Supreme Court Clarifies Acknowledgment of Debt in Balance Sheets under IBC: Asset Reconstruction Company vs. Tulip Star Hotels (2022)

Introduction

Date of the Judgment: 1st August 2022

Citation: (2022) INSC 646

Judges: Indira Banerjee, J. and J.K. Maheshwari, J.

Can a company’s financial statements, specifically its balance sheet, serve as a valid acknowledgment of debt, thereby extending the limitation period for initiating insolvency proceedings? The Supreme Court of India recently addressed this crucial question in a case involving Asset Reconstruction Company (India) Limited and Tulip Star Hotels Limited. This judgment clarifies the interplay between the Limitation Act and the Insolvency and Bankruptcy Code (IBC), particularly regarding the acknowledgment of debt.

Case Background

In 2002, V. Hotels Ltd. (the Corporate Debtor) secured a loan of Rs. 129 crore from a consortium of banks. By 2003, they arranged for a loan from Abu Dhabi Commercial Bank (ADCB) to repay the consortium loan. However, in 2008, a bank guarantee issued by Bank of India in favor of ADCB was invoked, leading to Bank of India paying Rs. 24.49 crore to ADCB. Subsequently, the loan was converted into a non-fund-based bank guarantee by Bank of India, Punjab National Bank, and Union Bank of India. The account of the Corporate Debtor was classified as a non-performing asset (NPA) on December 1, 2008. Later that month, Bank of India assigned its receivables to Asset Reconstruction Company (India) Limited (the Appellant).

In 2011, the Corporate Debtor proposed a settlement, which was revised multiple times, culminating in a settlement agreement in February 2011. The Corporate Debtor agreed to pay Rs. 150.75 crore, along with interest at 22% per annum. However, the Corporate Debtor failed to meet the payment deadlines, leading to several extensions and modifications of the agreement. Ultimately, the Appellant revoked the settlement in June 2013. The Appellant then initiated proceedings under the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act) in July 2013.

The Appellant filed an application under Section 7 of the IBC in April 2018, seeking to initiate the Corporate Insolvency Resolution Process (CIRP) against the Corporate Debtor. The Corporate Debtor contested this, arguing that the application was barred by limitation. The National Company Law Tribunal (NCLT) initially rejected the Corporate Debtor’s objection and admitted the application. However, the National Company Law Appellate Tribunal (NCLAT) reversed this decision, holding that the CIRP was indeed barred by limitation.

Timeline

Legal Framework

The primary laws involved in this case are:

• The Insolvency and Bankruptcy Code, 2016 (IBC): This code provides a framework for the resolution of insolvency of corporate persons, including the initiation of the Corporate Insolvency Resolution Process (CIRP).
  Specifically, Section 7 of the IBC allows a financial creditor to initiate CIRP against a corporate debtor when a default has occurred.
• The Limitation Act, 1963: This act prescribes the time limits within which legal proceedings must be initiated. Section 18 of the Limitation Act states that if a party acknowledges a debt in writing before the expiry of the limitation period, a fresh period of limitation is computed from the date of acknowledgment. Article 137 of the Schedule to the Limitation Act provides a three-year limitation period for applications where no specific period is prescribed.
• The Companies Act, 2013: This act governs the functioning of companies, including the preparation and filing of financial statements. Sections 128, 129, and 134 of the Companies Act, 2013, and Sections 210, 211, 215, 216, and 217 of the Companies Act, 1956, were cited to emphasize the importance of financial statements as a true representation of a company’s affairs.
• Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act): This act allows banks and financial institutions to recover their dues by enforcing security interests. Section 13(2) and 13(4) of the SARFAESI Act were mentioned in the context of notices issued by the Appellant.

Arguments

Arguments by the Appellant (Asset Reconstruction Company):

• The Appellant argued that the financial statements of the Corporate Debtor, specifically the balance sheets, constitute an acknowledgment of debt under Section 18 of the Limitation Act. They contended that these acknowledgments extended the limitation period for filing the application under Section 7 of the IBC.
• The Appellant submitted that the Corporate Debtor’s liability was not just for the principal amount but also for interest, and that part payments made by the Corporate Debtor should first be appropriated towards the interest amount due.
• The Appellant asserted that the NCLAT erred in holding that the books of accounts of a company could not be treated as acknowledgment of liability.
• The Appellant relied on the balance sheets of the Corporate Debtor for the financial years 2014-15 onwards, which were signed on 14.05.2015 and 29.08.2016 respectively, as acknowledgments of the debt.
• The Appellant relied on the judgment in Innoventive Industries Ltd. v. ICICI Bank and Anr., to argue that the Adjudicating Authority is only required to see if there is the existence of a debt and default and that any dispute with regard to the quantum of debt is immaterial.
• The Appellant argued that any payments made by the Corporate Debtor, would first be appropriated towards interest.

