NSEL Scam: Asset Recovery and Inter-Law Priority Disputes

Podcast on the NSEL Scam: Asset Recovery and Inter-Law Priority Disputes

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(i) Introduction

The genesis of the writ proceedings originates from a significant scam that occurred on the Commodity Exchange Platform of National Spot Exchange Limited (NSEL), a company promoted by 63 Moons Technologies Limited, which holds 99.99% of its total share capital. On July 31, 2013, NSEL suspended its exchange operations, and approximately 13,000 persons who traded on its platform claimed to have been duped by about 24 trading Members, who defaulted on their payment obligations amounting to approximately Rs. 5,600 Crores.

An FIR was registered, and subsequently, the provisions of the Maharashtra Protection of Interest of Depositors (in Financial Establishments) Act, 1999 (MPID Act) were added. As a result, the State of Maharashtra attached movable and immovable properties worth about Rs. 8,548 Crores belonging to the defaulters, Directors, and Sister concerns of NSEL and its Directors and Promoters, to ensure recovery for the genuine trading clients. The Enforcement Directorate also attached assets worth approximately Rs. 1,740.59 Crores of the defaulters under the Prevention of Money Laundering Act, 2002 (PMLA).

NSEL itself initiated recovery proceedings, obtaining decrees/awards of about Rs. 3,365 Crores against defaulters. However, it faced difficulties in executing these decrees across various courts due to multiple jurisdictions. To address this, NSEL filed a Writ Petition seeking directions for the consolidation of proceedings before a committee appointed by the Bombay High Court.

On May 4, 2022, the Hon’ble Supreme Court, exercising its powers under Article 142 of the Constitution of India, decided to intervene with the objective of "safeguarding the interests of the Investors/Claimants" and attaining a "holistic solution for speedy recovery of the outstanding amounts to be distributed to the investors". The Court constituted a high-powered Hon’ble Supreme Court Committee (S.C. Committee), headed by Justice (Retd.) Mr. Pradeep Nandrajog, and transferred all execution proceedings of decrees/orders/arbitral awards to it for speedy execution. The S.C. Committee was empowered to sell properties of judgment-debtors, even if attached by the ED under PMLA or by the State of Maharashtra under the MPID Act, to the extent necessary for decree recovery.

(ii) Arguments by Both the Parties

During the course of the execution proceedings before the S.C. Committee, two primary legal questions arose, leading to challenges against the S.C. Committee's orders:

• Arguments by Applicants/Intervenors (Challenging S.C. Committee Orders):

◦ Challenge to Article 142 Powers: Learned counsels for the Applicants/Intervenors raised preliminary objections against the Hon’ble Supreme Court's order dated May 4, 2022. They contended that the Court, in exercising powers under Article 142, appointed the S.C. Committee and conferred wide powers that "virtually superseded the statutory provisions contained in the Acts like SARFAESI Act, RDB Act, PMLA, IBC, etc.". They argued that Article 142 powers cannot be used to circumvent or ignore express statutory provisions, especially when in direct conflict with them.

◦ Priority of Secured Creditors: A few Financial Creditors, as Secured Creditors, filed applications arguing that they should have priority of interest over the attached properties of the Judgment Debtors by virtue of the provisions of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act) and the Recovery of Debts and Bankruptcy Act, 1993 (RDB Act). They particularly relied on Section 26E of the SARFAESI Act, which states that debts due to secured creditors should be paid in priority over all other debts and government dues.

◦ IBC Overriding MPID Act: The Judgment Debtors/Garnishees argued that the Insolvency and Bankruptcy Code, 2016 (IBC), being a complete and exhaustive code, should override the provisions of the MPID Act. They implied that the moratorium under Section 14 of the IBC should apply to all properties, including those attached under MPID Act.

• Arguments by NSEL and the State of Maharashtra (Upholding S.C. Committee Orders):

◦ Purpose of Writ Petition: The NSEL filed the writ petition to consolidate proceedings and ensure speedy execution of its decrees due to properties being situated in multiple jurisdictions and the difficulty in execution.

