Wednesday, December 16, 2015

Contract Depriving a Party of Interest: Immorality and Public Policy

[The following guest post is contributed by Amitav Singh, a fourth-year student at the National University of Advanced Legal Studies (NUALS), Kochi]

In a recent decision in Union of India v. M/s NK Garg & Co. (“NK Garg”), decided on 2 November, 2015, a single judge of the Delhi High Court (“Court”) held that any agreement by which a party is deprived of interest would be void on the ground that it is immoral and violates public policy. It is a classic example of judicial adventurism since the Court traversed a new path by disregarding several Supreme Court (“SC”) judgements to drive its point home.

Factual Matrix

Before embarking upon the analysis of the decision it is important to note the facts. The issue before the Court came up for consideration when the Appellant filed an application under Section 34 of Indian Arbitration Act, 1996 (“Act”) to set aside the impugned award to the extent that the Arbitrator has awarded interest in favour of the respondent. Appellant contended that respondents are not entitled to any interest because of a contractual clause to that effect. However, the Court, accepting the contention of the respondents that the clause itself is void being violative of the third limb of section 23 of Indian Contract Act, 1872 (“Contract Act”) which deals with public policy and morality, upheld the award. After analysing couple of decisions of the SC, the Court extended the scope of public policy and morality by stating that depriving the respondent of interest which he otherwise would be entitled to but for an agreement is immoral and violative of public policy.


In support of its contention, the Appellant relied on five decisions of the SC where it was decided that when there is a contractual clause which provides that interest will not be payable, then, on account of such a clause, the respondent is not entitled to payment of interest on the amount awarded in his favour by a decree. The Court, circumventing these decisions, declared that the said contractual clause is void and therefore felt no need to follow them. An arbitrator derives his power to award interest from Section 31(7) of the Act which begins with the phrase “unless otherwise agreed by the parties” thereby restricting the power of an arbitrator. The SC in Union of India v Krafters Engineers (“Krafters”), relying on a similar clause as the one in dispute in NK Garg and Section 31(7) of the Act, held that the “arbitrator ceases to have the power to grant interest and the clause is absolute”.  Interestingly, the Court did not mention the said section even once to support its conclusion, and instead heavily relied on the Interest Act, 1978. It is beyond one’s understanding as to why in a matter relating to arbitration the Court instead of relying on the provisions of the Act relied on some other statute.

The Court also relied on paragraph 43 of Secy., Irrigation Deptt., Govt. of Orrisa v. GC Roy decided by Constitution Bench of the SC wherein it was held that “a person whose moneys have been wrongly withheld, is rightfully entitled to be reimbursed”. However, the Court failed to appreciate that in the same judgement the SC also held that ‘where the agreement between the parties does not prohibit grant of interest arbitrator shall have the power to award interest pendent lite”. This principle was also approved by the SC in Krafters and in several other decisions. Therefore, it is a settled position that if there is an agreement curtailing the power of an arbitrator to grant interest, he cannot grant interest.

At this juncture, it is also important to examine whether the Court was correct in holding that non-payment of interest because of a clause in agreement can under no circumstances be justified in today’s world and will amount to immorality and violation of the public policy. The Court relied on Gherulal Parakh v. Mahadeodas Maiya & Others  (“Gherulal”) decided by the SC wherein it was held that “no universal standard can be laid down for a fluid concept of morality, even though, legislature’s intention was to give it a restrictive meaning i.e. “sexual immorality””. The Court thought that, according to the SC the scope of morality can be extended depending upon time and age.

However, the failed to consider yet another decision of the SC in Associate Builders v. Delhi Development Authority (“DDA”) wherein a narrow scope of ‘public policy’ and ‘morality’ was adopted. In DDA it was clarified by the SC that morality has been confined to ‘sexual morality’ by the the SC as far as Section 23 of Contract Act is concerned, and “if it is to go beyond sexual morality an agreement would have to be against prevailing mores of the day”. The SC also cautioned in the same judgment that “interference on this ground would also be only if something shocks the court’s conscience. It is not clear as to how non-payment of interest would shock the court’s conscience. Moreover, the concept of morality being a branch of common law would largely depend upon the judicial decisions to bring in new heads under it as held in Gherulal. The Court did not cite a single judicial decision to support its view to bring non-payment of interest within the ambit of ‘immorality’.

The Courts in India and England have been quite reluctant to extend the scope to “public policy” or “morality” to a contract type to which it has never been applied before. Because of such restriction it is expected of the Court to not develop its own idiosyncratic conception of these concepts as happened in the said case. The decision to strike down a clause in an agreement which restricted the power of an arbitrator to grant interest in order to circumvent the decisions of the SC, which the Court was bound to follow, could leave matters open to debate.

- Amitav Singh

1 comment:

vswami said...

To share own thoughts but with a different stroke:

This is a matter on which a firm final judicial view has remained to be taken, albeit crying loud for long. That, as viewed, could be by applying the general common law concepts/ principles , principally, - EQUITY and NATURAL JUSTICE; in short, on ideally better grounds of LEGITIMACY and GOOD CONSCIENCE , rather than LEGALITY in its absolute or utopian sense that needs to be given a go bye as being outdated,with no more procrastination. It is here that the not-so-often -canvassed principle of interpretation known as ‘UPDATING CONSTRUCTION’ ( to know more, see Law Lexicon) might come to aid, requiring to be invoked and applied.

Of contextual relevance herein is a recent central legislation in pipeline; that is, for regulating the notorious REALTY SECTOR.

For ready reference (excerpts):

“The Union Cabinet on Wednesday approved amendments to the Real Estate Bill, which was first proposed in 2013. The Bill will now be taken up for consideration by the Parliament. The provisions of the Bill are aimed at protecting buyers and bringing in transparency in the sector.”

As listed in the media Report under, -“Here is a 10-Point Cheat-Sheet”, a provision that aims at ‘protecting buyers’ as avowed, hence stands out, reads-
“4) The developer will be liable to pay interest at the same rate in case of delay in possession as it is charging from the buyer in case of delayed payment.”

Anyone interested may care to additionally look up the Blog: