Applicability of Section 18 of the Limitation Act to proceedings under IBC: Need for reconsideration

In a significant judgment, the Supreme Court recently held that Section 18 of the Limitation Act, 1963, is inapplicable to an application filed under Section 7 of the Insolvency and Bankruptcy Code (IBC).

The Court held that if a financial creditor does not file application for initiating the Corporate Insolvency Resolution Process (CIRP) within three years from the date of default, then the claim becomes time-barred under Article 137 of the Schedule to the Limitation Act.

In other words, no case can be brought under Section 7 IBC in respect of a financial debt after three years of the date of ‘default’, even if there is a written acknowledgment of that debt by the corporate debtor, which would otherwise give rise to a fresh period of limitation as per Section 18 of the Limitation Act.

This judgment requires reconsideration.

In this case, the financial creditor filed an application u/s 7 IBC on March 21, 2018, in which the date of default by the corporate debtor was claimed as July 8, 2011, being the date on which the loan account was declared as a Non-Performing Asset (NPA). Before the Supreme Court, the debtor argued that the period of limitation is governed by Article 137 and since the date of default was mentioned as July 8, the application u/s 7 was time-barred.

The financial creditor argued that the corporate debtor had acknowledged the debt in its balance sheet and annual reports, and it had also sought a one-time settlement offer, which facts gave rise to a fresh period of limitation.

Referring to Innoventive Industries & Swiss Ribbons, the Court held that the IBC was not meant to be a recovery machinery for creditors. Reliance was placed on BK Educational Services, in which the Court had held that it was not the legislative intent to give a new lease of life to time-barred debts; that the Code cannot be triggered by stale or dead claims; and if the default has occurred over three years prior to the date of filing the application under IBC, the application would be time-barred except in those cases where the delay could be condoned under S.5 of the Limitation Act.

The Court then referred to Jignesh Shah, where, relying upon BK Educational, it was held that the winding up petition was time barred as it was filed beyond three years from the date of default. In Para 21 of Jignesh Shah, the Court held that a suit for recovery based upon cause of action which was within limitation, could not impact the limitation for filing of a winding up petition, which was a separate and independent remedy. In the same para however it was held,

“..In law, when time begins to run, it can only be extended in the manner provided in the Limitation Act. For example, an acknowledgement of liability under S.18 of the Limitation Act, would certainly extend the limitation period...”

The Court then relied on Gaurav Hargovindbhai Dave, wherein it was held that Article 137 would apply to cases filed under S.7 IBC since it was an application, and not a suit.

Coming to S.18, the Court held that the observation in Para 21 of Jignesh Shah relating to S.18 was only illustrative in nature with respect to suits, and did not alter the ratio of BK Educational in any manner.

On facts, the Court held that the creditor had simply claimed the date of default to be July 8, 2011, and failed to plead about the debt being acknowledged in the balance sheets etc. and about the one -time settlement. Hence, even assuming that S.18 could apply, there was no factual basis pleaded in the application to arrive at such a result.

Need for reconsideration

While pronouncing its judgment, the Court did not compare S.18 with the various definitions in the IBC.

S. 18(1) provides:

“Where, before the expiration of the prescribed period for a suit or application in respect of any property or right, an acknowledgment of liability in respect of such property or right has been made in writing signed by the party against whom such property or right is claimed, or by any person through whom he derives his title or liability, a fresh period of limitation shall be computed from the time when the acknowledgment was so signed.”

S. 3(6)(a) IBC defines “claim” to mean a ‘right’ to payment, whether or not such right is reduced to judgment, fixed, disputed, undisputed, legal, equitable, secured or unsecured.

Under S. 3(6)(10), a ‘creditor’ is defined as any person to whom a ‘debt’ is owed and includes a financial creditor, operational creditor, secured and unsecured creditors, and decree holders.

S. 3(6)(11) defines ‘debt’ to mean a liability or obligation in respect of a ‘claim’ which is due from any person and includes a financial as also operational debt.

