Heads I win, tails you lose – IBC law overrides Income Tax provisions

Recently the Telangana High Court in the case of the Sirpur Paper Mills Ltd vs. Union Of India – W.P. No. 25827 of 2019 – order dated 18-01-2022 has decided the validity of the notice issued u/s 143(2) during the pendency of IBC resolution proceedings. In this case, High Court held that IBC law overrides Income Tax law. The assessment proceedings initiated by the Income Tax Department for the assessment year which is covered by the date of resolution plan approved by the NCLT is not permissible as per IBC and hence, notices issued during the said period are liable to quashed. This judgement may have wider ramifications and the same is analyzed in detail hereunder.

Factual Background –

Assessee was a company incorporated under the Companies Act, 1956 and was engaged in the business of paper manufacturing. M/s Rama Road Lines, a creditors of the assessee along with others had filed an application under Section 9 of the Insolvency and Bankruptcy Code, 2016 (IBC) as operational creditor for initiating corporate insolvency resolution process the assessee. The said application was admitted on 18.09.2017 by the National Company Law Tribunal (‘Tribunal/NCLT’). By virtue of order of the Tribunal, Section 13 of IBC came into play and moratorium was ordered. As per Section 21 of the IBC, a committee of creditors was constituted from amongst the financial creditors of the assessee. Thereafter, the resolution professional was appointed and he made a public announcement on 25.09.2017. In the meantime, return of income for the AY 2017-18 was filed on 07.11.2017 by the resolution professional on behalf of the assessee. In the said return loss of Rs.15,49,43,866 was shown and refund of Rs 11,47,698 on account of TDS was claimed.

Thereafter, As part of the resolution process, prospective resolution applicants were invited to present their resolution plans for the assessee. A resolution plan was submitted on 12.02.2018, which was thereafter revised pursuant to discussions held with the committee of creditors. The said resolution plan was revised from time to time as sought for by the creditors. The final resolution plan was submitted on 30.04.2018 and the same was approved by the committee of creditors and it was approved by the Tribunal, vide its order dated 19.07.2018.

Thereafter, the CPC, Bangalore found some arithmetical defect u/s 143(1)(a) which was rectified by the assessee by filing a revised return for the AY 2017-18 on 17.10.2018. Thereafter, the Income Tax Department issued notice u/s 143(2) on 22.09.2019 for limited scrutiny to verify investment and business loss claim. The assessee submitted in response thereto that as the resolution plan has been approved by the Tribunal, all proceedings and claims arising from dues prior to approval of resolution plan stood discharged by virtue of Section 31(1) of the IBC. It further submitted that its factory was remained closed from September 2014 onwards due to severe financial crisis and thus there were no sales and purchase transactions recorded during the AY 2017-18. Despite this, department issued notice on 22.10.2019 & 30.10.2019 u/s 142(1) calling various information.

Aggrieved thereby , Assessee filed Writ Petition. High Court by way of interim relief, stayed the operation of these notices.

Arguments of the Assessee before High Court –

The assessee contended before High Court that –

• The rights of the Income Tax Department has to be seen in the context of IBC and it cannot exercise an independent right after resolution plan is approved by the NCLT.
• Once Resolution plan is approved, all the prior dues and proceedings would stand extinguished by virtue of Section 31 of IBC. However, this would not take away the right of the petitioner to make claims against the respondents by way of set off of carry forward of accumulated losses and unabsorbed depreciation for the past period against profits of future years. Thus petitioner is entitled and eligible to claim set off of brought forward losses including unabsorbed depreciation against future profits and consequently eligible to refund for the AY 2017-18.
• As per sections 5 (20) and 5 (21) of IBC, the Income Tax Department would be construed to be an operational creditor and the tax dues would be construed to be an operational debt.
• once a resolution plan as approved by the committee of creditors is approved by the adjudicating authority u/s 31(1) of IBC, all concerned including the Income Tax Department would be bound by the resolution plan.
• As per Clause 7.5 (c) of the Resolution Plan, all existing income tax dues would stand extinguished and all notices proposing to initiate any proceeding against the corporate debtor in relation to the period prior to the date of the NCLT’s order would stand abated. Hence, the Income Tax Department cannot proceed on the basis of the notices under question. If there is any doubt regarding this, Section 238 IBC makes it abundantly clear that provisions of the IBC would prevail over any other Act.

Arguments of the Department before High Court–

On the contrary, Department argues that –

• The assessee is trying to carry forward of accumulated losses and unabsorbed depreciation of approximately Rs. 377 crores for the AY 2017-18 which can be set off against future profits and also seeking the refund of Rs.11,47,608 for the AY 2017-18 and thus, entitled to undertake proceedings which would establish the veracity and correctness of such claims.
• Since the assessee was loss making no tax was payable and hence, no monies recoverable and hence, department did not submit any claim before the resolution professional.
• The Income Tax Department did not receive any notice of the resolution plan and were not granted an opportunity to participate in the formulation of the resolution plan. The resolution is plan is neither applicable nor binding upon the Income Tax Department as the AO or Income Tax Department are neither operational creditors nor involved in the making of the resolution
• The assessment of AY 2017-18 pertains to benefits sought to be claimed would not be barred by the Clause 7.5 of Resolution Plan as they would relate to future profits and thus, does not pertain to dues prior to approval of the resolution plan.
• The notices pertain to scrutiny of AY 2017-18 in relation to the return of income filed on 17.10.2018 which is subsequent to the date of approval of the resolution plan i.e. 19.07.2018.
• The resolution plan cannot override or supersede statutory requirements. Any provision in the resolution plan contrary to or inconsistent with the statute would need to yield to such statutory prescriptions.
• As per notices u/s 142(1), the assessee has only been called upon to produce documents or furnish information in relation to its claim of carry forward of losses. There is nothing in those notices which can be said to be in conflict with or in contravention of the resolution plan as approved.
• Clause 7.5 (c) of Resolution Plan does not bar or prohibit initiation of any proceeding post the approval date of the NCLT.
• As there is no inconsistency between the resolution plan and assessment proceedings taken by the Department, section 238 of IBC is not applicable.
• Thus department argued that filing of the writ petition is an attempt to prevent the it from discharging their statutory duty and hence, the Writ Petition is liable to be dismissed.