Arguments by the Respondents (Tulip Star Hotels and others):

• The Respondents argued that there was no debt due and payable from the Corporate Debtor to the Appellant, as the amounts advanced by the consortium of banks had been repaid. They also claimed that the principal amount had been paid in full, and there was a long-standing dispute regarding the interest amount.
• The Respondents contended that the Appellant had claimed different principal amounts in the statutory notice under Section 13(2) of the SARFAESI Act and in the application under Section 7 of the IBC.
• The Respondents argued that the settlement agreement, on which the Appellant based its claim, had been revoked, and the High Court had held that the Appellant was not entitled to claim 22% interest.
• The Respondents submitted that the application under Section 7 of the IBC was barred by limitation, as it was filed about eight/nine years after the account of the Corporate Debtor was declared NPA.
• The Respondents argued that the financial statements of the Corporate Debtor did not constitute an unequivocal acknowledgment of debt. They pointed out that the financial statements contained caveats and questioned the interest sought to be recovered by the Appellant.
• The Respondents argued that the recovery in the present case is not of “public monies”. Nor is the recovery beneficial to the public.
• The Respondents relied on the judgment in Asset Reconstruction Company (India) Limited. v. Bishal Jaiswal and Anr, to argue that all financial statements issued by a company would not amount to acknowledgment for the purpose of Section 18 of the Limitation Act.

Issues Framed by the Supreme Court

The Supreme Court considered the following issues:

1. Whether the application under Section 7 of the IBC was barred by limitation.
2. Whether the balance sheet of a company can be treated as an acknowledgment of liability in respect of a debt.

Treatment of the Issue by the Court

The following table demonstrates as to how the Court decided the issues

Authorities

The Supreme Court considered the following authorities:

The Court also referred to the following legal provisions:

• Section 7 of the Insolvency and Bankruptcy Code, 2016 (IBC)
• Section 18 of the Limitation Act, 1963
• Article 137 of the Schedule to the Limitation Act, 1963
• Sections 128, 129, and 134 of the Companies Act, 2013
• Sections 210, 211, 215, 216, and 217 of the Companies Act, 1956
• Section 13(2) and 13(4) of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act)
• Section 238A of the Insolvency and Bankruptcy Code, 2016 (IBC)

Judgment

How each authority was viewed by the Court?

