Supreme Court Restricts Operation of Bank Accounts During Moratorium Under IBC: Sandeep Khaitan vs. JSVM Plywood (2021)

Date of the Judgment: 22 April 2021

Citation: 2021 INSC 212

Judges: Uday Umesh Lalit, J., K.M. Joseph, J.

Can a High Court, using its inherent powers, override the restrictions imposed by the Insolvency and Bankruptcy Code (IBC) during a moratorium? The Supreme Court addressed this critical question in a case involving a dispute over the operation of bank accounts frozen due to an FIR, during the Corporate Insolvency Resolution Process (CIRP). This judgment clarifies the extent to which High Courts can interfere with the moratorium imposed under the IBC. The bench comprised Justices Uday Umesh Lalit and K.M. Joseph, with the majority opinion authored by Justice K.M. Joseph.

Case Background

The case revolves around National Plywood Industries Limited (NPIL), a company undergoing the Corporate Insolvency Resolution Process (CIRP). The appellant, Sandeep Khaitan, was appointed as the Interim Resolution Professional (IRP) and later as the Resolution Professional (RP) for NPIL. The CIRP was initiated following the admission of an application under Section 7 of the IBC on 26 August 2019. A moratorium under Section 14 of the IBC was also imposed, restricting the transfer of assets of the company.

JSVM Plywood Industries Ltd. (Respondent No. 1) claimed to be an operational creditor of NPIL. After the moratorium was in place, the former Managing Director of NPIL allegedly made unauthorized transactions, transferring ₹32.50 lakhs to Respondent No. 1. The appellant alleged that this transfer violated the moratorium and was done in conspiracy with the former Managing Director. Following this, the appellant filed a cyber complaint and an FIR on 27 April 2020. The ICICI Bank then froze the bank accounts of Respondent No. 1. Subsequently, Respondent No. 1 filed a petition under Section 482 of the Criminal Procedure Code (CrPC) in the High Court, challenging the FIR and seeking to unfreeze their bank accounts. The High Court allowed the operation of the bank account of the Respondent No. 1, which was challenged by the Appellant before the Supreme Court.

Timeline

Arguments

Appellant’s Arguments:

• The appellant argued that the High Court’s order allowing the operation of the bank account was erroneous because it overlooked the fact that the alleged illegal transaction occurred during the moratorium period.
• The appellant contended that the High Court incorrectly treated the relationship between the former Managing Director of NPIL and Respondent No. 1 as a disputed fact, despite evidence suggesting their association.
• The appellant emphasized that the transfer of funds violated Section 14 of the IBC, which prohibits the transfer of assets during the moratorium.
• The appellant relied on the judgment of the Supreme Court in P Mohanraj vs. M/S. Shah Brothers Ispat Pvt. Ltd. to support the argument that the moratorium’s purpose would be defeated if the previous management could freely transfer funds.
• The appellant highlighted that, as the Resolution Professional under Section 25(2)(a) of the IBC, he was responsible for the custody and control of all assets of the Corporate Debtor.
• The appellant argued that the High Court exceeded its jurisdiction under Section 482 of the CrPC by allowing the operation of the bank account, which undermined the statutory provisions of the IBC.

Respondent’s Arguments:

• The respondent argued that it had a long-standing business relationship with NPIL, supplying raw materials for over 15 years.
• The respondent claimed that the ₹32.50 lakhs payment was for materials supplied to NPIL and that a further ₹39 lakhs was still due.
• The respondent highlighted that it was a Micro, Small, and Medium Enterprise (MSME) and would suffer significant prejudice if the High Court’s order was set aside.
• The respondent contended that its claim of over ₹6 crores was vetted and admitted by the appellant.
• The respondent stated that it had made regular supplies to NPIL during the CIRP, amounting to ₹2,70,84,982, and payments were being made for these supplies.
• The respondent relied on an order of the NCLT, Guwahati, dated 28 January 2020, to support its claim that the business operations should continue.
• The respondent argued that the NCLT order of 20 May 2020 directed the directors of NPIL to refund the withdrawn amount less any amount paid to the supplier, which implied that the lien on their account was not justified.
• The respondent argued that the review petition against the order dated 20.05.2020 was dismissed, and therefore, there is no merit in the present appeal.

Issues Framed by the Supreme Court

The Supreme Court did not explicitly frame issues in a separate section. However, the core issue that the court addressed was:

1. Whether the High Court was justified in allowing the operation of the bank accounts of Respondent No. 1, which were frozen due to an FIR, during the moratorium period under the IBC?

Treatment of the Issue by the Court

The following table demonstrates as to how the Court decided the issue:

Authorities

The Supreme Court considered the following authorities:

Cases:

• P Mohanraj vs. M/S. Shah Brothers Ispat Pvt. Ltd. (Civil Appeal No. 10355 of 2018) – Supreme Court of India. This case was cited by the appellant to support the argument that the moratorium’s purpose would be defeated if the previous management could freely transfer funds.

