Delhi High Court Ruling: Corporate Insolvency & Personal Liability | Key Implications on Cheque Dishonor

Background of the Case

In a landmark ruling, the Delhi High Court addressed an important issue regarding the legal implications of insolvency proceedings on individuals associated with a company. The case examined the intersection of corporate insolvency and personal liability under the Negotiable Instruments Act, specifically Section 138, which deals with the dishonor of cheques.

The case emerged from a financial dispute involving a company that had entered the Corporate Insolvency Resolution Process (CIRP). The central issue was whether individuals associated with the company could be held personally liable for dishonored cheques issued after the commencement of the moratorium period. This period marks the start of insolvency proceedings, during which the company’s management and control are handed over to an Insolvency Resolution Professional (IRP).

Facts of the Case

The petitioners, who were suspended directors and authorized signatories of the company, had issued six cheques under an order from the National Consumer Disputes Redressal Commission. Two cheques were honored, but after the company entered the Corporate Insolvency Resolution Process, two other cheques were dishonored. The dishonor was due to the “Drawer Signature to operate account not received.”

A complaint led to a summoning order under Section 138 of the Negotiable Instruments Act, which the petitioners sought to quash in the Delhi High Court.

Submission by Counsel of Petitioners

The petitioners argued that during the moratorium period, the cheques could not be encashed, which absolved them of liability under Section 138 of the Negotiable Instruments Act, 1938. They further argued that after the appointment of the IRP under Section 17, they no longer had any role in the company’s affairs and were not in charge when the alleged offense occurred.

Court’s Findings

The Delhi High Court ruled that once the CIRP is initiated, individuals managing the company prior to the transition cannot be held accountable for actions taken after their control has been relinquished. The court emphasized that the imposition of a moratorium is a crucial protective measure designed to shield individuals from personal liability for the company’s financial obligations and related transactions.

The court cited the case of Govind Prasad Todi & Anr. v. Govt. of NCT of Delhi & Anr. 2023 SCC OnLine Del 3717, where a similar summoning order was quashed. It was observed that once a moratorium under Section 14 of the Insolvency and Bankruptcy Code (IBC) is in effect, proceedings under Section 138 of the Negotiable Instruments Act against the corporate debtor cannot continue.

Distinguishing Corporate and Personal Liability

This ruling reinforces the legal principle of corporate personhood, which distinguishes the responsibility of the company as a separate legal entity from that of its shareholders or management. In this case, the court recognized the importance of protecting the interests of individuals who might otherwise be unjustly penalized for the company’s financial dealings after they no longer have any influence over the company’s operations or decisions.

The dishonor of a cheque leads to quasi-criminal proceedings under Section 138 of the Negotiable Instruments Act, 1881 (NI Act). However, in cases involving a corporate debtor undergoing insolvency, the law has been made clear by the Supreme Court in P. Mohanraj v. Shah Bros. Ispat Ltd., which states that proceedings under Section 138 of the NI Act must be stayed when the company enters CIRP under the IBC. This is in line with Section 14 of the IBC, which imposes a moratorium on such proceedings.

Conclusion

In conclusion, the Delhi High Court’s ruling is a critical affirmation of the legal protections afforded to individuals during insolvency proceedings. The decision underscores the separation of corporate and personal liability, which promotes confidence in the insolvency framework, ultimately benefiting all stakeholders involved.