Prefatory Note
Insolvency and bankruptcy are not merely legal concepts; they are the lifeblood of a resilient economy. They represent the critical juncture at which businesses must either reinvent themselves or face dissolution. The Insolvency and Bankruptcy Code, 2016 ('IBC') has emerged as the backbone of India's financial and corporate law landscape, providing a structured, time-bound process for resolving insolvencies and preserving value for stakeholders. Yet, as transformative as the IBC has been, its interplay with other established laws—especially the Income-tax Act, 1961—has generated complex legal questions that challenge the very essence of this legislative framework.
The Income-tax Act, 1961 ('ITA'), a robust and far-reaching statute, is rooted in the principle of revenue maximization for the state. In contrast, the IBC seeks to provide a 'clean slate' to debt-ridden entities, often at the expense of pre-existing liabilities, including tax dues. This divergence in objectives has led to a series of judicial interpretations, legislative amendments, and administrative challenges that continue to evolve as both laws adapt to the changing economic landscape.
This insight delves deep into the intricate relationship between the IBC and the ITA, exploring how these two powerful legal instruments intersect, conflict, and, at times, harmonize. We will navigate through the legislative changes introduced in the ITA pursuant to the IBC, dissect landmark judicial rulings that have shaped the understanding of tax claims within the insolvency framework, and critically analyse the implications for corporate debtors('CDs'), resolution professionals, and the government alike.
As we embark on this exploration, it is essential to recognize that the resolution of these legal complexities holds the key to the effective functioning of India's insolvency regime. The decisions made at this intersection will determine not only the fate of distressed businesses but also the broader economic health of the nation. This article sets the stage for a thorough examination of these issues, offering a comprehensive and engaging narrative for legal practitioners, corporate stakeholders, and policymakers navigating the dynamic terrain of insolvency law in India.
Navigating the Crossroads
In the intricate ecosystem of law and economics, tax laws and insolvency laws represent two pillars that uphold the financial stability of a nation. Framed under a constitutional regime, tax laws serve a fundamental purpose, viz., to secure the budgetary needs of the government, ensuring that the state has the resources to provide public goods and services. This financial imperative makes tax laws inherently recovery-focused, driven by the need to extract dues from business entities – the milking cows of the economy.
On the other hand, the IBC was conceived as a transformative statute aimed at overhauling India's corporate distress resolution framework. Its primary objective is to provide a swift and effective mechanism to rescue and rehabilitate entities in financial distress, thereby maximizing the value of their assets for all stakeholders. In the grand scheme, the IBC seeks to breathe new life into struggling businesses, ensuring they contribute to the economy's long-term health rather than being consigned to liquidation.
However, these two powerful legal regimes – tax laws and the IBC – often find themselves on a collision course. The tax laws' relentless pursuit of recovery stands in stark contrast to the IBC's ethos of providing a 'clean slate' to insolvent companies, free from past liabilities. This fundamental divergence creates tension, particularly in the early stages of the CIRP, where tax authorities and other stakeholders may find their interests at odds.
The IBC attempts to address these conflicts through s. 238, a provision asserting its supremacy over other laws to the extent of any inconsistencies. This section is not just a legal formality but a critical tool ensuring the IBC's effectiveness in revitalizing distressed companies. Thus, conflicting provisions in other statutes, including tax laws, are overridden. S. 238 helps the IBC fulfil its mission of corporate renewal.
Yet, the journey towards harmonizing these legal frameworks is fraught with challenges. The immediate impact of the IBC often means that stakeholders, including tax authorities, must temporarily forgo their recovery efforts to allow a distressed business the opportunity to restructure and emerge stronger. While this may seem counterintuitive in the short term, the long-term benefits are undeniable – rejuvenated businesses contribute more robustly to the economy and, by extension, to government revenues.
Now, let us dive into the complex interplay between tax laws and the IBC, examining how these legal frameworks coexist, clash, and ultimately work together to shape the future of corporate insolvency in India.
