Secured Creditor or Revenue Department- Who has priority over liquidation of their respective dues? Bombay HC frames and answers Seven substantial questions

Bombay High Court

   

Bombay High Court: The issue before the Court in the instant matter was that between a secured creditor (defined in SARFAESI Act and Recovery of Debt and Bankruptcy Act), and the revenue departments of the Central/State Governments, who can legally claim priority for liquidation of their respective dues qua the borrower/dealer upon enforcement of the ‘security interest' and consequent sale of the ‘secured asset'. The 3 Judge Bench of Dipankar Datta, CJ., and M.S. Karnik and N.J. Jamadar, JJ., while deliberating upon the question went on to frame and answer seven substantial questions of law on the issue.

Background: Prior to 1993, for effecting recovery of debts, the lenders were required to institute suits regulated by the provisions of the CPC. However, the lengthy processes and other problems led to ‘retardation of economic growth'. It is at this point that the Parliament enacted the Recovery of Debts Due to Banks and Financial Institutions Act, 1993, which was instrumental in establishing the Debt Recovery Tribunals in various States for expeditious adjudication and recovery of debts due to the lenders and other connected matters.

In due course of time, even the creation of DRTs fell short of achieving the desired results and after many deliberations, the SARFAESI Act came into being, which aimed at evolving means for faster recovery of dues without judicial intervention. The afore-stated legislations were deliberated by the Supreme Court in Central Bank of India v. State of Kerala, (2009) 4 SCC 94, wherein it was held that these legislations do not create first charge in favour of banks, financial institutions and other secured creditors over the first charge created under State legislations because Parliament did not intend to give priority to the dues of private creditors over sovereign debt of the State.

Later in 2016, via an amendment, the Recovery of Debts Due to Banks and Financial Institutions Act, 1993 was rechristened as Recovery of Debt and Bankruptcy Act and Section 31-B- ‘Priority to the Secured Creditors' was incorporated. Even SARFAESI underwent an amendment in 2016 and Chapter IV-A- ‘Registration by Secured Creditors and Other Creditors', was added. These amendments resulted in another slew of decisions by several High Courts wherein it was observed that the amendments have tilted the scales in favour of the secured creditors and being a pre-2016 Amendment decision, the Central Bank of India case is no longer relevant.

Given the broad questions of law involved in the issue, the Division Bench of this Court comprising of Dipankar Datta, CJ., and M.S. Karnik, J., referred the matter to a larger Bench for consideration, therefore leading to the present writ petition

Primary Contentions: The secured creditors submitted that the priority created by Section 31-B of RDDB Act is not restricted to enforcement under this Act itself as the provision recognizes priority in a general manner. It was further submitted that the SARFAESI Act also recognises priority. It was contended that in view of amendments brought in both the Central enactments, they are entitled to assert priority over claims of the State sales tax department under the Maharashtra Value Added Tax Act.

The creditors also submitted that there is no dispute that the Central Acts and the State legislations operate in different fields and there is no apparent repugnancy; on the contrary, the State legislations are clear to this extent that the same would yield to Central Acts creating first charge.

Per contra, the State Government and its departments argued that Section 26-E as inserted in the SARFAESI Act does not create first charge in favour of the secured creditors; it only provides priority of payment to secured creditors over other creditors. Placing their interpretation of the newly added provisions, the counsels contended that that ‘priority' as inserted by the 2016 Amendment Act shall not displace the ‘first charge' of the State wherever the respective enactments provide so. The secured creditors shall have ‘priority' over Government dues only in cases where dues arising out of an enactment did not provide for the ‘first charge'.

Seven Questions of Law framed by the Court

  1. Does a secured creditor have a prior right over the relevant department of the Government to appropriate the amount realized by the sale of a secured asset?

  2. Despite Section 26-E in the SARFAESI Act or Section 31-B of the RDDB Act being attracted in a given case, whether dues accruing to a department of the Government ought to be repaid first by reason of ‘first charge' created over any property by operation of law (viz. the legislation in force in Maharashtra) giving such dues precedence over the dues of a secured creditor?

