Commencement of Corporate Insolvency Resolution Process amidst Prosecution under Goods and Services Act 2017: A Need for Legislative Clarity

I. Introduction

The enactment of the Insolvency and Bankruptcy Code 2016 ( hereinafter referred to as “IBC”) and the Goods and Services Act 2017 ( hereinafter referred to as “GST”) were hailed as watershed moments in the legislative history of economic laws in India. The introduction of the said laws were welcomed as much needed reforms in the sectors of insolvency and the tax regimes of the country and were thought to increase the overall ease of doing business in India.

One of the main objectives in the enactment of the IBC 2016 was to consolidate the fragmented framework that provided different rights to the creditors and debtors of a ‘ distressed’ or ‘sick’ corporate entity before different judicial fora.². One of the main reasons behind the same was to preserve economic value of the assets of a company and to also aim towards resolution or restructuring instead of directly resorting to the liquidation process³.

The GST Act 2017 was introduced in order to simplify the regime of collection and calculation of indirect taxes. The main idea behind the same was to shift the point of payment of tax from ‘manufacture’ or ‘sale’ to the point of ‘supply’ and to incorporate a ‘destination’ approach to levying of tax instead of the ‘origin’ approach⁴. The GST Act 2017 also gave wide ranging powers to an authorized officer to arrest, prosecute, search and seize towards stringent collection of taxes and to prevent leakage.

This short Article aims to bring forth a legal grey area regarding the potential conflict that can arise between the GST department acting under the GST Act and a Resolution Professional acting under the IBC, with respect to the possession and custody of assets of a firm which is undergoing the Resolution Process , while the entity is also being prosecuted by the GST department. At first, this short Article will be looking at whether the moratorium laid down under Section 14 of the IBC would apply to proceedings instituted by the GST department. Thereafter it would highlight the difficulties that may arise when the corporate entity being prosecuted by the GST department has been admitted into corporate insolvency resolution process and hence the effectiveness of such a procedure.

II. Parallel proceedings under GST and IBC

(A) Treatment of Tax Dues under the IBC

At first, it is important to highlight the treatment of tax dues and their place under the IBC. Tax dues under the IBC are treated as operational debt and the Central Government, State Government or any other legal authority having such statutory claim and operational debt have been classified as operational creditor⁵. One of the most important implication of such a classification is that such dues are paid out lower in the order of priority and waterfall mechanism that is set out under Section 53 of the IBC.

It is also important to note that the moratorium imposed under Section 14 of the IBC applied to proceedings pending before tax authorities. It has been held by the Hon’ble Supreme Court while interpreting the IBC that its mandate is that the moment an insolvency petition is admitted, the moratorium that comes into effect under Section 14(1)(a) expressly interdicts institution or continuation of pending suits or proceedings against Corporate Debtors⁶.

It is also a settled principle of law now that the moratorium under Section 14 of the IBC is applicable to orders passed by the Income Tax Appellate Tribunal⁷, however whether the same would apply to proceedings pending before the GST authorities is still unclear.

In this regard, the recent judgment of the Hon’ble Gauhati High Court is of note, where the Hon’ble Gauhati High Court has remanded a case back to the Commissioner under the GST Act for a fresh consideration by examining the aspect as to whether the order of moratorium by the NCLT also covers the proceedings pending before the GST Authorities under the GST Act. The outcome of the same is yet to be decided.⁸

The applicability of the moratorium in case of criminal proceedings however seems to be fairly laid down by various courts which have held that criminal proceedings being personal in nature, do not come under the ambit of the moratorium under Section 14 of the IBC⁹. This reasoning follows from Section 446 of the erstwhile Companies Act 1956 where the words “ suits and other proceedings…” were not held to include criminal proceedings¹⁰. Thus it can be safely presumed that prosecutions under the GST Act are not barred by the moratorium imposed under Section 14 of the IBC.

(B) Prosecution under GST Act when the Corporate Debtor is undergoing insolvency before the National Company Law Tribunal

Under the GST Act 2017, the GST department has been given sweeping powers towards prosecution for evasion of GST dues. In this regard, there might be a scenario where a corporate entity is being prosecuted by the GST department during which an insolvency petition may be admitted against the same corporate entity.

According to the circular issued by the Central Board of Indirect Taxes and Customs, it has been stated that no coercive action will be taken against a Corporate Debtor with respect to dues for the period prior to the insolvency commencement date¹¹. From a bare reading of this circular it can be assumed that any prosecution already initiated against a corporate entity which is now undergoing corporate insolvency resolution process, would need to be stopped or dropped altogether against such corporate entity. This can lead to further ineffective prosecutions under the GST Act. Leaving aside the benefits and disadvantages of the said circular, and the ambiguity regarding its retrospectivity or prospectivity, it can be safely agreed upon that the same has at least provided some clarity regarding the prosecutions being undertaken and proceeded with under the GST Act against a corporate debtor undergoing insolvency.

What is however conspicuous by its absence is the fact that the said circular does not exclude or negate coercive action being taken against erstwhile directors or other key personnel of the corporate debtor under the GST Act. This clearly shows that even though a corporate debtor undergoing insolvency is protected and exempt from prosecution under the GST Act 2017, the same is not true for erstwhile directors and other managers in charge of the corporate debtor. Thus a legal problem arises when coercive action has already been initiated against the company and its directors and thereafter, subsequently, the entity is admitted for CIRP before NCLT.

