Can ‘Allegation of Fraud’ be a ground to go under Section 8 Arbitration Act?

After a reading of the case you will know that if an arbitration agreement exists between parties, the agreement cannot be set aside on mere allegations of fraud; serious allegations of fraud need to exist for the case to be decided by civil court, and not the Arbitral Tribunal.
TITLEA. Ayyasamy Vs. A. Paramasivam&Ors
CITATIONCIVIL APPEAL NOS. 8245-8246 OF 2016 O.S. NO. 588 OF 2012
COURTSupreme Court of India
JUDGES/CORAMJustice A.K. Sikri
DATE OF JUDGEMENT04.10.2016

Introduction

There has been an outcry around the requirement of “seriousness of allegations of fraud” as laid down by the Supreme Court and its application as the all-important test to determine whether a dispute is arbitrable or not in the Ayyasamy case. However, commentators have missed an essential qualifier that the Court imposed in addition to the requirement of “seriousness”. As per Ayyasamy, only those disputes, which involve very serious allegations of fraud and have an implication in the public domain, are non-arbitrable. Such an interpretation is also consistent with the law on subject matter arbitrability in India.The Supreme Court of India, by way of this case, held that disputes involving allegations of fraud arising out of contracts bearing an arbitration clause should be referred to arbitration.

Facts

The facts of the case are as follows: The parties to this case, were brothers, who had entered into a deed of partnership, dated 01.04.1994 for carrying on hotel business under the name ‘Hotel Arunagiri’ located at Tirunelveli, in Tamil Nadu.Some disputes arose out of the partnership. The Partnership Deed contained an arbitration clause, which stipulated resolution of disputes by means of arbitration.

One side filed Suit for Permanent Injunction in 2012, restraining the other side from interfering with their right to participate in the administration of the hotel.After the receipt of summons, other side moved the application under Section 8 of the Arbitration and Conciliation Act 1996 that as per the provisions of Section 8 of the Act, it is mandatory for the Court to refer the dispute to the arbitrator.The said application was resisted by the other side stating that there were serious allegations of fraud, which could not be adjudicated uponby the Arbitral Tribunal and the appropriate remedy was to approach the civil court by filing a suit, and they exactly did that.

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Issues

The main issue in the case was: Whether or not the approach of the High Court was correct in following the judgment in N. Radhakrishnan and thus dismissing the Application under section 8 of the Act?

Summary of Court Decision And Judgement

The Trial Court, dismissed the application of the Appellant herein by its order dated 25.04.2014. The same order was upheld by the High Court. 

Both Courts adopted the dicta laid down in N. Radhakrishnan v. Maestro Engineers and Ors.[1], while dismissing the application of the appellant under Section 8 of the Act holding that because there were serious allegations of fraud and malpractices, the case did not warrant to be tried and decided by the arbitrator and a civil court would be more competent which has the requisite means to decide such complicated matter. However, the Supreme Court ruled otherwise and required serious fraud allegations to take away the case from the ambit of arbitration.

Analysis

In Abdul KadirShamsuddinBubere v. MadhavPrabhakar Oak[2], serious allegations of fraud were held by the Court to be a sufficient ground for not making a reference to arbitration. Reliance in that regard was placed by the Court on a decision of the Chancery Division in Russell v. Russell[3]. That was a case where a notice for the dissolution of a partnership was issued by one of the partners, upon which the other partner brought an action alleging various charges of fraud, and sought a declaration that the notice of dissolution was void. The partner who was charged with fraud sought reference of the disputes to arbitration.

The 246th Law Commission Report recognized that in cases of serious fraud, Courts have entertained civil suits. Law Commission also tried to make a distinction in cases where there are allegations of serious fraud and fraud simplicitor. It, thus, follows that those cases where there are serious allegations of fraud, they are to be treated as non-arbitrable and it is only the civil court which should decide such matters. However, where there are allegations of fraud simplicitor and such allegations are merely alleged, it may not be necessary to nullify the effect of the arbitration agreement between the parties as such issues can be determined by the Arbitral Tribunal.

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The present case also needs to be differentiated from the N. Radhakrishnancase as the latter does not subscribe to the broad proposition that a mere allegation of fraud is ground enough not to compel parties to abide by their agreement to refer disputes to arbitration. It is only where there is a serious issue of fraud involving criminal wrongdoing that the exception to arbitrability carved out in N. Radhakrishnan may come into existence.

Thus, the Supreme Court correctly rejected the reasoning given by High Court and concluded that a mere allegation of fraud in the present case was not sufficient to detract from the obligation of the parties to submit their disputes to arbitration.  Therefore, Court below fell in error in rejecting the application of the Appellant under Section 8 of the Act. Accordingly, Supreme Court rejected earlier views and application filed by the appellant under Section 8 in the suit was allowed thereby relegating the parties to the Arbitration.

Conclusion

The major take-away from this case may be pointed as follows: Mere allegation of fraud is not a ground to nullify the Arbitration agreement. The Court should over look arbitration agreement only if: there is very serious allegation of fraud; it is absolutely essential to get such complex allegation adjudicated by Civil Court; and/or allegation is of such nature where fraud is alleged against the arbitration provision is itself or is of such a nature that permeates the entire contract, including the agreement to arbitration. The Arbitration Act itself or the statutory scheme does not specifically exclude any category of cases as non-arbitrable. Such categories of non-arbitrable subjects are carved out by the Courts, keeping in mind the principle of common law that certain disputes which are of public nature and not capable of being decided by the Arbitrators.


[1](2010) 1 SCC 72

[2]AIR 406 SC 1962

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[3] Russell v. Russell in 1992