◦ MPID Act Supremacy and Vesting of Properties: The NSEL and the State of Maharashtra contended that properties of the Judgment Debtor/Garnishees were attached under Section 4 of the MPID Act much prior to the commencement of IBC, 2016. They argued that the MPID Act has no retrospective operation for Section 14 concerning moratorium. They further asserted that upon publication of a notification

under Section 4 of the MPID Act, the attached properties forthwith vest in the Competent Authority appointed by the State Government. Therefore, such properties would no longer be considered the properties of the corporate debtor and thus fall outside the scope of IBC's operation and application.

◦ S.C. Committee's Initial Conclusions (which were subsequently challenged):

▪ On Secured Creditor Priority: The S.C. Committee concluded that, due to the overriding effect of PMLA, and considering the secured property as "proceeds of crime," secured creditors could not claim priority. For properties attached under the MPID Act, it concluded that MPID Act provisions would override any claim for priority of interest by secured creditors.

▪ On IBC Moratorium: The S.C. Committee determined that properties attached under Section 4 of the MPID Act prior to the imposition of a moratorium under Section 14 or 96 of IBC were not liable to be part of insolvency proceedings because they had vested in the Competent Authority. These properties could be available to the S.C. Committee for realization. However, properties sought to be attached after the moratorium date or assets not yet attached under MPID Act would fall under IBC, and the decree holder could pursue claims as a financial/secured financial creditor.

(iii) Legal Issues/Questions the Court Answered

The Hon’ble Supreme Court framed and primarily addressed two priority questions of law that arose from the S.C. Committee's orders dated August 10, 2023, and January 8, 2024:

• (i) Whether the Secured Creditors would have priority of interest over the assets attached under the Provisions of Prevention of Money Laundering Act, 2002 (PMLA) and Maharashtra Protection of Investors and Depositors Act, 1999 (MPID Act), by virtue of the Provisions of SARFAESI Act, 2002 and RDB Act, 1993?

• (ii) Whether the properties of the Judgment Debtors and Garnishees attached under the Provisions of MPID Act, 1999 would be available for the execution of the decrees against Judgment Debtors in view of the Provision of Moratorium under Section 14 of the IBC, 2016?

An underlying legal issue implicitly addressed was the scope and ambit of the Hon’ble Supreme Court's powers under Article 142 of the Constitution of India, particularly when its exercise might conflict with existing statutory provisions.

(iv) Final Observations of the Hon’ble Court

The Hon’ble Supreme Court, after detailed analysis, provided the following observations and conclusions:

• Scope of Article 142:

◦ The Court reiterated the well-settled law regarding Article 142(1), emphasizing that these plenary powers are inherent, complementary to, and not limited by statutes, existing to do "complete justice".

◦ However, it stressed that Article 142 powers are curative in nature and cannot be used to "supplant" substantive law or to ignore express statutory provisions, especially when there's a direct conflict. The power is meant to "balance the equities between the conflicting claims of the litigating parties by ironing out the creases" in a cause or matter.

◦ While acknowledging that its order dated May 4, 2022, had the "potentiality of being in conflict with other Statutes like SARFAESI Act, RDB Act, IBC etc.," the Court noted that the order was passed for the speedy recovery of monies lost by defaulters and investors, and for doing "complete justice" to the aggrieved Traders. Since the S.C. Committee had already been constituted and proceedings transferred, the focus shifted to addressing the specific legal conflicts raised.

• Priority of Secured Creditors (Question i):

◦ The Court applied the doctrine of "pith and substance" to analyze the legislative competence and subject matter of the Acts. It confirmed that the MPID Act is constitutionally valid, enacted by the State of Maharashtra under Entries 1, 30, and 32 of the State List (List-II) of the Seventh Schedule. Its focus is on remedying the situation of depositors deceived by fraudulent financial establishments, not banking or acceptance of deposits.

◦ Conversely, SARFAESI Act and RDB Act are Parliament-enacted laws dealing with "Banking" (Entry 45, Union List - List-I) and the PMLA is for preventing money laundering (Entry 13, Union List - List-I).

◦ The Court held that SARFAESI Act or RDB Act cannot be permitted to prevail over the MPID Act, despite being Central Legislations, because they operate in separate legislative fields. To allow them to override would "denude the State of its legislative power" and offend the "very principle of Federal Structure set out in Article 246 of the Constitution of India," which is a basic feature.

