Whether non-payment of stamp duty on commercial contract invalidate arbitration agreement: Supreme Court refers issue to Constitutional Bench

Whether non-payment of stamp duty on commercial contract invalidate arbitration agreement: SC refers issue to Constitutional Bench

The Supreme Court of India (SC) on 11 January 2021, in the case of M/s N.N. Global Mercantile Pvt. Ltd v. M/s Indo Unique Flame Ltd. &Ors. referred the issue of invalidity of arbitration agreement on non-payment of stamp duty to the Constitutional Bench of Five Judges

Issue before the SC

The SC comprising of Justices Dr. Dhananjaya Y Chandrachud, Indu Malhotra and Indira Banerjee, referred the issues, "Whether the statutory bar contained in Section 35 of the Indian Stamp Act, 1899 (Act) applicable to instruments chargeable to Stamp Duty under Section 3 read with the Schedule to the Act, would also render the arbitration agreement contained in such an instrument, which is not chargeable to payment of stamp duty, as being non-existent, unenforceable, or invalid, pending payment of stamp duty on the substantive contract / instrument?" to the Constitutional Bench of Five Judges.

Brief facts of the case

M/s Indo Unique Flame Pvt. Ltd. (respondent), entered into a sub-contract with M/s. N.N. Global Mercantile Pvt. Ltd. (appellant) for the transportation of coal from its washery to the stockyard, siding, coal handling and loading into the wagons. Both the parties entered into a work order.

According to Clause 9 of the Work Order, the appellant furnished a Bank Guarantee, in favour of State Bank of India (SBI) i.e. the banker of the respondent and it was extended from time to time.

Certain disputes arose between the respondent and Karnataka Power Corporate Limited (KPCL) under the principal contract, that led to the invocation of the Bank Guarantee by KPCL. The respondent invoked the Bank Guarantee that was furnished by appellant under the Work Order.

Observations of Commercial Court and High Court

The appellant approached the Commercial Court. The Court vide an ex parte ad interim Order directed status-quo to be maintained regarding the enforcement of the Bank Guarantee.

An application was filed by the respondent under Section 8 of the Arbitration and Conciliation Act, 1996 (Arbitration Act) and referred the dispute to the arbitration. This move was opposed by the appellant and it was stated that the application under Section 8 was not maintainable as the Bank Guarantee was a separate and independent contract, and did not contain any arbitration clause.

The said application was rejected by the Commercial Court, and it held that the arbitration clause in the Work Order was not a general arbitration clause, which would cover the Bank Guarantee.

The appellants moved to the High Court of Bombay (HC) and filed a revision petition for challenging the Order passed by the Commercial Court. On an objection being raised on the maintainability of the Civil Revision Petition, the HC vide Order dated 9 July 2020 permitted the withdrawal of the Civil Revision Petition, with liberty to file a petition under Articles 226 and 227 of the Constitution of India. Accordingly a writ petition was filed before the HC.

The HC held that the allegations of fraud did not constitute a criminal offence and hence the dispute could be resolved through arbitration, and the filing of the Suit before the Commercial Court was not justified. The Commercial Court was not justified in restraining the invocation of the bank guarantee in the absence of any finding on fraud or special equities.

On the issue of the arbitration agreement being unenforceable since the Work Order was unstamped, it was held that the plaintiff/ Appellant herein, could raise the issue either under Section 11 of the Arbitration Act, or before the arbitral tribunal at the appropriate stage.

The Writ Petition was held to be maintainable, since there is no absolute bar to entertain a Writ Petition even if an alternate remedy is available. The HC set aside the order of the Commercial Court.

SLP before the SC

A Special Leave Petition (SLP) was filed before the Supreme Court of India (SC). The SC dealt with the following issues-

1. Whether an Arbitration agreement would be enforceable and acted upon, even if the Work Order is unstamped and un-enforceable under the Stamp Act?

2. Whether allegation of the fraudulent invocation of the bank guarantee is an arbitrable dispute?

3. Whether a Writ Petition under Articles 226 and 227 of the Constitution of India would be maintainable to challenge an Order rejecting an application for reference to arbitration under Section 8 of the Arbitration Act?

Decision of the SC

It explained the 'doctrine of kompetenz' and stated that it is based on the premise that the arbitration agreement is separate and independent from the substantive underlying contract in which it is embedded. Hence, an arbitration agreement exists and can be acted upon irrespective of whether the main substantive contract is valid or not.

It stated that if an urgent interim reliefs application is filed under Section 9 of the Arbitration Act before the Court, and the Court is informed that the substantive contract is not duly stamped; the Court would grant ad-interim relief to safeguard the subject-matter of the arbitration.

It further mentioned that the substantive contract would be impounded, and the parties to the contract would be directed to pay the stamp duty, within a time-bound period.

The SC further observed that the allegations of fraud with respect to the invocation of the Bank Guarantee are arbitrable, since it arises out of disputes between parties inter se, and is not in the realm of public law. The SC set aside the judgment of the HC passed under Articles 226 and 227 of the Constitution on grounds of non-maintainability and in the view of the availability of a statutory remedy.

It stated that both the parties have admitted the existence of the arbitration agreement and hence the parties may either appoint a sole arbitrator consensually; failing which, an application under Section 11 of the Arbitration Act can be filed for the appointment of the arbitrator before the HC.

The SC concluded by mentioning that it is appropriate to refer the issue and let it be authoritatively settled by a Constitution bench of five judges of this Court. The SC stated that the Registry may place this matter before the Hon'ble Chief Justice of India for appropriate orders/directions.