LEGAL ISSUE: Contractual payment appropriation and interest calculation
CASE TYPE: Contract/Civil
Case Name: Kerala State Electricity Board and Anr. vs. Kurien E. Kalathil and Anr.
[Judgment Date]: 9 March 2018
Date of the Judgment: 9 March 2018
Citation: (2018) INSC 176
Judges: Ranjan Gogoi, J., R. Banumathi, J.
The Supreme Court of India, in this case, examined a dispute arising from a contract between the Kerala State Electricity Board (KSEB) and a contractor. The core issue revolved around how payments made by KSEB should be appropriated—whether they should first cover interest or principal amounts. This judgment clarifies the principles of payment appropriation in contractual disputes, particularly when court orders are involved. The bench comprised Justices Ranjan Gogoi and R. Banumathi, with the majority opinion authored by Justice R. Banumathi.
Case Background
The Kerala State Electricity Board (KSEB) entered into a contract with a contractor on 16 September 1981 for constructing a dam. Following a government notification on 30 March 1983 revising minimum wages, the contractor claimed additional labor escalation charges. This led to a series of disputes and legal proceedings. The contractor initially claimed Rs. 6,32,84,050 towards labor escalation and Rs. 7,66,35,927 as interest on various bills. KSEB terminated the contract, which the contractor challenged in court. The High Court ruled that the termination was arbitrary and ordered KSEB to pay the contractor’s claims, including interest at 18% per annum.
Timeline:
| Date | Event |
|---|---|
| 16 September 1981 | KSEB and the contractor entered into an agreement for dam construction. |
| 30 March 1983 | Government of Kerala issued a notification revising minimum wages. |
| 14 October 1993 | Industrial tribunal passed an award stating that the minimum wages notification applied to the contractor’s workers. |
| 1995 | Contractor filed O.P. No. 283, claiming labor escalation charges and interest. |
| 1997 | KSEB terminated the contract; the contractor challenged the termination in O.P. No. 10759. |
| 2 April 1998 | High Court ruled the termination was arbitrary and directed payment to the contractor with 18% interest. |
| 2000 | Supreme Court reduced the interest rate to 9% but upheld the payment order in C.A. No. 4092 of 2000. |
| 7 December 2000 | Review petition filed by KSEB was dismissed. |
| 2003 | KSEB paid Rs. 12,82,96,320 to the contractor under Ex.P20. |
| 2006 | Contractor filed I.A. No. 6 of 2006, seeking further payments. |
| 28 January 2009 | High Court directed KSEB to pay Rs. 12,92,29,378 with 9% interest in W.P.(C) No. 31108 of 2007. |
| 23 June 2009 | Review petition filed by KSEB was dismissed. |
| 30 September 2012 | Arbitrator passed an award in favor of the contractor. |
| 9 March 2018 | Supreme Court set aside the High Court’s judgment and the arbitrator’s award. |
Course of Proceedings
The High Court initially ruled in favor of the contractor, directing KSEB to pay the claimed amounts with 18% interest. KSEB appealed to the Supreme Court, which, while acknowledging the contractual nature of the dispute, reduced the interest rate to 9% but did not interfere with the payment order. After KSEB made payments, the contractor filed an application (I.A. No. 6 of 2006) seeking further payments, which led to the High Court directing KSEB to pay an additional Rs. 12,92,29,378 with 9% interest. KSEB challenged this order in the Supreme Court.
Legal Framework
The court considered several legal provisions and contractual clauses. Section 34(2) of the Code of Civil Procedure (CPC) states that if a decree is silent on future interest, it is deemed to have been refused. Clause E1.079 of the agreement between KSEB and the contractor explicitly stated that KSEB would not pay interest for delayed payments. The court also referred to Order XXI Rule 1 of CPC regarding the appropriation of payments. The court also considered Section 7 and 89 of the Arbitration and Conciliation Act, 1996.
