Rights of secured creditors under SARFAESI, Recovery of Debts Act take precedence over statutory tax dues: Madras High Court

The Madras High Court recently held that the right of secured creditors under Recovery of Debts and Bankruptcy Act and SARFAESI Act to realise debt must be prioritised over statutory dues under the Income Tax Act in the event of a conflict of priorities [State Bank of India v The Tax Recovery Officer]. .A bench of Justices R Mahadevan and Mohammed Shaffiq said that even if recovery proceedings are quashed for any reason in a case, "the bankers/ financial institutions right to claim priority in terms of Section 31B of the Recovery of Debts and Bankruptcy Act and Section 26E of the SARFAESI Act would be available and the right to recover under the Income Tax Act, 1961 must yield to the provisions under the SARFAESI Act and the Recovery of Debts and Bankruptcy Act."The bench was hearing a bunch of writ appeals filed by financial institutions challenging a single-judge's order that had held that the dues of the Income Tax department would take precedence over the dues of secured creditors. The single-judge had said that though the SARFESI Act and the Debt Recovery Act grants an upper hand to secured creditors, one must keep in mind that income tax is an attribute of the nation's sovereignty and necessary for attaining constitutional goals and objectives, therefore, recovery of tax dues should get priority. .The division bench, however, said that the law and previous judgements of the Supreme Court have clearly established that "under common law, priority of crown debts would prevail only over unsecured creditors." "Insofar as the first view is concerned, the law relating to the Government's right to recover dues commonly known as “Crown debt” stands resolved by a series of decisions, wherein, it has been consistently held that Crown/State would have preferential right to recover only over ordinary unsecured creditors but would not be entitled to precedence over a secured debt unless express provisions are incorporated. Therefore, reliance on “doctrine of constitutional priority” for which we do not find any basis, is in any view unsustainable as it is contrary to the settled legal position," the division bench said..The Court also clarified that mere attachment of property in case of a tax default does not create a charge. The Court said that such attachment of property was meant only to prevent alienation of the property of a tax defaulter and it did not automatically confer title on the government bodies or the creditors. "The parliament must be understood to have given priority to the secured creditors under Section 26E of the SARFAESI Act and Section 31B of the Recovery of Debts and Bankruptcy Act, fully aware and conscious of the status and importance that taxes enjoy under the Constitution," the High Court said while allowing the four writ appeals filed by banks and financial institutions. .Advocate ML Ganes, Senior counsel Vijay Narayan, advocate Rahul Unnikrishnan, senior counsel Sathish Parasaran, and advocate BN Suchindran appeared for the banks and other secured creditors.Advocate AP Srinivas and Special Government Pleader S Ravikumar appeared for the respondent statutory bodies. [Read Judgment]