Legal Briefing

Reinforcing the doctrine of severability

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Corporate & Commercial | 01 October 2011

In SMS Tea Estates Pvt Ltd v M/s Chandmari Tea Co Pvt Ltd [2011], the Supreme Court addressed the following questions posed for its consideration:

  1. Whether an arbitration agreement contained in an unregistered (but compulsorily registrable under the Indian Registration Act 1908) instrument was valid and enforceable?
  2. Whether an arbitration agreement in an unregistered instrument that was not duly stamped, was valid and enforceable?
  3. Whether in the facts and circumstances of the case, there was an arbitration agreement in existence between the appellant and the respondent, and whether an arbitrator could be appointed?

 FACTS

The appellant filed an application under s11 of the Indian Arbitration and Conciliation Act 1996 (the 1996 Act), for appointment of an arbitrator. The averments made in the said application in brief were:

The appellant requested the respondent to grant a long-term lease in respect of two tea estates, pursuant to which a lease deed was executed between the parties. Under the terms of the said lease deed, the respondent granted a lease to the appellant for a term of 30 years in regard to the said two tea estates and all appurtenances. Clause 35 of the lease deed in particular, provided for settlement of disputes between the parties by arbitration. It read as follows:

‘That any dispute or difference arising between the parties in relation to or in any manner touching upon this deed shall be settled by arbitration in accordance with the provisions of the Arbitration and Conciliation Act 1996, which shall be final and binding on the parties hereto. The governing law will be Indian. The venue of arbitration shall be at Assam and Court at Assam alone shall have jurisdiction for disputes and litigations arising between the lessor/first party and the lessee/second party in context with the above-mentioned scheduled property.’

Prior to the execution of the aforesaid lease deed, the respondent had also offered to sell the two tea estates to the appellant. The appellant had agreed, and indicated its preference for the sale via a letter that followed the initial offer of the respondent. Pursuant to this arrangement at the time, the appellant invested significant sums of money for improving the tea estates in the expectation that it would either be purchasing the said estates or have a lease for 30 years.

The respondent, however, abruptly evicted the appellant from the two estates and took over the management rights upon the estate. The appellant issued a notice calling upon the respondent to refer the matter to arbitration under s35 of the lease deed. The respondent, however, failed to comply.

According to the appellant, the dispute between the parties related to the claim of the appellant that inter alia the respondent should either sell the estates to the appellant, or permit the appellant in the alternative to continue in occupation of the estates for 30 years as lessees or reimburse the amounts invested by the appellant in the two estates.

The respondent opposed the said application on the grounds that:

  1. the unregistered lease deed for 30 years was invalid, unenforceable and thus not binding upon the parties in terms of s107 of the Transfer of Property Act 1882 and ss17 and 19 of the Registration Act 1908;
  2. the lease deed was also not duly stamped and was therefore invalid, unenforceable and not binding, having regard to s35 of the Indian Stamp Act 1899;
  3. as the lease deed itself was invalid for the aforesaid reasons, the appellant could not claim appointment of an arbitrator under the arbitration agreement forming part of the lease deed.

The appellant’s application seeking appointment of the arbitrator was dismissed by the Chief Justice of the Guwahati High Court, on the grounds that the lease deed was required to be compulsorily registered under the provisions of the Registration Act and the Transfer of Property Act, and that the absence of such registration rendered the terms of the lease deed, including the clause on dispute resolution, without effect. The appellant preferred an appeal from the said Order of the High Court, before the Supreme Court.

DECISION

Whether an arbitration agreement contained in an unregistered (but compulsorily registrable under the Indian Registration Act 1908) instrument was valid and enforceable?
Compulsory registration

Looking to the context underlying the lease deed, the Supreme Court considered the question whether a provision for arbitration contained in an unregistered document (that is compulsorily registrable) is a collateral transaction that would be independent of the rest of the lease deed.

The Court at the outset observed that the lease deed was required to be registered under the terms of s17(1)(d) of the Registration Act and s107 of the Transfer of Property Act – which inter aliastipulate that leases of property for a period exceeding one year can only be made by a registered instrument. The Court looked to the effects of a document that remained unregistered and that was otherwise required to be registered mandatorily. It observed that s49 of the Registration Act makes it clear that a document which is compulsorily registrable, if not registered, will not affect the immoveable property comprised therein in any manner, and further that it will also not be received in evidence of any transaction affecting such property except for one of two limited purposes – it can be used as evidence of any collateral transaction, which by itself is not required to be effected by registered instrument.1

The Court viewed the arbitration agreement contained in the lease deed to be a collateral term, unrelated to the performance of the contract, and observed that it was as if two contracts – one in regard to the substantive terms of the main contract and the other relating to resolution of disputes – had been rolled into one, for purposes of convenience. It ruled that an arbitration clause was independent and that even if the contract or its performance was terminated or came to an end on account of repudiation, frustration or breach of performance, the arbitration agreement would survive.