Changes to the ITA Pursuant to the IBC
In response to the introduction of the IBC, several amendments were made to the ITA to align its provisions with the objectives of the IBC. These changes were essential to ensure that tax laws did not conflict with the CIRP, thereby fostering a more coherent and effective legal framework. Some of the major amendments are analysed below:
S. 140 - Filing of Returns During CIRP
S. 140 of the ITA traditionally requires the return of income to be filed by the managing director or any director of the company. However, in cases where a company is undergoing CIRP, this responsibility shifts to the resolution professional ('RP') or the interim resolution professional ('IRP'). This amendment ensures that the CD continues to comply with tax filing requirements during the CIRP, with the RP/IRP stepping in to manage these obligations.
S. 79 - Carry Forward and Set Off of Losses
S. 79 of the ITA stipulates that the carry forward and set off of losses are allowed only when there is continuity in the beneficial ownership of shares. Traditionally, if the beneficial ownership changes, the company loses the ability to carry forward losses. However, an amendment was made to allow the carry forward of losses even when there is a change in ownership due to a resolution plan ('Plan') approved under the IBC. This change acknowledges that a successful resolution applicant ('SRA') may not have been part of the company prior to the CIRP, and thus, the continuity of beneficial ownership is broken. By allowing the carry forward of losses despite this change, the amendment incentivizes SRAs to participate in the corporate insolvency resolution process ('CIRP').
S. 115JB - Minimum Alternate Tax ('MAT')
S. 115JB of the ITA imposes MAT on the book profits of companies. The 2018 amendment to this section, specifically in the context of the IBC, provided that the book profits of a company under CIRP would be adjusted in accordance with the Plan. This adjustment is crucial for ensuring that the tax liability of a company in distress reflects its financial realities, as determined by the Plan, rather than the pre-CIRP financial position.
S. 156A - Reduced Tax Liability Post-Resolution Plan Approval
It was introduced through the 2022 Finance Act, s. 156A provides for the reduction of tax liabilities in conformity with the Plan approved by the adjudicating Authority ('AA'). This provision ensures that any tax demand made by the tax authorities aligns with the terms of the approved Plan, preventing any conflicting claims that could arise from pre-CIRP tax assessments.
S. 178(6) - Applicability to IBC
S. 178 of the ITA required a liquidator to seek prior approval from tax authorities before distributing the assets of a company under liquidation. However, with the introduction of the IBC, S. 178(6) was amended to state that this requirement does not apply to companies undergoing CIRP. Consequently, liquidators are no longer required to obtain a no objection certificate (NOC) from tax authorities, streamlining the liquidation process under the IBC.
S. 46 - Capital Gains Tax on Liquidation
S. 46 of the ITA provides that any shareholder who receives money or assets upon the liquidation of a company is liable to capital gains tax. The IBC amendments ensure that the distribution of assets during liquidation, as part of a Plan, is governed by the terms of the plan, and any tax liabilities arising from such distributions are in conformity with the CIRP. This alignment prevents conflicting tax assessments post-liquidation.
S. 281 - Void Transfers and Applicability Under IBC
S. 281 of the ITA enables the Income Tax Department ('ITD') to recover outstanding tax dues by treating transfers of assets (including securities) as void if tax dues are pending on the date of transfer or arise from proceedings pending on the date of transfer. This creates ambiguity regarding the applicability of s. 281 to IBC matters. However, considering judicial pronouncements and the overriding effect of s. 238 of the IBC, it is argued that the IBC should override s. 281, making it imperative that specific exemptions are brought in to ensure the non-applicability of s. 281 to resolutions under the IBC. This would provide greater certainty regarding the tax position of CDs to resolution applicants and bidders.
S. 80 - Loss Return and Carry Forward
S. 80 of the ITA stipulates that if a taxpayer fails to file the return of income ('ROI') within the specified due date, the losses for that particular year will lapse and will not be allowed to be carried forward. This provision poses a significant challenge for companies undergoing CIRP, as the burden of timely filing falls on the RP. Any delay in filing the ROI within the statutory due dates could result in the loss of the ability to carry forward tax losses, which could adversely impact the financial restructuring of the CD.