◦ Regarding Section 26E of the SARFAESI Act, the Court observed that the monies/deposits of depositors under the MPID Act "could not be said to be a 'debt' contemplated in Section 26E," hence Section 26E is not applicable.

◦ Conclusion for Question (i): The Court held that "no priority of interest can be claimed by the Secured Creditors against the properties attached under the MPID Act and that the provisions of MPID Act would override any claim for priority of interest by the Secured Creditors in respect of the properties which have been attached under the MPID Act." This question was answered in the negative.

• Availability of MPID-attached properties during IBC Moratorium (Question ii):

◦ The Court reiterated that the MPID Act (State List) and IBC (Concurrent List - Entry 9, "Bankruptcy and Insolvency") have distinct subject matters. Therefore, the issue of "repugnancy or conflict as contemplated in Article 254 would not be attracted," as Article 254 applies only when both legislations relate to the Concurrent List.

◦ The Court found no overlap or inconsistency between Section 14 of IBC and Section 4 of MPID Act. Section 14 IBC deals with moratorium arising from debtor-creditor relationships, while Section 4 MPID Act pertains to attachment of properties to protect depositors, which is "beyond the realm of the Debtor-Creditor relationship as contemplated in the IBC".

◦ Upon attachment under Section 4 of MPID Act, properties vest in the Competent Authority, subject to orders from the Designated Court, which follows a distinct procedure for realization and equitable distribution.

◦ Since no inconsistency was found, Section 238 of IBC (overriding effect) "cannot be said to have been attracted".

◦ Conclusion for Question (ii): The Court held that "the properties of the Judgment Debtors and Garnishees attached under the provisions of the MPID Act, would be available for the execution of the decrees against the Judgment Debtors by the S.C. Committee, despite the provision of Moratorium under Section 14 of the IBC." This question was answered in the affirmative.

• Overall Outcome: As a consequence of these findings, both the orders passed by the Hon’ble Supreme Court Committee on August 10, 2023, and January 8, 2024, were "vindicated and upheld". The Interlocutory Applications challenging these orders are to be dealt with in light of this judgment.

FAQ’s

What was the central issue in the NSEL scam leading to the legal proceedings?

The NSEL (National Spot Exchange Limited) scam involved payment defaults and

fraud amounting to approximately Rs. 5,600 Crores, affecting about 13,000 traders.

NSEL, an electronic commodity trading platform, suspended its operations in July

2013 after being directed by the Department of Consumer Affairs to settle existing

contracts due to alleged violations of exemption rules. This led to numerous civil and

criminal proceedings against NSEL, its promoters (63 Moons Technologies Limited),

and 24 defaulting trading members. The core issue was the recovery of the

defrauded money for the affected investors/traders.

What legal frameworks are primarily involved in the asset recovery efforts related to the NSEL scam?

Several key legal frameworks are involved:

• Maharashtra Protection of Interest of Depositors (in Financial Establishments) Act, 1999 (MPID Act): A state law enacted to protect depositors from fraudulent financial establishments. It allows for the attachment of properties of defaulting entities to recover lost deposits.

• Prevention of Money Laundering Act, 2002 (PMLA): A central law aimed at preventing money laundering and confiscating properties derived from or involved in money laundering.

• Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act): A central law for regulating securitisation, reconstruction of financial assets, and enforcement of security interests, primarily used by banks and financial institutions for debt recovery.

• Recovery of Debts and Bankruptcy Act, 1993 (RDB Act): A central law establishing tribunals for the expeditious adjudication and recovery of debts owed to banks and financial institutions.

• Insolvency and Bankruptcy Code, 2016 (IBC): A central law for reorganization and insolvency resolution, aimed at maximizing asset value and balancing stakeholder interests in a time-bound manner.

 What role did the Supreme Court Committee play in the asset recovery process?

The Supreme Court, exercising its powers under Article 142 of the Constitution, constituted a high-powered committee (the S.C. Committee) in May 2022. The primary objective was to achieve a holistic and speedy recovery of outstanding amounts to be distributed to NSEL investors. This Committee was granted the powers of a civil court for the execution of all decrees, orders, and arbitral awards related to the NSEL payment defaults, consolidating proceedings that were previously scattered across various courts. It was also empowered to sell attached properties, even those attached by the Enforcement Directorate (under PMLA) or the State of Maharashtra (under MPID Act), to satisfy the claims.

