Can Creditors Claim Against A Trust In India

Author: LawSphereX

Category: Corporate & Insolvency

Published: 2026-08-23T18:38:13.736Z

Updated: 2026-08-30T07:07:23.456Z

CAN CREDITORS CLAIM AGAINST A TRUST IN INDIA?

Khushi Parmar, D.Y. Patil College of Law, Mumbai University

ABSTRACT

The Indian Trusts Act, 1882, serves as the legislative framework governing the creation, classification, administration, and dissolution of private trusts and trustees in India. The Indian Trusts Act, 1882 defines a trust as an obligation attached to property ownership for the benefit of another, detailing the roles of the settlor, trustee, and beneficiary. Trusts can be established through settlement or will and are classified into public, private, and charitable trusts. The Indian Trusts Act, 1882 highlights the separation of the trust assets from trustees' personal property, posing challenges for creditors claiming against the trust assets. Provisions from the Transfer of Property Act, 1882, the Income Tax Act, 1961, and the Insolvency and Bankruptcy Code, 2016, address creditors' rights and protections, particularly regarding fraudulent transfers and revocable trusts.

Legal precedents reinforce the protection of trust assets from creditors' claims, emphasizing the necessity for procedural adherence and the collective responsibility of the trustees. The framework aims to balance the interests of the beneficiaries and the creditors while ensuring the integrity and lawful purpose of trust arrangements. This framework helps safeguard the assets held in the trust from creditors' claims, ensuring the trust's purpose is fulfilled for the benefit of the intended beneficiaries. Keywords: Indian Trusts Act, 1882, Trust Assets Protection, Creditors' Claims, Fraudulent transfers, Revocable trusts.

INTRODUCTION

Whether creditors can claim against a trust has been a subject of ongoing legal debate and interpretation, as the intricate nature of trust structures and the varying legal frameworks governing them can lead to complex and sometimes ambiguous situations. In the sphere of personal finance and estate planning, establishing a trust is a popular method of safeguarding assets and ensuring their orderly distribution to the beneficiaries. In India, trusts serve as effective instruments for managing wealth and providing for future generations, often by shielding assets from various forms of liabilities. However, common queries arise concerning the vulnerability of trusts to creditors' claims. In this essay, we will explore the intricacies of this issue to provide comprehensive insights for legal professionals and practitioners in the field of estate and trust law.

1. THE INDIAN TRUSTS ACT, 1882

The Indian Trusts Act, of 1882 is the legislative framework that governs private trusts and trustees in India. The Act outlines the legal mechanisms for the creation, classification, parties, and dissolution of trusts. As defined under Section 3 of the Indian Trusts Act, 1882 a trust is an obligation attached to the property ownership, arising from the confidence placed in and accepted by the owner, or declared and accepted by the owner, for the benefit of another party or the owner and another party1. A trust involves one party (the trustee) holding assets on behalf of another party (the beneficiary), typically to manage the property more efficiently or for charitable objectives. Trusts offer certain advantages over alternative legal arrangements, such as facilitating the obtainment of necessary consents, certificates, or authorizations in managing the trust property.

A Trust in India can come into existence either through a settlement or through a will and can be expressed in three forms: a public trust, a private trust, or a charitable trust. A public trust is established to give benefits to the general public, one such example is a religious public trust. A trust created for the benefit of individuals, a class of individuals, or a body of individuals falls in the category of a private trust. A charitable trust usually tends to benefit the public and

1 The Indian Trusts Act 1882, s. 3.

hence is created for the benefit of the public at large. 2 Private trusts created in India are governed by the Indian Trusts Act, 1882; however, the Waqf, mutual relationships between members of an undivided family established by personal or customary law, and charitable or religious endowments are not covered under this legislation. In contrast, state-specific laws such as The Maharashtra Public Trust Act, 1950 usually governs the public trusts in India. The Private trusts can be further divided into two main categories, discretionary and fixed/specified. 3 The settlor does not designate the predetermined trust interest amounts in a discretionary trust. Instead, the trustee has the authority to determine which beneficiaries will receive the trust benefits and to what extent. In contrast, fixed trusts are a well-established form of living trust utilized for estate planning purposes.