General Anti-Avoidance Rules ('GAAR') and CIRP Transactions
The applicability of GAAR provisions to transactions carried out under a CIRP raises concerns. Given that a Plan approved as part of a CIRP is driven by statutory processes with the primary objective of reviving the insolvent entity, GAAR should not apply to such restructuring efforts. The ITD issued a circular in 2017 stating that where the court explicitly considers tax implications during the sanctioning of an arrangement, GAAR would not apply.
However, since the National Company Law Tribunal ('NCLT') typically does not analyse tax implications while approving Plans, this circular may not offer adequate protection against GAAR. To safeguard acquirers from unforeseen tax implications, it is crucial that lawmakers introduce specific exemptions from GAAR for acquisitions conducted under Plans approved by the NCLT.
Initiation of CIRP and Imposition of Moratorium
The initiation of the CIRP marks a significant moment in the life cycle of a distressed company under the IBC. It is the point at which the gears of India's insolvency framework begin to turn, setting in motion a creditor-driven process aimed at either rescuing the company or guiding it towards a structured exit.
Under the IBC, CIRP can be initiated by various stakeholders—financial creditors ('FCs'), operational creditors ('OCs'), and even the CD itself. This flexibility envisages the inclusive nature of the IBC, allowing all parties with a legitimate interest in resolving a company's debts to trigger the process. Once the CIRP is initiated, the company officially becomes a CD, and the paradigm shifts from a debtor-in-possession model to a creditor-in-possession model.
In this creditor-in-possession framework, the first and most significant consequence is the removal of the erstwhile management from their position of control. The CD's management, responsible for steering the company into its present state of distress, is replaced by an IRP. The IRP assumes full charge of the day-to-day operations of the company, with a mandate to stabilize the company's affairs, preserve its value, and facilitate the CIRP.
Simultaneously, the initiation of CIRP triggers a moratorium under s. 14 of the IBC. This moratorium acts as a protective shield around the CD, halting all ongoing and future legal proceedings, enforcement of security interests, and recovery actions against the debtor's assets.1 The moratorium is designed to provide the company with a much-needed breathing space, preventing further depletion of its assets. At the same time, the IRP assesses the situation and begins the task of formulating a Plan. During this period, the company's operations continue, but under the watchful eye of the IRP, who must balance the interests of creditors while ensuring the CD remains a going concern.
One of the immediate tasks that follow the imposition of the moratorium is the submission of claims by creditors. All claims against the CD, whether from FCs, OCs, or statutory authorities, must be submitted to the IRP. This step is critical, as it ensures that all liabilities of the CD are accounted for and considered in the CIRP. The IRP then verifies these claims, forms a committee of creditors (CoC), and oversees the development of a Plan to either revive the CD or facilitate its orderly liquidation.
Treatment of Statutory Debts Under the IBC
The IBC aims at the reconciliation of diverse creditor interests while ensuring the efficient resolution of corporate distress. The government and local authorities occupy a unique position among these creditors, as they often owe statutory debts – obligations arising from tax laws, statutory dues, and other legal mandates. Treating these debts under the IBC is pivotal, not only for restructuring the distressed entity but also for safeguarding the public revenue.
The Bankruptcy Law Reforms Committee (BLRC), whose recommendations laid the foundation for the IBC, recognized the importance of statutory debts in the CIRP. However, the IBC does not explicitly define 'statutory debts.' Instead, it categorizes such obligations under the broader umbrella of 'operational debts.' According to s. 5(21) of the IBC, any dues arising under a law in force and payable to the government or a local authority are treated as operational debt.2 This classification brings the government, state authorities, and local bodies into the ambit of OCs. Thus, tax authorities may initiate CIRP under s. 9 of the IBC in case the demand notice under s. 8 is not responded to or the payment in regard to the same is not made by the company.
The OC classification significantly affects how statutory debts are treated during the CIRP. Under s. 30(1) of the IBC, any Plan proposed must provide for the payment of OCs, ensuring they receive at least the amount they would have been entitled to in a liquidation scenario. This provision offers a layer of protection to statutory creditors, ensuring they are not sidelined during the CIRP. However, it also underscores their lower priority compared to secured FCs, reflecting the IBC's emphasis on reviving distressed businesses rather than prioritizing government dues.