Section 34(2) of the Code of Civil Procedure (CPC) states:
“Where such a decree is silent with respect to the payment of further interest on such aggregate sum as aforesaid from the date of the decree to the date of payment or other earlier date, the Court shall be deemed to have refused such interest, and a separate suit therefore shall not lie.”
Clause E1.079 of the agreement reads:
“No claim for interest or damages will be entertained by the Board with respect to any money or balance which may be lying with the Board owing to any dispute, difference or misunderstanding between the Engineer on the one hand and the contractor on the other hand or with respect to any delay on the part of the Engineer-in-charge in making periodical or final payment or any respect whatsoever, and the Board shall not be liable for any interest or damages or loss to the contractor.”
Arguments
The contractor argued that payments should first be adjusted towards interest and then towards the principal amount. He relied on the general rule of appropriation in debt cases. The contractor contended that despite receiving Rs. 12,82,96,320, a further amount of Rs. 3,38,57,618 was still due. KSEB countered that the contractor had initially adjusted payments towards the principal in his own calculations and was not justified in changing this method. KSEB also argued that the contract explicitly disallowed interest on delayed payments. KSEB contended that they had made excess payment of Rs.1,74,75,247. KSEB disputed the additional work claims made by the contractor.
The contractor claimed that the High Court’s order for payment under Ex.P59 had become final since the Supreme Court did not comment on it in the previous appeal. KSEB argued that the Supreme Court had already stated that such contractual disputes should not be decided in writ petitions.
The contractor contended that the counsel has the implied authority to consent for arbitration. KSEB argued that there was no arbitration agreement and that the High Court should not have referred the parties to arbitration based on oral consent from counsel.
| Main Submission | Sub-Submissions by Contractor | Sub-Submissions by KSEB |
|---|---|---|
| Mode of Payment Appropriation | ✓ Payments should be adjusted towards interest first, then principal. ✓ Relied on general rule of appropriation for debts. ✓ Changed calculation method in I.A. No. 6 of 2006 to adjust payments first against interest. |
✓ Payments should be adjusted towards principal first, as per the contractor’s initial calculations in Ex.P20. ✓ The contract explicitly disallowed interest on delayed payments. ✓ The contractor cannot change the method of calculation. |
| Claim under Ex.P20 | ✓ Rs. 3,38,57,618 was still due under Ex.P20 despite previous payments. ✓ Claimed subsequent interest on the principal amount. |
✓ KSEB had already paid Rs. 12,82,96,320 under Ex.P20 and made excess payment of Rs.1,74,75,247. ✓ No direction for future interest on Ex.P20 in prior court orders. |
| Claim under Ex.P59 | ✓ The High Court’s order for payment under Ex.P59 had become final. ✓ Claimed additional work done with material and labor escalation. |
✓ The Supreme Court had already stated that such contractual disputes should not be decided in writ petitions. ✓ Disputed the quantum of work done and the rates claimed. ✓ Material and labor escalation should be calculated on a monthly basis. |
| Reference to Arbitration | ✓ Counsel has the implied authority to consent for arbitration. | ✓ There was no arbitration agreement. ✓ The High Court should not have referred the parties to arbitration based on oral consent from counsel. |
Issues Framed by the Supreme Court
The Supreme Court framed the following issues:
- Whether the respondent-contractor is justified in appropriating payments first towards interest.
- Whether the respondent-contractor is entitled to subsequent interest on the amount claimed in Ex.P20.
- Whether the High Court’s direction to pay labor and material escalation at a uniform rate under Ex.P59 is sustainable.
- Whether the High Court was right in referring the parties to arbitration on the oral consent given by the counsel without written instruction from the party.
