Whether secured creditor, would have priority over Government dues?

 In the present case, as has been noted above, the lien possessed by
the Stock Exchange makes it a secured creditor. That being the case, it is
clear that whether the lien under Rule 43 is a statutory lien or is a lien
arising out of agreement does not make much of a difference as the Stock

Exchange, being a secured creditor, would have priority over Government
dues.
REPORTABLE
IN THE SUPREME COURT OF INDIA
CIVIL APPELLATE JURISDICTION
CIVIL APPEAL NO.4354 of 2003
The Stock Exchange, Bombay …….Appellant
Versus
V.S. Kandalgaonkar & Ors. ..….Respondents
September 25, 2014
Read original judgment here;click here

 R.F.Nariman, J.

1. The present matter arises as the result of a member of a Stock
Exchange being declared a defaulter. The Income Tax Department claims
that it has priority over all debts owed by the defaulter member, whereas the
Stock Exchange, Bombay claims otherwise.
2. The facts necessary to appreciate the controversy are as follows:
By a notice dated 29th June 1994, the Stock Exchange, Bombay
declared Shri Suresh Damji Shah as a defaulter with immediate effect as he
had failed to meet his obligations and discharge his liabilities. By a notice
dated 5th October 1995 issued under Section 226 (3) of the Income Tax Act,
the Income Tax Department wrote to the Stock Exchange and told them that
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Shri Shah’s membership card being liable to be auctioned, the amount
realized at such auction should be paid towards Income Tax dues of
Assessment Year 1989-90 and 1990-91 amounting to Rs.25.43 Lakhs. The
Stock Exchange, Bombay by its letter dated 11th October 1995 replied to the
said notice and stated that under Rules 5 and 6 of the Stock Exchange the
membership right is a personal privilege and is inalienable. Further, under
Rule 9 on death or default of a member his right of nomination shall cease
and vest in the Exchange and accordingly the membership right of Shri
Shah has vested with the Exchange on his being declared a defaulter. This
being the case, since the Exchange is now and has always been the owner of
the membership card, no amount of tax arrears of Shri Shah are payable by
it. By a prohibitory order dated 10th May 1996, the Income Tax Department
prohibited and restrained the Stock Exchange from making any payment
relating to Shri Shah to any person whomsoever otherwise than to the
Income Tax Department. The amount claimed in the prohibitory order was
stated to be Rs. 37.48 Lakh plus interest. On 18th July 1996, the Solicitors
of the Stock Exchange, Bombay wrote to the Income Tax Department
calling upon them to withdraw the prohibitory order dated 10th May 1996 in
view of the fact that the membership right of the Exchange is a personal
privilege and is inalienable. By a letter dated 27th December 1996, the Tax
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Department wrote back to the Bombay Stock Exchange refusing to recall its
prohibitory order. Meanwhile, Shri Shah applied to be re-admitted to the
Stock Exchange which application was rejected by the Stock Exchange on
13th February, 1997.
3. The Stock Exchange then filed a Writ Petition being Writ Petition
No.220 of 1997 dated 24th December 1996 in which the following reliefs
were claimed:
(a) that this Hon’ble Court may be pleased to issue a writ of certiorari or
a writ in the nature of certiorari or any other appropriate writ, order
or direction under Article 226 of the Constitution of India calling for
the records in relation to the recovery proceedings initiated by the
Respondents against Mr. Suresh D. Shah and after going through the
same and examining the legality and validity thereof to quash and set
aside the impugned notice dated 5th October, 1995 and the impugned
order dated 10th May 1996, Impugned Notice/ letter dated 27th
December 1996 being Exhibits “D”, “F” and “H” hereto;
(b) that this Hon’ble Court may be pleased to issue a writ of mandamus
or any other appropriate writ, order or direction under Article 226 of
the Constitution of India ordering and directing the Respondents to
withdraw forthwith the recovery proceedings initiated against in
respect of the dues of Mr Suresh D. Shah and ordering and directing
the Respondents to withdraw forthwith the impugned notice dated 5th
October, 1995 and the impugned notice dated 5th October, 1995 and
the impugned prohibitory Order dated 10th May, 1996, Impugned
Notice/letter dated 27th December 1996 being Exhibits “D”, “F” and
“H” hereto;
(c) that this Hon’ble Court be pleased to permit the Petitioner to exercise
the right of nomination in respect of the membership right of Suresh
D. Shah in favour of such person as the petitioner may decide and to
apply the consideration received therefore and also appropriate all
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other securities placed with the Petitioner by Suresh d. Shah and
which have vested in the Petitioner in accordance with the Rules,
Bye-laws and regulations of the Petitioner;
4. The Writ Petition was finally heard and by a judgment dated 27th
March 2003, most of the contentions of the Stock Exchange were rejected
and the Writ Petition was dismissed.
5. A Special Leave Petition was filed against the said judgment being
SLP(Civil) No. 8245 of 2003 in which, by an order dated 7th May 2003, the
operation of the judgment was not stayed to the extent that it specifically
directed the petitioner to make certain payments and handover securities to
the Income Tax Department. However, in so far as the judgment declared
law, the operation of such declaration of law was stayed.
6. As this Civil Appeal raises important questions of law both from the
point of view of the Bombay Stock Exchange and the Income Tax
Department, we are going into the matter in some detail.
7. Section 226 of the Income Tax Act provides for a garnishee notice in
the following terms:
“Section 226 3(i) The assessing officer or tax recovery officer
may, at any time or from time to time, by notice in writing
require any person from whom money is due or may become
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due to the assessee or any person who holds or may
subsequently hold money for or on account of the asssessee, to
pay the assessing officer or tax recovery officer either forthwith
upon the money becoming due or being held or at or within the
time specified in the notice (not being before the money
becomes due or is held) so much of the money as is sufficient to
pay the amount due by the assessee in respect of arrears or the
whole of the money when it is equal to or less than that
amount.”
Under Sub-section (x), if the person to whom a notice is sent fails to
make payment in pursuance thereof he shall be deemed to an assessee in
default. Rule 26 of Schedule II of the Income Tax Act then provides:
“26. Debts and Shares, etc. – (1) In case of—
a) a debt not secured by a negotiable instrument,
b) a share in a corporation, or
c) other movable property not in the possession of the defaulter except
property deposited in, or in the custody of, any court,the attachment
shall be made by a written order prohibiting, --
(i) in the case of the debt – the creditor from recovering the debt
and the debtor from making payment thereof until the further order of
the tax recovery officer;
(ii) in the case of the share – the person in whose name the share
maybe standing from transferring the same or receiving any dividend
thereon;
(iii) in the case of the other movable property (except as aforesaid)
– the person in possession of the same from giving it over to the
defaulter.
(2) A copy of such order shall be affixed on some conspicuous part of
the office of the tax recovery officer, and another copy shall be sent,
in the case of the debt, to the debtor, in the case of the share, to
proper officer of the corporation, and in the case of the other movable
property (except as aforesaid), to the person in possession of the
same.
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(3) A debtor prohibited under clause (i) of sub-rule (1) may pay the
amount of his debt to the tax recovery officer, and such payment
shall discharge him as effectually as payment to the party entitled to
receive the same.”
Sections 8 and 9 of the Securities Regulation Act, 1956 deal with
Rules, Regulations and Bye-Laws to be made in respect of Stock
Exchanges. Sections 8 and 9 of the said Act read as follows:
“8. Power of Central Government to direct rules to be made or
to make rules-
(1) Where, after consultation with the governing bodies of stock
exchanges generally or with the governing body of any stock
exchange in particular, the Central Government is of opinion
that it is necessary or expedient so to do, it may, by order in
writing, together with a statement of the reasons therefore,
direct recognised stock exchanges generally or any recognised
stock exchange in particular, as the case may be, to make any
rules or to amend any rules already made in respect of all or any
of the matters specified in sub-section (2) of section 3 within a
period of two months from the date of the order.
