Guest Post by Adv. Pooja Gera(Pooja Gera is a Counsel at Bombay High Court. She specialises in commercial disputes and is actively engaged in civil and commercial litigation before various fora as well as arbitration.)
The advent of Insolvency and Bankruptcy Code, 2016 (“IBC”) reignited the debate over whether entries/ disclosures made in successive financial statements could be construed as “acknowledgment in writing” so as to extend the limitation period for recovery. The other contentious issue was whether any such acknowledgment would also extend the limitation period for proceedings under the IBC. This was significant since, if the argument were to be accepted, a creditor who did not initiate any proceedings for recovery against a corporate debtor within the limitation period, could claim extension of limitation and directly initiate corporate insolvency resolution process against the corporate debtor.
While it appears that these issues have been put to rest with the recent ruling of the National Company Law Appellate Tribunal, New Delhi (“NCLAT”) in Bishal Jaiswal v. Asset Reconstruction Company (India) Ltd. & Anr., Company Appeal (AT) (Insolvency) No. 385 of 2020 (“Bishal Jaiswal case”), one only needs to scratch beneath the surface to know that the issue is far from settled. In fact, one may argue that the recent rulings have muddled even the existing jurisprudence on extension of limitation under Section 18 of the Limitation Act, 1963 (“Limitation Act”). In view of the prevailing uncertainty due to differences in interpretation, it is only prudent to be prepared for all possible outcomes.
This post seeks to provide a brief perspective of the legal nuances on the issue of acknowledgment and limitation and also attempts to offer some suggestions as to how corporates can avoid getting trapped into this legal quagmire.
Effect of written acknowledgment on limitation
Section 18 of the Limitation Act provides for extension of limitation period where liability is acknowledged in writing. More specifically, it provides that where, prior to expiry of the limitation period for a suit/ application in respect of any property or right, an acknowledgment is (i) made in respect of such property or right; (ii) made in writing; and (iii) signed by the party against whom such property or right is claimed, a fresh period of limitation shall be computed from the time when the acknowledgment is so signed.
The trigger for commencement of a fresh period of limitation is, of course, making of an “acknowledgment”. To constitute an acknowledgment, it is sufficient if the statement in question (i) relates to a present and subsisting liability; (ii) indicates the existence of a jural relationship between parties, such as, for instance, that of a debtor and a creditor; and (iii) the intention to admit such a jural relationship. As per explanation under Section 18(a) of the Limitation Act, an acknowledgment is deemed sufficient even though:
- it omits to specify the exact nature of the right or property; or
- it avers that time for payment, delivery or performance has not arisen; or
- it contains any refusal to pay; or
- it contains any requirement of set-off; or
- it is addressed to a third party.
Therefore, the definition of “acknowledgment” under Section 18 of the Limitation Act is quite broad. The Supreme Court has clarified that an acknowledgment need not be specific, nor does it need to amount to a promise to pay. If the necessary facts which constitute the liability are admitted, an acknowledgment may even be inferred from such an admission.
Controversy before NCLAT
The issue whether entries/ disclosures made in financial statements could be construed as an “acknowledgment” under Section 18 of the Limitation Act, came up for consideration before NCLAT. While this issue had been previously considered by various courts and tribunals, there was some ambiguity in absence of a binding precedent from the Supreme Court. The Supreme Court had only offered limited guidance in Mahabir Cold Storage v. Commissioner of Income Tax (“Mahabir case”) and A.V. Murthy v. B.S. Nagabasavanna (“A.V. Murthy case”). In Mahabir case, the Supreme Court held that entries in books of accounts would amount to an acknowledgment of liability and in A.V. Murthy case, the Supreme Court went a step further and held that even entries in the balance sheet may amount to acknowledgment and creditor may have a fresh period of limitation from the date on which acknowledgment was made. However, complete clarity was still lacking since Mahabir case pertained to books of accounts whereas the Supreme Court’s view in A.V. Murthy case was inconclusive. Meanwhile, an overwhelming majority of judgments of the High Courts also held that entries/ disclosures made in financial statements may be construed to be an acknowledgment within the meaning of Section 18 of the Limitation Act subject, of course, to the language used.
NCLAT adopted a completely different approach. In V. Padmakumar v. Stressed Assets Stabilisation Fund (SASF) & Anr. (“V. Padmakumar case”), NCLAT held that since filing of balance sheet/ annual return was a mandatory statutory requirement under Companies Act, 2013 failing of which attracted penal action, the statements made therein could not be treated as an acknowledgment under Section 18. Similar approach was adopted in other judgments of NCLAT.