The binding nature of an approved Plan, as detailed in s. 31 of the IBC, further cements the treatment of statutory debts. Once the AA is satisfied that the Plan meets all statutory requirements, including fair treatment of OCs, the Plan becomes binding on all stakeholders. This includes the central government, state governments, and local authorities to whom statutory dues are owed. This binding nature is crucial—it ensures that once a Plan is in place, all creditors, including statutory creditors, must adhere to its terms, effectively extinguishing pre-existing claims not included in the Plan.
When it comes to liquidation, s. 53 of the IBC prescribes a 'waterfall' mechanism that dictates the order of priority for disbursing the proceeds from the liquidation estate. Notably, statutory debts occupy a relatively lower rung in this hierarchy. While they are prioritized above the claims of equity shareholders, they fall below the payment of unsecured financial debts. This positioning reflects the IBC's broader goal of maximizing asset value for the most critical stakeholders – primarily secured creditors – while recognizing that statutory dues, although important, should not impede the recovery and CIRP.
This treatment of statutory debts under the IBC marks a significant shift from previous legislative frameworks, such as the Companies Act, 1956 and the Companies Act, 2013, where statutory dues were prioritised. By placing statutory debts lower in the liquidation hierarchy, the IBC seeks to align with global best practices, prioritising secured creditors to promote greater participation in the lending process and ensure that distressed companies have a realistic chance of rehabilitation.
However, this shift has not been without controversy. The tension between the need to maintain government revenue streams and the IBC's goal of corporate revival has led to significant legal debate and judicial scrutiny. The IBC's approach to statutory debts represents a fundamental recalibration of priorities within the insolvency framework – favouring economic revival over the immediate recovery of public dues.
Courts at the Crossroads: Defining the IBC-Tax Interface Through Precedents
One of the most significant aspects of the IBC is the 'clean slate' principle, enshrined in s. 31 of the IBC. This principle ensures that once the AA approves a Plan, it is binding on all stakeholders, including the government, and extinguishes all prior claims that are not part of the approved plan. The Supreme Court's decision in Ghanashyam Mishra & Sons (P.) Ltd. v. Edelweiss Asset Reconstruction Co. Ltd.3reaffirmed this principle, holding that statutory dues, including tax claims, are operational debts that stand extinguished if not included in the Plan.
This ruling is pivotal for the CIRP, as it provides certainty to resolution applicants, ensuring they are not burdened by unforeseen liabilities post-resolution. However, this clarity was somewhat disrupted by the State Tax Officer v. Rainbow Papers Ltd.4 decision, where the Supreme Court treated government dues as secured debts if a statutory lien existed, thereby challenging the clean slate principle.
The Rainbow Papers Ruling: A Shift in Judicial Interpretation
The Rainbow Papers case marked a significant shift in the treatment of government dues under the IBC. The Supreme Court, diverging from its earlier stance, held that statutory dues under the Gujarat Value Added Tax Act, 2003 (GVAT Act) could be treated as secured debts, thus giving them priority in the distribution of liquidation proceeds. This ruling has far-reaching implications, as it potentially elevates the status of government claims, challenging the established hierarchy under s. 53 of the IBC.
The Court reasoned that if a Plan does not account for such secured statutory dues, it is liable to be rejected. This interpretation could deter resolution applicants, as it introduces uncertainty regarding the finality of approved plans and the potential for ongoing liabilities. The Supreme Court's dismissal of review petitions against the Rainbow Papers ruling in Sanjay Kumar Agarwal5 has further cemented this position, raising concerns about its implications for the CIRP.
Applicability of the Rainbow Papers Ruling to Income Tax Matters
The IBC, through s. 238, overrides any conflicting provisions in other laws, including the ITA. This principle was upheld in Sundaresh Bhatt, Liquidator of ABG Shipyard v. Central Board of Indirect Taxes and Customs6, where the Supreme Court ruled that the IBC prevails over the Customs Act in case of conflict. However, the Rainbow Papersruling complicates this position, particularly in the context of income tax claims.
