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A CRITICAL STUDY ON ARBITRATION AS AN EFFECTIVE CONTRACTUAL DEBT RECOVERY MECHANISM AND A LOCAL REMEDY (By-Shushaanth. S)
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Article Details
A CRITICAL STUDY ON
ARBITRATION AS AN EFFECTIVE CONTRACTUAL DEBT RECOVERY MECHANISM AND A LOCAL
REMEDY
Authored
by-Shushaanth. S,
LL.M (ADR) Student
at O.P.Jindal Global University,
Jindal Global Law
School (2021-2022)
Abstract
Seldom does a commercial dispute before a court of law gets to see its
end in an expeditious manner. Traditional litigation is often plagued with
straitjacket rules, procedures, exorbitant costs, inordinate delays and unwanted
uncertainty. While an effective and
efficient mechanism to settle commercial disputes is a desideratum, the
financial institutions, Creditors (Financial & Operational) view
arbitration and other alternative dispute resolution methods with great
alacrity, and as an effective debt recovery mechanism. Financial institutions
have adopted this method internationally and the same has been gaining swift
momentum ever since the 2000’s[1].
In light of the present trend, financial institutions and creditors
increasingly show a predilection for arbitration for recovery of contractual
debts and is often preferred as a local remedy before a dispute is referred to
a Court or a Tribunal. Contracting parties explicitly mention in their
contracts or agreements that in case of a dispute arising out of or in
connection with the contract, the same would be referred to arbitration for
amicable settlement. But the question to be qualified in this context is as to
how far arbitration could facilitate the recovery of contractual debts and
whether it can substitute the traditional procedures like filing of recovery
suit, application under the CPC 1908, RDDBFI Act 1993, SARFAESI Act, 2002 and
the IBC, 2016[2].
Thus, this article is an earnest endeavor to elucidate and determine if
arbitration could be an effective mechanism to recover contractual debt arising
out of commercial transactions.
Keywords: - Arbitration, Debt Recovery, Contract, Commercial,
Local Remedy
Introduction
It is axiomatic
to note that there are various ways in which contractual debts arising out of
commercial transactions could be recovered with the aid of Courts and
Tribunals. But, pursuing these conventional methods for the recovery of
contractual debts often has a hidden cost in addition to the costs incurred
during the tenure of the Case which is presented before a Court or a Tribunal
for adjudication. The hidden costs are swathed in the form of litigation
expenses, time, frustrated relationships and unwanted uncertainty. According to
the National Judicial Data Grid (District & Taluka Courts of India)[3]
approximately there are around 1,09,14,432 and approximately 43,05,556 (High
Courts of India)[4] civil
cases that are pending before the Courts in India as on July 2022. The
stupendous case pendency is not only alarming but dismal and demands a serious
alternative to reduce the burden of the Courts and Tribunals. The primary objective of this article is to
analyze and evaluate the effectiveness of arbitration in recovering contractual
debts and on how arbitration can be made as the mandatory local remedy in
contractual disputes.
I.
Recovery of debts
arising out of commercial transactions through arbitration: -
Though the notion
of referring cases relating to contractual debt recovery to arbitration as an
alternative to traditional litigation may seem very promising, the question of
process, enforcement, extent of judicial intervention, subject matter and arbitrability
of the dispute has always remained a moot topic.
It is pertinent
to note in this juncture that not all commercial disputes are arbitrable. A
commercial dispute generally revolves around disputes relating to trade and
commerce between merchants, bankers, financiers, traders, etc[5].
The Arbitration and Conciliation Act, 1996 (hereinafter referred to as the
“Arbitration Act”) fails to define explicitly as to what all disputes
are non-arbitrable. Hence, it is imperative to first discuss the question of arbitrability
before discussing the possibility and efficacy of contractual debt recovery
through arbitration.
