Effect Of An Unstamped Contract On An Arbitration Clause: The Supreme Court of India Decides In Garware Wall Ropes Ltd. Vs. Coastal Marine Constructions & Engineers Ltd.

The Garware Case is definitely a welcome judgment in many ways, not the least of which is that it clarifies that in the event of an unstamped agreement, an arbitration agreement cannot have an independent existence

Introduction to the Issue

Recently, the Supreme Court of India was faced with a peculiar, yet pertinent interpretational issue, wherein it had to strike a balance between two ends of the spectrum, i.e., speedy and expeditious disposal of an application under Section 11 of the Arbitration and Conciliation Act, 1996 ("Arbitration Act") for appointment of an arbitrator and ensuring that no revenue loss is caused to the State on account of an agreement (containing an arbitration clause) being unstamped. In the case of Garware Wall Ropes Ltd. Vs. Coastal Marine Constructions & Engineering Ltd. (Civil Appeal 3631 of 2019) ("Garware Case"), in appeal from the Bombay High Court, the Supreme Court had to decide as to what is the effect of an arbitration clause contained in a contract, which is required to be stamped, yet it is unstamped? What is the stage at which an unstamped document can be impounded – whether at the stage of appointment of an arbitrator or by the arbitrator himself post appointment? Can an arbitration clause have an existence of its own if the underlying contract is unstamped and is not legally enforceable?

The question had to be examined from two perspectives, i.e., 'pre-2015' and 'post-2015'. India made significant changes in the Arbitration Act in 2015 by introducing the Arbitration and Conciliation (Amendment) Act, 2015 ("Amendment Act"). The Amendment Act brought in specific timelines to ensure speedy disposal of an arbitration process including expeditious disposal of an application under Section 11. The timeline for disposal of an application under Section 11 for appointment of an arbitrator is Sixty (60) days, as set out in Section 11(13), from the date of service on  the opposite party, although the said timeline is not mandatory.

Background

Section 11(6A) was introduced in the Arbitration Act, to ensure that the Supreme Court, or as the case may be, the High Court, while considering any application under Sections 11(4) to 11(6) for appointment of an arbitrator confine to the existence of an arbitration agreement. This is contrast to the legal position existing until then by virtue of various judicial pronouncements, notably SBP & Co. vs. Patel Engineering Ltd., (2005)8 SCC 618("Patel Engineering"), that the power to appoint an arbitrator under Section 11 is 'judicial' and not 'administrative'. Post introduction of Section 11(6A), an appointing authority under Section 11 cannot go into the merits of the dispute.

Coming back to the issue at hand, in the pre-2015 era wherein the power to appoint an arbitrator was considered to be judicial, the Supreme Court in the case of SMS Tea Estates (P) Ltd. Vs. Chandmari Tea Co. (P) Ltd. (2011) 14 SCC 66 ("SMS Case") had the occasion to deal with a similar issue, i.e., of nonstamping of a document containing an arbitration clause. In the SMS Case, the Supreme Court held that where an arbitration clause is contained in an unstamped agreement, the provisions of the Indian Stamp Act, 1899 ("Indian Stamp Act") require the judge hearing the Section 11 application to impound the agreement and ensure that stamp duty and penalty (if any) are paid thereon before proceeding with the Section 11 application.

Findings of the Supreme Court and Analysis

Severability of an arbitration clause from the main agreement It is a settled legal position in India that an arbitration clause is an agreement in itself and severable from the underlying contract. However, since the 2015 amendment, this position was hitherto not examined from a stamp/registration law perspective. Section 7 of the Arbitration Act defines an 'arbitration agreement'. It provides that 'an arbitration agreement may be in the form of an arbitration clause in a contract or in the form of a separate agreement. Section 33 of the Maharashtra Stamp Act, 1958 (which was the stamp law in question in the Garware Case), provides for examination and impounding of instruments by authorities stated therein (including a high court judge), while Section 34 provides that instruments not duly stamped are not admissible in evidence.

On one hand lies the premise that an arbitration clause is 'severable' from the underlying agreement and therefore, an agreement in itself, while on the other, there is an eventuality of unstamped document being inadmissible as evidence. The Supreme Court held that, in terms of Section 7 of the Arbitration Act, if an arbitration clause is contained in a contract, and the contract is not duly stamped, then such a clause cannot have an independent existence from the underlying contract. The court observed that when an arbitration clause is contained in a contract, the clause becomes enforceable only if the contract itself is enforceable by law. Interestingly, in this regard, the Supreme Court also relied on Section 2 (Interpretation Clause) of the Contract Act, 1872 ("Contract Act"). Section 2(h) of the Contract Act states that "an agreement enforceable by law is a contract". Therefore, the conclusion of the Supreme Court is based on a collective interpretation of Sections 7 & 11(6A) of the Arbitration Act and Section 2(h) in holding that an arbitration clause in an agreement would not exist when it is not enforceable by law.

What is the stage of impounding? The next issue was what is the stage at which impounding of an unstamped agreement can occur? Section 16 of the Arbitration Act empowers an arbitral tribunal to decide its jurisdiction (which also includes deciding a question of 'validity' of arbitration agreement qua the stamp duty). However, Section 11 is a stage which precedes Section 16. In the pre-2015 landscape, in the SMS Case, the Apex Court had held that an unstamped instrument was required to be impounded and duly stamped, before proceeding to hear an application under Section 11 for appointment of an arbitrator. The court also clarified that despite introduction of Section 11(6A), the SMS Case continues to be untouched. The judgment also implies that the exercise of impounding is a mere extension of the power enshrined in Section 11 (6A) to examine 'the existence of an arbitration agreement' and not venture into the substantial contentions.
Harmonious construction & conclusion
The Supreme Court, while duly acknowledging the timelines set out in the Arbitration Act and the importance of expeditious disposal, also emphasized the longrecognized doctrine of 'harmonious construction' between two statutes. While it is important that an application under Section 11 for appointment of an arbitrator is disposed of expeditiously, it is equally important to safeguard revenue. In conclusion, the Supreme Court held that for harmonizing the provisions contained in the Arbitration Act and the Maharashtra Stamp Act, it is required that while proceeding with an application under Section 11, the High Court must impound the instrument which has not borne stamp duty and send it to the competent authority under stamp law for deciding the payment and/or penalty issue on such an instrument – this process must preferably be completed within 45 days, post which the application under Section 11 is disposed of expeditiously.

The Garware Case is definitely a welcome judgment in as much as, it clarifies that in the event of an unstamped agreement, an arbitration agreement cannot have an independent existence; it reaffirms the position propounded in the SMS Case and confirms that the stage of impounding is the application under Section 11 itself; lastly, it attempts to ensure that the timelines set out in Section 11(6A) are met with in instances where the Court is faced with an unstamped/inadequately stamped arbitration agreement/clause.

However, it remains to be seen that in a case where the adjudicating authority under the applicable stamp law decides the issue of stamp duty/penalty in 45 days, i.e. the maximum time limit prescribed by the Supreme Court. In such event, disposal of an application under Section 11 within a period of 15 days from thereon (if the recommended 60-day timeline is to be taken into account), will be a big challenge – although the Supreme Court has not specified any timeframe for disposal of an application under Section 11, post adjudication on the stamp duty/penalty.

In light of the Garware Judgment, contracting parties may consider ensuring that their contracts/agreements/purchase orders are subject to sufficient stamp duty to avoid an eventuality where either of the parties have to suffer on account of such deficiency. Even if such exercise is missed at the inception of their contractual relationship, such deficiency must be cured as soon as it is observed.

Disclaimer – The views expressed in this article are the personal views of the author and are purely informative in nature.