[Shubhansh Thakur is an advocate practising before the Courts in New Delhi with Keystone Partners]
Recently, a two-judge bench of the Supreme Court (SC) in Dinesh Chand Surana v. UCO Bank (“Surana”) referred two questions to a three-judge bench: first, whether proceedings under section 138 of the Negotiable Instruments Act, 1881 (“NI Act”) are quasi-criminalin nature with a tilt toward the criminal side; and second, whether the moratorium under Part III of the Insolvency and Bankruptcy Code, 2016 (“Code”) applies to proceedings under section 138 of the NI Act in their entirety or only to the compensatory aspect. The author opines that both questions already stood extensively analysed and answered by a three-judge bench in P. Mohanraj v. Shah Brothers Ispat Pvt. Ltd. (“P. Mohanraj”). Surana, in its attempt to give effect to section 138 of the NI Act, has undermined the objectives of moratorium for personal insolvency.
Part III of the Code deals with insolvency of individuals and partnership firms and has been given limited effect, in respect of the personal guarantors of a corporate debtor. It contemplates an interim moratorium under section 96 upon filing of an application for initiation of insolvency proceedings (“Insolvency Application”), which operates until the Insolvency Application is either admitted or rejected. Following the admission of the Insolvency Application, a fresh moratorium under section 101 commences. During moratoriums under both sections 96 and 101, all pending legal actions or proceedings “in respect of any debt” are deemed to be stayed.
Factual Background to the Decision in Surana
The SC dealt with the interplay between proceedings under section 138 of the NI Act and imposition of moratorium under the Code in Surana. The dispute arose from a letter of credit issued by the Bank in favour of the Corporate Debtor. As security for the facility, the Managing Director issued a blank cheque. Upon the Corporate Debtor’s failure to pay, the cheque was presented and dishonoured. The Bank issued a statutory notice to the Director under section 138 of the NI Act to give an opportunity to clear the cheque amount within 15 days. Upon failure, the Bank initiated proceedings under the NI Act.
While the trial was pending, the Bank filed an application under section 95 of the Code for initiation of insolvency proceedings against the guarantor. The application was admitted and accordingly, moratorium under section 101 came into force. Contemporaneously, the Managing Director’s application for quashing of the complaint filed before the Madras High Court, was rejected. By the time the matter reached the SC, bankruptcy proceedings had been initiated against the Managing Director, and moratorium under section 128 of the Code was in operation.
The SC considered three issues: (i) whether proceedings under section 138 of the NI Act are initiated with the object of recovering money; (ii) whether such proceedings are covered by the moratorium under Part III of the Code; and (iii) whether a director vicariously liable for the acts of a corporate debtor, may independently benefit from that moratorium. This article deals with the first two issues.
The SC’s Findings in Surana
The SC’s analysis revolved around section 138 of the NI Act, which makes dishonour of cheque a punishable offence through a deeming fiction and prescribes punishment of imprisonment extending to two years, or fine which may extend to twice the amount of the cheque, or both. It relied on the deeming fiction to hold that proceedings under section 138 of the NI Act are primarily criminal in nature and consist of two parts, viz., the criminal aspect and the compensatory aspect.
The SC held that the criminal aspect of section 138 of the NI Act , being the trial, conviction, and payment of fine, must proceed even during the moratorium, since section 79(15) of the Code expressly defines liability to pay fine as an excluded debt, placing it outside the protective ambit of moratorium. For the second aspect, the SC recognised that a criminal court trying a case under section 138 of the NI Act may direct the accused to pay compensation to the complainant under section 395 of the Bharatiya Nagarik Suraksha Sanhita, 2023 (BNSS), as a restitution towards the complainant. Since the compensatory aspect of section 138 of the NI Act proceedings is directed towards recovery of the underlying debt, the Court held it to be civil in character. Accordingly, while the criminal proceeding continues to its conclusion notwithstanding the operation of moratorium, the recovery of compensation is stayed during the moratorium.
Analysis
An earlier three-judge bench of the SC in P. Mohanraj had held in categorical terms, that proceedings under section 138 of the NI Act are essentially meant for recovery of the cheque amount, and are quasi-criminal in nature. The SC also emphasized that the usage of the wide ranging words “in respect of debt” in sections 96 and 101 of the Code, makes it clear that proceedings under section 138 of the NI Act are covered by the moratorium. Even on a purposive reading, the Court held that the objective of sections 14, 96 and 101 of the Code is to give breathing space to the debtor to pay its debts and ensure that creditors recover more than they would in bankruptcy proceedings. Therefore, proceedings under section 138 of the NI Act would have to be stayed (¶¶27, 34).
