During the regime of the Companies Act, 1956, there used to be no distinction between financial and operational debts. Section 433(e) of the Companies Act, 1956, only stated that a company may be wound up by the court, if it is unable to pay its debts. Thus, the issue regarding interest included within the purview of debt was not addressed within the statute. However, the same issue was address by High Courts across the country through various decisions.
Now, with the introduction of the Insolvency and Bankruptcy Code, 2016, both financial and operational debts have been defined and differentiated with the former expressly providing for interest as part of the debt.
POSITION UNDER THE COMPANIES ACT, 1956
Courts in the country under the Companies Act, 1956, have held that non-payment of interest will amount to an inability to pay debt and the same is a ground for initiating winding-up proceedings. The judgments passed by the courts have primarily sought to avoid the multiplicity of proceedings which would result in inevitability of the outcome, in case a creditor is required to initiate separate proceedings for its claim on interest. In certain other cases however, it was held that winding up proceedings are not for recovery of debt, and the creditors cannot use the Company Court as a forum for establishing a claim of interest.
The Punjab and Haryana High Court1 held that if, after the filing of winding up, the company pays the principal amount to the creditor during the pendency of the petition but fails to pay interest, the company can be ordered to be wound up. Following this decision, the Orissa High Court2 held that a company is liable to be wound up for failure to pay interest. In both the aforesaid cases, debt arose as consideration for the sale of goods.
Apart from the aforesaid cases, the Punjab & Haryana High Court3, the Madras High Court4 and the Delhi High Court5, have held that even in absence of an agreement between the parties with respect to the rate of interest, Company Court can determine a reasonable rate of interest, and in order to avoid multiplicity of proceedings, also calculate its quantum. However, the Andhra Pradesh High Court6 and the Rajasthan High Court7 took a contrary view and held that a company can be wound up only when it has been proved that the debt claimed is definite and undisputed and Section 61(2)(a) of the Sales of Goods Act, 1930, as also the provisions of the Interest Act confer discretion to a Civil Court to award interest, in a suit for recovery of money or damage, which winding-up proceedings are not.
The Karnataka High Court8, however attempted to harmonise the law and held that a credit bill or invoice is a unilateral demand by the supplier and interest could be awarded in those terms only, if it was supported by an agreement or promise to pay interest by the receiver. Such an agreement could only be established with reference to any correspondence which can be in the form of counter-signing of the invoice by the purchaser, or either by acceptance by the purchaser of the terms of the invoice which relates to interest and therefore, in absence of any contractual or legal liability, mere omission to deny a demand made in a notice will neither create a liability, nor act as an estoppel for subsequent denial by the company.
The Supreme Court9 relied upon the provisions for payment of interest in the Payment of Interest Act, 1978, and the need to avoid multiplicity of proceedings to differentiate between the two situations viz. the one where the amount of debt was not definite or ascertainable, and the other where the principal amount stood admitted, but dispute arose as to whether any agreement had been entered into for payment of the rate of interest. While dealing with the latter, the Supreme Court held that the winding up proceeding cannot be dismissed and even awarded interest at a rate on its discretion.
However, in the aforesaid case, the Supreme Court did not examine that in reality, the conduct of parties are quite contrary to the terms of the purchase order/ invoice/bill. Moreover, the Supreme Court also did not examine that the provisions for interest (under the Sale of Goods Act or Payment of Interest Act) are heavily relied upon in proceedings for recovery of monies, which winding up petitions are not meant for.
POSITION UNDER THE INSOLVENCY AND BANKRUPTCY CODE, 2016
Under the Insolvency and Bankruptcy Code, 2016 (IBC) debts have been classified into two types viz. financial and operational debts. Section 5(8) of the IBC defines a financial debt as a debt along with interest, if any, which is disbursed against the consideration for the time value of money. In general, interest that is payable on a loan at a rate mutually agreed by the parties represents the "time value of money" which is the consideration for advancing a loan. Therefore, under Section 7 of IBC, insolvency proceedings can be initiated for default of payment of interest which has become due.
However, on the other hand, Section 5(21) of the IBC defines an 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 arising under any law for the time being in force and payable to the Central Government, any State Government or any local authority. In view of the aforesaid definition, the issue then arises as to whether interest can be claimed as an operational debt as well.
The National Company Law Bench, Chandigarh Bench10 held that the interest mentioned in the invoices are to be unilateral act of the creditor and thus the claim of the creditor has to be rejected and it was never the intention of legislature to put an obligation upon the Adjudicating Authority to determine the rate of interest.
However, National Company Law Bench, Mumbai Bench11 and recently National Company Law Bench, Kolkata Bench12 (set aside by National Company Law Appellate Tribunal in view of settlement between parties), it was held that if a party fails to repay within a fixed time, interest can be claimed over an operational debt as well. In both the aforesaid cases, it was found that the invoices clearly carried a stipulation of payment of interest on overdue payment and the Corporate Debtor agreed to pay interest by countersigning the invoices and therefore non-payment of interest constituted default.
With contrary decisions coming from different National Company Law Tribunal benches, there continues to be an ambiguity on whether interest, which does not flow from a written contract, would form part of an operational debt. Since, National Company Law Tribunal, under the IBC, has not been envisaged as a body to enter into a detailed examination of evidence and therefore, in absence of a written contract with respect to payment on interest, the debate further intensifies as to whether National Company Law Tribunal can admit such petitions and determine the rate of interest.
The aforesaid issue raises several different questions which till date, remain to be answered by the Supreme Court. It is however, important to note that while answering one such question, the National Company Law Appellate Tribunal13 held that interest alone, does not fall under the definition of operational debt as defined under IBC. However, it will not be long that such issues are dealt with in detail by the Supreme Court which will close the issue of claim of interest by operational creditors once and for all which shall bring clarity on the provisions of IBC which is already expanding by each passing day.
1. Delhi Cloth and General Mills Co. Ltd. v. Stepan Chemicals Ltd. (1986) 60 Comp Cas 1046
2. Krishna Chemicals v. Orient Paper and Industries Ltd. (2005) 128 Comp Cas 412
3. Stephen Chemical Ltd. v. Innosearch Ltd. (1986) 60 Comp Cas 702
4. Rashid Leathers (P) Ltd. Superfine Skin Traders (1990) 68 Comp Cas 684
5. Devender Kumar Jain v. Polar Forgins & Tools Ltd. (1993) 1 CLJ 184 (Del)
6. Multimetals Ltd. v. Suryatronics Pvt. Ltd. (1997) 89 Comp Cas 259
7. Kitply Industries Ltd. v. Hari Narain and Sons Pvt. Ltd. (1998) 91 Comp Cas 715
8. Jyothi Ltd. v. Boving Fouress Ltd. (2001) 106 Comp Cas 380
9. Vijay Industries v. NATL Technologies Ltd. (2009) 3 SCC 527
10. Wanbury Ltd. v. Panacea Biotech Ltd. 2017 SCCOnLine NCLT 475
11. DF Deutsche Forfait AG and Anr. v. Uttam Galva Steel Ltd. 2017 SCC OnLine NCLT 546
12. Gulf Oil Lubricants India Ltd. v. Eastern Coalfields Ltd. Company Petition (IB) No. 228/KB/2018
13. Steel India v. Theme Developers Pvt. Ltd. 2020 SCC OnLine NCLAT 200
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.