Arbitrability:
Section 2(3) of the Arbitration Act, expressly states
that “Part 1 shall not affect any
other law for the time being in force by virtue of which certain disputes may
not be submitted to arbitration”. Further, Section 34(2)(b)(i) of the Arbitration Act
provides that the arbitral award would be set aside if the Court finds that “the
subject-matter of the dispute is not capable of settlement by arbitration under
the law for the time being in force”[6].
To understand
more in detail, reliance has to be placed on the observations made by the
Hon’ble Supreme Court in Booz Allen &
Hamilton Vs SBI Home Finance Ltd & Ors[7], wherein in paragraph No. 22 & 23 it was observed that “disputes arising out of rights in personam
would be amenable to arbitration, whereas those relating to rights in rem
would be adjudicated by courts and public tribunals”. In other words, if a
public forum has been vested with the exclusive jurisdiction to adjudicate that
dispute by virtue of a public policy, then the same could not be adjudicated
through arbitration[8].
Following
the decision in Booz Allen & Hamilton Inc[9].,
the Supreme Court in Vidya Drolia & Ors Vs. Durga Trading Corporation,[10] by overruling the judgment of the full
bench decision of the Delhi High Court in HDFC Bank Ltd Vs. Satpal Singh Bakshi[11], which had initially held that matters covered
under the DRT Act (RDB Act, 1993) are arbitrable, observed that “if the claims
of banks and financial institutions covered under the DRT Act were arbitrable,
the same would deprive and deny those institutions of the specific rights
including the modes of recovery specified in the DRT Act”. The Court, amongst
other notable findings, also ruled that the claims covered by the DRT Act were
not arbitrable. Further, the Hon’ble Court, also propounded a four-fold test to
ascertain when a dispute would be non-arbitrable.
The quintessence
of these rulings is that when the cause of action or the subject matter of the
dispute is covered specifically by a special statute such as the RDB Act 1993,
SARFAESI ACT 2002, IBC, 2016 etc., the same can only be adjudicated at those
specific public forums and cannot be arbitrable as such claims fall under Right
in Rem.
In light of the
four-fold test in Vidya Drolia[12]
and the examples of non-arbitrable disputes as laid out in paragraph 36 of Booz
Allen & Hamilton[13],
there is an implied understanding as to the non-arbitrable disputes.
Now, banks and
financial institutions can be compelled to approach DRT’s for the recovery of
debts, when the default amount is over Rupees twenty lakhs[14].
However, the gateway to arbitration for debt recovery is opened when the debt
falls below Rupees twenty lakhs, as the DRT’s would lack the pecuniary
jurisdiction to adjudicate that dispute and the same could be more effectively
and efficiently recovered through arbitration.
Recovery & IBC
Using of the terms “Financial Creditor” and
“Operational Creditor” in the context of recovery of contractual debts may give
rise to the notion of placing IBC proceedings and civil recovery proceedings on
the same pedestal. However, it would not be right to do so as the Supreme Court
and the NCLAT in a catena of judgments have categorically enunciated that “IBC
is not intended to be a substitute for recovery forum”.
In Indus Biotech Private Limited vs. Kotak India Venture
(Offshore) Fund,[15] the Supreme Court observed that when an admission of
a Section 7 petition under the IBC, 2016 was still pending and an application
under Section 8 of the Arbitration Act has been filed, the adjudicating
authority has to first decide on the Section 7 petition and has to ascertain
whether there is a default for the consideration of the CIRP. Further, the
Court noted that in the contrary situation, when the adjudicating authority is
satisfied that there is no default, then the authority could allow the
application under Section 8 of the Arbitration Act. The reasoning given by the
Supreme Court is that an insolvency petition becomes Right in Rem only when the petition is admitted as it would concern the
rights of third parties as well.
Moreover, the
admission of Section 7 or Section 9 petition under the IBC, 2016 for the
purpose of insolvency and liquidation can only be allowed when the default is
Rs.1 crore and above[16].
When the default amount is less than Rs.1 crore, the creditors have to take
recourse to the civil proceedings or arbitration for the recovery of the
contractual debts.
