A review of the DRAT Mumbai’s decision on the priority of government debt over secured debt under the IBC

Introduction

The Insolvency and Bankruptcy Code, 2016 (IBC) is a comprehensive legislation that aims to provide a speedy and efficient resolution of insolvency and bankruptcy cases in India. The IBC lays down the hierarchy of claims in the distribution of assets of a corporate debtor undergoing liquidation. According to section 53 of the IBC, the claims of secured creditors rank higher than the claims of the central government, any state government or any local authority. However, this provision has been challenged by various government authorities in different cases, claiming that their dues are entitled to precedence over the secured creditors’ dues.

Background

One such case was IndusInd Bank Ltd. vs Sales Tax Officer & Ors., decided by the Debt Recovery Appellate Tribunal (DRAT) Mumbai on 22nd March 2023. The case involved a dispute between IndusInd Bank Ltd. (the appellant bank) and the Sales Tax Officer (the respondent authority) over the recovery of sales tax dues from a corporate debtor, M/s. Shree Ganesh Jewellery House (I) Ltd. (the corporate debtor).

The corporate debtor had availed various credit facilities from the appellant bank and had created security interest over its movable and immovable properties in favour of the bank. The corporate debtor had also defaulted in paying sales tax dues to the respondent authority. The respondent authority had issued various notices and orders for recovery of sales tax dues from the corporate debtor.

The corporate debtor was admitted into corporate insolvency resolution process (CIRP) under the IBC on 10th July 2019 by an order of the National Company Law Tribunal (NCLT) Kolkata. The appellant bank submitted its claim as a secured creditor before the resolution professional (RP) appointed for the CIRP. The respondent authority also submitted its claim as an operational creditor before the RP.

The CIRP failed to yield any resolution plan and the corporate debtor was ordered to be liquidated by the NCLT Kolkata on 7th February 2020. The liquidator appointed for the liquidation process invited claims from all the stakeholders of the corporate debtor. The appellant bank and the respondent authority submitted their claims as secured creditor and operational creditor respectively before the liquidator.

The liquidator prepared a list of stakeholders and their claims and submitted it to the NCLT Kolkata for approval. The list showed that the appellant bank had a claim of Rs. 1,02,62,00,000/- as a secured creditor and the respondent authority had a claim of Rs. 1,05,00,000/- as an operational creditor. The list also showed that the liquidation value of the assets of the corporate debtor was Rs. 1,03,00,00,000/-.

The respondent authority objected to the list prepared by the liquidator and contended that its claim should be treated as a statutory first charge over the assets of the corporate debtor and should be paid in priority over the secured creditors’ claims. The respondent authority relied on section 38C of the Maharashtra Value Added Tax Act, 2002 (MVAT Act), which provides that any amount of tax, penalty or interest payable by a dealer under this Act shall be a first charge on his property.

The appellant bank opposed the objection raised by the respondent authority and argued that section 38C of the MVAT Act was not applicable to the case as it was inconsistent with section 53 of the IBC. The appellant bank contended that section 53 of the IBC was a special law that prevailed over any other law in relation to insolvency and bankruptcy matters. The appellant bank also cited various judgments of various courts and tribunals that upheld the supremacy of section 53 of the IBC over any other law that claimed priority for government dues.

The NCLT Kolkata rejected the objection raised by the respondent authority and approved the list prepared by the liquidator. The NCLT Kolkata held that section 53 of the IBC was clear and unambiguous in providing that secured creditors’ claims ranked above government dues in liquidation proceedings. The NCLT Kolkata also held that section 38C of the MVAT Act was not applicable to insolvency cases as it was not a general law but a fiscal statute that dealt with tax matters only.

The respondent authority challenged the order passed by the NCLT Kolkata before the DRAT Mumbai.

DRAT Mumbai’s Decision

The DRAT Mumbai dismissed the appeal filed by the respondent authority and upheld the order passed by the NCLT Kolkata. The DRAT Mumbai agreed with the reasoning and findings of the NCLT Kolkata and held that section 53 of the IBC was a special law that governed the distribution of assets of a corporate debtor undergoing liquidation and that it overrode any other law that claimed priority for government dues. The DRAT Mumbai also held that section 38C of the MVAT Act was not applicable to insolvency cases as it was a fiscal statute that dealt with tax matters only.

The DRAT Mumbai relied on various judgments of the Supreme Court, the High Courts and the NCLAT that affirmed the supremacy of section 53 of the IBC over any other law that claimed priority for government dues. The DRAT Mumbai also referred to the report of the Bankruptcy Law Reforms Committee (BLRC) that recommended the enactment of the IBC and the rationale behind the hierarchy of claims under section 53 of the IBC. The DRAT Mumbai observed that the BLRC had given due consideration to the interests of all stakeholders, including the government, and had balanced them with the objective of maximizing the value of assets and promoting entrepreneurship.

The DRAT Mumbai concluded that government debt in India was not entitled to precedence over a prior secured debt and that section 53 of the IBC was clear and unambiguous in this regard.

Conclusion

The DRAT Mumbai’s decision in IndusInd Bank Ltd. vs Sales Tax Officer & Ors. is a significant one as it reaffirms the principle of secured creditors’ priority over government dues in liquidation proceedings under the IBC. The decision also clarifies that section 38C of the MVAT Act, which provides for a statutory first charge on property for sales tax dues, is not applicable to insolvency cases as it is inconsistent with section 53 of the IBC. The decision is in line with the objective and spirit of the IBC, which aims to provide a speedy and efficient resolution of insolvency and bankruptcy cases in India. For a brief summary, full judgment and original judgment PDF of this case, one can visit this link.