Examining the Non-Inclusion of Unagreed Interest as Operational Debt and MSME Claims before NCLT and MSEFC

Introduction: NCLT Ruling on Interest Claims and Operational Debt

In a landmark decision, the NCLT Mumbai Bench in KBC Infrastructures Pvt. Ltd. v. Shapoorji Pallonji and Company Pvt. Ltd. clarified the classification of interest as operational debt under Section 5(21) of the Insolvency and Bankruptcy Code (IBC). This article analyzes the implications of the NCLT’s ruling on the exclusion of unagreed interest from operational debt and outlines how the MSME Act interfaces with IBC in the context of interest claims by MSMEs.

Case Background

In KBC Infrastructures Pvt. Ltd. v. Shapoorji Pallonji and Company Pvt. Ltd., KBC Infrastructures Pvt. Ltd., an operational creditor, supplied construction materials to Shapoorji Pallonji and Company Pvt. Ltd. over several years. Upon delayed payments, KBC issued a demand notice under Section 8 of the IBC, seeking initiation of Corporate Insolvency Resolution Process (CIRP) under Section 9. Alongside the principal debt, KBC claimed interest at 18% per annum on delayed payments. However, Shapoorji Pallonji disputed this claim, particularly the inclusion of interest as operational debt, since it was not expressly agreed upon in their contracts.

Key Issues Raised

The case presented three main legal questions:

1. Can interest on delayed payments be claimed as operational debt under Section 5(21) of IBC if not contractually agreed?
2. Where should MSMEs claim interest on delayed payments—before the MSME Facilitation Council or the NCLT?
3. Does the IBC allow NCLT to serve as a recovery mechanism for disputed claims?

Court’s Analysis and Findings

Exclusion of Unagreed Interest from Operational Debt Under IBC

Section 5(21) of the IBC defines operational debt as a “claim in respect of the provision of goods or services, including employment or a debt in respect of the repayment of dues.” The NCLT found that interest, if not mutually agreed upon, does not arise from the “provision of goods or services.” Consequently, unagreed interest does not qualify as operational debt under Section 5(21).

Court’s Observation:

“The Code does not classify interest as ‘operational debt’ unless it is expressly agreed upon between the parties. Without a contractual agreement, interest cannot form part of ‘operational debt’ under Section 5(21).” .

The judgment clarified that although MSMEs may be entitled to statutory interest under the MSME Act, such claims are not operational debts within the IBC unless agreed upon. Therefore, KBC’s claim for interest at 18% per annum did not qualify for CIRP under the Code.

Proper Forum for MSME Interest Claims

Under Section 16 of the MSME Act, MSMEs are entitled to statutory interest on delayed payments. However, the NCLT noted that claims under the MSME Act should be addressed by the MSME Facilitation Council (MSEFC) as outlined in Section 18, rather than the NCLT.

Relevant Provision: Section 16 of the MSME Act

Section 16 entitles MSMEs to interest on delayed payments, calculated at three times the bank rate if payments are not made within a specified period.

Court’s Stand on MSME Interest Claims:

“The correct forum for MSMEs to claim interest under Section 16 of the MSME Act is the MSEFC. Interest claims unrelated to the provision of goods or services cannot be entertained under the IBC’s CIRP framework.” .

This finding underscores the clear separation between MSME Act claims and the IBC. The MSEFC is the designated body to address interest claims from MSMEs, reinforcing that the NCLT’s role in CIRP is not to resolve disputes concerning interest or other recovery issues, especially when they do not constitute operational debt.

NCLT as a Non-Recovery Forum

The NCLT emphasized that the IBC is not a debt recovery mechanism, particularly when disputes or pre-existing disagreements exist between the parties. As articulated in the Supreme Court’s decision in Mobilox Innovations Pvt. Ltd. v. Kirusa Software Pvt. Ltd., CIRP is meant for bona fide insolvency proceedings, not disputed claims or recovery actions.

Court’s Rationale:

“It is well-established that the Code cannot be used as a recovery mechanism. NCLT is not a debt collection forum; the object of CIRP is to address insolvency, not to penalize solvent companies for disputed claims.” .

The Court found that Shapoorji Pallonji had raised legitimate concerns over pre-existing disputes, highlighting that debtors are allowed to submit relevant information to NCLT even if they did not respond to a Section 8 demand notice. Thus, NCLT’s role in CIRP does not extend to enforcing interest claims, particularly when disputes arise.

Judicial Precedents Referenced

1. Mobilox Innovations Pvt. Ltd. v. Kirusa Software Pvt. Ltd. (2018): The Supreme Court held that CIRP is designed to address clear, undisputed debts. Disputed dues do not qualify under Section 9 of the IBC, reinforcing the NCLT’s non-recovery function.
2. K. Kishan v. Vijay Nirman Co. Pvt. Ltd. (2018): This case clarified that IBC should not be invoked to enforce disputed debts or as an alternative to recovery proceedings.

These precedents emphasize that NCLT’s jurisdiction is limited to clear cases of default where no genuine dispute exists regarding debt, and that MSME interest claims should be pursued through appropriate channels such as the MSEFC.

Conclusion: Impact of NCLT’s Ruling on Interest Claims and MSME Debt

The NCLT’s decision in KBC Infrastructures Pvt. Ltd. v. Shapoorji Pallonji and Company Pvt. Ltd. establishes crucial principles for MSMEs and operational creditors:

1. Interest Claims and Operational Debt: Interest on delayed payments, if not contractually agreed, does not form part of operational debt under Section 5(21) of the IBC.
2. Correct Forum for MSME Claims: MSME interest claims fall under the jurisdiction of the MSME Facilitation Council, not NCLT, emphasizing the distinct functions of the two bodies.
3. IBC as an Insolvency Framework, Not a Recovery Tool: The NCLT is not a forum for debt recovery, particularly for disputed claims or those lacking clear contractual agreements.

This judgment provides clarity on operational debt’s scope under IBC and reinforces the procedural pathways for MSMEs and creditors to seek interest on delayed payments through appropriate forums. For legal professionals, it underscores the necessity of contractual clarity for interest claims and highlights NCLT’s restrained role in handling insolvency rather than debt enforcement.