(2) If any recognised stock exchange fails or neglects to comply
with any order made under sub-section (1) within the period
specified therein, the Central Government may make the rules
for, or amend the rules made by, the recognised stock exchange,
either in the form proposed in the order or with such
modifications thereof as may be agreed to between the stock
exchange and the Central Government.
(3) Where in pursuance of this section any rules have been
made or amended, the rules so made or amended shall be
published in the Gazette of India and also in the Official Gazette
or Gazettes of the State or States in which the principal office or
offices of the recognised stock exchange or exchanges is or are
situate, and, on the publication thereof in the Gazette of India,
the rules so made or amended shall, notwithstanding anything to
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the contrary contained in the Companies Act, 1956 (I of 1956),
or in any other law for the time being in force, have effect, as if
they had been made or amended by the recognised stock
exchange or stock exchanges, as the case may be.
9. Power of recognised stock exchanges to make bye-laws.-
(1) Any recognised stock exchange may, subject to the previous
approval of the Securities and Exchange Board of India, make
bye-laws for the regulation and control of contracts.
(2) In particular, and without prejudice to the generality of the
foregoing power, such bye-laws may provide for—
(a) the opening and closing of markets and the regulation of the
hours of trade;
(b) a clearing house for the periodical settlement of contracts
and differences thereunder, the delivery of and payment for
securities, the passing on of delivery orders and the regulation
and maintenance of such clearing house;
(c) the submission to the Securities and Exchange Board of
India by the clearing house as soon as may be after each
periodical settlement of all or any of the following particulars as
the Securities and Exchange Board of India may, from time to
time, require, namely;—
(i) the total number of each category of security carried
over from one settlement period to another;
(ii) the total number of each category of security,
contracts in respect of which have been squared up
during the course of each settlement period;
(iii) the total number of each category of security
actually delivered at each clearing;
(d) the publication by the clearing house of all or any of the
particulars submitted to the Securities and Exchange Board
of India under clause (c) subject to the directions, if any,
issued by the Securities and Exchange Board of India in this
behalf;
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(e) the regulation or prohibition of blank transfers;
(f) the number and classes of contracts in respect of which
settlements shall be made or differences paid through the
clearing house;
(g) the regulation, or prohibition of bundles or carry-over
facilities;
(h) the fixing, altering or postponing of days for settlements;
(i) the determination and declaration of market rates,
including the opening, closing, highest and lowest rates for
securities;
(j) the terms, conditions and incidents of contracts, including
the prescription of margin requirements, if any, and
conditions relating thereto, and the forms of contracts in
writing;
(k) the regulation of the entering into, making, performance,
rescission and termination, of contracts, including contracts
between members or between a member and his constituent
or between a member and a person who is not a member,
and the consequences of default or insolvency on the part of
a seller or buyer or intermediary, the consequences of a
breach or omission by a seller or buyer, and the
responsibility of members who are not parties to such
contracts;
(l) the regulation of taravani business including the placing
of limitations thereon;
(m) the listing of securities on the stock exchange, the
inclusion of any security for the purpose of dealings and the
suspension or withdrawal of any such securities, and the
suspension or prohibition of trading in any specified
securities;
(n) the method and procedure for the settlement of claims or
disputes, including settlement by arbitration;
(o) the levy and recovery of fees, fines and penalties;
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(p) the regulation of the course of business between parties
to contracts in any capacity;
(q) the fixing of a scale of brokerage and other chargers;
(r) the making, comparing, settling and closing of bargains;
(s) the emergencies in trade which may arise, whether as a
result of pool or syndicated operations or cornering or
otherwise, and the exercise of powers in such emergencies,
including the power to fix maximum and minimum prices
for securities;
(t) the regulation of dealings by members for their own
account;
(u) the separation of the functions of the jobbers and
brokers;
(v) the limitations on the volume of trade done by any
individual member in exceptional circumstances;
(w) the obligation of members to supply such information or
explanation and to produce such documents relating to the
business as the governing body may require.
(3) The bye-laws made under this section may—
(a) specify the bye-laws the contravention of which shall
make a contract entered into otherwise than in accordance
with the bye-laws void under sub-section (1) of section 14;
(b) provide that the contravention of any of the bye-laws
shall render the member concerned liable to one or more of
the following punishments, namely:—
(i) fine;
(ii) expulsion from membership;
(iii) suspension from membership for a specified period;
(iv) any other penalty of a like nature not involving the
payment of money.
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(4) Any bye-laws made under this section shall be subject to
such conditions in regard to previous publication as may be
prescribed, and when approved by the Securities and
Exchange Board of India, shall be published in the Gazette
of India and also in the Official Gazette of the State in which
the principal office of the recognised stock exchange is
situate, and shall have effect as from the date of its
publication in the Gazette of India;
Provided that if the Securities and Exchange Board of India
is satisfied in any case that in the interest of the trade or in
the public interest any bye-law should be made immediately,
it may, by order in writing specifying the reasons therefore,
dispense with the condition of previous publication.”
8. As a number of rules of the Stock Exchange have been referred to in
the course of argument, we will set down those which are relevant for the
purposes of the question to be decided.
“Membership a Personal Privilege
5. The membership shall constitute a personal permission from
the Exchange to exercise the rights and privileges attached
thereto subject to the Rules, Bye-laws and Regulations of the
Exchange.
Right of Nomination
7. Subject to the provisions of these Rules a member shall have
the right of nomination which shall be personal and nontransferable.
Right of Nomination of Deceased or Defaulter Member
9. On the death or default of a member his right of nomination
shall cease and vest in the Exchange.
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Forfeited or Lapsed Right of Membership
10. When a right of membership is forfeited to or vests in the
Exchange under any Rule, Bye-law or Regulation of the
Exchange for the time being in force it shall belong absolutely
to the Exchange free of all rights, claims or interest of such
member or any person claiming through such member and the
Governing Board shall be entitled to deal with or dispose of
such right of membership as it may think fit.
Allocation in Order of Priority
16. When as provided in these Rules the Governing Board
has exercised the right of nomination in respect of a
membership vesting in the Exchange the consideration received
therefore shall be applied to the following purposes and in the
following order of priority namely -
Dues of Exchange and Clearing House
i. first-the payment of such subscriptions, debts, fines,
fees, charges and other monies as shall have been
determined by the Governing Board to be due to the
Exchange, to the Clearing House by the former member
whose right of membership vests in the Exchange.
Liabilities relating to Contracts
ii. second-the payment of such debts, liabilities,
obligations and claims arising out of any contracts made
by such former member subject to the Rules, Bye-laws
and Regulations of the Exchange as shall have been
admitted by the Governing Board:
Provided that if the amount available be insufficient to
pay and satisfy all such debts, liabilities, obligations and
claims in full they shall be paid and satisfied pro rata; and
Surplus
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iii. third-the payment of the surplus if any to the funds of
the Exchange: provided that the Exchange in general
meeting may at its absolute discretion direct that such
surplus be disposed of or applied in such other manner
as it may deem fit.
37. Form of Security
The security to be furnished by a member shall be provided
either by a deposit of cash or it may be provided in the form of a
Deposit Receipt of a Bank approved by the Governing Board or
in Securities approved by the Governing Board subject to such
terms and conditions as the Governing Board may from time to
time impose. Deposits of cash shall not carry interest and the
securities deposited by a member valued at the market price of
the day shall exceed the sum for the time being secured thereby
by such percentage as the Governing Board may from time to
time prescribe.
38. Security How Held
Deposits of cash shall be lodged in a Bank approved by the
Governing Board and Bank Deposit Receipts and securities
shall be transferred to and held either in the names of the
Trustees of the Exchange or in the name of a Bank approved by
the Governing Board and lodged with a Bank approved by the
Governing Board. Such deposit shall be entirely at the risk of
the member providing the security but it shall be held by the
Bank solely for and on account of the Exchange at the absolute
discretion of the Exchange without any right whatever on the
part of such member or those in his right to call in question, the
exercise of such discretion.