Comment

The Court thus held that an arbitration agreement does not require registration under the Indian Registration Act, and that even if it is found as one of the clauses in a contract or instrument, it remains an independent agreement from the rest of the contract/instrument, and can be acted upon and enforced in terms of the proviso to s49 of the Registration Act. In arriving at this conclusion, the Court was also mindful of the principles that have now found statutory recognition in sub-section (1)(a) of s16 of the 1996 Act, that an arbitration clause that forms part of a contract shall be treated as an agreement independent of the other terms of the contract.

The judgment of the Court further reinforces the doctrine of severability, as has also been reiterated in several of its earlier decisions, that the arbitration clause constitutes a self-contained contract that is severable from the main substantive contract and capable of surviving it.

Whether an arbitration agreement in an unregistered instrument that was not duly stamped, was valid and enforceable?

The Court observed that having regard to s35 of the Indian Stamp Act, unless the stamp duty and penalty due in respect of the instrument was paid, the court cannot act upon the instrument, which means that it consequently cannot act upon the arbitration agreement that is a part of the instrument either. Noting the distinction between s35 of the Indian Stamp Act and s49 of the Indian Registration Act, the Court further observed that the former did not contain a proviso like the latter that enabled the instrument to be used to establish a collateral transaction.

The Court summed up the procedure to be adopted where the arbitration clause is contained in a document that is not registered (but is compulsorily required to be so) and that is not duly stamped, as follows:

  1. The court should, before admitting any document into evidence or acting upon such document, examine whether the instrument/document is duly stamped and whether it is an instrument that is compulsorily registrable.
  2. If the document is found to be not duly stamped, s35 of the Stamp Act bars the said document from being acted upon. Consequently, even the arbitration clause therein cannot be acted upon. The court should then proceed to impound the document under s33 of the Stamp Act and follow the procedure under ss35 and 38 of the Stamp Act.
  3. If the document if found to be duly stamped, or if the deficit stamp duty and penalty is paid, either before the Court or before the collector (as contemplated in s35 or s40 of the Stamp Act), and the defect with reference to deficit stamp is cured, the court may treat the document as duly stamped.
  4. If the document is not registered (but is required to be), the court can de-link the arbitration agreement from the main document and consider the former independently.
  5. Where the document is required to be registered, but is not so, and the arbitration agreement is valid and separable, what is required to be borne in mind is that the arbitrator appointed in such a matter cannot rely upon the unregistered instrument except for two purposes, that is (a) as evidence of contract in a claim for specific performance, and (b) as evidence of any collateral transaction that doesn’t require registration.
Comment

In laying down the principles for determining the next course of action in cases of arbitration clauses couched in unregistered/unstamped documentation, the Court has thus also re-iterated its earlier views rendered in cases such as S Kaladevi v VR Somasundaram [2010] that:

  1. a document required to be registered, if unregistered is not admissible into evidence under s49 of the Registration Act;
  2. such unregistered document can, however, be used as evidence of collateral purpose as provided for under s49 of the Registration Act;
  3. a collateral transaction must be independent of, or divisible from, the transaction which required registration; and
  4. a collateral transaction must be a transaction not itself required to be effected by a registered document, that is, a transaction creating/constituting any right, title or interest in immoveable property of the value of Rs100 or upwards.
Whether in the facts and circumstances of the case, there was an arbitration agreement in existence between the parties?

The Court observed that even if an arbitrator was appointed by virtue of the independent and surviving arbitration clause in the lease deed, as the lease deed was itself unregistered and hence admittedly unenforceable, the arbitrator would not be able to rely upon or enforce any of its terms. The Court noted in this regard that, where the arbitration agreement is not wide and does not provide for arbitration in regard to all disputes inter se the parties, but provides merely for settlement of disputes arising in relation to the lease deed, the arbitration clause, though available in theory, is of little practical assistance. In the facts and circumstances of the case, the Court construed the reference to arbitration to be fairly narrow (being restricted to disputes in any manner touching upon only the lease deed), and observed that although the arbitrator will have jurisdiction to decide any issues arising under the lease deed, the arbitration will virtually be a non-starter and no claims for enforcement of the lease deed may be entertained. In the circumstances, the Court allowed the appeal and remitted the matter back to the High Court to first decide the issue of stamp duty, and if the document was duly stamped, to then appoint an arbitrator in accordance with law.

Comment

In interpreting the terms of the arbitration clause and its reach over disputes between the parties, the Court re-emphasised the settled law found in earlier cases such as State of Goa v Praveen Enterprises [2011], that where the arbitration agreement provides for referring all disputes between the parties (whether without any exceptions or subject to exceptions), the arbitrator will have jurisdiction to entertain the same; where, however, the arbitration agreement requires specific disputes to be referred to arbitration and provides that the arbitrator will have the jurisdiction to decide only such disputes, the arbitrator’s jurisdiction is controlled by specific reference and they cannot travel beyond the reference, nor even entertain any additional claims or counter claims that are not part of the disputes as specifically referred.

Note

  1. A collateral transaction is not the transaction affecting the immoveable property, but a transaction which is incidentally connected with that transaction.