The judgment in V. Padmakumar case was passed with a majority of 4:1. In the dissenting opinion issued by Justice A.I.S. Cheema, the hon’ble judge relied on judgments of the Supreme Court in Mahabir case and A.V. Murthy case as also judgments of various High Courts to conclude that balance sheets could be looked into to see if there was an acknowledgment of debt. The dissenting opinion also commented on the rationale of the majority’s decision and observed that while preparation and filing of financial statements/ annual returns is mandated by law, there is no legal compulsion on the persons who prepare them to make any admissions. The dissenting opinion is supported by the Calcutta High Court decision in Bengal Silk Mills Co. v. Ismail Golam Hossain Arif. The Court held that admissions made in balance sheet, though in discharge of a statutory duty, are nevertheless conscious and voluntary admissions. Those admissions would not cease to be acknowledgment of liability merely on the ground that they were made in discharge of a statutory duty.
The V. Padmakumar case was reconsidered by a five members bench of NCLAT in the Bishal Jaiswal case. The judgment was passed on 22nd December 2020 whereby the bench unanimously reconfirmed the majority view in V. Padmakumar case and also went a step further to hold that Section 18 of Limitation Act would have no application to any proceedings under IBC. The NCLAT based its view on the judgment of the Supreme Court in Babulal Vardharji Gurjar Vs. Veer Gurjar Aluminum Industries Ltd. & Anr (“Babulal Vardhaji case”).
Interestingly, contrary to NCLAT’s view in Bishal Jaiswal case, it appears that the Supreme Court did not render any conclusive finding on applicability of Section 18 of the Limitation Act to proceedings initiated under IBC in Babulal Vardhaji case. This may be the reason why, in a separate case, NCLAT allowed admission of an application under Section 7 of IBC on the ground that there was a written acknowledgment that extended the limitation period for the proceedings. The Order passed by NCLAT was challenged before the Supreme Court but Supreme Court dismissed the appeal. It is, therefore, evident that there are conflicting views on this issue not only amongst different forums but even within NCLAT.
Foreseeable Risks and Suggestions
In light of what is set out above, it is difficult to conclude with certainty what position would the courts/ tribunals take in such cases.
While NCLAT has now taken a conclusive stand that statements/ entries in financial statements cannot be treated as acknowledgment, this issue is yet to be properly agitated before the Supreme Court. It is possible that the Supreme Court may overrule the judgments of NCLAT in light of its own judgments in Mahabir case and A.V. Murthy case. Further, NCLAT’s view that Section 18 is completely inapplicable to any proceedings under IBC may be an extremely narrow interpretation of Supreme Court’s decision in Babulal Vardhaji case and may again be later corrected by the Supreme Court. The possibility of any further legislative amendments can also not be ruled out.
The creditors who wish to rely on such admissions in financial statements or any other written acknowledgment can anyway initiate regular proceedings for recovery before a Court in which case judgments of courts other than judgments passed by NCLAT may be considered.
In the aforesaid circumstances, it may be prudent for corporates to err on the side of caution and take complete care while making any written disclosures and/ or any statements pertaining to any claims.
While entering into correspondence with a person claiming to be a creditor or even issuing any correspondence to a third party in relation to the claim of such a creditor:
- It must be borne in mind that it does not matter if the quantum of liability is not admitted. The exact amount payable, any grounds for non-payment or a claim for set-off can always be decided during the proceedings. What renews or extends the limitation for initiation of recovery proceedings is a statement that intentionally acknowledges that there is a jural relationship between the parties under which some money is payable. Therefore, language used in any such correspondence must be thoroughly vetted, preferably by legal advisors, to ensure that the party making the statement is well aware of its legal implications.
- Many corporates follow the practice of preparing some sort of a reconciliation statement with long-term business partners where multiple transactions are involved. It is imperative to note that a reconciliation statement is intended to be a record of all debts payable till the date of signing of the statement. Therefore, each time such a statement is signed, it also renews the limitation for all past debts recorded therein even if those are seriously disputed. For businesses that maintain such reconciliation statements, it may perhaps help to have a policy of completely excluding any seriously disputed or time-barred transactions from written reconciliation statements. Only money owed for transactions which are undisputed/ admitted should be included.
- It is also imperative to ensure that the person who is authorised to undertake the reconciliation exercise or is engaged in the process of adjustment should be made aware that his/ her authority is limited to recording admitted debts. Where any amount claimed is disputed, the matter should be referred to management for decision and no written communication should be addressed to the business partner on the issue except with specific authority from the management.
