Karan Bharihoke1
In his concurring judgement in McDowell & Co. Ltd. v. CTO2, O. Chinappa Reddy J., considering the ever growing artfulness of assessees to avoid taxes, observed thus :
"17. ... The evil consequences of tax avoidance are manifold. First there is substantial loss of much needed public revenue, particularly in a Welfare State like ours. Next there is the serious disturbance caused to the economy of the country by the piling up of mountains of black-money, directly causing inflation. Then there is "the large hidden loss" to the community (as pointed out by Master Wheatcroft [18 Modern Law Review 209] ) by some of the best brains in the country being invloved in the perpetual war waged between the tax-avoider and his expert team of advisers, lawyers, and accountants on one side and the tax-gatherer and his perhaps not so skilful, advisers on the other side. Then again there is the "sense of injustice and inequality which tax avoidance arouses in the breasts of those who are unwilling or unable to profit by it". Last but not the least is the ethics (to be precise, the lack of it) of transferring the burden of tax liability to the shoulders of the guideless, good citizens from those of the "artful dodgers". ...."
The aforesaid text, if applied mutatis mutandis to the corporate insolvency resolution process envisaged by the Insolvency and Bankruptcy Code, 2016 (IBC), would read thus (changes by the Author highlighted):
"The evil consequences of tax avoidance insolvency are manifold. First there is substantial loss of much needed public moneys invested through banksrevenue, particularly in a Welfare State like ours. Next there is the serious disturbance caused to the economy of the country by the piling up of mountains of black-money NPAs, directly causing inflation. Then there is "the large hidden loss" to the community (as pointed out by Master Wheatcroft [18 Modern Law Review 209] ) by some of the best brains in the country being invloved in the perpetual war waged between the tax-avoider defaulter promoter and his expert team of advisers, lawyers, and accountants on one side and the tax-gatherer financial and operational creditors and his perhaps not so skilful, advisers on the other side. Then again there is the "sense of injustice and inequality which tax avoidance the resolution process arouses in the breasts of those who are unwilling or unable to profit by it". Last but not the least is the ethics (to be precise, the lack of it) of transferring the burden of tax liability to the shoulders of the guideless, good citizens creditors from those of the "artful dodgers". ...."
It is not surprising that Justice Reddy's lament, lends itself so beautifully to the workings of the IBC – a law that was not even in existence at the time the judgement was written. In the same paragraph of his concurring judgement, Justice Reddy further wrote:
"... We now live in a Welfare State whose financial needs, if backed by the law, have to be respected and met. ... In our view, the proper way to construe a taxing statute, while considering a device to avoid tax, is not to ask whether the provisions should be construed literally or liberally, nor whether the transaction is not unreal and not prohibited by the statute, but whether the transaction is a device to avoid tax, and whether the transaction is such that the judicial process may accord its approval to it. ..."
Looking at these lines in the context of the IBC, one must construe the provisions of the IBC to ensure that the transactions claimed, whether by a corporate debtor or a creditor are such that judicial approval may be accorded to them in the spirit of the IBC.
Being a fairly new law, the IBC is susceptible to "colorable devices". We have seen the legislature step in, with frequent and timely amendments/interventions, to curtail and control such devices. Be it back-door entry of erstwhile promoters into a resolution plan, use of the IBC regime as a recovery mechanism, denial of rights to homebuyers as creditors, the legislature has tried to tackle problems as they arose. And while there is a case to ask our legislatures to be ever vigilant, the expectation ought not to be taken to unsustainable levels. Perhaps, in this view, O. Chinappa Reddy J, continued his lament (in McDowells, Supra), in the following words :
"18. It is neither fair nor desirable to expect the Legislature to intervene and take care of every device and scheme to avoid taxation. It is up to the Court to take stock to determine the nature of the new and sophisticated legal devices to avoid tax and consider whether the situation created by the devices could be related to the existing legislation with the aid of "emerging" techniques of interpretation (sic as) was done in Ramsay [1982 AC 300 : (1981) 1 All ER 865] , Burmah Oil [1982 STC 30] and Dawson [(1984) 1 All ER 530] , to expose the devices for what they really are and to refuse to give judicial benediction."
It falls upon the judicial fora, therefore, to expose these devices for what they really are. For it is here that these schemes and devices are first noticed and tested. Entitlements under the IBC are determined by the nature of the debt in question. A device therefore, most often would be aimed at the classification of debt. Noticing the same, our Courts have carved out exceptions through interpretations wherever necessary.
One such instance is the judicially determined concept of a "speculative investor" as an exception to the phrase "allottee". The Hon'ble Supreme Court, in Pioneer Urban Land and Infrastructure Limited v. Union of India3, was pleased to notice that even in the context of allottees to a real estate project, "under Section 65 of the Code, the real estate developer can also point out that the insolvency resolution process under the Code has been invoked fraudulently, with malicious intent, or for any purpose other than the resolution of insolvency. This the real estate developer may do by pointing out, for example, that the allottee who has knocked at the doors of the NCLT is a speculative investor and not a person who is genuinely interested in purchasing a flat/apartment. ..."
While the judgement gave instances that offer guidance, it did not clearly spell out a definition of "speculative investor". Perhaps, there can be no straight-jacket formula for the same. It is therefore up to our courts to assess facts and to arrive at the true nature of the debt in a case.