Did Secured Creditors (under SARFAESI/RDB Act) have priority over assets attached under PMLA and MPID Act?

No, the Supreme Court Committee concluded that Secured Creditors do not have priority over assets attached under the PMLA and MPID Act.

• For assets attached under PMLA, if the property is determined to be "proceeds of crime," then no priority can be claimed by Secured Creditors.

• For properties attached under the MPID Act, the provisions of the MPID Act override any claim for priority of interest by Secured Creditors. This is because the MPID Act is a validly enacted state legislation (List II – State List) aimed at protecting depositors, while SARFAESI and RDB Acts are central legislations related to "Banking" (List I – Union List). The court held that permitting central laws to override MPID would undermine the state's legislative power and the federal structure of the Constitution. Additionally, Section 26E of SARFAESI Act, which grants priority to secured creditors, does not apply to "deposits" as defined under the MPID Act.

Are properties attached under the MPID Act available for decree execution if insolvency proceedings (under IBC) have commenced?

Yes, the Supreme Court Committee held that properties attached under Section 4 of the MPID Act prior to the commencement of moratorium under Section 14 or 96 of the IBC are available for the execution of decrees by the S.C. Committee. The reasoning is that upon attachment under MPID Act, such properties forthwith vest in the Competent Authority appointed by the government, subject to orders from the Designated Court. This means they are no longer considered the property of the Corporate Debtor for the purposes of the IBC's resolution plan. The court found no inconsistency or overlap between MPID Act (List II) and IBC (List III), therefore Section 238 of IBC (which gives it an overriding effect) was not attracted in this specific scenario.

What is the scope of the Supreme Court's power under Article 142 of the Constitution?

Article 142(1) grants the Supreme Court wide-ranging "plenary powers" to pass such decrees or make such orders as are "necessary for doing complete justice" in any pending cause or matter. These powers are inherent, supplementary, and exist independently of statutes. However, the court has consistently held that while these powers are broad, they are not limitless. They cannot be used to:

• Ignore the substantive rights of a litigant.

• "Supplant" substantive law or build a new edifice where none existed.

• Directly conflict with what has been expressly provided in a substantive statute, especially when dealing with specific subject matter.

• Circumvent or disregard express statutory provisions, though they can be used to "iron out creases" or balance equities between conflicting claims. Essentially, the power is curative and meant to ensure due process and complete justice without overstepping clear statutory boundaries on substantive law.

How does the principle of "pith and substance" apply when different laws claim overriding effect?

The "pith and substance" doctrine is used to determine the legislative competence of a law when it touches upon subjects in more than one list of the Seventh Schedule (Union, State, Concurrent Lists). The court ascertains the true nature and character of the legislation. If the law is in substance on a matter assigned to the legislature that enacted it, it is held valid even if it incidentally encroaches upon matters beyond its direct competence. In the context of conflicting "overriding effect" clauses, the court considers the dominant purpose of each legislation and whether they truly cover the "same subject." If their dominant intentions and subject matters are different (e.g., a state law protecting depositors vs. a central law on banking), then the doctrine helps reconcile potential conflicts, preventing one from completely overriding the other, especially when respecting the federal structure of the Constitution.

What was the ultimate outcome regarding the priority of claims and the availability of attached properties?

The Supreme Court upheld the decisions of the S.C. Committee.

• Priority of Interest: Secured creditors (under SARFAESI Act and RDB Act) do not have priority of interest over assets attached under the PMLA and MPID Act. The MPID Act's provisions were deemed to override the claims of secured creditors for properties attached under it, and PMLA takes precedence for proceeds of crime.

• Availability of Properties under Moratorium: Properties of Judgment Debtors and Garnishees attached under the MPID Act are available for the execution of decrees by the S.C. Committee, even if a moratorium under Section 14 of the IBC has commenced. This is because the MPID Act vests such properties in the Competent Authority prior to the IBC's moratorium coming into effect, thus removing them from the IBC's purview as corporate debtor assets.