Change of Security
41. A member may withdraw any security provided by him if he
first provides in lieu thereof other security of sufficient value to
the satisfaction of the Governing Board.
Lien on Security
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43. The security provided by a member shall be subject to a first
and paramount lien for any sum due to the Exchange or to the
Clearing House by him or by the partnership of which he may
be a member and for the due fulfillment of his engagements,
obligations and liabilities or of the partnership of which he may
be a member arising out of or incidental to any bargains,
dealings, transactions and contracts made subject to the Rules,
Bye-laws and Regulations of the Exchange or anything done in
pursuance thereof.
Return of Security
44. On the termination of his membership or on his ceasing to
carry on business on the Exchange or on his working as a
representative member or on his death all security not applied
under the Rules, Bye-laws and Regulations of the Exchange
shall at the cost of the member be repaid and transferred either
to him or as he shall direct or in the absence of such direction to
his legal representatives.
Letter of Declaration
46. A member providing security under the provisions of these
Rules shall sign a Letter of Declaration in the form prescribed in
Appendix F to these Rules or in such other form as the
Governing Board may from time to time prescribe.
APPENDIX F
Member’s Security Declaration Form No. 1
(Rule 46)
The Governing Board,
The Stock Exchange,
Bombay.
Gentlemen,
Having been admitted as a member of the Stock Exchange and
having handed to you in terms of the Rules thereof to be
deposited in ______________________(Name of Bank) in the
name of the Exchange the sum of Rs. 20,000 and/or having
transferred to the names of the Trustees of the Exchange and/or
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(Name of Bank) the securities mentioned below, I hereby
declare and agree that the said Security and any cash, stock,
shares or other securities that may be added to or substituted for
the said Security by arrangement with you are subject to a first
and paramount lien for any sum due to the Exchange or to the
Clearing House by me/us or by the partnership of which I may
be a partner and for any sum due to any member of the
Exchange for the due fulfillment of my engagements,
obligations and liabilities or of the partnership of which I may
be a member arising out of or incidental to any bargains,
dealings, transactions and contracts made subject to the Rules,
Bye-laws and Regulations of the Exchange or anything done in
pursuance thereof. I hereby further declare and agree that the
said Security and any cash, stock, shares or other securities that
may be added to or substituted for the said Security by
arrangement with you are to be held for you and on your
account by the said Trustees and/or Bank(s) at your absolute
discretion without any right whatever on the part of myself or
those in my right to call in question the exercise of such
discretion on any ground whatever so that you may at your
absolute discretion as aforesaid apply and pay the same or the
proceeds thereof (in case you shall as you shall be fully entitled
to do sell the same) or cause the same to be applied and paid to
or for behalf of the Exchange or the Clearing House to whom I
or any partnership of which I may be a partner may be indebted
or to or for behalf of any member of the Exchange to whom I or
any partnership of which I may be a partner may be indebted
under a claim or claims arising from any bargains, dealings,
transactions and contracts made subject to the Rules, Bye-laws
and Regulations of the Exchange during the continuance of my
membership of the Exchange. If on the completion of all
bargains, dealings, transactions and contracts entered into
before the termination of my membership or on my ceasing to
do business on the Exchange the said Security or proceeds
thereof shall not have been required for payment of my or my
said partnership liabilities as above provided the same or any
balance thereof then remaining will be returned to me and a
receipt signed by me that whatever cash, stock, shares or other
securities or balance thereof is/are so returned to me is/are all to
which I am entitled in terms hereof shall be final and conclusive
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and bar inquiry of any kind at the instance of myself or any one
in my right in respect thereof.
Yours faithfully,
(Signature of member depositing the Security)
Securities above referred to:
Some bye-laws of the Stock Exchange are also relevant. These are:
Defaulter’s Assets
326. The Defaulters’ Committee shall call in and realise the
security and margin money and securities deposited by the
defaulter and recover all monies, securities and other assets
due, payable or deliverable to the defaulter by any other
member in respect of any transaction or dealing made
subject to the Rules, Bye-laws and Regulations of the
Exchange and such assets shall vest in the Defaulters’
Committee for the benefit and on account of the creditor
members.
Payment to Defaulters’ Committee
327. All monies, securities and other assets due, payable or
deliverable to the defaulter must be paid or delivered to the
Defaulters’ Committee within such time of the declaration of
default as the Governing Board or the President may direct. A
member violating this provision shall be declared a defaulter.
Distribution
330. The Defaulters’ Committee shall at the risk and cost of the
creditor members pay all assets received in the course of
realisation into such bank and/or keep them with the Clearing
House in such names as the Governing Board may from time to
time direct and shall distribute the same as soon as possible pro
rata upto sixteen annas in the Rupee but without interest among
the creditor members whose claims are admitted in accordance
with these Bye-laws and Regulations.
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Application of Defaulters’ Assets and Other Amounts
400. Subject to the provisions of Bye-law 398, the Defaulters’
Committee shall realise and apply all the money, rights and
assets of the defaulter which have vested in or which have been
received by the Defaulters’ Committee (other than the amount
paid by the Governing Board to the Defaulters’ Committee
pursuant to Rule 16A in respect of the consideration received by
the Governing Board for exercising the right of nomination in
respect of the defaulter’s erstwhile right of membership) and all
other assets and money of the defaulter in the Exchange or the
market including the money and securities receivable by him
from any other member, money and securities of the defaulter
lying with the Clearing House or the Exchange, credit balances
lying in the Clearing House, security deposits, any bank
guarantees furnished on behalf of the defaulter, fixed deposit
receipts discharged or assigned to or in favour of the Exchange,
Base / Additional Capital deposited with the Exchange by the
defaulter, any security created or agreed to be created by the
defaulter or any other person in favour of the Exchange or the
Defaulters’ Committee for the obligations of the defaulter to the
following purposes and in the following order of priority , viz.:-
(i) First - to make any payments required to be made under
Bye-law 391 and 394;
(ii) Second - the payment of such subscriptions, debts, fines,
fees, charges and other money as shall have been
determined by the Defaulters’ Committee to be due to the
Securities and Exchange Board of India, to the Exchange
or to the Clearing House by the defaulter;
(iii) Third - the rectification or replacement of or
compensation for any bad deliveries made by or on
behalf of the defaulter to any other member in the
settlement in which the defaulter has been declared a
defaulter or in any prior or subsequent settlement (unless
the Governing Board has otherwise determined in respect
of such settlement or settlements under Bye-law 394)
provided the conditions of Bye-law 153 and all other
applicable Rules, Bye-Laws and Regulations and
instructions of the Governing Board are complied with;
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(iv) Fourth - the balance, if any, shall be paid into the Fund to
the extent of the money paid out of the Fund (other than
payments made out of Members’ refundable
contributions) and not recovered by the Fund and the
interest payable by the defaulter to the Fund in respect
thereof;
(v) Fifth - the balance, if any, shall be paid into the Fund to
the extent of the money paid out of the Fund out of the
refundable contributions of members (other than the
refundable contribution of the defaulter) and not
recovered by the Fund and the interest payable by the
defaulter to the Fund in respect thereof;
(vi) Sixth - subject to the Rules, Bye-Laws and Regulation of
the Exchange, including in particular Bye-Law 343, the
balance, if any, shall be applied by the Defaulters’
Committee for the payment of such unpaid outstanding,
debts, liabilities, obligations and claims to or of members
of the Exchange arising out of any contracts made by the
defaulter with such members subject to the Rules, Byelaws
and Regulations of the Exchange as shall have been
admitted by the Defaulters’ Committee; provided that if
the amount available be insufficient to pay and satisfy all
such debts, liabilities, obligations and claims in full they
shall be paid and satisfied pro rata;
(vii) Seventh - subject to the Rules, Bye-Laws and Regulation
of the Exchange, including in particular Bye-Law 343,
the balance, if any, shall be applied by the Defaulters’
Committee for the payment of such unpaid debts,
liabilities, obligations and claims to or of the defaulter’s
constituents arising out of any contracts made by such
defaulter subject to the Rules, Bye-laws and Regulations
of the Exchange as shall have been admitted by the
Governing Board; provided that if the amount available
be insufficient to pay and satisfy all such debts, liabilities,
obligations and claims in full they shall be paid and
satisfied pro rata;
(viii) Eighth - the balance, if any, shall be paid into the
Exchange’s Customers’ Protection Fund to the extent of
any and all amounts paid out of the Customers’
Protection Fund towards the obligations or liabilities of
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the defaulter and interest thereon at the rate of 2.5% per
month (or such other rate as the Governing Board may
specify) from the date of payment out of the Customers’
Protection Fund to the date of repayment to the Fund; and
(ix) Ninth - the surplus, if any, shall be paid to the defaulter.
