In this article we intend to analyse a recent and pertinent judgement delivered by the Hon’ble Supreme Court on 15 December 2022 in the matter titled Wave Industries Private Limited vs State of Uttar Pradesh (2022 SCC OnLine SC 1721)on the importance of precise drafting and clearly defining ‘excluded liabilities’ in the context of a ‘business transfer agreement’ and related aspects.
FACTS
The U.P State Sugar Corporation (Seller) entered into a slump sale agreement dated 17 July 2010 for sale of a loss-making sugar mill ‘Amroha sugar mill’ (Amroha Unit) to Wave Industries Private Limited (Purchaser) through a bid process. The deal was on a slump sale basis, for a lumpsum consideration and on an ‘as is where is’ basis where the assets and liabilities of the Seller were transferred to the Purchaser, except ‘excluded liabilities’. ‘Excluded liabilities’ was defined under the slump sale agreement to mean “Liabilities claimed till the signing date which are being retained / settled by the Seller.”
Further, the terms of the slump sale agreement stated that all liabilities, including payment of taxes accrued before the signing date,shall be borne by the Seller and the liabilities pertaining to the period post signing of the agreement shall be borne by the Purchaser. Further, all contingent liabilities and legal cases were transferred from the Seller to the Purchaser and the Purchaser was liable for such liabilities from the signing date and the Seller was not liable whatsoever in such respect. The Purchaser was also responsible for paying taxes (if any) with respect to the transfer of the Amroha Unit post the signing date.
Subsequently, a sale deed was executed on 4 October 2010 and the slump sale agreement was made part of the sale deed. Under the terms of the sale deed, the Seller confirmed that all taxes and charges in respect of the Amroha Unit, due upto the signing date have been paid by the Seller. Further, under the terms of the sale deed, the Seller was liable to bear all taxes of whatsoever nature pertaining to the Amroha Unit up to the signing date and thereafter it was the liability of the Purchaser.
Post completion of the transaction, a dispute arose in relation to certain tax liabilities of INR 5,68,797 pertaining to the period prior to the signing date of the slump sale agreement which were assessed to the Purchaser. When recovery proceeding relating to the pre-signing period were initiated by the respective departments, the Purchaser filed a writ petition before the Lucknow Bench of the High Court of Allahabad and the said writ was referred by the court to the State Government for hearing and resolution, with a speaking order.
ISSUES
- Which party shall be held liable for payment of outstanding tax liabilities of INR 5,68,797 pertaining to the pre-signing period?
- Whether dues arising out of transactions that have occurred prior to the sale will amount to ‘contingent’ / ‘conditional liabilities’ or is it an accrued liability which can be discharged at a future date?
SUPREME COURT JUDGMENT
- The High Court on a writ referred the matter to the State Government, who held that since the definition of ‘excluded liabilities’ under the slump sale agreement did not specifically cover ‘tax liabilities’ and since contingent liabilities under the slump sale agreement were transferred from the Seller to the Purchaser and were theresponsibility of the Purchaser from the signing date, the tax liability of INR 5,68,797 should be borne by the Purchaser.
- The Supreme Court on appeal, emphasized on the specific tax related clause of the sale deed which specified that all taxes in respect of the Amroha Unit pertaining to the pre-signing period shall be borne by the Seller and stated that the specific tax related clause in the sale deed shall override anything contrary in the slump sale agreement. Further, prior to 17 July 2010, the Purchaser was neither a dealer or manufacturer of the Amroha Unit and therefore had no tax or duty obligations in relation to the said unit. The Court remarked that in fact it was the Seller which had collected all dues from their customers on behalf of the State Government and were obligated to deposit such collected sum in the government treasury but were trying to pass on the burden to the Purchaser who had nothing to do with the Amorah Unit prior to signing of the slump sale agreement.
- In relation to the issue of whether dues arising out of transactions that have occurred prior to the sale amount to contingent liabilities, the Apex Court referred to its earlier judgment in Bharat Movers v Commissioner of Income Tax Karnataka ((2000) 6 SCC 645), and stated that “in the case in hand the business liability for the Amroha Unit had definitely arisen out of the operation of the unit during the period before the same was sold to the appellant, although the liability is to be quantified and discharged at a future date. When the liability is capable of being estimated with reasonable certainty, the liability is not to be treated as a contingent one and should be considered as a liability which may be discharged at a future date. Such being the position in law.”
- Basis the above, the Supreme Court held the disputed liability cannot be the responsibility of the Purchaser since the Purchaser was not operating the Amroha Unit prior to the ‘slump sale agreement’ and the Seller was held liable for payment of the outstanding tax liabilities of INR 5,68,797.
ANALYSIS/COMMENTS
This is a significant judgment and perhaps one of the first one on a specific issue of ‘excluded liabilities’ in a business transfer agreement.
It is a bit unusual that ‘excluded liabilities’ under the slump sale agreement was not broadly defined as one would generally do in a ‘business transfer agreement’, given the importance of identifying liabilities which fall outside the purview of the Purchaser and are to be borne by the Seller.
In the present case, the Supreme Court referred to the tax specific clauses of the slump sale agreement and sale deed and held that specific provisions of the slump sale agreement would prevail over the general liability transfer provisions. However, one may think about whether the same interpretation of the Apex Court would apply to any other liability arising from presigning period, raised on the Purchaser, specifically in a situation where the agreement does not have a specific clause for the same and given that the definition of ‘excluded liabilities’ was neither clear nor exhaustive. Therefore, while drafting one must take due care in properly and clearly identifying and defining the liabilities intended to be excluded from a transaction to avoid unnecessary litigation, save time and costs and to ensure that the purchaser is not held accountable for any liability that it does not intend to take over from the seller.
From a completion perspective, it is customary that purchasers in similar transactions seek indemnity for such excluded liabilities which may arise pursuant to the transaction, subject to negotiations between the parties.
From a tax perspective, ideally all assets and liabilities relating to the unit should be transferred to the purchaser, for the transaction to qualify as a slump sale but there arejudicial precedents which indicate that certain assets and liabilities relating to the business can be excluded so long as the assets and liabilities transferred to the purchaser are sufficient for operation of the business / unit.
Even though the Purchaser got relief in the present case, it is important to note that the Purchaser had to litigate all the way up to the Supreme Court for relief, for a relatively small disputed amount (of INR 5,68,797). It is also bit surprising that Hon’ble High Court interpreted the agreement in a way to hold Purchaserliable for liabilities which pertained to period during which the business /unit was owned and operated by the Seller, although the same was rectified by the Supreme Court.