Treatment of the Issue by the Court
| Issue | Court’s Decision | Reasoning |
|---|---|---|
| Appropriation of Payments | The contractor was not justified in appropriating payments first towards interest. | The contractor had initially adjusted payments towards the principal in Ex.P20. The court held that the direction of the court was to make payment as per Ex.P20. |
| Subsequent Interest on Ex.P20 | The contractor was not entitled to subsequent interest. | Section 34(2) of CPC states that if a decree is silent on future interest, it is deemed refused. There was no direction for future interest in the previous orders. |
| Uniform Escalation Rates under Ex.P59 | The High Court’s direction for uniform escalation rates was not sustainable. | The court noted that material and labor escalation should be calculated on a monthly basis, as claimed by the contractor in other bills. |
| Reference to Arbitration | The reference to arbitration was invalid. | There was no arbitration agreement, and the High Court should not have referred the parties to arbitration based on oral consent from counsel. |
Authorities
The Supreme Court considered the following authorities:
| Authority | Court | Legal Point | How it was used |
|---|---|---|---|
| Meghraj and Others v. Mst. Bayabai and Others (1969) 2 SCC 274 | Supreme Court of India | General rule of appropriation of payments towards interest first. | Cited by the contractor to support their argument that payments should be adjusted towards interest first. |
| Industrial Credit and Development Syndicate now called I.C.D.S. Ltd. v. Smithaben H. Patel (Smt.) and Others (1999) 3 SCC 80 | Supreme Court of India | General rule of appropriation of payments towards interest first. | Cited by the contractor to support their argument that payments should be adjusted towards interest first. |
| Mathunni Mathai v. Hindustan Organic Chemicals Ltd. and Ors., (1995) 4 SCC 26 | Supreme Court of India | Application of Order XXI Rule 1 CPC in executing awards. | Discussed but overruled by a subsequent case. |
| Prem Nath Kapur and Anr. v. National Fertilizers Corporation of India Ltd. and Others, (1996) 2 SCC 71 | Supreme Court of India | Overruled the decision in Mathunni Mathai’s case regarding the applicability of Order XXI Rule 1 CPC to Land Acquisition Act awards. | Established that Order XXI Rule 1 CPC cannot be extended to the execution of an award made under the Land Acquisition Act. |
| Gurpreet Singh v. Union of India (2006) 8 SCC 457 | Supreme Court of India | Approved the view taken in Prem Nath Kapur’s case. | Clarified the position on appropriation of payments and interest. |
| Bharat Heavy Electricals Ltd. v. R.S. Avtar Singh and Company (2013) 1 SCC 243 | Supreme Court of India | Summarized the principles emerging from Gurpreet Singh’s case. | Reiterated the principles on appropriation of payments. |
| Section 34(2), Code of Civil Procedure | Indian Parliament | Interest on decrees. | Used to determine that no future interest was payable as the decree was silent on the matter. |
| Byram Pestonji Gariwala v. Union Bank of India and Ors., (1992) 1 SCC 31 | Supreme Court of India | Implied authority of counsel to consent for arbitration. | Discussed but distinguished; the court held that the counsel should not act on implied authority unless there is exigency of circumstances. |
| Banwari Lal v. Chando Devi (Smt) (Through LRs.) and Anr. (1993) 1 SCC 581 | Supreme Court of India | Compromise under Order XXIII Rule 3 CPC. | Discussed that the compromise must be in writing and signed by the parties. |
| Gurpreet Singh v. Chatur Bhuj Goel (1988) 1 SCC 270 | Supreme Court of India | Compromise under Order XXIII Rule 3 CPC. | Discussed that the compromise must be in writing and signed by the parties. |
| Afcons Infrastructure Ltd. and Anr. v. Cherian Varkey Construction Co. (P) Ltd. and Ors. (2010) 8 SCC 24 | Supreme Court of India | Reference to arbitration under Section 89 CPC. | Emphasized that referring parties to arbitration requires a written agreement. |
