Licensing Fee for Immovable Property: The Expanding Scope of Operational Debt

[By KV Kailash Ramanathan]

The author is a student at the National University of Advanced Legal Studies (NUALS), Kochi.

Recently, the NCLAT in Jaipur Trade Expocentre Pvt Ltd vs M/s Metro Jet Airways examined the issue of whether claims of license fee for the use of immovable property to conduct business, falls within the ambit of ‘operational debt’ under S5(21) of the Insolvency and Bankruptcy Code (hereinafter referred to as the ‘code’). In doing so, the Appellate Tribunal also had to rule on the legal correctness of earlier decisions in M Ravindranath Reddy, and Promila Taneja which answered the question in the negative.

The five-judge bench of the NCLAT, upon reference to it from a smaller bench, decided that the claim of such licence fee arising from a licence agreement for immovable properties would come within the definition of operational debt, thereby overruling earlier judgments to the contrary. The verdict paves the way for initiation of the Corporate Insolvency Resolution Process (hereinafter referred to as ‘CIRP’) under section 9 by operational creditors for default of licence fee or rent on immovable properties used for a business purpose.

In this piece, the author seeks to analyse the judgment by discussing the key issues dealt with and possible legislative action that can follow as a result.

Factual Matrix

The Appellant Jaipur Trade Expocentre Private Ltd, had entered into a licensing agreement with the respondent M/s Metro Jet Airways Private Ltd. Under the agreement, the Appellant licensor had granted the licence of a building with requisite fittings and fixtures to the respondent licensee for the purpose of running an educational establishment. The original agreement was to run for five years and the amount fixed as consideration was Rs. 4,00,000 per month lump sum plus government consideration.

Initially, a part payment was made by Metro Jet Airways towards the licence fee. The contract however started running into rough weather when the corporate debtor subsequently issued two cheques on different dates in discharge of the outstanding dues, and both were dishonoured.

In response to such default, the creditor Jaipur Trade Expocentre sent a demand notice under Section 8 of the Code seeking payment from Metro Jet Airways for the total sum due plus taxes and the interest thereon. No reply was received. Later civil proceedings were instituted by the corporate debtor.

As a result of these developments, the creditor filed an application for initiation of CIRP under Section 9 of the Code. The corporate debtor disputed the debt. After perusing submissions from both parties, the adjudicating authority dismissed the application, holding that the claim arising out of the grant of license for the use of immovable property does not fall under the category of goods or services. Thus, the amount claimed in the Section 9 Application was held to not be an unpaid operational debt and therefore, the former was not allowed.

Aggrieved by the above order, the creditor preferred an appeal and the matter was referred to a larger bench whose judgment is dealt with in this piece.

Issues

The crux of the issue is whether a claim of licence fee or rent over an immovable property would qualify as an ‘operational debt’ under S 5 (21) of the code. More specifically whether such an agreement can be considered under the provision of a ‘service’ as specified in the section.

Ruling and Analysis

Under Section 5(21) of the Code ‘operational debt’ has been defined as “a claim in respect of the provision of goods or services including employment or a debt in respect of the [payment] of dues arising under any law for the time being in force and payable to the Central Government, any State Government or any local authority.”

From the aforementioned definition, it is clear that only claims in respect of goods and services can be considered as operational debt. The Code is silent on the definition of services. Therefore, the onus was on the judiciary to interpret the term with due consideration to precedents, reports, and principles of statutory interpretation. The following are the noteworthy considerations from the judgments including but not limited to arguments advanced by the NCLAT for arriving at such a decision.

Agreement Providing for Corporate Debtor to bear GST

The agreement between the parties explicitly stated that the payments of GST would have to be borne by the corporate debtor. GST is a tax contemplated only on goods and services. Thus, it was evident from the agreement that the corporate debtor bearing the GST was being taxed for services. This was clear by looking at the definition of goods under Section 2(52) of the Goods and Services Tax Act which reads “goods” means “every kind of movable property other than money and securities but includes actionable claim, growing crops, grass and things attached to or forming part of the land which are agreed to be severed before supply or under a contract of supply”. As per such definition, the agreement cannot be considered as being for goods under the GST Act making it conclusive that the levy was for a service. Therefore, the contention of the Corporate Debtor that the agreement by nature does not provide for service was dismissed.