  3. Are the provisions in the SARFAESI Act according ‘priority' in payment of dues to a secured creditor for enforcing its security interest, prospective in nature?

  4. Whether Section 31-B of the RDDB Act can be pressed into service for overcoming the disability that visits a secured creditor in enforcing its security interest under the SARFAESI Act, upon such creditor's failure to register the security interest in terms of the amendments introduced in the SARFAESI Act?

  5. Whether the priority of interest contemplated by section 26-E of SARFAESI Act could be claimed by a secured creditor without registration of the security interest with the Central Registry?

  6. When, (if at all) can it be said that the statutory first charge under the State legislations (MVAT Act, MGST Act) stands displaced having regard to introduction of Chapter IV-A in the SARFAESI Act from 24-01- 2020?

  7. Whether an auction purchaser of a secured asset would be liable to pay the dues of the department in order to obtain a clear and marketable title to the property having purchased the same on “as is where is and whatever there is basis”?

The Answers

Questions 1 and 2: The Court perused the newly added provisions in the SARFAESI Act via the 2016 Amendment and noted that the object that the Parliament had in mind while incorporating Chapter IV-A in the SARFAESI Act seems crystal clear. “The dominant theme of the additions in the statute were intended to emphasize upon the need to register transactions of securitisation, reconstruction and creation of security interest with the Central registry (CERSAI)”. It was observed that Parliament designed Chapter IV-A in such a manner so as to include provisions which on the one hand, would disable any secured creditor to exercise the right of enforcing security interest under Chapter III of the SARFAESI without the CERSAI registration, and on the other enable the secured creditor, if it has the CERSAI registration, to claim priority over all other debts and all revenues, taxes, etc., in the matter of payment of the debts due to it. The Parliament used the word ‘priority over all other dues' in the SARFAESI Act to obviate any confusion as to inter-se distribution of proceeds received from sale of properties of the borrower/dealer.

Bare perusal of the 2016 Amending Act would show that the dues of the Central/State Governments were in the specific contemplation of the Parliament while it amended the RDDB Act and the SARFAESI Act, both of which make specific reference to debts and all revenues, taxes, cesses and other rates payable to the Central Government or State Government or local authority and ordains that the dues of a secured creditor will have ‘priority', i.e., take precedence.

It was stated the SARFAESI and RDDB Act being Central legislations, will prevail over State legislations as per the principle enshrined in Art. 254 of the Constitution. “Subject to compliance of the terms of Chapter IV-A, Section 26-E of the SARFAESI Act would thus override any provision in the MGST Act and the BST Act in case of a conflict with the SARFAESI Act”.

We have no hesitation to hold that the dues of a secured creditor (subject of course to CERSAI registration) and subject to proceedings under the IBC, would rank superior to the dues of the relevant department of the State Government”.

Question 3: Answering the question in affirmative, the Court once delved into the intention of the Legislature into bringing the 2016 Amendments in SARFAESI Act and RDDB Act via its Statement of Objects and Reasons. It was observed that the amendment was proposed to bring about a substantive change in the law and these changes were introduced for the first time “to suit changing credit landscape and augment ease of doing business”, as appears from the Statement for the amendment. These substantial changes, remedial in nature, having been brought in force for the first time, amount to substantive law and cannot be given retrospective effect. It was further noted that express provision in Section 26-D regulating the exercise of power by secured creditors, by barring them to take recourse to Chapter III of the SARFAESI Act without the CERSAI registration, there could be little doubt as to the fact that Section 26-E of the SARFAESI Act would apply prospectively from the date it was brought into force, i.e., 24-01- 2020.

Question 4: Answering this question negative, the Court observed that a statute has to be construed after ascertaining the legislative intent and in the context and scheme of the enactment. It was further stated that the end result of the RDDB Act and the SARFAESI Act is recovery of money, however, the process of recovery under the RDDB Act is largely court driven; and the process of recovery under the SARFAESI Act is essentially without court intervention. The nature of the two proceedings is, therefore, completely different.