Clarification: It is clarified that this Bye-law 400 does not
apply to the amount paid by the Governing Board to the
Defaulters’ Committee pursuant to Rule 16A in respect of
the consideration received by the Governing Board for
exercising the right of nomination in respect of the
defaulter’s erstwhile right of membership as the same
does not belong to the defaulter and the defaulter has no
claim, right, title or interest therein.”
9. The judgment under appeal set out two main issues which according
to it arose for determination. They are:
[A] Whether, on the facts and circumstances of this case, the
TRO was right in attaching the sale proceeds of the nomination
rights of the Defaulter-Member. If not, whether the TRO was
entitled to attach under Rule 26(1) of Schedule –II to the
Income Tax Act, the Balance Surplus amount lying with BSE
out of the sale proceeds of the nomination rights of the
Defaulter-Member under rule 16(1)(iii) framed by BSE r/w the
Resolution of the General Body of BSE dated 13.10.1999?
[B] Whether deposits made by the Defaulting Member under
various Heads such as Security Deposit, Margin Money,
Securities deposited by Members and Others are attachable
under Section 226(3)(i)(x) read with Rule 26(1)(a)(c) of
Schedule-II to the Income Tax Act?
10. Issue A was answered by saying that though a defaulting member
had no interest in a membership card and that the Income Tax Department
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was not right in attaching the sale proceeds of such card, still money which
is likely to come in the hands of the garnishee, that is the Bombay Stock
Exchange, for and on behalf of the assessee is attachable because the
requisite condition is the subsistence of an ascertained debt in the hands of
the garnishee which is due to the assessee, or the existence of a contractual
relationship between the assessee and the Stock Exchange consequent upon
which money is likely to come in the hands of the garnishee for and on
behalf of the assessee. Issue No.2 was answered by saying that even on
vesting of all the assets of the assessee in the defaulter’s committee, all such
assets continued to belong to the assessee. Section 73(3) Civil Procedure
Code mandates that Government debts have a priority and that being so
they will have precedence over other dues. It was further held that the lien
that the Stock Exchange may possess under Rule 43 does not make it a
secured creditor so that debts due to the Income Tax Department would
have precedence. The judgment then goes on to say:
“11. To sum up, we hereby declare:
(a) That, the Other Assets (as described hereinabove) are
attachable and recoverable under provisions of section
226(3)(i)(x) read with Rule 26(1)(a)(c) of Schedule-II to the
Income Tax Act.
(b)That, the Government and Other Creditors such as BSE, the
Clearing House and Other Creditor-Members under Rules
and Bye-laws of the Stock Exchange are creditors of equal
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degree and under Section 73(3), Civil Procedure Code, the
Government dues shall have priority over other such
creditors.
(c) That, in the matter of application of Defaulters’ Asset under
bye-law 400, the Defaulters’ Committee shall give priority to
the debt due to the Government and the balance, if any, shall
be distributed in terms of the Bye-laws 324 alongwith Byelaw
400 of the BSE.
(d)That, a sum of Rs. 34,06,680 representing Balance Surplus
lying with the Exchange out of sale proceeds of the
nomination rights of the Defaulter-Member is attachable
under the above provisions of the Income Tax Act read with
Rule 16 of the BSE Rules and consequently, the said amount
is directed to be paid over to the TRO under the impugned
Prohibitory Order.
(e) We hereby direct the BSE also to hand the securities lying in
Members Security Deposit Accounts to the TRO, who would
be entitled to sell and appropriate the sale proceeds towards
the claim of the Income Tax Department against the
Defaulting Broker-Member. If the TRO so direct, those
securities could also be sold by BSE and the realized value,
on the date of the sale, could be handed over to the TRO. It
is for the TRO to decide this point. We further direct credit
balance its the Clearing House of Rs. 1,53, 538/- to be paid
over to the TRO and that the TRO would be entitled to
appropriate the said amount towards the dues of the
Department. In short, we are directing BSE to pay a sum of
Rs. 35, 60, 218/- to the TRO and in addition thereto, the
TRO would be entitled to the realized value of the Securities
as on the date of sale. In this case, the Prohibitory Order is
before the date of insolvency of the Broker concerned.
(f) In future, the principles laid down by this judgment should
be followed by BSE and the TRO would to attach such Other
Assets and appropriate the amounts towards its claim under
the Income Tax Act.”
11. Mr. Arvind Datar, learned senior counsel appearing on behalf of the
Stock Exchange raised essentially three submissions. The first submission
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is that by virtue of the judgment in Stock Exchange, Ahmedabad v. Asstt.
Commisioner of Income Tax, Ahmedabad, 2001 (3) SCC 559, the sale
proceeds of a membership card and the membership card itself being only a
personal privilege granted to a member cannot be attached by the Income
Tax Department at any stage. The moment a member is declared a
defaulter all rights qua the membership card of the member cease and even
his right of nomination vests in the Stock Exchange. The High Court was
therefore not correct in saying that though a membership card is only a
personal privilege and ordinarily the Income Tax Department cannot attach
the sale proceeds, yet since these amounts came into the hands of the Stock
Exchange for and on behalf of the assessee they were attachable. The
second argument was made on conjoint reading of Rule 38 and 44. The
learned senior counsel argued that all securities in the form of shares that
are given by a member shall be transferred and held either in the name of
the trustees of the Stock Exchange or in the name of a Bank which is
approved by the Governing Board. By operation of Rule 44, on termination
of the membership of a broker, whatever remains by way of security after
clearing all debts has to be “transferred” either to him or as he shall direct
or in the absence of such direction to his legal representatives. The
argument therefore is that what is contemplated is a transfer of these shares
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by virtue of which the member ceases to be owner of these shares for the
period that they are “transferred” and this being so, the Income Tax
Department cannot lay their hands on these shares or the sale proceeds
thereof as the member ceases to have ownership rights of these shares. Shri
Datar also argued that by virtue of Rule 43, the Stock Exchange has a first
and paramount lien for any sum due to it, and that this made it a secured
creditor so that in any case income tax dues would not to be given
preference over dues to secured creditors.
12. Shri R.P.Bhat, learned senior counsel arguing on behalf of Revenue
refuted these contentions and stated that on a conjoint reading of the Rules
and the Bye-Laws a membership card may not be directly attachable but
that the High Court’s reading of Rule 16 is correct. Further, on a conjoint
reading of the various Rules relating to member’s security, it is clear that
the expression “transferred” would not refer to transfer of ownership but
would refer only to the delivery made of shares for the purpose of
realization in case a member defaults. He further argued that the mere fact
that a lien was provided in the Rules did not make such lien a statutory lien
and that therefore Government dues would have a first preference over all
the dues of the Stock Exchange.