| Shailesh Dhairyawan v. Mohan Balkrishna Lulla , (2016) 3 SCC 619 | Supreme Court of India | Reference to arbitration under Section 89 CPC. | Reiterated that reference to arbitration is by means of agreement between the parties. |
| Mahesh Dattatray Thirthkar v. State of Maharashtra (2009) 11 SCC 141 | Supreme Court of India | Scope of interference under Article 136 of the Constitution of India. | Outlined the principles for interfering with findings of fact by the High Court. |
| Taherakhatoon (D) by LRs. v. Salambin Mohammad (1999) 2 SCC 635 | Supreme Court of India | Scope of interference under Article 136 of the Constitution of India. | Cited by the contractor to argue that the Supreme Court should not re-appreciate the evidence. |
Judgment
| Submission by Parties | How the Court Treated the Submission |
|---|---|
| Contractor’s claim for payment appropriation towards interest first | Rejected. The Court held that the contractor was not justified in changing the method of calculation and claim appropriation of payments firstly towards the interest and then towards the principal amount. |
| Contractor’s claim for subsequent interest on Ex.P20 | Rejected. The Court held that the contractor was not entitled to claim further interest on the amount payable under Ex.P20 beyond the date of judgment of the High Court (02.04.1998) and in any event not beyond the date of judgment of this Court (19.07.2000). |
| Contractor’s claim for payment under Ex.P59 | Partially accepted. The Court held that the amount of Rs.1,55,65,817 was payable under Ex.P59, and the material and labor escalation charges should be calculated on a monthly basis. |
| Contractor’s claim for arbitration | Rejected. The Court held that the High Court should not have referred the parties to arbitration based on oral consent from counsel. |
How each authority was viewed by the Court?
✓ Meghraj and Others v. Mst. Bayabai and Others (1969) 2 SCC 274 and Industrial Credit and Development Syndicate now called I.C.D.S. Ltd. v. Smithaben H. Patel (Smt.) and Others (1999) 3 SCC 80: The Court acknowledged the general rule of appropriation of payments towards interest first, but stated that it is subject to the exception that the parties may agree to the adjustment of the payment in any other manner despite the decree.
✓ Mathunni Mathai v. Hindustan Organic Chemicals Ltd. and Ors., (1995) 4 SCC 26: The Court noted that this case was overruled by a subsequent case.
✓ Prem Nath Kapur and Anr. v. National Fertilizers Corporation of India Ltd. and Others, (1996) 2 SCC 71: The Court relied on this case to establish that Order XXI Rule 1 CPC cannot be extended to the execution of an award made under the Land Acquisition Act.
✓ Gurpreet Singh v. Union of India (2006) 8 SCC 457: The Court relied on this case to clarify the position on appropriation of payments and interest.
✓ Bharat Heavy Electricals Ltd. v. R.S. Avtar Singh and Company (2013) 1 SCC 243: The Court used this case to summarize the principles emerging from Gurpreet Singh’s case on appropriation of payments.
✓ Section 34(2), Code of Civil Procedure: The Court used this provision to determine that no future interest was payable as the decree was silent on the matter.
✓ Byram Pestonji Gariwala v. Union Bank of India and Ors., (1992) 1 SCC 31: The Court discussed this case but held that the counsel should not act on implied authority unless there is exigency of circumstances.
✓ Banwari Lal v. Chando Devi (Smt) (Through LRs.) and Anr. (1993) 1 SCC 581 and Gurpreet Singh v. Chatur Bhuj Goel (1988) 1 SCC 270: The Court used these cases to reiterate that the compromise must be in writing and signed by the parties.
✓ Afcons Infrastructure Ltd. and Anr. v. Cherian Varkey Construction Co. (P) Ltd. and Ors. (2010) 8 SCC 24 and Shailesh Dhairyawan v. Mohan Balkrishna Lulla , (2016) 3 SCC 619: The Court used these cases to emphasize that referring parties to arbitration requires a written agreement.
✓ Mahesh Dattatray Thirthkar v. State of Maharashtra (2009) 11 SCC 141: The Court used this case to outline the principles for interfering with findings of fact by the High Court.