Analysis & Interpretation
Not all processes for recovery of contractual debts
arising out of commercial transactions have a special statute to govern them or
demand the remedy provided under it to be exhausted first. Contractual debts
that are in the nature of financial debt or an operational debt between parties
that are not banks or financial institution can be arbitrated by following the
due process of arbitration proceedings under the Arbitration Act.
Most common areas
in which arbitration is extensively used are in ad hoc arbitrations. Wherein,
the creditor or lender or a goods & service provider invokes the
arbitration clause in order to recover the dues they are legally entitled to in
an expeditious and efficacious manner[17].
Another notable area in which arbitration thrives as an effective debt recovery
mechanism is in the area of vehicle loan financing where the financier on
default of the borrower invokes the arbitration clause in the hire purchase
agreement or the loan cum hypothecation agreement to recover the dues and in
some cases take repossession of the vehicle. It is to be noted that the
financier remains the owner of the vehicle until all installments are paid[18].
Feasible Alternatives
Traditional forms of recovery like filing money suit, summary suit under
the CPC or filing a commercial suit under the Commercial Courts Act 2015, can
switch to Arbitration for more effective and expeditious disposal of the
dispute. In fact, Section 89 of the CPC, gives the Court, the power to refer a
matter to arbitration or any other alternative dispute resolution methods when
it is satisfied that there is an element of settlement which may be acceptable
to the parties[19].
The CPC, being purely procedural in nature gives the autonomy to the parties to
get their disputes settled by arbitration.
Therefore, it can be rightly pointed out that all civil or commercial disputes
which can be decided by a court, is in principle arbitrable unless the
jurisdiction of the arbitral tribunal is specifically ousted by a statute
either expressly or by necessary implication[20].
Thus, when traditional methods of recovery under the CPC and other general
statutes are compared to arbitration, it can be appropriately said that
arbitration has all the necessary characteristics of a traditional recovery
mechanism and can effectively recover contractual debts arising out of
commercial transactions.
II.
Arbitration as a mandatory local remedy: -
Most business agreements have an arbitration clause clearly embedded in
it as the primary local remedy in case of any dispute, that arises between the
parties relating to the interpretation of the contract, or any breach thereof.
On the existence of an arbitration agreement for dispute settlement, if one of
the parties ignoring the presence of an arbitration agreement, refers the
dispute to a civil court for adjudication, the other party may approach the
court under Section 8 of the Arbitration Act by objecting and challenging the
jurisdiction of that court in deciding that dispute. Due to the peremptory
nature of Section 8 of the Arbitration Act, the Courts direct the parties to go
for arbitration on the grounds of existence of an arbitration clause/agreement,
provided the precondition mandated under sub clause 2 and 3 of Section 8 are
fulfilled[21].
In SBP & Co. v. Patel
Engineering Ltd. and Another[22],
the Supreme Court observed in paragraph 16 that when one of the parties
ignoring the existence of an arbitration agreement files an action before a
judicial authority and the other party raises an objection, the judicial
authority has to consider that objection if that objection is found to be
sustainable to refer the parties for arbitration. The Constitutional bench also
noted that the expression used in Section 8 was “shall” and by referring to its
earlier decisions[23],
opined that the judicial authority is bound to refer the matter to arbitration
once the existence of a valid arbitration clause was established.
The Supreme Court
in Consolidated Engineering Enterprises v Principal Secretary, Irrigation
Department & others[24]
held that the Arbitration & Conciliation Act was a special law,
consolidating and amending the law relating to arbitration and matters
connected therewith or incidental thereto. Similarly in another notable
decision,[25] the
Supreme Court held that where an arbitration clause existed, the court has a
mandatory duty to refer that dispute to the arbitrator.
Though
the aforementioned cases and the application of Section 8 under the Arbitration
Act may mandate the courts to refer a dispute for arbitration, there are some
exceptions to this rule. Recently, in Uttar Pradesh Power Transmission Corporation Ltd. Vs.