Legal Provisions:

• Section 7 of the Insolvency and Bankruptcy Code, 2016 (IBC) – This section deals with the initiation of the Corporate Insolvency Resolution Process (CIRP) by a financial creditor.
• Section 14 of the IBC – This section provides for a moratorium on the transfer of assets of the Corporate Debtor during the CIRP. The court emphasized the importance of this provision in preventing the dissipation of assets.
• Section 17 of the IBC – This section specifies that the management of the affairs of the Corporate Debtor vests in the Interim Resolution Professional (IRP) upon the admission of the application under Section 7.
• Section 19 read with Section 23(2) of the IBC – These sections relate to the non-cooperation by the previous management of the Corporate Debtor and the powers of the IRP/RP.
• Section 25(2)(a) of the IBC – This section outlines the duties of the Resolution Professional to take custody and control of all the assets of the Corporate Debtor.
• Section 28 of the IBC – This section requires the Resolution Professional to seek prior approval of the Committee of Creditors in certain matters.
• Section 482 of the Criminal Procedure Code (CrPC) – This section deals with the inherent powers of the High Court. The court discussed the limits of this power, particularly in the context of statutory provisions like the IBC.
• Regulation 32 of the Insolvency and Bankruptcy Board of India (Insolvency Resolution Process for Corporate Persons) Regulations, 2016 – This regulation defines essential goods and services during the moratorium period.
• Section 14(2A) of the IBC – This provision allows for the supply of goods or services critical to protect the value of the corporate debtor, as determined by the IRP/RP.

Judgment

The Supreme Court modified the High Court’s order, holding that the High Court had overstepped its jurisdiction by allowing the operation of the bank accounts of Respondent No. 1 without considering the statutory restrictions under Section 14 of the IBC. The Court emphasized that the moratorium under Section 14 is crucial for the resolution process and that the High Court’s order undermined this provision. The Court allowed Respondent No. 1 to operate its account only after remitting ₹32.50 lakhs to the Corporate Debtor’s account.

How each authority was viewed by the Court:

• The Supreme Court relied on P Mohanraj vs. M/S. Shah Brothers Ispat Pvt. Ltd. [CITATION] to emphasize that the purpose of the moratorium under the IBC would be defeated if the previous management could freely transfer funds.
• The Court emphasized the importance of Section 14 of the IBC, stating that the moratorium is crucial for the resolution process and that the High Court’s order undermined this provision.
• The Court noted that Section 17 of the IBC vests the management of the affairs of the Corporate Debtor in the IRP upon the admission of the application under Section 7.
• The Court also considered Section 482 of the CrPC, stating that the High Court’s inherent powers cannot be used to undermine statutory provisions like the IBC.

What weighed in the mind of the Court?

The Supreme Court’s reasoning was primarily driven by the need to uphold the statutory provisions of the Insolvency and Bankruptcy Code, 2016 (IBC), particularly the moratorium under Section 14. The Court emphasized that the moratorium is crucial for the resolution process and should not be undermined by orders passed under the inherent powers of the High Court. The Court was also concerned that allowing the operation of bank accounts during the moratorium without proper oversight would defeat the purpose of the IBC, which is to protect the assets of the Corporate Debtor and ensure a fair resolution process. The court’s reasoning was rooted in the principle that statutory provisions must be given primacy and that the inherent powers of the High Court cannot be used to circumvent such provisions.

The Court considered alternative interpretations, such as allowing the operation of the bank account based on the business relationship between the parties, but rejected them to uphold the statutory provisions of the IBC. The final decision was reached by emphasizing the importance of the moratorium under Section 14 and the need to protect the assets of the Corporate Debtor during the CIRP. The court’s reasoning was that the High Court’s order undermined the statutory provisions of the IBC, specifically Section 14, which imposes a moratorium on the transfer of assets during the CIRP. The Court directed the Respondent No. 1 to first remit the amount of ₹32.50 lakhs into the account of the Corporate Debtor before operating its account.

The court’s decision was based on the following reasons:

• The High Court’s order overlooked the statutory provisions of the IBC, particularly the moratorium under Section 14.
• The transfer of funds during the moratorium violated Section 14 of the IBC.
• The High Court exceeded its jurisdiction under Section 482 of the CrPC by undermining the statutory provisions of the IBC.
• The moratorium is crucial for the resolution process and should not be undermined.

The Court stated: “The words ‘to secure the ends of justice ’ in Section 482 cannot mean to overlook the undermining of a statutory dictate , which in this case is the provisions of Section 14, and Section 17 of the IBC.”

The Court also stated: “It would appear to us that having regard to the orders passed by the NCLT admitting the application, under Section 7 , and also the ordering of moratorium under Section 14 of the IBC and the orders which have been passed by the tribunal otherwise, the impugned order of the High Court resulting in the Respondent No. 1 being allowed to operate the account without making good the amount of Rs 32.50 lakhs to be placed in the account of the Corporate Debtor cannot be sustained.”

