A Former Director of a Company cannot be Held Responsible for Payment of the Liabilities of the Company: Delhi High Court

It is well-settled in law that a company is a distinct juristic entity, separate from its Directors. Therefore, a former Director of a Company cannot be made personally liable for the dues of the company in the absence of a specific provision stating otherwise.

The Delhi High Court in Sanjiv Kumar Mittal v. Deputy Commissioner (TRC) recently held that a Director cannot be made personally liable for the dues of the company in the absence of a specific provision stating otherwise. This principle would apply in the context of recovery under the tax laws where there are no specific provisions to recover from Directors.
 
Facts and Background to the case:
 
  • The Service Tax Authorities in this case had attached the personal bank account of the Petitioner, who was the former Director of the assessee-company (company), towards recovery of dues from the company under the Finance Act, 1994.
  • The company was under investigation by the anti-Evasion branch of Service Tax prior to the petitioner’s appointment as an Additional Director of the company. Subsequent to petitioner’s resignation from the post, a show cause notice was issued to the company for recovery of service tax along with interest and penalties. This notice was returned undelivered.
  • Aggrieved by the attachment of his personal bank account, the Petitioner filed a writ petition seeking to quash the attachment order.
  • The contention raised by the appellant was that there was no provision in the Finance Act making a Director personally liable for the tax liabilities of a company or empowering the respondent-authorities to recover such liabilities of the company from the personal assets of its Directors.
 
The following observations were made by the High Court:
 
  1. A company and its directors are separate and distinct juristic entities and this distinction cannot be overlooked unless there is a specific statutory provision to the contrary or till a case for lifting of the corporate veil is made out:
 
It is well-settled in law that a company is a distinct juristic entity, separate from its Directors. This position was reflected by the Supreme Court in ‘Bacha F. Guzdar v. Commissioner of Income Tax’, where it was has held that the position of shareholders in a company is not analogous to that of partners inter se. 
 
  1. Section 87(b) (i) of the finance act provides for attachment of funds of an assessee lying with third parties. There is no provision in the finance act making an ex-director, even if having knowledge of affairs of the company, vicariously or jointly liable for the dues of the company:
 
Though Section 174(2) of CGST Act saves any duty or tax that is due or may become due under the repealed Act including Chapter V of the Finance Act, yet there is no provision in the Finance Act making the Directors personally liable for service tax liabilities of a company.

The Court clarified that Section 89 of the current CGST Act was confined only to liabilities assessed under the CGST Act and cannot be used to fasten personal liability on Directors for company dues determined under the Finance Act. After all, no new liability can be fastened under the CGST Act for a period prior to its enactment as it does not have retrospective operation.

The Court held that the attachment order was beyond the purview of Section 87(b)(i) of the Finance Act as the said provision provides for attachment of funds of an assessee lying with third parties. Accordingly, Section 87(b)(i) of the Finance Act does not entitle the revenue to attach personal bank accounts of a director like the petitioner, for recovery of dues of the company, on the assumption that money is due or may become due from the Petitioner to the company.

Section 179 of the Income Tax Act, 1961 and Section 18 of the Central Sales Tax Act, 1956 specifically render a Director jointly and severally liable for tax dues assessed against private companies unless they prove that the non-recovery cannot be attributed to any gross neglect, misfeasance or breach of duty on their part in relation to the affairs of the company. However, there is no such provision viz-a-viz Service Tax and the absence thereof is determinative. Levy and collection of tax must be with the authority of law by virtue of Article 265 of the Constitution. Consequently, the Court held that the action of the Service Tax Authorities against the petitioner was without jurisdiction.
 
The Court relied on Bombay High Court’s findings in the case of ‘Sunil Parmeshwar Mittal vs. Deputy Commissioner’:
  • Under the provisions of the Companies Act, a Director of a Company is not liable to discharge the liability of the company, if any, especially not if they were directors in the past.
  • As soon as a company is incorporated, it constitutes an independent juristic person in the eyes of law as distinct from its members constituting it.
  • Even in the case of a private limited company consisting of only two members, it will be considered as a separate legal entity. It is entirely different from its members.
  • From the date of its incorporation a company is endowed with certain special rights and privileges and, unlike the partnership firm or a Hindu undivided family, it is not a mere aggregate of members.
  • It can carry on business and can acquire and hold property in its corporate name and has other special advantages e.g. to contract with all its members and others. In short, it becomes a body corporate capable of exercising all functions of an incorporated company having a perpetual succession.
  • It remains in existence, irrespective of the changes in its members, until it is wound up and dissolved under the provisions of the Companies Act.
  • The characteristic of company limited by shares is that it enjoys the privilege of limited liability i.e. liability of its member is limited to the extent of the face value of the shares subscribed by each member and the amount remaining unpaid on them for the time being.
  • Thus, considering effect of incorporation of a company and its independent juristic existence, a former director of the company cannot be held responsible for payment of the liabilities of the company in absence of any specific provision.
  • A former director can therefore not be held liable to pay outstanding dues of the central excise duty.
 
A former Director, even if having knowledge of affairs of the company, cannot be held vicariously or jointly liable to pay for the dues of the company.
 
  1. Section 9aa of the central excise act, 1944 and section 168(2) of the companies act, 2013 deal with offences committed by a company, which is distinct from civil liability to pay tax:
 
The reliance upon Section 9AA of the Central Excise Act, 1944 and Section 168(2) of the Companies Act, 2013 is untenable in law as these provisions deal with offences committed by a company, which is distinct from civil liability to pay tax.
 
  1. The attachment order was in violation of principles of natural justice:
 
The High Court was of the view that any show cause notices issued to a company during an adjudication proceeding, then the said notice would not amount to ‘notice served’ to a someone in their personal capacity. Delhi High Court reversed the order of the lower Court as their order was in violation of principles of natural justice and clarified that recovery cannot be selectively initiated against the petitioner.