Sarfaesi Vs State Tax Laws: Secured Creditors' Dues Take Priority, Bombay High Court Says

The right of the secured creditors to realise debt has to be prioritised over government dues, the division bench of the Bombay High Court said, while hearing 12 writ petitions by various banks and NBFCs.

The ruling has clarified the law on priority of dues under the Sarfaesi Act, Recovery of Debts and Bankruptcy Act vis-à-vis Maharashtra Goods and Services Tax Act, erstwhile sales tax law, and other municipal legislations.

The dispute dates back to 2018 with the Janata Sahakari Bank Ltd. asking for priority over the sales tax authorities' dues.

Since then, ICICI Bank Ltd., Bank of Baroda Ltd., Edelweiss ARC, JM Financial ARC, etc., also approached the high court with the same issue.

The state tax department argued that provisions of Sarfaesi and RDDB Acts do not generate a charge in favour of the secured creditor, but only allow for ‘priority’ in payment.

As such, they do not negate or nullify the statutory fee established by the state's tax laws.

Pointing to the concept of 'first charge' under state legislations, the authorities argued that it enables them to recover amounts from an entity who defaults in payment of government dues. Consequently, the state has a statutory charge on the borrower’s property which should allow it to attach and sell it to recover unpaid dues.

In response, the secured creditors stated that the priority granted to them under the central legislation is not limited to enforcement but they recognise priority of their dues in general.

The high court noted that the state legislations recognise the concept of 'first charge', while the central legislations—SARFAESI and RDDB Acts—use the term 'priority'. The two are synonymous, the high court said.

This priority will only be available to secured creditors who have registered with the Central Registry of Securitisation Asset Reconstruction and Security Interest of India (CERSAI), as prescribed under the Sarfaesi Act, the court noted.

The concept of ‘first charge’ enabled under the state legislation cannot take precedence over ‘priority’ conferred under central legislation, the high court said. And so, dues of a secured creditor would rank superior to the dues of the relevant department of the state government, it said.

This principle has not yet been decided upon by the Supreme Court. So far, jurisdictional high courts of Madras, Madhya Pradesh and Kerala have upheld the priority of secured creditors' dues over those of state governments.

The rulings have upheld the right of secured creditors to realise secured debts due and payable by the sale of assets over which a security interest is created, with priority over all debts and government dues.