• Asset Reconstruction Company (India) Limited. v. Bishal Jaiswal and Anr [(2021) 6 SCC 366]: The court distinguished this case, clarifying that while not all financial statements are acknowledgments, the balance sheets in this case did constitute valid acknowledgments.
• Innoventive Industries Ltd. v. ICICI Bank and Anr [(2018) 1 SCC 407]: The court reiterated the principle that the Adjudicating Authority only needs to see the existence of debt and default, not the quantum of debt.
• Industrial Credit & Development Syndicate Now Called I.C.D.S. Ltd. v. Smithaben H. Patel (Smt.) and Others [(1999) 3 SCC 80]: The court followed the principle that part payments are first appropriated towards interest.
• Swiss Ribbons Private Limited & Anr. v. Union of India and Ors. [(2019) 4 SCC 17]: The court reaffirmed that the IBC is a beneficial legislation aimed at revival of the corporate debtor.
• Gaurav Hargovindbhai Dave v. Asset Reconstruction Company (India) Ltd. [(2019) 10 SCC 572]: The court reiterated that an application under Section 7 falls under Article 137 of the Limitation Act.
• B. K. Educational Services Private Limited v. Parag Gupta and Associates [(2019) 11 SCC 633]: The court affirmed that the Limitation Act applies to applications under Sections 7 and 9 of the IBC.
• Jignesh Shah v. Union of India [(2019) 10 SCC 750]: The court reiterated that the limitation for an application under Section 7 or 9 of the IBC is three years from the date of default.
• Radha Exports (India) (P) Ltd. v. K.P. Jayaram [(2020) 10 SCC 538]: The court emphasized that a petition under Section 7 must be admitted if a default has occurred, unless barred by limitation.
• Babulal Vardharji Gurjar v. Veer Gurjar Aluminium Industries (P) Ltd. [(2020) 15 SCC 1]: The court clarified that this judgment did not lay down the proposition that the Books of Accounts of a Corporate Debtor could not be treated as acknowledgement of liability to a Financial Creditor.
• Vashdeo R. Bhojwani v. Abhyudaya Co-operative Bank Ltd. & Ors. [(2019) 9 SCC 158]: The court followed the principle that default is not a continuing wrong.
• Balkrishna Savalram Pujari Waghmare v. Shree Dhyaneshwar Maharaj Sansthan [1959 Supp (2) SCR 476]: The court referred to this judgment for defining the concept of a continuing wrong.
• Sesh Nath Singh & Anr. v. Baidyabati Sheoraphuli Cooperative Bank Ltd. [2021 SCC Online SC 244]: The court discussed the interpretation of the phrase ‘as far as may be’ in Section 238A of the IBC.
• Laxmi Pat Surana v. Union Bank of India [(2021) 8 SCC 481]: The court supported the application of Section 18 of the Limitation Act to IBC proceedings.
• Khan Bahadur Shapoor Fredoom Mazda v. Durga Prasad Chamaria and Others [AIR 1961 SC 1236]: The court referred to this judgment for defining the requirements of a valid acknowledgment of debt.
• Bengal Silk Mills Co. v. Ismail Golam Hossain Ariff [1961 SCC OnLine Cal 128 : AIR 1962 Cal 115]: The court followed the principle that a balance sheet can be an acknowledgment of debt.
• Re Pandem Tea Co. Ltd. [AIR 1974 Cal 170]: The court followed the principle that a balance sheet can be an acknowledgment of debt.
• South Asia Industries (P) Ltd. v. General Krishna Shamsher Jung Bahadur Rana [ILR (1972) 2 Del 712]: The court followed the principle that a balance sheet can be an acknowledgment of debt.
• Hegde Golay Ltd. v. State Bank of India [1985 SCC Kar 290 : ILR 1987 Kar 2673]: The court followed the principle that a balance sheet can be an acknowledgment of debt.
• Lakshmirattan Cotton Mills Co. Ltd. v. Aluminium Corpn. of India Ltd. [(1971) 1 SCC 67]: The court clarified the requirements of a valid acknowledgment under Section 19 of the Limitation Act, 1908 (similar to Section 18 of the 1963 Act).
• Ferro Alloys Corporation Limited v. Rajhans Steel Limited [(1999) SCC Online Pat 1196]: The court clarified that an application under Section 7 or 9 of the IBC may be time-barred, even if other recovery proceedings were instituted earlier.
• Dena Bank (Now Bank of Baroda) v. C. Shivakumar Reddy and Another [(2021) 10 SCC 330]: The court supported the view that an offer of one-time settlement can be an acknowledgment of debt and that the delay in filing a petition in the NCLT is condonable under Section 5 of the Limitation Act.

Decision

The Supreme Court allowed the appeals of the Appellant and set aside the order of the NCLAT. The Court held that:

• The application under Section 7 of the IBC was not barred by limitation.
• The balance sheets of the Corporate Debtor constituted an acknowledgment of debt, which extended the limitation period.
• Entries in the books of accounts and/or balance sheets of a Corporate Debtor would amount to an acknowledgment under Section 18 of the Limitation Act.

The Court restored the order of the NCLT admitting the application under Section 7 of the IBC.

Flowchart

Key Takeaways

This judgment has significant implications for the interpretation of the IBC and the Limitation Act. The key takeaways are:

• Acknowledgment of Debt: Balance sheets of a company can serve as valid acknowledgments of debt under Section 18 of the Limitation Act, which can extend the limitation period for initiating insolvency proceedings.
• Financial Statements: While not all financial statements are acknowledgments, balance sheets that unequivocally admit a debt can be considered as such.
• Limitation Period: The limitation period for initiating CIRP under Section 7 of the IBC can be extended if there is a valid acknowledgment of debt within the prescribed period.
• Relevance of Quantum of Debt: The Adjudicating Authority under the IBC is primarily concerned with the existence of a debt and default, not the exact quantum of debt.
• Beneficial Legislation: The IBC is a beneficial legislation aimed at the revival of corporate debtors, and the courts should interpret its provisions in a manner that furthers this objective.