Even though legally, there is no bar to prosecute the persons in charge of the corporate entity and not the company itself¹², the finding of any evasion of payment of GST can only be adjudicated upon by way of assessment proceedings which may itself be barred under Section 14 of the Code. This may make prosecution under the Act quite difficult even though coercive action can be taken even without issuance of show cause notices under the GST Act.

(C) Custody of books and documents of the Corporate Debtor

When a company is undergoing CIRP under the IBC, an IRP/ RP is appointed by the NCLT who is in charge of the day to day affairs of the company and also in custody of all the books, documents and assets of the Company under resolution¹³. In comparison to the same, Chapter XIV of the CGST gives powers to a proper officer to conduct inspection, search, seizure and arrest of a taxable person or person engaged. Section 67 of the Act specifically gives power to an authorized officer to inspect, search and thereafter seize any goods, documents, books or things which may be retained by such officer for so long as may be necessary for their examination and for inquiry or proceedings under the Act. That on a reading of Section 67 of the Act, it transpires that a proper officer can inspect, search and seize goods, documents, books or things, which will be inventorized and retained by him for so long as may be necessary.

The question arises as to who will have custody of the books, assets and documents of a corporate debtor who has been admitted to CIRP after the GST department has already begun its search and seizure, and prosecution. As has already been highlighted above, both the RP and the authorized officers of the GST department have the power to retain custody of books of accounts and assets of the company.

That since criminal proceedings are unaffected by the moratorium under Section 14 of the IBC, the same can proceed simultaneously which might prove to be difficult. Furthermore the trial being conducted and prosecuted by the GST department may become protracted and delayed due to such back and forth regarding custody of documents. This delay can infringe on the right of speedy trial of an Accused which infringes on the fundamental right of an Accused¹⁴. The ultimate aim of prosecution to have a deterrent effect and for speedier recovery of dues may itself be lost.

III. Conclusion

There is an urgent need to frame rules to lay down a standard operating procedure that would need to be followed by the RP and the GST department when officials of a corporate entity are facing prosecutions under the GST Act and the corporate entity itself is undergoing Corporate insolvency Resolution Process. Such rules should strictly lay down the timeline within which the GST document would need to share documents of the corporate entity with the RP along with the status and copies of complaints, summons and other such documents that may have been issued. The procedure should mandate the cooperation, coordination and harmonious working between the two statutory entities so that there is smooth information flow and working.

It is the need of the hour to lay down rules and guidelines regarding the smooth functioning of the GST department along with Resolution Professional to ensure that prosecutions are effective and do not remain a dead letter. Furthermore, the Accused’s right to a fair trial should not get hampered due to any unnecessary disharmonious working between the RP and the GST department. Such clarity in the protocols to be adopted by both the RP and the GST Department when functioning together will go a long way in preserving the economic value of a sick company and higher recoveries of taxes.

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Footnotes

1. Author is an Independent Advocate practicing in New Delhi., India.

2. I, Dr TK Vishwanathan etc, Report of the Bankruptcy Law Reforms Committee Volume I: Rationale and design, Page 13 ↩

3. Ibid Pg 14 ↩

4. The Central Goods and Services Act 2017, Statement of Objects and Reasons, April 12, 2017 ↩

5. Pr. Commissioner of Income Tax v. Monnet Ispat and Energy Ltd 2017 SCC Online Del 12759 affirmed by the Hon’ble Supreme Court in CIT v. Monnet Ispat and Energy Ltd ( 2018) 18 SCC 786 ↩

6. Alchemist Asset Reconstruction Company Ltd. Vs Hotel Gaudavan Pvt. Ltd. & Ors. Supreme Court, Civil Appeal No. 16929 Of 2017 ↩

7. Pr. Director General of Income Tax ( Admn & TPS) v. M/s Synergies Dooray Automative Pvt Ltd Company Appeal (AT) (Insolvency) No. 205 of 2017 ↩

8. National Plywood Industries Ltd v. Union of India and Anr W. P. (C ) 1059/ 2020 dated 17.02.2020 ↩

9. Tayal Cotton (P) Ltd v. State of Maharashtra, Bombay High Court Criminal Writ Petition1437 of 2017 ; Prasad Gempex v. Star Agro Marine Sports Pvt Ltd Company Appeal (AT) (Insolvency) No. 291 of 2018; Varrsana Ispat Limited v. Deputy Directorate Enforcement Company Appeal (AT) (Insolvency) No. 493 of 2018 ↩

10. DK Kapur v. RBI, 90 (2001) DLT 127 ↩

11. GST Policy Wing, Central Board of Indirect Taxes and Customs, Department of Revenue, Ministry of Finance, Government of india Circular nO. 134/ 04/ 2020 dated 23.03.2020 ↩

12. Sheorantan Agarwal and Anr v. State of Madhya Pradesh, 1985 SCR (1) 719 ↩

13. Section 16, Insolvency and Bankruptcy Code 2016 Act No. 31 of 2016, Acts of Parliament, 2016 ↩

14. Hussainara Khatoon v. Home Secretary, State of Bihar, Supreme Court, 1979 SCR (3) 532 ↩