The Court further clarified: “The assets of the Corporate Debtor shall be managed strictly in terms of the provisions of the IBC. The Appellant as RP will bear in mind the provision of Section 14 (2A) and the object of IBC.”

Key Takeaways

• During the moratorium period under Section 14 of the IBC, all financial transactions of the Corporate Debtor are strictly prohibited unless explicitly permitted by the IRP/RP or the Committee of Creditors.
• High Courts cannot use their inherent powers under Section 482 of the CrPC to undermine the statutory provisions of the IBC.
• The moratorium under Section 14 of the IBC is crucial for the resolution process and should be strictly adhered to.
• Any transactions made during the moratorium without the approval of the IRP/RP are considered illegal and can be reversed.
• The Resolution Professional has the responsibility to take custody and control of all the assets of the Corporate Debtor.
• The judgment reinforces the primacy of the IBC in matters of corporate insolvency and resolution.

Directions

The Supreme Court gave the following directions:

• The Respondent No. 1 is allowed to operate its account subject to it first remitting into the account of the Corporate Debtor, the amount of ₹32.50 lakhs which was paid to it by the management of the Corporate Debtor.
• The assets of the Corporate Debtor shall be managed strictly in terms of the provisions of the IBC.
• The Appellant as RP will bear in mind the provision of Section 14 (2A) and the object of IBC.
• The order shall not be taken as a pronouncement on the issues arising from the FIR, including the petition pending under Section 482 of the CrPC.
• The judgment will not stand in the way of the Respondent No.1 pursuing its claim with regard to its entitlement to a sum of ₹32.50 lakhs and any other sum from the Corporate Debtor or any other person in the appropriate forum and in accordance with law.

Development of Law

The ratio decidendi of this case is that the moratorium under Section 14 of the IBC is a statutory bar on the transfer of assets of the Corporate Debtor and that the High Court cannot circumvent this provision using its inherent powers under Section 482 of the CrPC. This judgment reaffirms the importance of the moratorium in protecting the assets of the Corporate Debtor during the CIRP and ensures that the resolution process is not undermined by unauthorized transactions. The judgment clarifies that any transactions made during the moratorium without the approval of the IRP/RP are considered illegal and can be reversed. This is not a change in the previous position of law, but a reiteration and clarification of the existing legal framework under the IBC.

Conclusion

The Supreme Court, in this case, modified the order of the High Court, emphasizing the importance of the moratorium under Section 14 of the IBC. The Court held that the High Court’s order allowing the operation of the bank account of Respondent No. 1 during the moratorium was not sustainable. The Court directed Respondent No. 1 to remit ₹32.50 lakhs to the Corporate Debtor’s account before operating its account. This judgment reinforces the primacy of the IBC in matters of corporate insolvency and resolution and clarifies that High Courts cannot use their inherent powers to circumvent statutory provisions of the IBC.

Category

Parent Category: Insolvency Law

Child Category: Section 14, Insolvency and Bankruptcy Code, 2016

FAQ

Q: What is a moratorium under the Insolvency and Bankruptcy Code (IBC)?
A: A moratorium under Section 14 of the IBC is a period during which certain actions against a Corporate Debtor are prohibited, such as transferring, encumbering, alienating or disposing of its assets. This is to allow the resolution process to proceed without interference.

Q: Can a High Court override the moratorium imposed under the IBC?
A: No, a High Court cannot use its inherent powers under Section 482 of the CrPC to undermine the statutory provisions of the IBC, including the moratorium under Section 14.

Q: What happens if a transaction occurs during the moratorium period?
A: Any transaction during the moratorium period that violates Section 14 of the IBC is considered illegal and can be reversed. The funds must be returned to the Corporate Debtor’s account.

Q: What should a business do if it needs to make payments during the moratorium?
A: During the moratorium, all financial transactions must be approved by the Interim Resolution Professional (IRP) or Resolution Professional (RP). Businesses should seek approval from the IRP/RP before making any payments.

Q: What is the role of the Resolution Professional (RP) during the moratorium period?
A: The Resolution Professional (RP) is responsible for taking custody and control of all the assets of the Corporate Debtor. They must ensure that the moratorium is strictly adhered to and that no illegal transactions occur.

Q: What is the significance of the Supreme Court’s decision in this case?
A: The Supreme Court’s decision reinforces the primacy of the IBC in matters of corporate insolvency and resolution. It clarifies that High Courts cannot use their inherent powers to circumvent statutory provisions of the IBC, particularly the moratorium under Section 14. It also highlights the importance of protecting the assets of the Corporate Debtor during the CIRP.

Q: Can a creditor pursue its claim during the moratorium period?
A: Yes, a creditor can pursue its claim in the appropriate forum and in accordance with the law. However, the creditor cannot take any action that violates the moratorium, such as attaching the assets of the Corporate Debtor. The creditor can submit its claim to the Resolution Professional for consideration.