Fixed trusts enable the settlor to maintain control over the money and assets held within the trust, which are distributed to the beneficiaries according to a specific schedule set forth by the settlor. The trustee of a fixed trust possesses little to no discretion in distributing the trust property and cannot alter the designated beneficiaries or the benefits they are set to receive. 4 The Indian Trusts Act, 1882 does not explicitly address the issue of creditors' claims against trust assets. However, the lack of clear legal provisions in this regard has led to various interpretations and rulings by the courts, shaping the current state of the law. Before leaping to conclusions based on various judicial interpretations and statutes, let us first explore all of the problems that a creditor encounters when claiming against a trust.

2 CHALLENGES

FOR CREDITORS CLAIMING AGAINST A TRUST The Indian Trusts Act of 1882 establishes that the trust property is to be managed by the trustees for the benefit of the beneficiaries.5 This legal separation of the trust assets from the trustees' personal property can create challenges for creditors seeking to lay claim to the trust's assets. Determining which assets belong to the trust versus the trustee personally can be a complicated task. Creditors must carefully differentiate between the trust property and the trustees' personal 2 Pallavi Talavlikar and Mitali Shah, Private trust – is it time now, / [2020] 118 taxmann.com 178 (Article)/ [2020]

48 CPT 768 (Article)[06-08-2020].

3 Ibid.

4 Taxman, Taxation and Other Aspects of Private Trusts – Overview | Strategic Considerations | Types, Blog Income Tax June 3, 2024.

5 The Indian Trusts Act 1882, s. 3.

property. Additionally, the trust deed may include protective clauses, such as spendthrift provisions, that prevent beneficiaries from transferring their interests to the creditors. Furthermore, the multi-jurisdictional nature of some trusts, operating across different states or even internationally, can lead to complex legal hurdles for the creditors attempting to enforce their claims. Navigating varying legal systems and procedures may be required to successfully pursue claims against the trust assets. The insolvency of the trustee or the beneficiary may complicate the priority of claims against the trust assets. In such cases, if the trust property is insufficient to meet all third-party claims and the beneficiary's creditor claims, it becomes critical to determine whose claims take precedence. The Indian Trusts Act of 1882 stipulates that a trust must have a lawful purpose.

6 A trust is deemed unlawful if it is forbidden by law, would defeat the provisions of any law, is fraudulent, involves or implies injury to the person or property of another, or is considered by the court to be immoral or against public policy. If a trust is created for two purposes, one lawful and the other unlawful, and the two purposes cannot be separated, the entire trust is deemed void. To avoid having their claims declared void, creditors must make sure the trust from which they are claiming is legitimate. If a trust is dissolved, its assets will be divided among its beneficiaries following the trust deed.

3. PROVISIONS

One of the fundamental aspects of the law governing trusts in India pertains to the segregation of the trust assets from the personal assets of the settlor and a trustee. This separation is intended to shield the trust assets from the claims of creditors who may have recourse against the settlor or a trustee. The Indian Trusts Act, of 1882, sets the legal foundation for this principle and provides a framework for the establishment and administration of trusts in the country. Therefore, in theory, the trust assets should be protected from the creditors of the settlor or the trustee.

6 The Indian Trusts Act 1882, s. 4.

Nevertheless, the conditions surrounding the trust's establishment and management determine how effective this protection is. Legal professionals need to be aware of the elements that can jeopardize the trust structure's integrity. For instance, courts may ignore a trust and permit the creditors to bring claims against the assets if it is shown that the trust is a "sham" or "illusory" that is a front for the settlor to keep control and profit from the assets while claiming to have sold the ownership. To ascertain the trust's vulnerability to creditors' claims, it is necessary to carefully examine its true independence and irrevocability. Furthermore, the behaviour of the settlor and trustee in relation to the trust assets can influence the outcome of creditors' claims.

If it is established that the settlor has fraudulently transferred the assets to the trust with the intent to defraud the creditors, such transactions may be set aside by the court, exposing the trust assets to creditor claims. Similarly, if the trustee is found to have misappropriated the trust assets or acted in breach of the fiduciary duties, the trust may be pierced, and the creditors could pursue the trust assets to satisfy their claims. Legal experts must know that Indian courts have the jurisdiction to lift the corporate veil or pierce the trust structure in extraordinary circumstances where it is deemed necessary to provide justice. As a result, while trusts provide some protection against creditors' claims, their invulnerability is not absolute and is susceptible to court assessment depending on the unique facts and circumstances of each case.