In Navin Raheja Vs. Shilpa Jain and Others4, the debtor-builder had, in fact, offered possession or refund of the amount in terms of the builder buyer agreement. However, the allottees had refused the same, and wanted refund at higher rates of interest. The NCLAT was pleased to set aside the admission of the Section 7 applications as fraudulent within the meaning of Section 65 of the IBC and held :
"44. All the facts aforesaid clearly show that the 1st and 2nd Respondents, in spite of offer of flat, wanted refund of the Amount with more interest and refused to take the actual Amount in terms of Agreement.
45. The aforesaid facts also make it clear that the 1st and 2nd Respondents filed the Application under Section 7, fraudulently with malicious intent for the purpose other than for the resolution or liquidation and they knocked at the doors of the Adjudicating Authority for refund of money and not for the Flat/ premises and thereby wanted to jump ship and really get back the Amount, by way of coercive measure (Refer the decision of the Hon'ble Supreme Court in "Pioneer Urban Land and Infrastructure Limited & Anr.")."
In Shubha Sharma, Suspended Board of Director v. Mansi Brar Fernandes5 the NCLAT, considered the case of home-buyer agreements with lucrative assured returns coupled with mandatory buy backs. It examined the terms of the MoU and noticed that at the end of 12 months period, the 'Corporate Debtor' was under an obligation to buy-back the apartment and refund any amounts paid together with a premium. It was held that the arrangement was no more than a 'lucrative Agreement' for an investor who was not genuinely interested in taking possession of an apartment. NCLAT therefore held the allottee to be a 'speculative investor'.
The judgement of the NCLAT, in the author's opinion, did identify a "colorable device" prevalent in the real estate industry as a mode of financing. The lender, disguised as an allottee advances money to the builder at high rates of assured returns. The apartments/space are used, only as collateral in these arrangements. This burdens genuine homebuyers with high rates of interest (disguised as assured returns) and cleverly artificially lowers the debt equity ratios. These devices are also efficient tax evading mechanisms, that however is not being discussed herein.
The judgement of the NCLAT was challenged and the Hon'ble Supreme Court, passed the following order:
"5. While at this stage, we are not staying the operation of the order of the National Company Law Appellate Tribunal, ..., there shall be an ad-interim direction to the effect that the finding that the appellant is a speculative investor is confined to the facts of the present case and shall not be treated as a precedent in any other case for the present. ..."6
The aforesaid interim directions continue to hold the field. The authorities under the IBC, therefore, must keep on assessing each case independently, for now.
In Ankit Goyat v. Sunita Agarwal & Ors.7, the NCLAT once again adopted a reasoning similar to Shubha Sharma (Supra.), and on an independent analysis of the facts, came to the following conclusion :
"18. We are of the considered view that the facts and circumstances peculiar to the attendant case indicate that the Allottee sought benefit from a 'lucrative Agreement' as he is 'securing' his money by way of this Agreement which gives him a lien over the flat. ... This Agreement is only a camouflage of actually financing the construction of the flat. Hence, we hold that the Home Buyer sought to benefit from this 'lucrative Agreement' and is squarely covered by the ratio of the Hon'ble Supreme Court in 'Pioneer Urban Land and Infrastructure Ltd.' (Supra). ..."
More recently, in Nidhi Rekhan v. Samyak Projects Private Limtied & Ors.8, the NCLAT, followed the same path as Ankit Goyat (Supra.)¸ and examined the nature of the agreement between the parties, and noted as under :
"...The Agreement in this case does not, therefore, have the necessary elements of a Builder-Buyer agreement. On the contrary, it is an agreement which is more in the nature of detailing and protecting an investment made by Mrs. Nidhi Rekhan, who is coming in the garb of an allottee. ..."9
The judgements of the NCLAT essentially find the pith and substance of the arrangement to be of financing. In doing so they recognise that money has been advanced to the corporate debtor for time value (assured returns). In that sense, whether the creditor be termed an allottee or not, the nature of the debt remains financial. The device identified by the NCLAT thus, is highly nuanced and requires much deeper consideration than the judgements discussed hereinabove offer.
For these issues to be put to rest, one will have to await the decision of the Hon'ble Supreme Court in Civil Appeal No. 3826 of 2020.
Footnotes
1. The Author is an Advocate on Record, practicing before the Supreme Court of India. The views expressed in this article are strictly personal.
2. (1985) 3 SCC 230
3. (2019) SCC OnLine SC 1005
4. Company Appeal (AT) (Insolvency) No. 864 of 2019
5. Judgement dated 17.11.2020 in Company Appeal (AT) (Insolvency) No. 83 of 2020
6. Order dated 11.12.2020 in Civil Appeal No. 3826 of 2020 in 'Mansi Brar Fernandes' Vs. 'Subha Sharma & Anr.
7. Company Appeal (AT) (Insolvency) No. 1020 of 2019
8. Company Appeal (AT) (Insolvency) No. 1035 of 2020 – judgement dated 31.01.2022
9. It must be pointed out, that the judgement of the NCLAT in Nidhi Rekhan (Supra.), proceeds on the basis that the Hon'ble Supreme Court has affirmed the order of the NCLAT in Shubha Sharma (Supra.). A status check of the Civil Appeal No. 3826 of 2020, reveals that the same is still pending. This judgement in Nidhi Rekhan (Supra.), therefore suffers from an error, that is apparent on the face of the record.
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