INTRODUCTION

In recent years, alternative dispute resolution has become a booster for global commercial activities and has changed the traditional perception on the role of national judicial systems. Arbitration is a popular mechanism for alternative dispute resolution and has secured its status as a valuable tool for settlement of different disputes. Arbitration as a mode of resolution of commercial disputes is making serious inroads in Indian jurisprudence. The 1996 Arbitration Act has been amended thrice since 1940, to keep up with the best practices of international arbitration. The time is not far when India will emerge as an international hub for arbitration.

Arbitrability of a matter means whether it is capable of arbitration.1 The legislation neither defines arbitrability nor does it illustrate the matters which are capable of arbitration. However, the Supreme Court in Booz Allen2 , not only defined arbitrability but also illustrated the matters which are incapable of settlement through arbitration. The most controversial issue w.r.t arbitrability was arbitrability of matters involving allegations of fraud. The Supreme Court in A. Ayyasamy3 (hereinafter to be referred as Division Bench) classified the allegations of fraud into "simple allegations" or "fraud simpliciter" and "serious allegations" or "complex fraud" and held that simple allegations of fraud are capable of arbitration, however, complex fraud permeates the entire contract and therefore, is not capable of arbitration. Moreover, this position has been reiterated by the three judges' bench of the Supreme Court in Rashid Raza vs. Sadaf Akhtar4 wherein the bench narrowed down and streamlined the scope of arbitrability in fraud by laying down the twin tests.

BRIEF FACTUAL BACKGROUND

The allegations of siphoning of the funds and various other business improprieties, by one partner against another led to the dispute. As per the partnership deed, the partner invoked arbitration by filing a Section 11 petition before the High Court. The High Court rejected the petition by following the test laid down in Division Bench and held:

However, considening everything, the Court was of the firm view that the nature of the dispute involving serious allegations of fraud of complicated nature are not fit to be decided in an arbitration proceeding. The dispute may require voluminous evidence on the part of both the parties to come to a finding which can be only properly undertaken by a civil court of competent jurisdiction.

The petitioner challenged the decision of the High court by filing a special leave petition before the hon'ble Supreme Court of India.

DECISION BY THE BENCH

The Division Bench settled the law regarding arbitrability of disputes involving allegation of fraud. The Court has put it 'simply' by stating that the matters which involve simple allegations of fraud and touches upon the internal affairs would not affect the arbitration agreement and the contract whereby the parties can be referred to arbitration. However, in cases where there are serious allegations, the court must not refer such matters to arbitration as civil courts are more competent to deal with such matters. The Division Bench made a distinction between serious allegation of fraud and a simple allegation of fraud whereby the simple allegation of fraud does not permeate the entire contract and the arbitration agreement. This distinction was further made clear by the Division Bench whereby the Bench illustrated the serious allegation of fraud:

  • Allegations which would make a case of criminal offence.
  • Allegations of fraud so complicated that it becomes essential that such complex issues can be decided only by civil court on the appreciation of the voluminous evidence that needs to be produced.
  • Serious allegations of forgery/fabrication of documents in support of the plea of fraud.
  • Where fraud is alleged against the arbitration provision itself or is of such a nature that permeates the entire contract, including the agreement to arbitrate, meaning thereby in those cases where fraud goes to the validity of the contract itself of the entire contract which contains the arbitration clause or the validity of the arbitration clause itself5.

The Supreme Court, in this matter, reiterated the above-mentioned law as laid down by the division bench and held that the dispute between the parties falls within the ambit of "simple allegation" and touches upon the internal affairs and therefore, the High Court erred in dismissing the petition of the appellant. The Court referred the parties to arbitration and appointed an arbitrator. Therefore, if the public at large is not being affected by allegations of fraud between the two disputing parties, the matters are capable of settlement through arbitration.

THE TWIN TEST

The Supreme Court in this matter built up on the Division Bench decision and streamlined the approach to be taken while determining the serious allegation of fraud. The Court culled out two working tests from the Division Bench decision:

  1. Does this plea permeate the entire contract and above all, the agreement of arbitration, rendering it null and void?
  2. Whether the allegations of fraud touch upon the internal affairs of the parties inter se having no implication in the public domain?

These twin tests now act as a guideline for the counsels and the arbitrators dealing with issues of fraud while adjudicating matters. Therefore, from the above discussion and position of law we can conclude that matters involving allegation of fraud are arbitrable if they fall withing these three ambits:

  1. Simple allegations which do not have any impact in the public domain.
  2. The allegation does not vitiate the entire contract rendering it void; and
  3. The allegation does not nullify the arbitration agreement.

CONCLUSION AND ANALYSIS

The decision is in-fact a much-appreciated precedent on the issue of arbitrability of fraud. The Supreme Court has time and again taken a pro-arbitration approach and this decision will assist counsels and arbitrators facing such an issue. Though the Supreme Court has streamlined or narrowed the threshold for examining the arbitrability of matters involving the allegations of fraud still there remain three critical issues which require discussion:

  1. The arbitration matters specially in construction or maritime, are presided over by arbitrators who are industry experts such as engineers, port captains etc. For such arbitrators it would be a tough and tedious task to examine the allegations of fraud and may require two court's assistance or any expert assistance as fraud by its nature can be a civil or criminal action.
  2. The Supreme Court in both Division Bench and the present matter forgot to refer to the 246th Law commission report which recommended:

    "The Commission believes that it is important to set this entire controversy to a rest and make issues of fraud expressly arbitrable and to this end has proposed amendments to section 16"6

    Not only the judiciary, the legislature also failed to embrace the recommendation in the amendments. Had the judiciary or the legislature emphasized on the recommendation, all frauds would be made arbitrable.

The Hon'ble Division Bench's decision arose under Section 8 of the 1996 Act. However, the present matter arose under Section 11. It is a matter of concern as under Section 11 the judiciary have to confine themselves to examination of the existence of arbitration agreement whereas, under section 8 the judiciary possesses a wider jurisdiction including the power of examining the arbitration agreement and deciding whether to refer the parties to arbitration or not.

Footnotes

1. Joseph Mante, Arbitrability and public policy: an African perspective, 33 OXFORD ARBITRATION INTERNATIONAL 277 (2017).

2. Booz-Allen & Hamilton Inc vs Sbi Home Finance Ltd. & Ors., AIR 2011 SC 2507.

3. A. Ayyasamy v. A. Paramasivam and Ors., (2016) 10 SCC 386.

4. (2019) 8 SCC 710

5. A. Ayyasamy v. A. Paramasivam and Ors., (2016) 10 SCC 386.

6. 246th Law commission report. Para 54, Pg. 28.

Originally published by INDIAN LEGAL IMPETUS® on JULY 2020. Vol. XIII, Issue VII

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.