The non-obstante clause in Section 31-B of RDDB Act makes it inescapably clear that the provision cannot be pressed into service in all cases where a secured creditor seeks enforcement of a security interest by taking recourse to the SARFAESI Act. Meanwhile, Sections 26-D and 26-E of SARFAESI Act, when read together, provides a special manner in which a secured creditor may enforce its security interest in supersession of others, without the intervention of courts. Enforcement of security interest under the SARFAESI Act by any other method is (if not expressly) impliedly barred.

Thus, Section 31-B of RDDB Act cannot be invoked to undo the disability that is expressly imposed by Section 26-D of the SARFAESI Act, more so when both these provisions have been brought on the respective statute books by the same 2016 Amending Act (notwithstanding that the two sections were made operative on different dates).

“A secured creditor, finding that it is disabled from obtaining the benefit of ‘priority' in terms of Section 26-E of the SARFAESI Act for want of CERSAI registration, cannot fall back on Section 31-B of the RDDB Act to claim ‘priority'”

Question 5: It was noted that the drastic power made available to a secured creditor by provisions contained the SARFAESI Act to dispossess the borrower/guarantor from the secured asset without intervention of Courts (but necessarily upon compliance with the procedural safeguards laid down therefor) has seemingly been arrested to a limited extent by incorporation of Section 26-D by the 2016 Amending Act. “Section 26-D, which also opens with a non-obstante clause, prohibits a secured creditor from exercising the rights for enforcement of security interest conferred by Chapter III, unless the secured interest created in its favour by the borrower has been registered with the CERSAI”. Not only registration with the CERSAI has been made a mandatory pre-condition for invocation of the provisions contained in Chapter III of the SARFAESI Act, the provisions relating to debts that are due to any secured creditor is available to be invoked only after the registration of security interest.

“This leads to the irresistible and inevitable conclusion that unless the security interest is registered, neither can the borrower seek enforcement invoking the provisions of Chapter III of the SARFAESI Act nor does the question of priority in payment would arise without such registration”.

Question 6: The Court opined if there has been an attachment and a proclamation thereof has been made according to a law prior to 24-01-2020 or 01-09-2016, i.e., the dates on which Chapter IV-A of the SARFAESI Act and Section 31-B of the RDDB Act, respectively, were enforced, the department may claim that its dues be paid first notwithstanding the secured dues of the secured creditors. However, in the absence of an order of attachment being made public in a manner known to law, once Chapter IV-A of the SARFAESI Act or Section 31-B has been enforced; the dues of the secured creditor surely would have ‘priority'.

In other words, if the immovable property of the defaulter is shown to have been attached in accordance with any law being enforced prior to Chapter IV-A of the SARFAESI Act, or Section 31-B of the RDDB Act and such attachment is followed by a proclamation according to law, the ‘priority' accorded by Section 26E of SARFAESI and Section 31-B of RDDB Act would not get attracted.

Question 7: It was observed that, notwithstanding the duty of the authorized officer to indicate the encumbrances attached to the secured asset in the sale advertisement inviting bids; if any detail in regard to such encumbrances is not indicated but the sale is expressly made on “as is where is, whatever there is basis”, the transferee shall be duty bound to deposit money for discharge of the encumbrances provided. However, such liability may be overcome if he is in a position to disprove the claim of the department that he had no constructive notice of the charge.

[Jalgaon Janta Sahakari Bank Ltd. v. Joint Commissioner of Sales Tax, 2022 SCC OnLine Bom 1767, decided on 30-08-2022]


Advocates who appeared in this case :

Rajiv Narula a/w Mehek Choudhary i/b. Jhangiani Narula and Associates for the petitioners in WP/2935/2018.


*Sucheta Sarkar, Editorial Assistant has prepared this brief.

Join the discussion

Leave a Reply

Your email address will not be published.

This site uses Akismet to reduce spam. Learn how your comment data is processed.