CG Power And Industrial Solutions Limited[26], the Supreme Court observed that
the existence of an arbitration clause in contractual matters would not debar
the courts from entertaining a writ petition. The bench also noted that the
availability of an alternative remedy would not disable the High Courts from
entertaining a writ petition in an appropriate case. Hence, in these
circumstances, a reference under Section 8 would be allowed only after due
deliberations.
Hence, it can be said that on the existence of an arbitration clause in a
commercial agreement, the parties to a dispute, normally cannot jettison
arbitration for judicial proceedings when arbitration is the local remedy as
per the agreement. It is to be noted that due to the mandatory overtones given
to Section 8 of the Arbitration Act, the Courts in the absence of compelling
reasons, have to refer the matter for arbitration. It is pertinent to note that
there are divergent views on this position of law based on the different facts
and circumstances of a case. However, it can be inferred that by virtue of
Section 8 of the Arbitration Act, arbitration can be mandated as the mandatory
local remedy by virtue of Section 8 of the Arbitration Act unless there is a
prima facie reason not to.
Rationale Behind Mandatory
Arbitration
The use of arbitration as an
effective contractual debt recovery mechanism should be adopted as a mandatory
local remedy before an arbitrable dispute is referred to a judicial authority
for adjudication. The judiciary, instead of restricting the scope of
arbitration and limiting the arbitrability of a subject matter, must try to
expand it so as to encompass other subject matters. Existing statutes must be
amended in a way where arbitration is mandated as a mandatory local remedy. For
example, Section 12A of the Commercial Courts Act, 2015 mandates the exhaustion
of pre-institution mediation before initiation of a commercial suit. Another
conspicuous example is the CIC Act, 2005, wherein section 18 expressly provides
for arbitration and conciliation when there is no remedy provided under the Act
for a dispute that arises relating to the business of credit information.
Hence, arbitration could transform into a more effective alternative to adversarial
methods if the statutes itself mandate the use of arbitration as the local
remedy.
Conclusion
In an attempt to illuminate the significance of arbitration in the
commercial sphere, it can be understood from the aforementioned discussions
that arbitration and other alternative dispute resolution mechanisms are of
paramount importance in today’s legal sphere. The idea of Arbitration as an
effective replacement for adversarial methods is still in an evolving pace and
more reforms are needed.
It is pertinent to note that the main objectives of arbitration cannot be
achieved if the root of the problem which is the scope of arbitration is not
expanded. In light of the recent judicial observations, it is an undisputable
fact that arbitration is barred from where it is needed the most which is in
the area of recovery of debts by banks, financial institutions, NBFC’s etc.
Due to the exclusive jurisdiction of the special forums in handling
claims by banks, financial institutions, NBFC’s etc., arbitration exist only as
a Hobsons choice for debt recovery when the special public forums lack the
pecuniary jurisdiction to adjudicate that dispute. Though commercial
transactions relating to trade and commerce in India has witnessed and
benefitted greatly from the use of arbitration, a pragmatic approach has to be
adopted by the courts in order to extend the application of arbitration to all
commercial disputes.
Hence it can be suggested that if arbitration is mandated as the
mandatory local remedy in commercial disputes and if the scope of arbitration
is expanded to cover other types of commercial disputes, the backlog of cases
in the Indian Courts could be reduced to a significant extent.
Article Information
A CRITICAL STUDY ON ARBITRATION AS AN EFFECTIVE CONTRACTUAL DEBT RECOVERY MECHANISM AND A LOCAL REMEDY (By-Shushaanth. S)
Author Name: Shushaanth. S
Title: A CRITICAL STUDY ON ARBITRATION AS AN EFFECTIVE CONTRACTUAL DEBT RECOVERY MECHANISM AND A LOCAL REMEDY
Email Id: shushaanth24@gmail.com
- Journal IJLRA
- ISSN 2582-6433
- Published 2022/07/04
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International Journal for Legal Research and Analysis
- Abbreviation IJLRA
- ISSN 2582-6433
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