Supreme Court Upholds Validity of Section 327(7) in Moser Baer Karamchari Union v. Union of India

In the landmark judgment of Moser Baer Karamchari Union Thr. President Mahesh Chand Sharma v. Union of India dated May 2, 2023, the Supreme Court of India, through a division bench of Justices M.R. Shah and Sanjiv Khanna, upheld the validity of Section 327(7) of the Companies Act, 2013. This case addressed the interplay between the Companies Act, 2013 (“2013 Act”) and the Insolvency and Bankruptcy Code, 2016 (IBC) regarding preferential payments during liquidation, with significant implications for insolvency law in India.

Background of the Case

Moser Baer India Ltd., a leading optical storage media manufacturer, entered insolvency under the IBC due to financial difficulties. As part of the proceedings, the Moser Baer Karamchari Union (representing the company’s employees) challenged the application of Section 327(7) of the Companies Act, arguing that employee dues should receive priority in liquidation. Section 327(7) stipulates that Sections 326 and 327, which address preferential payments, do not apply during liquidation under the IBC.

The case raised important questions about workers’ rights and priority during insolvency and the constitutionality of Section 327(7), which limits the scope of preferential treatment for employee dues in cases governed by the IBC.

Key Issues in the Case

1. Constitutionality of Section 327(7): The Union argued that excluding Sections 326 and 327, which prioritize employees’ dues, from IBC-led liquidation proceedings was unconstitutional.
2. Priority of Employee Dues: Should employees’ dues be treated as overriding preferential payments under the IBC?
3. IBC’s Supremacy in Insolvency Proceedings: The case explored the relationship between the Companies Act and IBC in determining the order of preferential payments.

Arguments Presented

• Union’s Position: The Moser Baer Karamchari Union argued that employee dues are fundamental to workers’ welfare and should receive preferential treatment, even in IBC-governed liquidation. The Union challenged the exclusion under Section 327(7), contending it disadvantaged workers by denying them the protections otherwise available under the Companies Act.
• Union of India’s Position: The government argued that the IBC provides a complete and consistent framework for liquidation, including provisions for workers’ dues under Section 53. They asserted that the IBC’s hierarchical distribution model aims to promote predictability and efficiency, justifying the exclusion of Companies Act provisions.

Supreme Court Observations

The Supreme Court examined the legislative intent behind Section 327(7) of the Companies Act, focusing on the following:

• Supremacy of the IBC in Liquidation Matters: The Court emphasized that the IBC was enacted to create a uniform and predictable framework for insolvency and liquidation. Section 327(7) of the Companies Act prevents conflicting provisions by ensuring that the IBC’s priority structure governs liquidation cases.
• Legislative Purpose of Section 327(7): The Court noted that Section 327(7) was deliberately included to exclude Sections 326 and 327 during IBC-led liquidations, clarifying that the IBC’s statutory framework, particularly Section 53, should govern the distribution of payments.
• Protection for Workers’ Dues: While recognizing the importance of workers’ rights, the Court concluded that the IBC does account for workers’ dues within its distribution framework, albeit with defined limitations.

Judgment Summary

The Supreme Court upheld the constitutional validity of Section 327(7) of the Companies Act, stating that it was consistent with the legislative intent to establish a clear and uniform priority structure under the IBC. The Court determined that employees’ dues are covered by Section 53 of the IBC, which aligns with the Code’s goal of efficient, predictable insolvency proceedings. Thus, in cases of liquidation under the IBC, the Code’s framework takes precedence over the Companies Act.

Significance of the Judgment

This ruling has broad implications for India’s insolvency landscape, reinforcing the IBC’s status as the primary framework for corporate insolvency and liquidation. The decision underscores:

1. Clarity in Insolvency Proceedings: By upholding Section 327(7), the Court affirmed that the IBC’s hierarchy for payment distribution prevails over the Companies Act, creating a streamlined process for debt resolution.
2. Limited Worker Protections: The decision highlights that while the IBC does prioritize workers’ dues within its distribution scheme, they are ranked equally with secured creditors who have relinquished security interests, balancing creditor rights with limited protections for employees.
3. Implications for Future Insolvency Law: This ruling solidifies the IBC as India’s primary insolvency statute, highlighting the need for any additional protections for workers to be integrated within the IBC framework itself.

Conclusion

The Supreme Court’s ruling in Moser Baer Karamchari Union v. Union of India reaffirms the priority of the IBC over the Companies Act in matters of liquidation, specifically through the upholding of Section 327(7). The judgment ensures that Section 53 of the IBC governs the distribution of dues, including workers’ claims, in a way that aligns with the Code’s goals of efficiency and uniformity in insolvency cases. While the ruling protects creditor interests and streamlines liquidation, it also draws attention to the need for potential legislative amendments to strengthen worker protections in India’s insolvency regime.

This decision is a key moment in Indian insolvency law, balancing the efficient resolution of debt with the rights of employees within the overarching structure of the IBC.