Under S.3(6)(12), “default” means non-payment of debt when the whole or any part or installment of the amount of debt has become due and payable and is not paid by the debtor or the corporate debtor, as the case may be.

Under S.7 a Financial Creditor may file an ‘application’ for initiating CIRP against a Corporate Debtor when a ‘default’ has occurred.

From these definitions, the position emerges that -

(i) ‘application’ for initiating CIRP may be filed by a financial creditor when there is a ‘default’;

(ii) ‘creditor’ means any person to whom a ‘debt’ is owed;

(iii) ‘default’ means non-payment of ‘debt’;

(iv) ‘Debt’ means a liability or obligation in respect of a ‘claim’

(v) ‘claim’ means a ‘right’ to payment.

A plain reading of S.18 Limitation Act reveals that it applies to confer a fresh period of limitation when there is an acknowledgement of liability in respect of any property or ‘right’, before the prescribed period of limitation expires for filing of any suit or ‘application’.

Reading these provisions together, it is clear that if the Limitation Act applies to the IBC, then S.18 should also apply. Firstly, there is nothing in S. 238A which suggests that S.18 is excluded. Secondly, a financial creditor will initiate CIRP through an application when there is a default in payment of debt, which means a liability/obligation in respect of a claim, which in turn means a right to receive payment. In an appropriate case, if the debtor acknowledges the debt in writing within the original period of limitation, there is no reason why the limitation period should not be extended further even for filing an application for CIRP, apart from giving a fresh period of limitation for filing a suit.

Seen in the light of the definitions, the observation of the Court that reference to S.18 in para 21 of Jignesh Shah was only in respect of suit or other proceedings where it could apply, and thus it does not dilute the judgment in BK Educational, does not seem to be correct. BK Educational did not discuss the applicability of S.18 at all. Further, a case u/s 7 IBC is admittedly an ‘application’ and S.18 clearly applies to applications as well as suits.

The word ‘due’ used in S. 3(6)(11) and the expressions ‘due and payable’ used in S. 3(6)(12) of the IBC are also of significance. BK Educational and Innoventive Industries relied on these expressions and proceeded inter alia on the footing that to trigger CIRP, the debt said to be ‘due and payable’ must not be time-barred.

If, therefore, before a creditor approaches the NCLT, there is an acknowledgement of debt within the meaning of S.18 which is within the original three-year limitation period, it certainly has the effect of extending the time period for initiating suit or application in respect thereof. If within this extended time the creditor files application u/s7, it cannot be said that the debt was not ‘due and payable’ as the Limitation Act itself provides for such debt as being payable in law, and not barred by limitation.

There are other reasons also. Litigation is generally a last resort. Any creditor would prefer to get paid without going to court. There will always be cases where a default occurs and the defaulter acknowledges the debt in writing and pleads for more time to clear the debt, or for restructuring the loan. Such time may extend beyond the original three-year limitation period.

There are genuine cases where the defaulter does manage to repay the outstanding debt if it is allowed sufficient time. Such restructuring/extension of time is possible because S.18 protects creditors and gives a fresh period of limitation when the defaulter acknowledges the debt, of course within the original period of limitation. This will come to an end if S.18 is taken out of contention. Genuine cases where defaults can be resolved may head into insolvency proceedings because the law did not allow parties further time to resolve the issue.

Also, the judgment will have a significant impact on pending cases where the financial creditor may have filed the S.7 application beyond the original three-year limitation period, claiming a new date of default in view of a written acknowledgement of debt by the corporate debtor. Such cases may end up in dismissal of applications by virtue of this judgment.

And, the judgment does not deal with applicability of S.18 to cases of operational debt. But it is not hard to imagine that a corporate debtor will argue that the same logic applicable to S.7 cases should also apply in cases of operational debt. This will impact pending cases under S.9 as well.

Thus, in conclusion, the judgment in Babulal Vardharji Gurjar does not set out the correct law and requires reconsideration.

The author is a Partner at JNA Law and an advocate practicing before the Supreme Court of India.