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13. Mr. Datar also handed over during the course of argument certain
annual reports and letters to buttress his argument that in point of fact
shares were actually transferred by the member under the direction of the
Stock Exchange to the Bank of India who actually became owner of the
shares and was treated as such. The fact that dividends were to be paid to
the member concerned was only because of an internal arrangement
between the Exchange and the member, and that in fact the right to the
dividend as well as the right to vote all belonged to the Bank of India who
was to act as a trustee for the Stock Exchange.
14. We will deal with each one of the contentions seriatim.
Re.: (1)
A reading of Rules 5 and 9 lead to the conclusion that a membership
card is only a personal permission from the Stock Exchange to exercise the
rights and privileges that may be given subject to Rules, Bye-Laws and
Regulations of the Exchange. Further, the moment a member is declared a
defaulter, his right of nomination shall cease and vest in the Exchange
because even the personal privilege given is at that point taken away from
the defaulting member. The matter is no longer res integra.
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15. In Isha Valimohamad and Anr. vs. Haji Gulam Mohamad &
Haji Dada Trust 1975 (1) SCR 720 the Supreme Court made a distinction
between “privilege” and “accrued right”.
“Mr. Patel for respondent contended that even if the
landlord had no accrued right, he at least had a 'privilege'
as visualised in Section 51, proviso (1)(ii) of the Bombay
Act and that the privilege should survive the repeal.
A privilegium, in short, is a special act affecting
special persons with an anomalous advantage, or with an
anomalous burthen. It is derived from privatum, which,
as opposed to publican, signified anything which regards
persons considered individually; publicum being
anything which regards persons considered collectively,
and forming a society
(See Austin's Jurisprudence, Vol. II, 5th ed. (1911) P.
519)
The meaning of that word in jurisprudence has
undergone considerable change after Austin wrote.
According to Hohfeld:
... a privilege is the opposite of a duty, and the
correlative of a 'no-right'. For instance, where "X has a
right or claim that Y should stay off the land (of X), he
himself has the 'privilege' of entering on the land; or, in
equivalent words, X does not have a duty to stay off.
Fundamental Legal Conceptions (1923) pp. 38-39)
Arthur L. Corbin writes:
We say that B had a right that A should not intrude
and that A had a duty to stay out. But if B had invited A
to enter, we know that those results would not occur. In
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such case we say that B had no right that A should stay
out and that A had the privilege of entering.
(See "Legal Analysis and Terminology", 29 Yale
Law Journal 163)
According to Kocourek:
Privilege and inability are correlatives. Where there
is a privilege there must be inability. The terms are
correlatives. The dominus of a Privilege may prevent the
servus of the Inability from exacting an act from the
dominus
(See "Jural Relations", 2nd ed., p. 24)
Patton says:
The Restatement of the law of Property defines a
privilege as a legal freedom on the part of one person as
against another to do a given act or a legal freedom not to
do a certain act.
(See Jurisprudence, 3rd ed. (1964), p. 256)
We think that the respondent-landlord had the legal
freedom as against the appellants to terminate the
tenancy or not. The appellants had no right or claim that
the respondent should not terminate the tenancy and the
respondent had, therefore, the privilege of terminating it
on the ground that appellants had sub-let the premises.
This privilege would survive the repeal. But the problem
would still remain whether the respondent had an accrued
right or privilege to recover possession of the premises
under Section 13(1) of the Saurashtra Act on the ground
of the sub-letting before the repeal of that Act. The fact
that the privilege to terminate the tenancy on the ground
of sub-letting survived the repeal does not mean that the
landlord had an accrued right or privilege to recover
possession under Section 13(1) of that Act as that right or
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privilege could arise only if the tenancy had been validly
terminated before the repeal of the Saurashtra Act.”
(at Pages 725, 726)
It is clear therefore that no accrued right to property was ever vested in the
defaulting member.
16. Further, the rules and the bye-laws also make this clear. Under Rule
16(iii), whenever the Governing Board exercises the right of nomination in
respect of a membership which vests in the Exchange, the ultimate surplus
that may remain after the membership card is sold by the Exchange comes
only to the Exchange - it does not go to the member. This is in contrast
with bye-law 400 (ix) which, as has been noted above deals with the
application of the defaulting member’s other assets and securities, and in
this case ultimately the surplus is paid only to the defaulting member,
making it clear that these amounts really belonged to the defaulting
member.
17. In the Ahmedabad Stock Exchange case, 2001 (3) SCC 559, this
Court has held that:
“9. The Stock Exchange Rules, Bye-laws and Regulations
have been approved by the Government of India under the
Securities Contracts (Regulation) Act, 1956. There is no
challenge to these Rules. The question whether right of
membership confers upon the member any right of property is,
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therefore, to be examined within the framework of the Rules,
Bye-laws and Regulations of the Exchange. On a plain and
combined reading of the Rules, it is clear that right of
membership is merely a personal privilege granted to a
member, it is non-transferable and incapable of alienation by
the member or his legal representatives and heirs except to the
limited extent as provided in the Rules on fulfilment of
conditions provided therein. The nomination wherever provided
for is also not automatic. It is hedged by Rules. On right of
nomination vesting in the Stock Exchange under the Rules, that
right belongs to the Stock Exchange absolutely. The
consideration received by the Stock Exchange on exercise of the
right of nomination vesting in it, is to be applied in the manner
provided in Rule 16.
13. In the present case Rule 16 was properly applied by the
Stock Exchange. The membership right in question was not the
property of the assessee and, therefore, it could not be attached
under Section 281-B of the Income Tax Act. No amount on
account of Rajesh Shah was due from or held by the Stock
Exchange and, therefore, Section 226(3) could not be invoked.
We are unable to sustain the judgment under appeal holding
that in substance the right of membership or membership card
was a right of property which could be attached under Section
281-B of the Income Tax Act.”
It is clear therefore that the conclusion of the High Court that the
proceeds of a card which has been auctioned can be paid over to the Income
Tax Department for the dues of the member by virtue of Rule 16 (iii) is
incorrect as such member at no point owns any property capable of
attachment, as has been held in the Ahmedabad Stock Exchange case. On
this point therefore Shri Datar is on firm ground and must succeed.
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Re: (2)
Rules 36 to 46 belong to a Chapter in the Rules entitled “Membership
Security”. Rule 36 specifies that a new member shall on admission provide
security and shall maintain such security with the Stock Exchange for a
determined sum at all the times that he carries on business. Rule 37 deals
with the form of such security and states that it may be in the form of a
deposit of cash or deposit receipt of a Bank or in the form of security
approved by the Governing Board. Rule 38 deals with how these securities
are held. Rule 41 enables the member to withdraw any security provided by
him if he provides another security in lieu thereof of sufficient value to the
satisfaction of the Governing Board. Rule 43 states that the security
provided shall be a first and paramount lien for any sum due to the Stock
Exchange and Rule 44 deals with the return of such security under certain
circumstances. On a conjoint reading of these Rules what emerges is as
follows:
(i) The entire Chapter deals only with security to be provided by a
member as the Chapter heading states;
(ii) The security to be furnished can be in various forms. What is
important is that cash is in the form of a deposit and securities are
also “deposited” with the Stock Exchange under Rule 37;
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(iii) Rule 38 which is crucial provides how securities are to be “held”
which is clear from the marginal note appended to it. What falls for
construction is the expression “securities shall be transferred to and
held”. Blacks Dictionary defines “transfer” as follows:
“Transfer means every mode, direct or indirect, absolute
or conditional, voluntary or involuntary, of disposing of
or parting with property or with an interest in property,
including retention of title as a security interest and
foreclosure of the debtor's equity of redemption.”
