fraud

In this article, Gourav Khatri who is currently pursuing M.A. IN BUSINESS LAWS, from NUJS, Kolkata, discusses Arbitrability of disputes where Fraud is alleged.

Meaning and current position

  • At present the scenario of Arbitration in India is that if the parties have agreement between parties which is valid, the Court can’t interfere into the context of the Agreement. Also, the Court is bound to refer the dispute to Arbitration.
  • The Arbitration and Conciliation Act, 1996 does not specify the class or categories of the cases or instances where the matters have been identified which can be entertained in Arbitration or not.
  • Since, it is not specified in legislation and also the fact that Arbitral Tribunal does not have the same powers as the Civil Court has like examination of evidence, cross objection etc., therefore, the Courts in several judgements have specified in particular cases the parties can’t enter into Arbitration even if the Arbitration Agreement is valid. (Landmark Judgement: Held in Booz Alen Case).

Ayyasamy v. A. Paramasivam and Ors. Case study

Facts of the case

  • Partnership deed for carrying hotel business and this partnership has been running a hotel with the name of Hotel Arunagiri located at Tirunelveli, Tamil Nadu.
  • An arbitration clause was there in the deed which bound the parties to solve the dispute by arbitration.
  • The Appellant was entrusted with administration, the Respondents alleged that the Appellant had failed to make unvarying deposits of money into the joint operating bank account and had unfairly tapped off an amount of INR 10,00,050. In a separate raid conducted by the CBI on premises of the Appellant’s relative, an amount of INR 45, 00,000 was snatched and suspected to have been given by the Appellant for business of the hotel.
  • A civil suit was filed by the defendant looking for a statement that as partners they are entitled to participate in the administration of the hotel and also a relief of permanent injunction restraining the defendant form interfering with their right to participate in the administration of the hotel.
  • The appellant, on receiving the summon raised an objection and made an application under A&C, Act of 196 raising the objection that the suit is not maintainable as there was an agreement which contains an arbitration clause and according to which the dispute has to be solved by the arbitration and it is mandatory for the court to refer the matter to the arbitration.
  • To this the respondent replied that there was fraud on the part of the appellate which cannot be adjudicated by the arbitration and referred the judgement in the case of N. Radhakrishnan v. Maestro Engineers and Ors.
  • To this the appellate argued that the judgement laid down in the case of N. Radhakrishnan v. Maestro Engineers and Ors. was found to be per incuriam by the court in the case of Swiss Timing Ltd. v. Commonwealth Games 2010 Organising Committee  in which it was held that the under section 11 of the A&C Act, fraud can be adequately taken care of even by the arbitrator.
  • The trial court dismissed the application of the Appellant relying upon the judgement in N. Radhakrishnan v. Maestro Engineers and Ors.
  • Thereafter, the appellant filed a revision petition before the HC repeating his contention that judgement in N. Radhakrishnan v. Maestro Engineers and Ors. was held to be per incuriam in the judgement in Swiss Timing Ltd.
  • The HC has also chosen to go by the dicta laid down in N. Radhakrishnan with the observation that the judgement in N. Radhakrishnan is rendered by a Division Bench of two Hon. Judges of this court and in Swiss Timing Ltd.  The order was passed by a single Judge of this court.
  • Now in the appeal before the SC the question which needs to be determined is – whether the view of the HC in following the dicta laid down in the case of N. Radhakrishnan, in the facts of this case, is correct or not.
  • The A&C Act, does not make any specific provision which excludes any category of disputes terming them to be non-arbitrable and it has been laid down in numerous of cases that the scope of judicial intervention, in the cases where there is arbitration clause which is clear and unambiguous, would be very limited and minimal. As, section 8 contains a mandate that were an action is brought before a judicial authority, where the subject is of an arbitration agreement, the parties shall be referred to the arbitration. The only exemption to this is when the authority finds prima facie that there is no valid arbitration agreement.
  • Section 16 empowers the arbitral tribunal to rule upon its own jurisdiction, including ruling on any objection with respect to the existence or validity of an arbitration agreement. As per Section 16(1), the decision of arbitral tribunal that a contract is null and void shall not mean that the arbitration agreement is also null and void. The arbitration agreement or clause is treated as a separate agreement than the contract.
  • Section 34(2)(b) and Section 48(2) provide as one of the grounds for challenge in respect of the enforceability of an award on the ground that the dispute is not capable of settlement by arbitration under the law for the time being in force.
  • From the combined readings of section 5, 16 and 34 of the A&C Act, it can be inferred that it has to be shown that there is a law which makes subject matter of a dispute incapable of settlement by arbitration and according to section 5 of the act, it is clear that there should not be any judicial intervention if there is a valid arbitration agreement between the parties. Also the validity of the arbitration agreement/clause has to be decided by the Arbitral Tribunal only (As per Section 16 of the Act). This has been also laid down in the judgement of Kvaerner Cementation India Ltd. V. Bajranglal Agarwal and Anr.
  • Further in the case of Abdul Kadir Shamsuddin Bubere V. Madhav Prabhakar Oak it was held by the court that the serious allegations of fraud are sufficient ground for not making a reference to arbitration. The court in this case referred the judgement laid down in the case of Russell v. Russell in which it was laid down that in case where fraud is charged, the court will in general refuse the dispute to arbitration but in case the objection to arbitration is there by a party charging the fraud, the court will not accede it until and unless a prima facie case of fraud is proved.
  • It was also observed by the court that, where there are serious allegations of the fraud, the dicta contained in the above-mentioned judgement are understandable but mere allegations of fraud in pleadings cannot be a ground to declare the matter as incapable of settlement by an arbitrator.
  • Further in the case of Booz Allen and Hamilton Inc. v. SBI Home Finance Limited and Ors. it was held by the court that the cases where the subject matter falls exclusively within the domain of public for a(right in rem), such disputes cannot be decided by the Arbitral Tribunal but by the courts only and the disputes where the subject falls under the private for a (right to personam) are arbitrable. This is not, however, a rigid or inflexible rule.