✓ Taherakhatoon (D) by LRs. v. Salambin Mohammad (1999) 2 SCC 635: The Court distinguished this case and held that it can interfere with the findings of fact by the High Court if the findings are perverse.
What weighed in the mind of the Court?
The Supreme Court’s decision was primarily influenced by the following factors:
✓ Contractual Terms: The explicit clause in the contract disallowing interest on delayed payments weighed heavily.
✓ Initial Conduct of the Contractor: The contractor’s initial method of adjusting payments towards the principal was a crucial factor.
✓ Lack of Direction for Future Interest: The absence of any direction for future interest in previous court orders was critical.
✓ Adherence to Legal Provisions: The court strictly adhered to Section 34(2) of CPC and the principles of appropriation.
✓ Arbitration Requirements: The court emphasized the need for a written arbitration agreement.
✓ Public Interest: The court was concerned about the potential financial burden on the public if the High Court’s order was upheld.
| Sentiment | Percentage |
|---|---|
| Contractual Terms | 25% |
| Initial Conduct of the Contractor | 20% |
| Lack of Direction for Future Interest | 20% |
| Adherence to Legal Provisions | 15% |
| Arbitration Requirements | 10% |
| Public Interest | 10% |
| Category | Percentage |
|---|---|
| Fact | 40% |
| Law | 60% |
Logical Reasoning
The Court rejected the contractor’s argument that payments should first be adjusted towards interest, emphasizing that the contractor himself initially adjusted payments towards the principal. The Court also rejected the claim for subsequent interest, citing Section 34(2) of the CPC. The Court held that the High Court’s direction to pay uniform escalation rates was incorrect as the contractor himself calculated labour escalation on monthly basis. The Court also ruled that the reference to arbitration was invalid due to the absence of a written agreement between the parties.
The Supreme Court stated:
“In C.A.No.4092 of 2000, this Court directed the payment as per Ex.P20 and therefore, the appropriation/adjustment of payment has to be made strictly as stated in Ex.P20.”
“Under sub-section (2) of Section 34 CPC, where a decree is silent as to payment of further interest on the principal sum, it shall be deemed to have been refused.”
“When there was no arbitration agreement between the parties, without a joint memo or a joint application of the parties, the High Court ought not to have referred the parties to arbitration.”
The Court did not find any dissenting opinions.
Key Takeaways
✓ Payment Appropriation: Payments made by a debtor should be adjusted as per the terms of the contract and the decree, if any. If the contract or decree specifies the mode of appropriation, it must be followed.
✓ Interest on Decrees: If a decree is silent on future interest, it is deemed that such interest has been refused.
✓ Arbitration Agreements: Arbitration references must be based on a written agreement. Oral consent from counsel is insufficient.
✓ Contractual Clarity: Clear contractual terms regarding payment and interest are crucial to avoid future disputes.
✓ Public Interest: Courts should consider the financial implications of their decisions, especially when public funds are involved.
Directions
The Supreme Court issued the following directions:
✓ The High Court’s judgment was set aside.
✓ The arbitrator’s award was set aside.
✓ The Arbitration Appeal No.Z-47 of 2013 was allowed.
✓ The amount of Rs. 1,74,75,247 paid under Ex.P20 and Rs. 5 crores paid to the contractor was treated as full payment under Ex.P59.
Development of Law
Ratio Decidendi
The ratio decidendi of this case is that in contractual disputes where payments are made, the mode of appropriation should be as per the terms of the contract and the decree. If a decree is silent on future interest, it is deemed refused. Arbitration references must be based on a written agreement, and oral consent from counsel is insufficient.
Change in Legal Position
This judgment clarifies that the general rule of appropriation of payments towards interest first is subject to the contract and the decree. It emphasizes that the terms of the contract and the decree must be followed strictly. The judgment also reinforces the principle that arbitration references must be based on a written agreement and not on oral consent from counsel.