3.1 Provisions

Indian Trusts Act,1882 sole trustee if the trust instrument authorizes such execution. 8 However, these powers apply only in the absence of contrary intentions expressed in the trust instrument and are subject to its terms. Section 78 of the Act governs the revocation of trusts. This section permits revocation in certain situations, such as when all competent beneficiaries consent to the revocation of trust created other than by will or in where the trust is intended to pay off the settlor’s debts, revocation of trust is not legally binding until it is disclosed to the creditors by all the competent beneficiaries of their mutual intention and can be cancelled at the settlor’s discretion prior to that date on which it was disclosed to the creditors.

9 However, if a trust is specifically established for debt payment, and the creditors are informed or become parties to the trust arrangement, their claims are secured, and the trust cannot be revoked without their consent. This balance between protecting the trust's assets and ensuring legitimate debts are addressed, allows for creditors' claims to be managed effectively within the trust layout.

3.2 Provisions

Transfer of Property Act, 1882 The Transfer of Property Act of 1882 in India encompasses pertinent legislation concerning the claims of creditors against the assets held in trust. Section 53 of the Transfer of Property Act of 1882 explicitly states that any transfer of immovable property made with the intent to defraud creditors of the settlor’s is voidable at the option of the creditor. 10 This clause guarantees that a property settlement may be revoked if its goal is to discredit or postpone the payment to the creditors. In particular, Section 53 gives creditors the ability to contest these transfers, rendering them voidable if the transfer's purpose was fraudulent. Crucially, this clause protects the rights of the transferees acting for the valuable consideration and in good faith, making sure that lawful transactions are not unfairly impacted.

The part also makes it clear that these measures don't conflict with the insolvency laws that are currently in place. Therefore, if a settlement pertaining to real estate is subject to Section 53 of the Transfer of Property Act, 1882 the settlement may be set aside in accordance with Section 53 of the

8 Ibid.

9 The Indian Trusts Act 1882, s. 78.

10 The Transfer of Property Act 1882, s. 53

Transfer of Property Act, 1882 and as a result, the trust may be set aside in accordance with Section 4 of the Indian Trusts Act, 1882.

3.3 Provisions

Income Tax Act, 1961 Revocable and irrevocable trusts are additional categories for private trusts in India, in addition to discretionary and specified/fixed trusts. 11 A transfer of assets into a trust is considered revocable under Section 63 of the Income Tax Act, 1961 if the trust instrument contains provisions allowing the settlor to receive a direct or indirect return of any portion of the income or assets, or if the transfer gives the settlor the ability to regain control over the assets or income. On the other hand, for tax purposes, an irreversible trust during the lives of the beneficiaries and from which the settlor receives no profit is not considered a revocable transfer. 12 Following Section 61 of the Income Tax Act, 1961 all income resulting from a revocable transfer of assets is taxable as the settlor’s income.

13 Assets are not shielded by the revocable living trusts from lawsuits brought against the trust administrator. For liability purposes, the trust is legally regarded as the settlor's property. Usually, the settlor designates himself as the trustee, retaining authority over the assets that he or she is free to manage, sell, or otherwise dispose of. Because these trusts are revocable, any income they earn is taxed on the settlor's tax return because the assets can always be returned to the settlor. Irrevocable and discretionary trusts offer better protection against creditor claims, provided the assets were transferred at least two years before declaring bankruptcy.

In the context of insolvency, the Sindh High Court ruled that if a trust was established during the settlor's insolvency and a settlement was made against the official assignee, then the trust is illegal and tarnished by Section 4 of the Trusts Act. 14 Additionally, individuals can safeguard their spouses and children's interests from creditors by purchasing an insurance policy under the Married 11 Taxman, Taxation and Other Aspects of Private Trusts – Overview | Strategic Considerations | Types, Blog Income Tax, June 3, 2024.

12 The Income-tax Act 1961, s. 63.

13 The Income-tax Act 1961, s. 61.

14 Jean-Marc Tirard, The Global Guide to Trusts, 182-183, Second edition, 2020.

Women Property Act (MWPA), 1874.15 Policies under the MWPA create a private trust for the spouse and children, shielding the assets from creditors. Revocable trusts give the settlor freedom and control, but they are incapable of protecting them from claims made by creditors. When properly drafted and created ahead of time, irrevocable trusts provide stronger asset protection. It is essential to comprehend the differences in managing and protecting the assets in the event of creditor claims.