Disclosures/entries in balance sheets and/or financial statements
While making any disclosures or entries in balance sheets and/or financial statements:
- If the claim raised by the person claiming to be a creditor is significant, the company must first consider whether, in its opinion, the claim is at all maintainable in law. If there is no jural relationship at all with such a person, there is no cause to be concerned. However, if the relationship does exist and/or there is a doubt as to whether the concerned person can make such a claim, disclosures may be required. To have a more conclusive view on the maintainability of such a claim, perhaps, a legal opinion should be obtained.
- Section 129 of Companies Act, 2013 (“Companies Act”) only requires that financial statements prepared by a company must give a true and fair view of its affairs and must be in compliance with the applicable accounting standards. If the company does not foresee any financial effects emanating from claims raised by a “creditor”, the company may not need to make a provision for such claims in their financial statement. It will, however, be best to take an opinion of a chartered accountant on whether such disclosures are necessary for compliance with the provisions of Companies Act and the relevant accounting standards.
- Section 129(5) of the Companies Act also makes an allowance for a deviation from the accounting standards provided the reasons for such deviations and any financial effects arising out of such deviations are disclosed in the financial statements. If the opinion obtained by the company from a chartered accountant indicates that accounting standards may require provision for these claims, advice may be obtained if the benefit of deviation as per Section 129(5) of Companies Act can be availed.
- Ofcourse, complete information pertaining to such claims must be provided to the auditors of the company. The auditors may then take a view on whether such a claim warrants disclosure in financial statements and may make a qualification or reservation to that effect. The directors of the company will still have an opportunity to explain and comment on any such qualification or reservation made by the auditors in the report of Board of Directors which will be attached to the financial statements.
- If disclosure or provisions for such claims are necessary to fully comply with the statutory requirements, the company must do so. However, these disclosures can also be qualified by a management representation to explain why the company feels that the claim cannot be made.
Therefore, though law mandates filing of annual returns/ balance sheets/ financial statements, it makes sufficient allowance for companies to decide the contents of such a document with the only overarching obligation being that they must give true and fair view of affairs of the company. There is no legal compulsion whatsoever to make any acknowledgments.
At the end, it all comes down to the language used in the correspondence and/or the financial statements. Judicial precedents lay down that the language used in the documents will be considered as a whole to see if there is, in fact, an acknowledgment that extends limitation.
– Pooja Gera (Guest Contributor)
(Pooja Gera is a Counsel at Bombay High Court. She specialises in commercial disputes and is actively engaged in civil and commercial litigation before various fora as well as arbitration.)
 Lakshmirattan Cotton Mills Co. Ltd. and Ors. v. The Aluminium Corporation of India Ltd, AIR 1971 SC 1482
 State of Kerala v. T.M. Chacko, AIR 2000 SC 3597
 Lakshmirattan Cotton Mills Co. Ltd. and Ors. v. The Aluminium Corporation of India Ltd, AIR 1971 SC 1482; J.C. Budhraja vs. Chairman, Orissa Mining Corporation Ltd. and Ors. (18.01.2008 – SC) MANU/SC/0602 /2008
 State of Kerala v. T.M. Chacko, AIR 2000 SC 3597
 AIR 1991 SC 1357 (para 12)
 AIR 2002 SC 985 (para 5)
 Shreeram Durgaprasad vs. Sial Soap Stone Factors & Ors., 1982 MhLJ 912; Ambica Mills Ltd. Ahmedabad v. Commissioner of Income Tax Gujarat, Ahmedabad, AIR 1964 Guj 208; In Re: Deepika Housing Projects Pvt. Ltd. and Ors., AIR 2007 Cal 280; Shahi Exports Pvt. Ltd. v. CMD Buildtech Pvt. Ltd., 2013 (202) DLT 735; Babulal Rukmanand v. Official Liquidator, Bharatpur Oil Mills (Private) Ltd., AIR 1968 Raj 214; TJSB Sahakari Bank Ltd. Vs. M/s. Unimetal Castings Ltd.
 Company Appeal (AT) Insolvency No. 57 of 2020 (para 22)
 V. Hotels Limited and Ors. v. Asset Reconstruction Company (India) Limited and Ors Company Appeal (AT) (Insolvency) Nos. 525 and 627 of 2019; 2019 SCC OnLine NCLAT 911(para 24) and G. Eshwara Rao v. Stressed Assets Stabilisation Fund and Ors., Company Appeal (AT) (Insolvency) Nos. 1097 of 2019 (para 14-16)
 AIR 1962 Cal 115 (para9)
 (2020) 15 SCC 1
 MM Ramachandran v. South Indian Bank Ltd. & Ors., Company Appeal (AT) (Insolvency) No. 1509 of 2019
 MM Ramachandran v. South Indian Bank Ltd. & Ors., Civil Appeal No. 2951 of 2020