While the ITA was amended to align with the IBC, particularly through s. 178(6), which ensures the ITA does not override the IBC, the Rainbow Papers ruling has raised questions about its applicability to income tax matters. Some decisions, like in the case of Assam Company India Ltd.7, have seemingly applied the Rainbow Papers ratio to income tax claims, leading to remand orders for reconsideration in light of this ruling.
Developments Following Rainbow Papers: Judicial Reactions
The aftermath of the Rainbow Papers ruling has seen various judicial interpretations attempting to reconcile the IBC's objectives with this new precedent. The Supreme Court in Paschimanchal Vidyut Vitran Nigam Ltd. v. Raman Ispat Pvt. Ltd.8highlighted the potential oversight in Rainbow Papers regarding the waterfall mechanism under s. 53 of the IBC, which prioritizes secured creditors over government dues. However, the dismissal of review petitions against Rainbow Papers suggests that the ruling's implications will persist, particularly in cases where government dues are at stake.
Courts, including the Delhi High Court in Tata Steel Ltd. v. Deputy Commissioner of Income Tax9, have continued to uphold the clean slate principle, reinforcing that the dues not included in the Plan are extinguished. This judicial trend seeks to maintain the IBC's objective of providing finality and certainty to resolution applicants, even as the Rainbow Papers ruling poses challenges to this framework.
S. 148 Notices Post-Resolution Plan Approval
A critical issue post-approval of Plans is the issuance of s. 148 notices under the ITA pertain to the reassessment of income. Courts have generally held that once a Plan is approved, all prior dues, including statutory dues, are extinguished, and s. 148 notices cannot be used to reopen these settled matters. The Alok Industries Ltd. v. Assistant Commissioner of Income Tax10case is a prime example where the Bombay High Court emphasized the binding nature of the approved Plan, affirming that statutory compliance must be observed within the CIRP framework.
However, this does not preclude the tax authorities from pursuing actions against previous management or directors under other provisions of the ITA, particularly s. 179, which holds directors personally liable for unpaid tax dues if the company cannot meet its liabilities.
Personal Liability of Directors and S.32A of the IBC
The personal liability of directors under s. 179 of the ITA is an important consideration, especially when the CD's liabilities are extinguished post-CIRP. Directors of private companies may be held personally liable for tax dues unless they can demonstrate that the non-payment was not due to their negligence or default. This provision ensures that the responsibility for tax compliance is not entirely shifted onto the CIRP, holding individuals accountable where necessary.
Additionally, s. 32A of the IBC provides immunity to the CD from prosecution for offences committed prior to the CIRP once a Plan is approved. However, this protection does not extend to individuals such as directors or officers who may have been involved in the commission of such offences. This bifurcation ensures that while the CD can start afresh, accountability for past wrongdoings remains intact.
Filing of Claims of Statutory Debts Before the IRP
Filing statutory debt claims by income-tax authorities during the CIRP is a critical aspect of the insolvency framework under the IBC. This process is governed by a structured timeline and distinct procedures, depending on the nature and timing of the claims. The role of the IRP or RP is central in this regard, as they must manage and verify these claims while balancing the interests of various stakeholders.
Stage 1: Filing of Claims During CIRP
The filing of statutory claims by the income-tax authorities during the CIRP is categorized into three distinct types, each with its own procedural nuances and implications:
(i) Claims Pertaining to a Period Prior to the Initiation of CIRP (No Attachment)
When the CIRP is initiated, one of the IRP's primary duties is to notify all creditors, including statutory authorities like the ITD, to file their claims. The procedure is straightforward for tax claims that pertain to a period before the initiation of CIRP, where no attachment has been made to the assets of the CD. These claims must be filed with the IRP within the prescribed timelines set out in the IBC.
Once these claims are filed, they are treated as operational debts, given that they arise from statutory obligations. The repayment mechanism for these claims follows the regular process prescribed under the IBC, where OCs, including tax authorities, are given priority in accordance with the provisions of ss. 30 and 53 of the IBC. However, their position in the payment hierarchy often places them behind secured FCs, reflecting the IBC's broader goal of maximizing asset value for the most critical stakeholders.