The court set down the following examples of non-arbitrable disputes,

  1. Disputes relating to rights and liabilities which give rise to or arise out of criminal offence;
  2. Matrimonial disputes relating to divorce, judicial separation, restitution of conjugal rights and child custody;
  3. Matters of guardianship;
  4. Insolvency and winding up;
  5. Testamentary matters, such as the grant of probate, letters of administration and succession certificates; and
  6. Eviction or tenancy substances governed by special statutes where a tenant enjoys special protection against eviction and specific courts are conferred with the exclusive jurisdiction to deal with the dispute.

In the case of Vimal Kishore Shah v. Jayesh Dinesh Shah, the court added the seventh category to the six non-arbitrable categories set out in Booz Allen case which was relating to trusts, trustees and beneficiaries arising out of trust deed and the Trust Act.

It was held by the courts in the case of Natraj Studios (P) Ltd. v. Navrang Studios that the arbitration agreements between the parties whose rights are regulated by rent control legislation will not be recognized by the court of law.

Further, where the dispute is under the Consumer Protection Act, 1986, it was held by in the case of Skypak Courier Ltd. v. Tata Chemical Ltd. that the existence of an arbitration clause will not be a bar to the entertainment of a complaint by a forum under the Consumer Protection Act, 1986. The same was reiterated in National Seeds Corporation Ltd. v. M. Madhusudan Reddy and Rosedale Developers Pvt. Ltd. V. Aghore Bhattacharya.

Therefore, the position that emerges both before and after the decision in N. Radhakrishnan is that the courts have given the effect to the binding precept incorporated in Section 8 in the judgements laid down by the courts in the case of P. Anand Gajapathi Raju v. P.V.G. Raju, Hindustan Petroleum Corporation Ltd. v. Pinkcity Midway Petroleums, Sundaram Finance Ltd. v. T. Thankam, Pink City and Branch Manager, Magma Leasing and Finance Ltd. v. Potluri Madhvilata. It was further held by the court that once there is an arbitration agreement between the parties, a judicial authority before which the action is brought is under a positive obligation to refer the parties to the arbitration by enforcing the terms of the contract. There is no element of discretion left with the court but to compel the parties to arbitration.

The position in UK, where arbitration is valued as an effective form of dispute resolution is also same. As in UK, according to Section 24(2) of the Arbitration Act, 1950, the court could review the authority of a tribunal to deal with the claims involving issues of fraud and determine those claim itself. However, under the English Arbitration Act, 1996, there is no such restriction and the arbitral tribunal has the jurisdiction to consider and rule on issues of fraud.

According to the basic principle and the object behind Arbitration and Conciliation Act, 1996, the arbitration is essentially a voluntary assumption of an obligation by contracting parties to resolve their disputes through a private tribunal where the intention of the parties is expressed in the terms of their agreement and out of which, the parties had the knowledge of the efficacy of arbitral process can be inferred. Therefore, it is the duty of the court to refer the parties to arbitration so that the purpose and object of Arbitration and Conciliation Act, 1996 could not be destroyed.

Further, this principle should guide the approach when a defence of fraud is raised before a judicial authority to oppose a reference to arbitration. The arbitration agreement between the parties stands distinct from the contract in which it is contained, as a matter of law and consequence. Even the invalidity of the main agreement does not ipso jure result in the invalidity of the arbitration agreement. Parties having agreed to refer disputes to arbitration, the plain meaning and effect of Section 8 must ensue.

According to the 246th Law Commission Report, two views in this regards have been expressed, one is in favour of civil courts in case of serious fraud and other view in favour of Arbitral Tribunal. This brings into force that the Law Commission has recognized that in case where there is serious fraud, it has to be dealt by the Civil Court and in case where there is fraud simplicitor, it can be determined by the Arbitral Tribunal.

Therefore, if the court finds that there are serious allegations of fraud which make virtual case of criminal offence or where the allegations of fraud are so complicated that it becomes absolutely essential to be decided by the civil court, the civil court can side-track the agreement by dismissing the application under section 8. It can also be done in case where there is forgery/fabrication of documents in support of the plea of fraud. However, reverse position of this would be that where there are simple allegations of fraud touching upon the internal affairs of the party and it has no implication in the public domain, the arbitration clause need not to be avoided.

