons whether or not they directly dealt with the bankrupt.

Sub-section (2): Five cumulative conditions

The protection under sub-section (1) applies only where the interest was acquired or benefit received:

In good faith;
For value;
Without notice that the bankrupt entered into an undervalued or preferential transaction;
Without notice that an application for bankruptcy had been filed or a bankruptcy order had been passed; and
By a person who was not an associate of the bankrupt at the relevant time.

Sub-section (3): Amounts forming part of the estate

Any sum required to be paid to the bankruptcy trustee under the provision is to be included in the estate of the bankrupt. The statutory wording refers to sums required under sub-section (1), and should be read in the context of the full provision and any applicable judicial interpretation.

What does the effect-of-order rule mean?

Sections 164 and 165 permit a bankruptcy trustee to seek orders setting aside certain transactions or restoring the estate. Section 166 limits the consequences of such orders for a person who meets all five protective conditions. It balances recovery for creditors with the protection of bona fide dealings.

Understanding the five safeguards

Good faith concerns honest conduct in acquiring the interest or benefit. For value means that consideration was provided, rather than merely receiving a gratuitous benefit. Notice is relevant both to the nature of the original transaction and to the bankruptcy application or order. Finally, a person who was an associate of the bankrupt when the interest or benefit was acquired cannot claim the protection under Section 166(2).

Illustrative example

Suppose a bankrupt transferred property to one person in a transaction later challenged as undervalued. A subsequent purchaser acquired an interest for genuine consideration, in good faith, without the specified notice and without being an associate of the bankrupt. Section 166 may protect that purchaser against the effects described in sub-section (1). The outcome depends on evidence and the Adjudicating Authority's findings.

Frequently asked questions

Does Section 166 automatically protect every buyer?

No. All five conditions under Section 166(2) must be satisfied for the statutory protection to apply.

Does Section 166 apply to undervalued and preferential transactions?

Yes. It addresses the effect of orders passed under Sections 164 and 165.

Can an associate of the bankrupt rely on Section 166(2)?

No. The person must not have been an associate of the bankrupt when the interest was acquired or the benefit was received.

Legal note: This article explains the statutory text for general information. Consult the latest notified provisions, rules, amendments and case law before relying on it in a specific proceeding.