It is clear therefore that the expression “transfer” can
depending upon its context mean transfer of ownership or transfer of
possession. It is clear that what is transferred is only possession as
the member only “deposits” these securities. Further, as has been
held in Vasudev Ramchandra Shelat v. Pranlal Jayanand
Thakur & Ors., 1975 (2) SCR 534 at 541, a share transfer can be
accomplished by physically transferring or delivering a share
certificate together with a blank transfer form signed by the
transferor. The transfer of shares in favour of the Stock Exchange is
only for the purposes of easy liquidity in the event of default.
(iv) The expression “transferred” must take colour from the expression
“lodged” in Rule 38 when it comes to deposits of cash. Understood in
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this sense, transfer only means delivery for the purposes of holding
such shares as securities;
(v) This is also clear from the language of Rule 38 when it says “such
deposit shall be entirely at the risk of the member providing the
security ………..” Obviously, first and foremost the cash lodged and
the shares transferred are only deposits. Secondly, they are entirely
at the risk of the member who provides the security making it clear
that such member continues to be the owner of the said shares by
way of security for otherwise they cannot possibly be at the
member’s risk;
(vi) Under Rule 41 a member may withdraw any security provided by
him if he satisfies the conditions of the Rules. This again shows that
what is sought to be withdrawn is a security which the member owns;
(vii) By Rule 43 a lien on securities is provided to the Stock Exchange.
Such lien is only compatible with the member being owner of the
security, for otherwise no question arises of an owner (the Stock
Exchange, if Shri Datar is right) having a lien on its own moveable
property;
(viii) Therefore, when Rule 44 speaks of repayment and transfer it has to
be understood in the above sense as the security is being given back
to the member under the circumstances mentioned in the Rule;
(ix) Bye-law 326 and 330 also refer to securities that are “deposited” by
the defaulter and recovery of securities and “other assets” due.
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Obviously, therefore, securities which are handed over to the
exchange continue to be assets of the member which can be
liquidated on default.
(x) Shri Datar’s argument would also create a dichotomy between “cash
lodged” and Bank Deposit Receipts and securities “transferred”. The
form a particular security takes cannot possibly lead to a conclusion
that cash lodged, being only a deposit, continues to belong to the
member, whereas Bank Deposit Receipts and securities, being
“transferred” would belong to the Stock Exchange.
In Bombay Stock Exchange v. Jaya Shah, 2004 (1) SCC 160, this
Court was confronted with a claim made by a non-member against a
member which had fructified into an arbitration award under the 1940
Arbitration Act which was then made a Rule of the Court and a decree
followed. The Bombay High Court made the garnishee notice of the nonmember
creditor absolute and the Supreme Court was faced with the correct
construction of bye-laws relating to defaulter members. The Supreme
Court held:
“39. How the card money is to be dealt with has been provided
under the Rules. A dichotomy, however, has been created under
the Rules and Bye-laws as regards the amount received by sale
of membership card and amount recovered from the defaulter's
other assets. On a plain reading of the Rules and Bye-laws it
appears that the authority to deal with the card money and the
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liability of the members by the Defaulters' Committee is
different, but having regard to the scheme of distribution of the
liabilities of the Exchange, clearing house, members and nonmembers,
all the assets shall be placed at the hands of the
Defaulters' Committee. But as would appear from the
discussions made hereinafter the application thereof would be
separate and distinct.
40. In terms of the Bye-laws, a Defaulters' Committee is to
be constituted which is a Standing Committee consisting of six
members of the Exchange. Such a Committee is constituted in
terms of Rule 170(a)(ii) of the Stock Exchange Rules, Bye-laws
and Regulations, 1957. It is not a juristic person. It is merely an
association of persons.
46. Vesting of such assets of the defaulter in the Defaulters'
Committee is not absolute. The Defaulters' Committee is merely
a trustee. It holds the said amount vested in it for the benefit
and on account of the creditor members. Once the liabilities of
the creditors from the defaulters are paid to the members, in
terms of Rule 44, the assets devolve upon the Defaulters'
Committee in terms of Bye-law 326 for a limited purpose and
as contradistinguished from the Rules in terms whereof the card
may vest in the Exchange, do not vest in it absolutely.
47. The Defaulters' Committee takes in its custody the
amount realised from other assets not as an owner thereof and
the vestment thereof would, thus, be coterminous with the
satisfaction of the claims of the member. It, as soon as the
purpose of Bye-law 326 is satisfied, comes to an end.
48. The assets of a defaulting member can broadly be
divided into two categories, namely, card membership and
other assets.
57. There cannot, however, be any doubt that so long as the
claims of the awardees, both of members as also non-members,
are dealt with by the Defaulters' Committee, the Exchange or
the Defaulters' Committee would not be a debtor in relation to
an awardee. But once the Defaulters' Committee determines
such claims and a surplus is available in the hands of the
Defaulters' Committee, as the surplus amount would become
payable to the defaulting members, the same would become an
asset of the defaulting member. In other words, other assets
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continue to remain assets of the defaulting members subject to
the vesting thereof for the purposes mentioned in Bye-law 326
and as soon as the purpose is satisfied, the ownership which
was under animated suspension or eclipsed would again revive
to the defaulting member. The awardees, however, so long as
the assets remain under the control of the Defaulters'
Committee would be entitled to get their claim on a pro rata
basis and not in its entirety.
58. If it is held that despite the fact that claims, having
regard to the priority clause contained in Rule 16, remain in the
hands of the Defaulters' Committee and an order of attachment
would be enforceable, the same would result in an incongruity.
Unfortunately, no clear picture emerges from the Rules and
Bye-laws as there does not appear to be any provision how the
card money as also other assets belonging to the defaulting
member can be handled by the Defaulters' Committee. But the
Rules and Bye-laws have to be read harmoniously. They have to
be read together so as to make them effective and workable. So
read, the Defaulters' Committee constituted in terms of Byelaws
would apply to the other assets, dues and payments of the
members on a pro rata basis whereafter the dues of nonmembers
can be disbursed. While doing so, however, such
claims can be determined only having regard to the cut-off date
which must be prescribed by the Governing Board in terms of
clause (vii) of Bye-law 343. So far as card money is concerned,
the same must be disbursed having regard to the priority clause
contained in Rule 16, in which event, upon discharge of the
dues of the Exchange and clearing house, the same has to be
distributed according to the dues of members and nonmembers.
It bears repetition to state that there does not exist
any distinction between a member and a non-member in terms
of Rule 16 and in the event the amount of the card money
available in the hands of the Exchange is not sufficient to
satisfy all the claims, the same has to be distributed on a pro
rata basis. However, any amount remaining surplus even
thereafter would be subject to a decision of the Governing
Board. The Governing Board may in a given situation, having
regard to the hardship which may be faced by the members and
non-members in realising their dues, may direct that such
amount would be available for disbursement towards the said
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dues. It, however, we may hasten to add, is free to apply the
surplus for a different purpose which, evidently cannot be
dehors the purpose and object for which the Exchange has been
constituted.”
18. Ultimately, the matter was remanded to find out what was the cut off
date for purposes of limitation.
19. Though this judgment has no direct application to the facts before us
it does hold that after the assets of the defaulting member are pooled
together and amounts are realized, the payments that would be made from
such pool would be from the assets of the defaulting member. To that
extent, therefore, the aforesaid judgment reinforces what we have stated
above. Mr. Datar’s second contention must therefore fail.