(ii) Claims Pertaining to a Period Prior to the Initiation of CIRP (With Attachment)
A more complex scenario arises when the ITD attaches certain CD assets before the initiation of CIRP. In such cases, the ITD's position is elevated to that of a secured creditor, distinguishing its claims from those of regular OCs.
Despite this elevation, the commencement of CIRP triggers a significant shift in control over the attached assets. Upon the initiation of CIRP, the control of these assets is transferred to the IRP, which is tasked with managing all of the CD's assets, including those previously attached by the tax authorities. This transfer of control is crucial as it centralizes asset management under the IRP, ensuring that all assets are accounted for in the resolution or liquidation process.
Should the CIRP lead to a successful resolution, or if the CD undergoes liquidation, the value realized from the attached assets will be distributed to the ITD in its capacity as a secured creditor. This arrangement underscores the importance of the IRP's role in balancing the interests of secured and unsecured creditors while ensuring compliance with the IBC's resolution framework.
(iii) Claims Pertaining to a Period During the CIRP
Even as a CD undergoes CIRP, its operations and business activities continue under the supervision of the IRP. This continuation means that the CD remains subject to ongoing income tax assessments, the filing of returns, and potential scrutiny by the ITD.
In the event that the ITD identifies additional tax liabilities during this period, it is entitled to issue notices to the CD. The IRP, acting on behalf of the debtor, is obligated to respond to these notices and manage the subsequent proceedings. Should these proceedings result in a tax liability, the CD, through the IRP, is required to satisfy the demand, notwithstanding the ongoing CIRP and the moratorium imposed under s. 14 of the IBC. This obligation highlights the ongoing responsibility of the CD to meet statutory requirements, even while navigating the complexities of insolvency resolution.
Stage 2: Filing of Claims After CIRP Completion
The completion of CIRP, particularly when it results in a successful Plan, marks a new chapter for the CD. At this stage, the filing and treatment of statutory claims by the ITD are governed by different rules, reflecting the debtor's transition from insolvency back to normal business operations.
(i) Pre-CIRP Claims
For claims that arose before the initiation of CIRP, the CD is protected by s. 32A of the IBC, which provides a 'clean slate' to the debtor post-resolution. This provision effectively extinguishes all pre-CIRP claims, including those of the ITD, as long as they are not included in the approved Plan. This clean slate principle is designed to provide certainty to the SRA, ensuring they are not burdened with historical liabilities that could jeopardize the debtor's revival.
(ii) Claims Arising During CIRP
These claims are further divided into two categories:
- Claims Raised by the ITD During CIRP: If the ITD raised claims during the CIRP that were acknowledged but not settled during the CIRP, the responsibility for paying these claims passes to the SRA. The SRA inherits these liabilities as part of the CD's ongoing obligations, which now form part of the company's revived operations.
- Claims Not Raised in Time by the ITD: Conversely, if the ITD failed to raise certain claims in a timely manner during the CIRP, those claims are extinguished under s. 32A. The rationale here is to provide finality to the CIRP, preventing the reopening of settled matters that could disrupt the CD's fresh start.
(iii) Post-CIRP Claims
Once the CIRP is concluded and the CD is back on its feet, it exits the purview of the IBC and reverts to the normal tax assessment and compliance regime under the ITA. At this stage, the company is no longer treated as a CD under insolvency; instead, it is subject to the same tax obligations and procedures as any other operational business entity. This includes regular assessments, the issuance of notices by the tax authorities, and compliance with all applicable tax laws without any special considerations linked to its previous insolvency status.
Thus, the process of filing statutory debt claims by the ITD during and after CIRP is a nuanced and multi-faceted aspect of the IBC's insolvency framework. It reflects the balance that must be struck between upholding the government's revenue interests and ensuring the successful resolution of distressed companies. The structured approach to claim filing – divided into pre-CIRP, during CIRP, and post-CIRP stages –ensures that tax liabilities are appropriately managed while also providing the necessary legal safeguards for the revival and continuity of the CD. Through these mechanisms, the IBC aims to foster an environment where businesses can recover and thrive, free from the weight of historical statutory burdens while ensuring that the state's legitimate tax claims are respected and addressed in an orderly manner.
