Bank breached Escrow Agreement by not prioritizing GST payments, says Meghalaya High Court

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Case Name

M/s Marbaniang Projects Private Limited vs. Punjab National Bank & Ors.(High Court of Meghalaya at Shillong)

WP(C)No. 178 of 2022

Date: 06th December 2024

Key Takeaways

• Banks must follow Escrow Agreement priorities: If an Escrow Agreement says statutory dues (like GST) come first, the bank can’t use all funds for loan repayment before paying those dues.
• GST payments take priority: The court reinforced that, under the agreement, taxes and statutory payments must be paid before other expenses or debt repayments.
• Breach leads to consequences: The bank’s failure to follow the agreed order led to GST non-compliance, financial trouble for the company, and even affected tenants.
• Writ petition maintainable: The court allowed the writ petition even though related recovery proceedings were pending before the Debts Recovery Tribunal, since the writ was filed first and raised a distinct issue.
• No direct monetary relief: The court didn’t order the bank to pay GST directly but told it to take corrective steps to help the company file GST returns.

Issue

Did the bank breach the Escrow Agreement by not prioritizing statutory payments (like GST) over loan repayments, and what are the consequences of that breach?

Facts

• Parties:
• Petitioner: M/s Marbaniang Projects Private Limited (a company developing a hotel-cum-commercial complex in Shillong).
• Respondent: Punjab National Bank (formerly United Bank of India), which provided term loans to the company.
• Timeline & Events:
• The company took a term loan of ₹22 crores, later enhanced to ₹30 crores.
• An Escrow Agreement (dated 20.02.2015) required all project revenues to go into a designated Escrow Account.
• The agreement specified the order of payments: (1) Taxes & statutory payments, (2) Project expenses, (3) Interest, (4) Debt service reserve, (5) Debt repayment.
• From 2017, the bank adjusted all funds in the Escrow Account towards loan repayment, ignoring GST and other statutory dues.
• The company couldn’t pay GST, leading to compliance issues, loss of input tax credit for tenants, and eventually being classified as a Non-Performing Asset (NPA) in 2019.
• The company filed this writ petition in 2022, before the bank started recovery proceedings in the Debts Recovery Tribunal in 2023.

Arguments

Petitioner (Company)

• The Escrow Agreement clearly prioritized statutory payments (like GST) over loan repayments.
• The bank’s actions violated the agreement, causing GST non-payment and financial harm.
• The company had no control over the Escrow Account; only the bank could make payments from it.
• The bank’s breach led to cascading problems: GST non-compliance, tenants not paying rent, and NPA classification.
• Cited Employees Provident Fund Commissioner vs. Official Liquidator of Esskay Pharmaceuticals Ltd. (2011) 10 SCC 727 to argue that statutory dues have priority over other debts.

Respondent (Bank)

• The Escrow Account was meant to route all project receipts for transparency, not just for statutory payments.
• After the loan accounts became NPAs in 2019, the bank was entitled to adjust all receipts towards outstanding debts.
• The company failed to provide necessary GST filings (GSTR-3B), so the bank couldn’t process GST payments.
• Cited Section 26-E of the SARFAESI Act, 2002 and Section 31-B of the Recovery of Debts and Bankruptcy Act, 1993, arguing that secured creditors (like banks) have priority over government dues, except for Employees Provident Fund dues.
• Cited case laws:
• Paschimanchal Vidyut Vitran Nigam Limited vs. Raman Ispat Private Ltd. (2023) 10 SCC 60
• ICICI Bank Ltd. vs. Sidco Leathers Ltd. (2006) 10 SCC 452
• Andhra Bank vs. Official Liquidator & Anr. (2005) 5 SCC 75.

Key Legal Precedents

• Employees Provident Fund Commissioner vs. Official Liquidator of Esskay Pharmaceuticals Ltd. (2011) 10 SCC 727
• Held that statutory dues (taxes, cesses, etc.) have priority over other debts in certain contexts.
• Paschimanchal Vidyut Vitran Nigam Limited vs. Raman Ispat Private Ltd. (2023) 10 SCC 60
• ICICI Bank Ltd. vs. Sidco Leathers Ltd. (2006) 10 SCC 452
• Andhra Bank vs. Official Liquidator & Anr. (2005) 5 SCC 75
• These cases were cited by the bank to argue that, after recent amendments, secured creditors have priority over government dues, except for Employees Provident Fund dues.
• Section 26-E of the SARFAESI Act, 2002 and Section 31-B of the Recovery of Debts and Bankruptcy Act, 1993
• These sections give priority to secured creditors over government dues, with some exceptions.
• Rule 59(5)(a) of the Central Goods and Services Tax Rules, 2017
• Prevents filing of GSTR-1 if GSTR-3B is not filed, which affected the company’s GST compliance.

Judgement

• The Court found the bank breached the Escrow Agreement by not following the agreed order of payments, specifically by not prioritizing statutory dues (like GST) over loan repayments.
• The company had no control over the Escrow Account; only the bank could make payments from it, based on instructions and supporting documents from the company.
• The court held the writ petition was maintainable, even though related proceedings were pending before the Debts Recovery Tribunal, because the writ was filed first and raised a distinct issue.
• Order: The court directed the bank to take corrective steps to help the company file GST returns and pay statutory dues from 2017 onwards, as required by law. However, since GST authorities were not made a party to the case, the court did not grant the full relief sought (i.e., direct payment of GST by the bank).

FAQs

Q1: Why did the court side with the company?

A: The court found that the Escrow Agreement clearly prioritized statutory payments (like GST) over loan repayments, and the bank’s failure to follow this order was a breach of contract.

Q2: Did the court order the bank to pay GST directly?

A: No, the court did not order direct payment of GST by the bank, but told the bank to take corrective steps to help the company comply with GST requirements from 2017 onwards.

Q3: What happens to the recovery proceedings before the Debts Recovery Tribunal?

A: Those proceedings are separate and can continue. The court’s decision here only addresses the breach of the Escrow Agreement regarding payment priorities.

Q4: What legal principles did the court reinforce?

A: The court reinforced that parties must follow the agreed order of payments in an Escrow Agreement, and that statutory dues must be prioritized if the contract says so.

Q5: What if the company didn’t provide GST documents to the bank?

A: The court noted that the company had made requests and submitted invoices to the bank for GST payments, but the bank did not act on them. The bank could only make payments based on instructions and supporting documents from the company.

Q6: Does this mean banks always have to pay taxes before loans?

A: Only if the Escrow Agreement or contract specifically says so. Otherwise, recent laws generally give banks priority, except for certain statutory dues like Employees Provident Fund.