Re: (3)
It is settled law that Government debts have precedence only over
unsecured creditors. This was held in Dena Bank v. Bhikabhai
Prabhudas Parekh Co., 2000 (5) SCC 694 as follows:
“10. However, the Crown's preferential right to recovery of
debts over other creditors is confined to ordinary or unsecured
creditors. The common law of England or the principles of
equity and good conscience (as applicable to India) do not
accord the Crown a preferential right for recovery of its debts
over a mortgagee or pledgee of goods or a secured creditor. It
is only in cases where the Crown's right and that of the subject
meet at one and the same time that the Crown is in general
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preferred. Where the right of the subject is complete and
perfect before that of the King commences, the rule does not
apply, for there is no point of time at which the two rights are
at conflict, nor can there be a question which of the two ought
to prevail in a case where one, that of the subject, has prevailed
already. In Giles v.Grover [(1832) 131 ER 563 : 9 Bing 128] it
has been held that the Crown has no precedence over a pledgee
of goods. In Bank of Bihar v. State of Bihar [(1972) 3 SCC
196 : AIR 1971 SC 1210] the principle has been recognised by
this Court holding that the rights of the pawnee who has parted
with money in favour of the pawnor on the security of the goods
cannot be extinguished even by lawful seizure of goods by
making money available to other creditors of the pawnor
without the claim of the pawnee being first fully satisfied.
Rashbehary Ghose states in Law of Mortgage (TLL, 7th Edn.,
p. 386) — “It seems a government debt in India is not entitled
to precedence over a prior secured debt.”
What has been argued before us is that the moment the Stock
Exchange has a lien over the member’s securities, it would have precedence
over income tax dues. We find there is force in this submission.
The Provincial Insolvency Act defines “secured creditor” under
Section 2 (e) as follows:
(e) “Secured creditor” means a person holding a mortgage,
charge or lien on the property of the debtor or any part thereof
as a security for a debt due to him from the debtor;”
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Similarly, the Securitisation and Reconsruction of Financial Assets
and Enforcement of Security Interest Act, 2002 in Section 2 (z)(f) defines
“security interest” as follows:
“Section 2(zf) “security interest" means right, title and
interest of any kind whatsoever upon property, created in
favour of any secured creditor and includes any mortgage,
charge, hypothecation, assignment other than those specified in
Section 31”
In Triveni Shankar Saxena v. State of U.P. & Ors., 1992 Suppl. 1
SCC 524 at para 17 in an instructive passage the Supreme Court held as
follows:
“17. We shall now examine what the word 'lien' means. The
word 'lien' originally means "binding" from the Latin ligamen.
Its lexical meaning is "right to retain". The word 'lien' is now
variously described and used under different context such as
'contractual lien', 'equitable lien', 'specific lien', 'general lien',
'partners lien', etc. etc. in Halsbury's Laws of England, Fourth
Edition, Volume 28 at page 221, para 502 it is stated :
In its primary or legal sense "lien" means a right at common
law in one man to retain that which is rightfully and
continuously in his possession belonging to another until the
present and accrued claims are satisfied.”
Similarly, in K.S. Saradambal v. Jagannatham K Brothers, (1972)
42 Companies Case 359, the Madras High Court held:
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“It would be sufficient only to refer to the following
observation in Halsbury’s Laws of England, third edition,
volume 24, at page 143:
“A legal lien differs from a mortgage and a pledge in being an
unassignable personal right which subsists only so long as
possession of the goods subsists. A mortgage is an assignable
right in the property charged and does not depend on
possession. A pawn or pledge gives a special assignable
interest in the property to the pawnee. A lien is, however,
included in the definition of mortgage in the Law of Property
Act, 1925. There an equitable mortgage is created by deposit of
title deeds, the mortgagee has a legal lien on the deeds
deposited.”
This leads us to the question as to what right is available to
the applicant-company, as the holder of lien. That again takes
us to the question as to what is meant by “lien”. The word
“lien” is defined in the Law Lexicon by Ramanatha Iyer as:
“A lien may be defined to be a charge on property for the
payment of a debt or duty, and for which it may be sold in
discharge of the lien………A lien, in a limited and technical
sense, signifies the right by which a person in possession of
personal property holds and retains it against the owner in
satisfaction of a demand due to the party retaining it; but in its
more extensive meaning and common acceptation it is
understood and used to denote a legal claim or charge on
property, either real or personal, as security for the payment of
some debt or obligation; it is not strictly a right in or right to
the thing itself but more properly constitutes a charge or
security thereon.” The word “lien” is defined in Stroud’s
Judicial Dictionary, third edition, at page 1644, as:
“A lien- (without effecting a transference of the property in a
thing) – is the right to retain possession of a thing until a claim
be satisfied; and it is either particular or general”.
Having regard to the foregoing definitions the question arises
whether the holder of a lien, as the applicant company in the
instant case, can be considered to be a secured creditor under
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the company law. Section 529 of the Act is important and it
reads:
“529. Application of the insolvency rules in winding up of
insolvent companies.- (1) In the winding up of an insolvent
company, the same rules shall prevail and be observed with
regard to –
(a)Debts Probable;
(b)The valuation of annuities and future and contingent
liabilities; and
(c) The respective rights of secured and unsecured
creditors;
As are in force from the time being under the law of insolvency
with respect to the estates of persons adjudged insolvent.
(2) All persons who in any such case would be entitled to prove
for and receive dividends out of the assets of the company, may
come in under the winding up, and make such claims against
the company as they respectively are entitled to make by virtue
of this section.
Provided that if a secured creditor instead of relinquishing his
security and proving for his debt proceeds to realize his
security, he shall be liable to pay the expenses incurred by the
liquidator (including provisional liquidator, if any), for the
preservation of the security before its realization by the secured
creditor”.
Though the expression “insolvent company” is not defined,
obviously it refers to a company which has been ordered to be
wound up on a petition founded upon section 433 (c), that is,
the company being unable to pay its debts. According to section
529, in the winding up of such a company, the same rules shall
prevail and be observed with regard to debts provable as are in
force for the time being under the law of insolvency with
respect to the estates of the persons adjudged insolvent.
The question is whether only the insolvency rules are
applicable or all the relevant provisions of the insolvency law
are applicable to a case of winding up of an insolvent company.
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The intention underlying section 529 is that all the provisions
of the insolvency law are applicable to the case of winding up
of an insolvent company with regard to matters enumerated in
section 529. That was also the view taken by a full bench of the
Allahabad High Court in Hans Raj v. Official liquidators,
Dehradun, Mussorie Electric Tramway Co. Ltd. AIR 1929 All
353 (F.B.). A similar view was taken by the Oudh Chief Court
in B. Anand Bihari Lal v. Dinshaw & Co. (1944) 12 Comp.
Cas. 137 (Oudh). Thus, according to section 529, the
provisions of the insolvency law are applicable to debts
provable in the winding up of an insolvent company. That takes
us to the question as to what are the provisions of the
insolvency law that are applicable to a debt covered by a lien.
The provincial Insolvency Act, 1920, and the Presidency Towns
Insolvency Act, 1909, define “secured creditor”. In the former
Act, section 2(e) defines that expression as:
“2.(e) ‘Secured creditor’ means a person holding a mortgage,
charge or lien on the property of the debtor or any part thereof
as a security for a debt to him from the debtor.”
In the latter Act, Section 2(g) defines that expression as:
“Secured creditor’ includes a landlord who under any
enactment for the time being in force has a charge on land for
the rent of that land.”
The latter definition is an inclusive definition. According to
the former definition even a person holding a lien on the
property of a debtor is a secured creditor. In dealing with the
question as to who a secured creditor is in company law, it is
observed in Palmer’s Company Law, 21st edition, at page 765.:
“Secured creditor is one, who has some mortgage, charge or
lien on the company’s property…….A solicitor who holds a lien
on documents of a liquidating company for his costs against the
company is a secured creditor, and must mention his lien in his
proof.”
On a consideration of Section 529 read with the relevant
provisions of the insolvency law, I come to the conclusion that
the holder of a statutory lien or the holder of a lien created by
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contract and registered as required by Section 125 is a secured
creditor in the matter of winding up of the insolvent company
with regard to, among other things, debts provable in the
winding up proceedings. The applicant-company being the
holder of a statutory lien is thus in the position of a secured
creditor…..”
