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Unpaid Installments under Settlement Agreement Not Operational Debt under IBC

September 17, 2020

By Nihit Nagpal and Anuj Jhawar

In a recent case, the National Company Law Tribunal (“NCLT”), New Delhi in M/s Brand Reality Services Ltd. v. M/s Sir John Bakeries India Pvt. Ltd[1], has stated that an operational debt under Insolvency and Bankruptcy Code, 2016[2] (“the Code”) does not take account of unpaid installments under settlement agreement and that if the relationship between the parties to dispute is not of corporate debtor and operational creditor then, such other payment defaults would not come within the ambit of Insolvency and Bankruptcy Code, 2016 (Code).

Factual background

The Corporate Debtor approached the Operational Creditor for investing in a new retail opening and the Operational Creditor agreed to the same. On June 15, 2018, both the parties to dispute entered into an Account Settlement Agreement (“the Agreement”), wherein the Corporate Debtor agreed to pay Operational Creditor,  outstanding dues of over Rs. 33,940,00/ through postdated cheques-.

However, the Corporate Debtor failed to pay the agreed settled amount and continued to default on the payment. In 2019, the cheques issued by the Corporate Debtor were returned by the Bank to the Operational Creditor on the ground of ‘stop payment’.

The Operational Creditor subsequently sent a demand notice on April 30, 2019, but the Corporate Debtor replied to the notice after the expiration of prescribed time period under Section 8(2) of the Code i.e., 10 days from the date of receipt of notice.

Aggrieved by the breach of terms and conditions mentioned under the Agreement by the Corporate Debtor, the Operational Creditor filed the present application seeking initiation of Corporate Insolvency Resolution Process (CIRP) against the Corporate Debtor.

Submissions made by the Corporate Debtor

The Corporate Debtor submitted that no debt was due or owed to the Operational Creditor in terms of the meaning of Operational Creditor, under Section 5(21) and Section 9 of the Code.  Furthermore, the Corporate Debtor contended that, payment had been settled on December 19, 2017 which the Operational Creditor did not divulge.

The Corporate Debtor also asserted that, in reply to the aforementioned demand notice, Corporate Debtor had raised and pointed out an objection on the subsistence of an issue/dispute. Subsequent to which the Operational Creditor was ordered to furnish all the important and significant documents. However, the Operational Creditor failed to  serve or furnish the same.

Judgment and analysis

  • The Tribunal observed that as per the terms and conditions of the settlement agreement, the concerned Corporate Debtor had paid the settlement sum of Rs. 21,66,511.00/- to the Operational Creditor. Hence, the present dispute was on further subsistence of liability or debt of Rs. 33,94,000.00/- as per the Agreement dated June 15, 2018; owed and payable to the concerned Operational Creditor.
  • The Hon’ble NCLT referred to the case of Delhi Control Devices(P) Ltd. vs. Fedders Electric and Engineering Ltd. (14.05.2019 – NCLT – Allahabad[3]) wherein it was ruled that unpaid installments under Settlement Agreement shall not be considered as debts within the meaning and ambit of Section 5(21) of the Code. Other relevant provisions such as Section 3(11) and Section 3(12) defining debt and default respectively were also adhered to, in order to ascertain if the said default in payment of installments could initiate CIRP. The Tribunal pointed out that in order to initiate CIRP under Section 9 of the Code, the Operational Creditor has to establish and demonstrate the default or non-payment of operational debt by the Corporate Debtor according to the definition of operational debt. As per Section 5(21) of the Code, operational debt means, a claim with regard to the supply and provision of products, goods or services. It also comprises employment or a debt, with regard to the payment of dues arising under any law for the time being in force and payable to the Central or any State Go
  • While referring to the facts and circumstances of the present case, the Tribunal was of the view that the application to commence CIRP under Section 9 of the Code was not based on the settlement agreement dated November 28, 2014 by which invoices/bills were raised by the Operational Creditor, but was based on the Settlement Agreement dated June 15, 2018, whose terms and conditions were contended to have been breached by the Corporate Debtor thereby leading to payment defaults and present petition. The NCLT thus observed that the concerned application was born out of breach of an agreement under which the parties to dispute do not share the relationship of corporate debtor and operational creditor. It was also held by the Tribunal thatthe failure to adhere to settlement agreement could not be a valid ground to commence CIRP under Section 9 of the Code.[4]
  • Additionally, the Tribunal also noted that NCLT was not a recovery Court/Tribunal and hence, the application made for recovery of dues owing to breach of the Settlement Agreement was liable to be dismissed.

In view of the Tribunal’s observations in the present case, it can be summed up that:

  • Unless the relationship between the parties to dispute is not of corporate debtor and operational creditor then, such other payment defaults would not come within the ambit of Insolvency and Bankruptcy Code.
  • An unpaid installment according to the settlement agreement cannot be termed as operational debt, as per the definition under Section 5(21) of the Code. Therefore, the contravention or breach of the Settlement Agreement cannot be considered as a valid ground to commence CIRP.

[1] MANU/NC/7776/2020

[2] https://www.indiacode.nic.in/bitstream/123456789/2154/1/A2016-31.pdf

[3] MANU/ND/7880/2019

[4] Delhi Control Devices(P) Ltd. vs. Fedders Electric and Engineering Ltd. (14.05.2019 – NCLT – Allahabad

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