High interest rate not enough to invalidate arbitral award, it must shock judicial conscience: Supreme Court

The Supreme Court in Sri Lakshmi Hotels Private Limited & Anr. v. Sri Ram City Union Finance & Anr while revisiting the contours of “public policy” under Section 34(2)(b) of the Arbitration and Conciliation Act, 1996 (Act), held that an arbitral award granting: (a) pre-reference interest at the rate of 24% per annum, where contractually agreed between the parties, and (b) post-award interest at the same rate, cannot be characterised as so exorbitant or unconscionable as to shock the judicial conscience or warrant interference on the ground of being contrary to the public policy of India.

Sri Lakshmi Hotels Private Limited (Sri Lakshmi Hotels) borrowed loans amounting to ₹1.57 crores from Sriram City Union Finance Limited (Sriram Finance) under two loan agreements, which stipulated interest @24% per annum (monthly rests). These loans were availed to clear an existing defaulted bank loan, making the transaction commercially high-risk.

After partial payment, Sri Lakshmi Hotels defaulted and arbitration was invoked by Sriram Finance. The arbitral tribunal allowed the claim, essentially awarding the outstanding principal amount along with interest @24% (pre-reference and post award) following the terms of the loan agreements.

The award was upheld by the Madras High Court under Section 34 and Section 37 of the Act, holding that the award was based on proper appreciation of contractual terms and no ground of patent illegality or violation of public policy was made out.

Thus, Sri Lakshmi Hotels approached the Supreme Court inter alia challenging the legality and enforceability of the 24% interest awarded (pre-and post-award), invoking public policy, usurious-loan principles, and RBI Guidelines, without disputing the loan or principal liability

a) Whether awarding 24% interest (pre-award and post-award) was unconscionable, usurious, or against public policy?

b) Whether RBI guidelines or the Usurious Loans Act, 1918, could be invoked to reduce the interest?

The Supreme Court upheld the arbitral award and ruled that the award of the arbitrator granting pre-reference and post-award interest of 24% per annum under Section 31(7)(a) and (b) of the Act, respectively, is valid and cannot be set aside on the ground of public policy of India under Section 34 of the Act.

A. Public policy and commercial interest rates

Qua the pre-award interest @24% per annum, the Court held that as per Section 31(7)(a), it is governed by party autonomy and since in this case, the loan agreements stipulated interest @24% per annum, the award does not suffer from any illegality.

Qua the post-award interest, the Court interpreted Section 31(7)(b) of the Act and held that it confers the discretion on the Tribunal to award interest for the post-award period, but that discretion is not subject to any contract. The arbitrator validly exercised discretion in awarding 24% interest per annum, consistent with the terms of the loan agreements.

The Supreme Court, relying on the judgment of OPG Power Generation Pvt. Ltd. v. Enexio Power Cooling Solutions India Pvt. Ltd. clarified that, after the 2015 amendment in Section 34 (2)(b)(ii) and Section 48(2)(b) of the Act, and the use of the word ‘fundamental’ before the phrase “in conflict with public policy” must be understood and interpreted to give a restricted meaning. High interest rates in commercial transactions are not, per se, immoral or illegal. In high-risk lending, especially where loans are advanced to defaulting borrowers, interest rates necessarily reflect risk. Mere imposition of a bit exorbitant interest rate in the context of commercial practice cannot constitute a ground for setting aside an award unless the interest awarded is so unreasonable as to shock the conscience of the Court. The Supreme Court affirmed that in the context of a high-risk commercial loan, an interest rate of 24% could not be termed as unconscionable or so unreasonable as to shock the conscience of the court.

B. RBI guidelines and Usurious Loans Act

Further, the Court found no merit in Sri Lakshmi Hotels’ contention that an award of 24% interest is against the RBI Fair Practice Guidelines or the Usurious Loans Act, 1918. It was held:

a) that RBI guidelines could not override contractual terms in arbitral proceedings in the absence of any statutory violation.

b) the Usurious Loans Act was described as a colonial-era legislation, ill-suited to override the modern arbitration framework under the 1996 Act.

The judgment of the Supreme Court is in line with the well-settled principle of minimum court interference in arbitral matters, reflecting a post-2015 narrowing of public policy review. The decision strikes the right balance between judicial restraint and commercial realism. The Supreme Court reaffirmed the autonomy of parties in determining the rate of interest for the pre-award period and the discretion of the Tribunal in deciding the rate of interest for the post-award period. At the same time, the Supreme Court has also narrowly carved out a window for judicial review by explicitly reserving the power to interfere where an interest award is so exorbitant or unreasonable that it fundamentally shocks the judicial conscience.

About the author: Suraj Raj Kesherwani is an Associate Partner at AKS Partners.

Disclaimer: The opinions expressed in this article are those of the author. The opinions presented do not necessarily reflect the views of Bar & Bench.

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