3.4 Provisions

Insolvency And Bankruptcy Code, 201616 In the case of Lalit Kumar Jain vs Union of India (2021)17, the Supreme Court upheld the Insolvency and Bankruptcy Rules, 2019. 18 These rules, notified by the Indian Government on November 15, 2019, and effective from December 1, 2019, allow lenders to proceed with recovery actions against personal guarantors to corporate debtors undergoing the corporate insolvency resolution process (CIRP). This decision has raised questions about the protection offered by the Asset Protection Trusts, which promoters use to shield their personal assets. Asset Protection Trusts themselves are not inherently under scrutiny; rather, it is the transfer of property into these trusts that is examined if done with the intent to defraud creditors. Valid transfers of assets not part of the personal guarantee remain protected.

If a trust includes both fraudulent and rightful transfers, it will continue to be valid for the rightful transfers. 19 However, it is the creditor's responsibility to prove that the transfer to the trust was made with fraudulent intent. Such transactions are classified as Preferential, Undervalued, Fraudulent, and Extortionate (PUFE) transactions. 20 The Insolvency and Bankruptcy Code (IBC), 2016 provides a look-back period for only PUE transactions and not for fraudulent ones, which are governed by Section 17 of the Limitation Act, 196321.

15 Women Property Act (MWPA), 1874, s. 6.

16 Professional Programme Insolvency and Bankruptcy – Law & Practice by The Institute of Company Secretaries of India; Insolvency and Bankruptcy Rules, 2019.

17 Lalit Kumar Jain vs Union of India, MANU/SC/0352/2021 (India).

18 The Insolvency and Bankruptcy (Application to Adjudicating Authority for Insolvency Resolution Process for Personal Guarantors to Corporate Debtors) Rules, 2019.

19 The Indian Trusts Act 1882, s. 2.

20 The Insolvency and Bankruptcy Code 2016, s. 43, s. 45, s. 66, s. 50.

21 The Limitation Act, 1963, s. 17.

The timing of setting up the Asset Protection Trusts or settling assets into them is crucial. In B. K. Educational Services (P. ) Ltd. v. Parag Gupta & Associates22, the Supreme Court held that the Limitation Act, 1963, applies to any claims filed by creditors under the IBC, 2016. Although this application has not been explicitly extended to personal guarantors, Section 238A of the IBC, 2016 suggests it might be, as it does not differentiate among the types of debtors. The time limit for challenging transfers under the Limitation Act, 1963 is three years, beginning from the discovery of the fraud or mistake. For settlors of asset protection trusts, Section 5 of the Notification read with Section 79(14) of the IBC, 2016 specifies which assets are excluded from personal guarantees. 23 Interestingly, assets held in trusts are not listed as excluded.

Further, Section 79(14)(d) includes any unencumbered life insurance policies or pension plans taken in the debtor's name as excluded assets. 24 Therefore, trusts set up with due diligence and promptly should maintain the assets’ protection. Promoters of companies with stressed loans often transfer personal assets to the family trusts to protect them from bank claims in case of defaults. However, banks like SBI, ICICI, HDFC, and Yes Bank are countering this by seeking guarantees from these family trusts, especially in non-performing assets (NPA) and insolvency situations. These trusts are structured to limit the promoter's control, but the banks still face challenges in acquiring personal assets used as guarantees. 25 Section 18 of the IBC, 2016 delineates the responsibilities of an interim resolution professional, which include a variety of duties specified by the Board.

26 Notably, it is clarified that, for this section, the term "assets" does not encompass certain items. Specifically, this exclusion applies to assets that are owned by third parties but are in the possession of the corporate debtor under trust or similar arrangements, such as bailment. This distinction is crucial in understanding the limits of creditors' claims, as it underscores that the assets held in trust by the corporate debtor are not subject to the same claims as the debtor's assets.

22 Educational Services (P.) Ltd. v. Parag Gupta & Associates, MANU/SC/1160/2018 (India).

23 The Insolvency and Bankruptcy (Application to Adjudicating Authority for Insolvency Resolution Process for Personal Guarantors to Corporate Debtors) Rules, 2019, s. 5; The Insolvency and Bankruptcy Code, 2016, s. 79(14).