Definitions of Service presented under Other Statutes

In Anup Sushil Dubey v. National Agriculture Co-operative Marketing Federation of India ltd. and Anr. , one of the questions the Tribunal dealt with was whether dues, if any, arising from the Leave and License agreement can be construed as an ‘Operational Debt’? Reliance was placed on Schedule II of the CGST Act 2017 which classifies lease of building as a service, and Section 2 (42) of the Consumer Protection Act, under which an inclusive definition of ‘service’ has been made out to include the provision of facilities connected to a host of commercial activities. The Tribunal held that subject lease rentals arising out of use and occupation of a cold storage unit for Commercial Purpose is an ‘Operational Debt’ as envisaged under Section 5(21) of the Code. The stated principle has been agreed with and applied in our present case.

Scope of following other Statutory Provisions when there is a Definitional Void in the Code

While Section 3(37) of the Code permits following definitions from certain other enactments when the Code fails to define a particular term used, the GST Act is not one of the mentioned legislations under the provision. Same goes for the Consumer Protection Act. This was among the reasons presented in the M. Ravindranath judgement for disagreeing with the Anup Sushil verdict. However, the court held that in the facts of the present case, where the Agreement itself contemplates payment of GST for the services under the Agreement, on which GST is payable, the definition of ‘service’ under Central Goods and Services Tax Act, 2017 cannot be said to be irrelevant. More so, even if an expression is not defined in the statute, the meaning of the expression in general parlance has to be considered for finding out its true meaning and purpose.

Nature of Debt Accruals in the conduct of the Entity’s Operations

One of the tools for understanding legislative intent while interpreting the provisions of the Code is the report by the Bankruptcy Law Reforms Committee. It was on the basis of this report that the Code was enacted. The Hon’ble Supreme Court in Mobilox Innovations (P) Ltd. vs. Kirusa Software (P) Ltd referred to relevant paragraphs of the report dealing with who shall be considered an ‘operational creditor’ eligible to institute the insolvency resolution process. The referenced para 5.2.1 of the committee’s report says “the lessor that the entity rents out space from is an operational creditor to whom the entity owes monthly rent on a three-year lease.” While the Supreme Court did not specifically make an observation in agreement with the paragraph, it cited it while citing the relevant provisions to understand the nature of Operational Debt thereby granting an implicit affirmation to the paragraph.

Further meanings of the term ‘operations’ in the common parlance were considered. ‘Operational debt’ is also a debt incurred in the conduct of principal activities of the enterprise. The Licensee was licensed the premises for running the business of an Educational Institution which was held to be among their principal activities. Hence, in the present case, debt pertaining to unpaid license fee was fully covered within the meaning of ‘operation debt’

Pre-Existing Dispute

While the question of law was decided by following sound principles, the court while admitting the Section 9 application does not appear to have adequately addressed the contention by the respondents about the existence of a pre-existing dispute. While there are references to judgments dealing with the issue, they are discussed in a different context. However, a dispute needs to be initiated prior to the sending of demand notice by the creditor in order to render the Section 9 application inadmissible.[i] Given that such a factual ground exists, the court may not have deemed it necessary to address that contention in detail.

Room for Possible Amendment

Given the existence of definitional lacuna in the Code, an amendment to Section 3(37), expanding its scope to statutorily provide for placing reliance on definitions in legislations like the CGST Act and Consumer Protection Act, is an exercise worth considering for the legislature. These laws are an integral part of India’s commercial law ecosystem and harmony among definitions of commonly understood terminologies in them can prove beneficial, unless the intended objects of a specific legislation warrant a distinct understanding of certain terms. This would also reduce judicial discretion and make interpretation of the Code simpler and more straightforward.

Conclusion

In the verdict of the NCLAT in Jaipur Trade Expocentre Pvt. Ltd. v. M/s Metro Jet Airways, licensing fees on the license of immovable properties has been unequivocally interpreted to be an ‘operational debt’. This settles the question of lease and license being an operational debt in favour of landlords, which will now present them with an option to institute CIRP under Section 9 of the Code for default on rent, or licence fees under licensing agreements. The judgment took into consideration other statutory definitions, the nature of the agreement between the parties and the legislative intent, in arriving at a reasoned conclusion to the decision. It also provides an alternate recourse to landlords against company tenants in addition to the remedies under tenancy law. Hopefully, the verdict triggers discussion on amending Section 3(37) of the Code to make it more comprehensive in dealing with definitional voids.

[i] Ahluwalia Contracts (India) Ltd Vs Raheja Developers Ltd, Company Appeal (AT) (Insolvency) No. 01 of 2019.

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