Understanding Interest on Operational Debt in IBC: NCLAT’s Perspective
Divyanshi Yadav
3rd year Law Student at Institute of Law, Nirma University
In a recent decision by the National Company Law Appellate Tribunal (‘NCLAT’) Chennai bench, an appeal in the case of Mr. Maulik Kiritbhai Shah Vs. United Telecoms Ltd. (2023) ibclaw.in 595 NCLAT was dismissed, emphasizing that the definition of operational debt within the framework of the Insolvency and Bankruptcy Code (‘IBC’) should not be stretched to encompass agreements unrelated to the supply of goods and services. This ruling reiterated a fundamental principle: the IBC is not intended to serve as a mere ‘recovery mechanism.’ The case also brought to light several critical questions regarding the treatment of interest in relation to operational debt under the IBC.
This article delves into the evolving landscape of interest on operational debt within the purview of the IBC, examining notable cases and NCLAT pronouncements that have shaped the prevailing consensus on this matter. It also explores instances where statutory requirements mandate interest imposition and the response of tribunals to such claims. Additionally, the article addresses the intriguing question of whether interest can be combined with the principal amount of debt to surpass the INR 1 crore threshold for initiating insolvency proceedings under Section 9 of the code.
Whether interest is chargeable on operational debt?
The position of interest qua financial debt is quite clear in the code, definition of financial debt in Section 5(8) of the code clearly accounts for the interest. It is the deliberate omission of term ‘interest’ in the definition of Operational debt under Section 5(21) which creates contention. This has led to an increased role of the understanding between the parties over levy of interest while computing the amount of operational debt.
After some conflicting positions by various NCLTs, a consensus has arisen after various pronouncements by NCLAT. In the case of Swastik Enterprises v. Gammon India Limited[2018] ibclaw.in 46 NCLAT it was held that with no submission of any substantial document evidencing an agreement for the levy of interest, no interest could be claimed. In the case of SS Polymers v. Kanodia Technoplast Limited [2019] ibclaw.in 193 NCLAT, NCLAT affirmed the position that when there is no agreement between the parties for the same, interest cannot be sought as a matter of right. It’s also important to note that in the same case NCLAT observed that it is against the very principles of the IBC to submit an application under Section 9 only for the claim of interest amount after the principal amount has been paid in full.
Earlier this year, again engaging with this issue in Rohit Motawat v. Madhu Sharma, Propreitor Hind Chem Corporation & Anr. (2023) ibclaw.in 128 NCLAT, the NCLAT reaffirmed that an operational creditor cannot recover interest when the corporate debtor has paid the entire principal amount and the application under Section 9 of the IBC is being made solely for the interest amount. Such behaviour has been discouraged by the authorities time and again by reiterating that IBC is not and cannot be used as a ‘recovery mechanism’. In the same decision, the NCLAT also made the observation that interest cannot be claimed where the document evidencing the agreement for interest has been signed by a single party (in this case, invoices issued by the operational creditor to the corporate debtor).
More recently, in Maulick Kirtibhai Shah noted above the NCLAT refused to entertain an appeal to NCLT’s refusal to admit an application under section 9 of the code where the principal amount had been paid and the document relied on by the appellant was an unsigned MOU which was not recognized by the tribunal to have created operational debt. Here, NCLAT again reiterated that IBC is not a recovery mechanism. This indicates that in order for an agreement to be effective for the payment of interest, it must now be explicitly agreed or signed by both parties.
What happens when statutes impose interest?
Even in cases where statutes require imposition of interest, tribunals have broadly refused to claims of interest. One such instance is – Micro Small and Medium Enterprises Development Act, 2006 (‘MSMED Act’) mandates the imposition of interest on any late payments made by a buyer of products or services, and also specifies the time period of delay after which interest is automatically payable.
The NCLT Mumbai held in Govind Sales v. Gammon India (2019) that the parties lacked a valid agreement stipulating an interest liability, prohibiting the operational creditor from claiming the interest amounts due as per MSMED Act. It is important to note here that this viewpoint was adopted despite the fact that the MSMED Act expressly stipulates that interest must be paid on delayed payments regardless of whether a formal agreement to that effect exists or not. Although with no confirmation from a higher forum the question of law remains unsettled here, it can be inferred that operational creditor’s Section 9 application for interest will be denied when there is no agreement between the parties about the responsibility of interest.
Clubbing of interest with principal amount to cross threshold amount
Another adjacent issue that comes up is whether interest can be clubbed with the principal component of the debt to cross-over the threshold limit of INR 1 crore for filing an insolvency application. Various NCLTs held contradictory positions on this issue. For instance, NCLT Delhi rejected the Section 9 petition in CBRE South Asia (P) Ltd. v. United Concepts and Solutions (P) Ltd. (2022) ibclaw.in 02 NCLT and stated that the interest sum cannot be combined with the principal amount to reach the threshold of INR 1 crore while there were decisions with contrary reasoning by other benches.
The question was then settled by the Hon’ble NCLAT in Prashant Agarwal v Vikas Parasrampuria (2022) ibclaw.in 509 NCLAT to hold that both, the principal debt and the interest on delayed payment will be considered to assess maintainability in case the interest was stipulated in invoice. The NCLAT’s position in Prashant Agarwal has been relied on in various subsequent judgements to establish a clear legal position in favour of accounting for agreed upon interest when assessing the maintainability of an application under Section 9 of IBC. NCLT Delhi’s decision in CBRE South Asia was also set aside by the NCLAT later on citing Prashant Agarwal. In North West carrying Company v Metro Cash & Carry (2023) ibclaw.in 237 NCLT, NCLAT again clarified that the agreement, the purchase order, or the invoice must expressly provide for the clubbing of other charges with the principal amount to club interest with principal amount.
In conclusion, the evolving landscape of interest on operational debt within the framework of the has witnessed significant clarifications and determinations by the NCLAT. The recent decision in Maulick Kirtibhai Shah (supra) underscores the principle that the IBC should not be utilized as a mere recovery mechanism, emphasizing the need for explicit agreements or signed documents when it comes to interest claims. Furthermore, the reluctance of tribunals to entertain interest claims, even when mandated by statutes like the MSMED Act, reflects the importance of formal agreements between parties. Finally, the issue of clubbing interest with the principal amount to meet the INR 1 crore threshold for insolvency applications has been settled by the NCLAT in Prashant Agarwal (supra), establishing a clear legal position in favour of considering agreed-upon interest when assessing maintainability under Section 9 of the IBC. These developments collectively reinforce the necessity for clarity and documentation in matters of interest on operational debt under the IBC, reaffirming the code’s primary purpose and intent.
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