Surana acknowledges the above position but holds that a textual reading of section 138 vis-à-vis the moratorium under Part III of the Code, would be misleading. It seeks to overcome P. Mohanraj on the specious ground that the objective of introducing section 138 proceedings was not brought to the attention of the Court in P. Mohanraj. This premise is ex facie incorrect, as several paragraphs in P. Mohanraj explicitly examine the objective of section 138 (¶¶ 45, 48 and 51). It is manifest that the ground of inattention was therefore, neither factually accurate, nor available to a two-judge bench seeking to depart from the binding dictum of a three-judge bench.
Surana fails to note that the moratorium is aimed at preventing creditors from taking unilateral actions that frustrate the objective of insolvency proceedings. By allowing section 138 proceedings to continue during the moratorium, Surana seeks to hand one creditor a weapon in preference to all others, namely the threat of imprisonment, which it may wield throughout the negotiation. A debtor negotiating a repayment plan does so under the shadow of a criminal prosecution. That is not collective bargaining but coercion.
The SC has, in several decisions, clarified that the objective of section 138 proceedings is compensatory rather than punitive, which is why section 147 of the NI Act permits compounding of offences even after sentence. However, the moratorium framework prevents any single creditor from extracting payment outside the collective process, rendering voluntary settlement and compounding structurally impossible for its duration.
Interestingly, Surana relies upon another SC decision in Saranga Anilkumar Aggarwal v. Bhavesh Dhirajlal Sheth to hold that the fine under section 138 falls within the definition of excluded debt under section 79(15) of the Code. However, section 395 of the BNSSprovides that the fine recovered, may be applied in payment of compensation to the complainant and that is what is precisely done by the Courts throughout the country. Given this, the technical distinction between fine and compensation that Surana seeks to draw, loses its force. More importantly, applying the fine towards compensation results in depletion of the assets of the individual debtor. This is precisely the mischief that the moratorium under section 101 is designed to prevent.
Surana also proceeds on the misconceived basis that staying the proceedings under the NI Act gives a permanent free pass to the accused. The moratorium is a temporary suspension of liability, not a permanent discharge. Upon its cessation, the prosecution revives and the creditor may pursue all available remedies. The debtor who genuinely cannot pay is given breathing space. The debtor who refuses to pay once the moratorium lifts remains liable to face prosecution subject to provisions of the Code.
Surana also fails to account for situations where the underlying debt is restructured or extinguished through an approved repayment plan. Once a discharge under section 119 of the NI Act becomes operative, the continued viability of a prosecution under section 138 of the NI Act, which is intrinsically connected to that debt, becomes far from straightforward. The criminal court, upon revival of the proceedings under section 138 of the NI Act post moratorium, must consider the extent to which the debt has been restructured or discharged. The bifurcation sought to be made in Surana, by allowing the criminal prosecution to continue despite moratorium, while staying recovery of compensation, neither protects the complainant nor serves the object of section 138 of the NI Act. It merely forces a full trial to judgment in circumstances falling foul on both counts – the established mechanism of collective recovery under the Code, and the crystallised objective of the proceedings under section 138 of the NI Act.
Conclusion
The reference in Surana raises concerns extending beyond the immediate question of the interplay between proceedings under section 138 of the NI Act and the moratorium under Part III of the Code. The increasing tendency to reopen issues previously settled by larger Benches leaves High Courts navigating competing judicial signals until authoritative clarification emerges. Such uncertainty is particularly undesirable in insolvency matters, where predictability is central to both creditor recovery and debtor rehabilitation.
The dispute also exposes a legislative gap. While section 32A of the Code clarifies the consequences of resolution on criminal liability in the corporate insolvency framework, no comparable provision exists under Part III to address the effect of a repayment plan or discharge on pending section 138 of the NI Act proceedings. Given that such proceedings are intrinsically linked to the underlying debt, legislative intervention may be necessary to clearly define their fate once that debt is restructured, reduced, or discharged through the insolvency process.
– Shubhansh Thakur