24 The Insolvency and Bankruptcy Code, 2016, s. 79(14)(d).

25 Sachin Dave, Lenders express faith in family trusts to secure stressed loans, ET Bureau, July 11, 2017.

26 The Insolvency and Bankruptcy Code, 2016, s. 18.

4. TRUSTEES’ STANCE AS A CREDITOR

We have considered the implications of creditors pursuing claims against a trust. It is also crucial to investigate how trustees can leverage their creditor status to benefit the trust's beneficiaries. The Enforcement of Security Interest and Recovery of Debt Laws and Miscellaneous Provisions Act, 201627, introduced several amendments to the SARFAESI Act, 2002, and the Recovery of Debts due to Banks and Financial Institutions Act, 1993. These amendments aim to streamline the registration of security interests, empower the Reserve Bank of India to regulate the asset reconstruction companies, exempt stamp duty on loan assignments, and enable the debenture trustees to act as the secured creditors. Specifically, debenture trustees can now enforce security interests in case of default.

4.1. Role of Debenture Trustees

A debenture trustee is a trustee of a trust deed for securing any issue of debentures of a body corporate. They play a crucial role in monitoring the assets of a trust and enforcing the security interests on behalf of the beneficiaries, which in this case would be the lenders or creditors. By including debenture trustees in the definition of the secured creditors, the law allows them to take enforcement action under Section 13 of the SARFAESI Act, 2002. 28 If a borrower defaults, the debenture trustee can demand repayment within 60 days, failing which they can exercise rights under subsection. The Amendment Act also redefines "default" to include nonpayment of the debt securities. Consequently, the debenture trustees can enforce security interests according to the terms of the security documents executed in their favour.

The Insolvency Law Committee [―ILC], in its Report of March 201829 dealt with debenture holders and fixed deposit holders, who are also the financial creditors and are numerous. The Report then went on to state: ― 27 The Enforcement of Security Interest and Recovery of Debts Laws and Miscellaneous Provisions (Amendment) Act, 2016 (‘ESIRDA Act). 28 The Enforcement of Security Interest and Recovery of Debts Laws and Miscellaneous Provisions (Amendment) Act, 2016 (‘ESIRDA Act), s. 11. 29 Ministry of Corporate Affairs Government of India, Report of the Insolvency Law Committee, March 2018 (ILRReport2603_03042018. pdf (ibbi. gov. in)).

“10. 6 For certain securities, a trustee or an agent may already be appointed as per the terms of the security instrument. For example, a debenture trustee would be appointed if debentures exceeding 500 have been issued [Section 71(5), Companies Act, 2013] or if secured debentures are issued [Rule 18(1)(c), Companies (Share Capital and Debenture) Rules, 2014]. Such creditors may be represented through such pre-appointed trustees or agents. For other classes of creditors that exceed a certain threshold in number, like home buyers or security holders for whom no trustee or agent has already been appointed under a debt instrument or otherwise, an insolvency professional (other than the IRP) shall be appointed by the NCLT on the request of the IRP. It is to be noted that as the agent or trustee or insolvency professional, i. e.

the authorized representative for the creditors discussed above and executors, guarantors, etc. as discussed in paragraph 9 of this Report, shall be a part of the CoC, they cannot be related parties to the corporate debtor in line with the spirit of the proviso to section 21(2). ”

5. CASE STUDIES AND PRECEDENTS

In People Charity Fund and Others v. K. Raghava Reddy and Associates30, the Karnataka High Court addressed crucial aspects of the trustees' decision-making and the misappropriation of the trust funds. The court reiterated that all trustees must act collectively in executing their fiduciary duties, as stipulated in Section 48 of the Indian Trusts Act. A suit filed by a single trustee without unanimous consent may be deemed inadmissible. Furthermore, the court ruled that trust funds cannot be utilized to settle the personal debts of the trustees, considering such actions illegal and contrary to the trust's interests. The judgment emphasized that public charitable trust assets should not be diverted for the personal liabilities of the trustees.

Additionally, the court noted that settlements involving personal debts of the trustee should not compel the trustees to accept such terms which may be detrimental to the trust, and any modifications to the settlement terms must comply with the provisions of trust law. Overall, the judgment reinforced the collective responsibility of trustees and the prohibition against misusing the trust funds for personal gain, thereby ensuring the protection of public charitable trust assets.