Looking Ahead: The Need for Legislative Clarity
The Rainbow Papers ruling and subsequent judicial developments underscore the need for legislative clarity regarding the treatment of tax claims under the IBC. The conflicting interpretations have created uncertainty, which could undermine the efficacy of the CIRP. A legislative amendment explicitly excluding government dues from being classified as secured debts under the IBC could restore the intended hierarchy in the liquidation waterfall, ensuring that the IBC's objectives are not compromised.
Moreover, a balanced approach that allows the continuation of tax assessments without enabling recovery actions during the CIRP could strike a fair compromise, protecting the interests of both the government and resolution applicants. This middle-path approach, coupled with active engagement from tax authorities and insolvency professionals, could help harmonize the IBC with the ITA, fostering a more predictable and stable insolvency framework.
Maintaining a Delicate Balance: Navigating Tax Claims in the Post-Resolution Era
As the legal framework around insolvency evolves, it becomes increasingly clear that a delicate balance must be struck between the provisions of the IBC and the ITA. While the IBC is designed to provide a 'clean slate' to entities emerging from insolvency, the ITA is inherently focused on ensuring that tax obligations are met. Reconciling these two objectives requires a nuanced approach – one that protects the interests of both the government and the new management of the CD.
The courts have a crucial role in maintaining this balance. Instead of automatically quashing assessment notices issued by the ITD, a more measured approach would allow the ITD to continue assessment proceedings. However, this continuation must come with a significant caveat, i.e., no recovery actions should be taken against the company under new management. This approach serves a dual purpose – it enables the tax authorities to gather necessary information that could be vital for holding the old management accountable while simultaneously shielding the new management from the burden of historical tax liabilities.
This principle becomes particularly important in situations where tax claims emerge after the approval of a Plan but still fall within the statutory time limits for assessment under the ITA. In such cases, the courts must ensure that the new management is not unfairly saddled with these liabilities. The responsibility for such obligations should rightly fall on the shoulders of the old management, who were at the helm when these tax dues arose. Thus, the ITA should not be used as a tool to penalize the new management for the missteps of their predecessors.
In a similar vein, scrutiny assessments for periods predating the Plan approval must be handled with great care. Fairness dictates that the new management should be insulated from adverse outcomes that stem from the actions of the previous owners. This approach is not only equitable but also aligns with the IBC's objective of facilitating a fresh start for distressed entities.
However, this balance is not without its challenges. ITD must be acutely aware that actions against the company under new management may not withstand judicial scrutiny if they are perceived to be in direct contradiction to the IBC. Therefore, it is imperative for the tax authorities to explore alternative legal avenues to hold the old management accountable for their actions. This could involve the active engagement of relevant tax law boards and a concerted effort to devise practical and effective strategies that do not undermine the spirit of the IBC.
Ultimately, the goal is to ensure that the CIRP remains robust and fair, fostering an environment where distressed companies can be revived without the fear of inherited tax burdens. By striking this balance, the legal system can uphold the integrity of both the IBC and the ITA, ensuring that neither is compromised in the pursuit of justice. Maintaining this balance will be key to achieving sustainable outcomes that benefit all stakeholders involved as the corporate insolvency landscape continues to evolve.
Footnotes
1. Notably, while the moratorium restricts recovery actions, it does not prevent the continuation of assessment proceedings by tax authorities, which are necessary for finalizing tax liabilities.
2. It is relevant to note that if the income tax authorities had made certain attachments to the properties of the corporate debtor prior to initiation of CIRP, then the tax department would be in the position of a secured creditor. In this case, claims by the department would be considered through a different lens than merely an operational debt. However, once the CIRP is initiated, the management of such attached assets would also be endowed upon the Resolution Professional.
3. 2021 SCC Online SC 313.
4. 2022 SCC Online SC 1162.
5. Sanjay Kumar Agarwal v. State Tax Officer & Anr., 2023 SCC OnLine SC 1406
6. 2022 SCC Online SC 1101.
7. 2023 SCC OnLine NCLAT 1061.
8. 2023 SCC Online SC 842.
9. 2023 SCC Online Del 6987.
10. [2024] 161 taxmann.com 285 (Bombay).
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