In the present case, as per the facts the SC didn’t find fraud to be so serious which the arbitrator cannot take care of. Therefore, the SC revised the judgements of the lower courts, allowed the appeal and referred the parties to arbitration.

The Supreme Court observed that the doctrine of separability and kompetenz-kompetenz (embodied in Section 16 of the Act) helped the arbitral tribunal retain powers to adjudicate upon matters without court intervention. The SC attempted to strike a balance in the considerations of arbitrability of fraud. It held that while matters that involved allegations of “serious fraud” would not be arbitrable, matters that had “mere allegations” of fraud were arbitrable.

According to the facts in the present case, the Supreme Court didn’t find the fraud to be so serious which the arbitrator cannot take care of. Hence, the Supreme Court changed the judgements laid down by the lower courts and allowed the appeal and referred the parties to the arbitration. It was observed by the SC that, section 16 of the Arbitration and Cancelation Act helped the arbitral tribunal to retain its powers to entertain the matters without intervention of the court, as the doctrine of severability and kompetenz-kompetenz are embodied in section 16 of the Arbitration and Conciliation Act. The Supreme Court had tried to balance the dispute of arbitrability of fraud by laying down that the matters where fraud is of serious nature would not be arbitrable and where there are mere allegations of fraud would be arbitrable.

The supreme court also drew the difference between allegation which are simple in nature and the allegations which demand evidence which is complex in nature and requires to be proved beyond reasonable doubt, which can only be done by civil court and not by an arbitrator. Therefore, the matters of fraud which are not so complex and are just mere allegations would be arbitrable and the court is bound to refer those matters to arbitrator. According to the SC, the Swiss Timing case and Radhakrishnan case were on different subject matters therefore, the Swiss Timing case didn’t have precedential value as compared to the Radhakrishnan case.

The controversy over arbitrability of fraud has been now settled as the Supreme Court has now laid down by ending the dispute regarding the applicability of the principle which was laid down in Swiss Timing case over the principles laid down in Radhakrishnan case. The Supreme Court laid down the approach that has to be followed by the court while dealing an application under Section 8 of the Arbitration and Cancellation Act where the contention of fraud is alleged.

Further, it was also laid down by the Supreme Court that where the courts are dealing with international jurisprudence on the matter of arbitrability, the courts have to decide while considering other common law jurisdictions, should evolve towards strengthening the institutional efficacy of arbitration.

Whereas this verdict is a wanted step and in the exact direction, however it would still leave the grit regarding the gravity of the swindle to the idiosyncratic resolution of the court. Therefore not only would scam be obligatory to be specifically pleaded, the fraud pleaded would mechanically require to be of a serious and severe nature. The Court has also delicately stated that accusations of swindle can be adjudicated upon in courts when the person against whom such allegations are flattened desires to be tried in court. This will be a supplementary factor to be dignified by courts in deciding applications for locus to arbitration. It will also be decisive for courts to dissect if fraud is directed at the arbitration agreement, thereby inculpating the agreement (and the resultant arbitration, the same being creature of the arbitration agreement), as contra-distinguished from the main contract.

The verdict acts as a fail-safe judgment as it takes into interpretation universally-accepted principles of kompetenz kompetenz, separability and party autonomy as the epicenter of settlement, and accords due respect to ordinary business reasoning underlying arbitration clauses in contracts. It reinforces the intention of the judiciary to be a partner in arbitral proceedings and offer backing, both in an active and unreceptive manner, where questions arise with respect to reference to arbitration.

Outcome of Judicial Pronouncements

  • Whereas this verdict is a wanted step and in the exact direction, however it would still leave the grit regarding the gravity of the swindle to the idiosyncratic resolution of the court. Therefore not only would scam be obligatory to be specifically pleaded, the fraud pleaded would mechanically require to be of a serious and severe nature. The Court has also delicately stated that accusations of swindle can be adjudicated upon in courts when the person against whom such allegations are flattened desires to be tried in court. This will be a supplementary factor to be dignified by courts in deciding applications for locus to arbitration. It will also be decisive for courts to dissect if fraud is directed at the arbitration agreement, thereby inculpating the agreement (and the resultant arbitration, the same being creature of the arbitration agreement), as contra-distinguished from the main contract.
  • The verdict acts as a fail-safe judgment as it takes into interpretation universally-accepted principles of kompetenz kompetenz, separability and party autonomy as the epicenter of settlement, and accords due respect to ordinary business reasoning underlying arbitration clauses in contracts. It reinforces the intention of the judiciary to be a partner in arbitral proceedings and offer backing, both in an active and unreceptive manner, where questions arise with respect to reference to arbitration.

Conclusion

Keeping the above judgements in mind, we can conclude with the fact that wherever such disputes are there which consist of the both nature civil as well as criminal and where the dispute is a subject matter to Arbitration due to valid arbitration clause, the Courts can only entertain, if the nature of the matter is grave and evidence are required to prove the dispute and taken on record.

 

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