30 People Charity Fund and Others v. K. Raghava Reddy and Associates, MANU/KA/0687/2008 (India).

The V. Sulochana v. Kee Pee Yes31, judgment by the Madras High Court at the Madurai Bench offers crucial insights into the legal constraints on creditors' claims against the trust property. The court emphasized that any transaction involving trust assets requires unanimous consent from all the trustees, as stipulated in the trust deed and Section 48 of the Indian Trusts Act. The absence of such collective approval in this case rendered the sale agreement invalid, underscoring the stringent procedural requirements for creditors to assert claims against a trust. Additionally, the judgment reinforced the principle that trustees must act in unison, and any alienation of the trust property without full trustee consent is deemed unenforceable, thereby protecting the trust's assets from unauthorized claims.

This case illustrates the robust legal safeguards that shield the trust property from creditor claims unless the prescribed procedural steps are strictly observed. The Supreme Court's decision in Fatima Fauzia and Others v. Syed UI-Mulk and Others32 affirmed that the trustees are not authorized to delegate their fiduciary responsibilities without explicit approval from the court or the trust's beneficiaries. This ruling poses a significant obstacle for the creditors seeking to assert claims against the trust assets. The court upheld a protective stance towards the trust property, ensuring its management aligns with the trust deed and safeguards the interests of the beneficiaries. The Indian Trusts Act and the courts' jurisprudence emphasize the collective responsibility of trustees and the requirement for unanimous action in administering trust assets.

This legal framework establishes a robust defence against creditor claims, necessitating strict adherence to the procedural requirements. The Supreme Court, in the case of Chogmal Bhandari v. Dy. Commercial Tax Officer33 addressed the question of whether a trust created by a debtor for the benefit of their creditors, with the debtor specifying a preferential order of payment, would render the trust unlawful under Section 4 of the Indian Trusts Act. The Court held that the order of preference to pay the creditors does not, in itself, provide grounds to infer that the debtor intended to defraud the creditors. Rather, the debtor has the right to establish such a preference. Consequently, the Court determined that such a trust would be deemed valid.

31 V. Sulochana v. Kee Pee Yes, 2015 SCC OnLine Mad 13210 (India).

32 Fatima Fauzia and Others v. Syed UI-Mulk and Others, MANU/AP/0113/1979 (India).

33Chogmal Bhandari v. Dy. Commercial Tax Officer, AIR 1976 SC 656 (India).

6 CONCLUSION

The complex interplay between the creditors and trusts in India is governed by a multifaceted legal framework, which includes the Indian Trusts Act of 1882, the Transfer of Property Act of 1882, the Income Tax Act, and the Insolvency and Bankruptcy Code of 2016. These statutes collectively outline the parameters within which trusts can acquire the property, the powers and obligations of trustees, and the rights of creditors to lay claims against trust assets. Under the Indian Trusts Act, trusts offer a structured mechanism for managing the property, but the separation of the trust property from the trustees' personal assets can pose significant challenges for the creditors. Trustees' powers to settle the debts and the protective clauses within the trust deeds further complicate creditors' efforts to claim against the trust assets.

The Transfer of Property Act provides a safeguard against the fraudulent transfers, ensuring that any deceitful attempts to defraud the creditors can be contested. The Income Tax Act delineates the taxation and revocability aspects of trusts, emphasizing the limited protection offered by revocable trusts against creditor claims. Irrevocable trusts, established well before financial distress, offer more robust asset protection. The Insolvency and Bankruptcy Code, especially in light of the recent judicial interpretations, underscores the scrutiny of asset protection trusts, particularly when they involve transfers intended to defraud the creditors. The legal landscape, therefore, requires a nuanced understanding of the trust structures, the timing of asset transfers, and the specific provisions within the trust deeds.

For creditors, navigating this landscape necessitates a careful examination the of trust documents and potential legal strategies to enforce the claims. Conversely, for those establishing trusts, it is crucial to ensure compliance with the legal standards to maintain the intended protection of the trust assets. The evolving jurisprudence, particularly regarding the applicability of insolvency laws to the personal guarantors and asset protection trusts, underscores the dynamic nature of this legal domain.