Observations of the High Court regarding provisions of IBC –

After referring to the statement of objects and reasons of IBC, High Court noted that the core objective for introduction of IBC is to provide an effective legal framework for timely resolution of insolvency and bankruptcy proceedings thereby supporting development of credit markets while encouraging entrepreneurship. Further, IBC seeks to balance the interest of all the stakeholders in the payment of dues. Thus, IBC seeks to improve the ease of doing business and facilitating more investments and in such process leads to higher economic growth and development.

Referring to section 53(1) of the IBC which discusses the order of priority for distribution of assets, observed that any amount due to the Central Government and to the State Government in respect of the whole or any part of the period of two years preceding the liquidation commencement date is placed at Sr.No.5 in order of priority.

It referred to the decision of Supreme Court in the case of Principal Commissioner of Income Tax Vs. Monnet Ispat and Energy Limited – 2018 SCC Online Supreme Court 984 wherein it was held that in view of Section 238 of IBC, it is obvious that it will override anything inconsistent contained in any other enactment including the Income Tax Act.

It also referred to the decision of Supreme Court in the case of Committee of Creditors of Essar Steel India Limited Vs. Satish Kumar Gupta (2020) 8 SCC 531 wherein the Apex Court has held that once a resolution plan is approved by the committee of creditors, it shall be binding on all the stakeholders including guarantors and is to ensure that the successful resolution applicant starts running the business of corporate debtor on a fresh slate as it were.

Lastly, High Court referred to the decision of Supreme Court in the case of Ghanashyam Mishra – (2021) 9 SCC 657 wherein the Apex Court in para 95 has held that any debt in respect of payment of dues arising under any law including the ones owed to the Central Government or any State Government or any local authority which does not form a part of the approved resolution plan shall stand extinguished.

Finding of the High Court –

High Court noted that NCLT approved the plan after noting that the resolution plan as approved by the committee of creditors. It also noted that NCLT considered the concessions given by the Government of Telangana. NCLT also noted while approving the Resolution Plan that the revival of the corporate debtor would enhance the interest of all the stakeholders and the economic condition of the area.

High Court referring to the clause 7.5 (c) of the Resolution Plan observed that the above clause provides that all dues under the Act whether asserted or unasserted, crystallized or uncrystallized, present or future in relation to any period prior to the completion date shall stand extinguished and the corporate debtor shall not be liable to pay any amount against such demand. All assessments or other proceedings relating to the period prior to the completion date shall stand terminated and all consequential liabilities would stand abated. It further clarifies that all notices proposing to initiate any proceeding against the corporate debtor in relation to the period prior to the date of the Tribunal’s order and pending on that date shall stand abated and should not be proceeded against. Post the order of the Tribunal, no reassessment or revision or any other proceeding under the Act shall be initiated on the corporate debtor.

High Court specifically referred to clause 17.7 (c) of Resolution Plan which categorically stated that that the corporate debtor shall be entitled to carry forward the unabsorbed depreciation and accumulated losses and to utilize such amounts to set off future tax obligations.

High Court noted that return of income for the AY 2017-18 was filed on 07.11.2017 by the resolution professional on behalf of the assessee. In the said return loss of Rs.15,49,43,866 was shown and refund of Rs 11,47,698 on account of TDS was claimed. Thereafter, the CPC, Bangalore found some arithmetical defect u/s 143(1)(a) which was rectified by the assessee by filing a revised return for the AY 2017-18 on 17.10.2018. High Court observed that the period of the assessment order would be a period covered by the resolution plan which was approved by the NCLT on 19.07.2018.

High Court held that the revised return filed by the assessee cannot be construed as a fresh return filed by the assessee since it is a continuation of the return of income filed earlier and thus, the claim of the Income Tax Department (through the assessment proceedings for AY 2017-18) would be outside the resolution plan and thus, as held by the Supreme Court in the case of Essar Steel India (supra) and Ghanashyam Mishra (supra), held that the same would stand extinguished. Thus, High Court concluded that the period covered by the resolution plan, the Income Tax Department cannot carry out any scrutiny or carry out assessment in respect of the corporate debtor i.e. the assessee.

High Court after referring to clause 17(1)(c) has further held that the assessee would be entitled to carry forward of losses and adjustments of the same against future profits. High Court however, held that as and when such carry forward and set off is claimed by the petitioner in future, i.e. beyond the period covered by the resolution plan, the Income Tax Department would be entitled to verify such claim and pass appropriate order.

In view of above backdrop, the High Court quashed the notice u/s 143(2) dated 22.09.2019 and notices u/s 142(1) dated 21.10.2019 & 30.10.2019 for AY 2017-18.