20. In the present case, the first and paramount lien given to the Stock
Exchange is by Rule 43 of the Rules made under Section 8 of the Securities
Contract Act. Sections 7A, 8 and 30 of the Securities Contracts
(Regulation) Act 1956 deal with the power of recognized Stock Exchanges
making rules restricting voting rights; rules relating to Stock Exchanges
generally including membership thereof; and rules to carry out the purposes
of the Securities Contracts (Regulation) Act respectively. Whereas, the
rules made under Section 7A and Section 8 are made by recognized Stock
Exchanges with the approval of the Central Government and published in
the Official Gazette, rules made under Section 30 are made by the Central
Government itself for purposes of carrying into effect the objects of the
Securities Contracts (Regulation) Act. Sub-section (3) of Section 30 is
material.
“Section 30 sub-section (3): Every rule made under this Act
shall be laid, as soon as maybe after it is made, before each
House of Parliament, while it is in session for a total period of
thirty days which may be comprised in one session or in two or
more successive sessions, and if, before the expiry of the
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sessions immediately following the sessions or the successive
sessions aforesaid, both Houses agree in making any
modification in the rule or both Houses agree that the rule
should not be made, the rule shall thereafter have effect only in
such modified form or be of no effect, as the case may be; so,
however, that any modification or annulment shall be without
prejudice to the validity of anything previously done under the
rule. “
21. It will be seen that whether a rule is made under section 7-A, Section
8 or Section 30, all rules made under the Act are to be laid before
Parliament, making it clear thereby that rules made under each of these
provisions are statutory in nature. The fact that the Stock Exchange makes
these rules under Sections 7A and 8 as opposed to the Central Government
making them under Section 30 does not take the matter very much further.
Section 3(51) of the General Clauses Act defines “Rules” as meaning “a
rule made in exercise of power conferred by law and shall include a
Regulation made as a rule under any enactment.” It is clear from this
definition of ‘Rule’ also that Stock Exchanges who make rules in exercise
of powers conferred by the Securities Contracts (Regulation) Act are
equally “Rules” and therefore subordinate legislation. This makes it amply
clear that the lien spoken of by Rule 43 is a lien, conferred by Rules under
a statute.
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22. Mr. Bhat argued that only a lien that flows from the statute itself can
be considered as a statutory lien and referred us to two judgments, one by
the Bombay High Court and one by the Supreme Court.
The Bombay High Court held in the case of Forwarding P. Ltd. and
another v. Trustees, Port of Vizagapatnam, and Anr., (1987) 61
Company Cases 513 that the power of arrest and sale of vessel belonging to
a company in winding up by the port authorities emanates directly from
section 64 of the Major Port Trusts Act, 1963 and hence the question of
obtaining leave of the company court under section 446 of the Companies
Act, 1856 will not arise when an authority exercises independent statutory
rights.
This judgment was quoted with approval in Board of Trustees,
Bombay vs. Indian Oil Corporation, 1998 (4) SCC 302 where the
Supreme Court set out Section 64 of the Major Port Trusts Act and held as
under:
“8. The Port authorities have a paramount right to arrest a
vessel and detain the same until the amounts due to it in respect
of extending the port facilities and services to the vessel are paid.
Under Sub-section (2), in case any part of the said rates,
charges, penalties or the cost of the distress or arrest or of the
keeping of the same remain unpaid for a space of five days next
after any such distress or arrest has been made, the Board may
cause the vessel so distrained or arrested to be sold. The
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proceeds of such sale shall satisfy such rates or penalties and
costs including the costs of sale remaining unpaid. The surplus,
if any, is to be rendered to the master of such vessel on demand.
9. The statutory right under Section 64 embodies this overriding
right of the harbour authority over the vessel for the recovery of
its dues. This right stands above the rights of secured and
unsecured creditors of a company in winding up - in the present
case, the shipping company which owns the vessel. The harbour
authorities allow ships -national or foreign to anchor and avail
of the services provided by them. For payment they look to the
vessel. The owner may be foreign or even unknown to the
harbour authority. The latter's right to recover its dues is not
affected by any pending proceedings against the owner in any
court - whether in winding up or otherwise. The harbour
authority can arrest the vessel while it is anchored in the
harbour and recover its dues in respect of that vessel by sale of
the vessel if the dues are not paid. This lien of the harbour
authority over the vessel is paramount. The lien cannot be
extinguished or the vessel sold by any other authority under the
directions of the court or otherwise, unless the harbour authority
consents to such sale. Thus, in the case of Ashok Arya v. M.V.
Kapitan Mitsos, the Bombay High Court relied upon the decision
in The Emilie Millon (infra) and held that the lien given by
statute to a dock or harbour authority cannot be extinguished by
court unless it be done with the authority's express or implied
consent.
13. Therefore, the lien of a harbour authority over the vessel
is a paramount lien and realization of its dues by the harbour
authority by the sale of the vessel is above the priorities of
secured creditors. In other words, the statutory lien of a harbour
authority has paramountcy even over the claims of secured
creditors in a winding up. In exercise of its right under Section
64 the appellant is, therefore, entitled to sell the vessel without
the intervention of the court. In exercise of that paramount right
which overrides the claims of all other creditors including
secured creditors, the appellant has a right to arrest the vessel
and sell it. Without the consent of the appellant, this right cannot
be transferred to the sale proceeds of the vessel.”
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It is no doubt true that the Supreme Court held that the statutory lien
of a Harbour authority over a vessel is a paramount lien which overrides the
claim of all other creditors including secured creditors. The question,
however, in the present case is somewhat different. The question is whether
the lien exercised under Rule 43 by the Stock Exchange can be said to be a
superior right to income tax dues which may become payable by virtue of
the Stock Exchange being a secured creditor.
23. It was argued that Black’s Law Dictionary 5th Edition defines
“statutory lien” as follows:
“Statutory lien: A lien arising solely by force of statute upon
specified circumstances or conditions, but does not include any
lien provided by or dependent upon an agreement to give
security, whether or not such lien is also provided by or is also
dependent upon statute and whether or not the agreement or
lien is made fully effective by Statute.”
Based on this it was further argued that such lien would not include
any lien provided by or dependent on an agreement to give security,
whether or not such lien is also provided by or dependent upon statute, and
whether or not such lien is made fully effective by statute.
24. The first thing to be noticed is that the Income Tax Act does not
provide for any paramountcy of dues by way of income tax. This is why the
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Court in Dena Bank’s case (supra) held that Government dues only have
priority over unsecured debts and in so holding the Court referred to a
judgment in Giles vs. Grover (1832) (131) English Reports 563 in which it
has been held that the Crown has no precedence over a pledgee of goods.
In the present case, the common law of England qua Crown debts became
applicable by virtue of Article 372 of the Constitution which states that all
laws in force in the territory of India immediately before the
commencement of the Constitution shall continue in force until altered or
repealed by a competent legislature or other competent authority. In fact, in
Collector of Aurangabad and Anr. vs. Central Bank of India and Anr.
1967 (3) SCR 855 after referring to various authorities held that the claim
of the Government to priority for arrears of income tax dues stems from the
English common law doctrine of priority of Crown debts and has been
given judicial recognition in British India prior to 1950 and was therefore
“law in force” in the territory of India before the Constitution and was
continued by Article 372 of the Constitution (at page 861, 862).
25. In the present case, as has been noted above, the lien possessed by
the Stock Exchange makes it a secured creditor. That being the case, it is
clear that whether the lien under Rule 43 is a statutory lien or is a lien
arising out of agreement does not make much of a difference as the Stock

Exchange, being a secured creditor, would have priority over Government
dues.
26. The three issues are answered as above. The Stock Exchange’s
appeal is allowed and the impugned judgment passed by the Division Bench
of the Bombay High Court is set aside.
..............................................CJI
(R.M. Lodha)
………………………………..J.
(Kurian Joseph)
………………………………..J.
(R.F. Nariman)
New Delhi,
September 25, 2014

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