The Supreme Court has held that an operational creditor whose claim was settled at just 0.72% during insolvency resolution can use its entire admitted claim as a set-off against a subsequent recovery claim arising from the same contract. However, the creditor cannot obtain any payment or affirmative recovery on the basis of that extinguished claim.
A Bench of Justice J.B. Pardiwala and Justice K. Vinod Chandran upheld the Karnataka High Court’s decision to permit arbitration but modified it to protect Modern Asset against the inequity of facing a contractual recovery demand after suffering a 99.28% haircut on its own claim under the same contract.
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The dispute concerned whether a successful resolution applicant could pursue contractual dues against an operational creditor that had already suffered a substantial haircut in the corporate insolvency resolution process, particularly when both parties’ claims arose from the same transaction.
A related question was whether the operational creditor could defend itself through a counterclaim despite the extinguishment of its claim following approval of the resolution plan.
The Supreme Court recognised that the successful resolution applicant could pursue amounts owed to the corporate debtor. At the same time, it held that the circumstances justified allowing the operational creditor’s entire admitted claim to be considered for set-off alone.
Modern Asset and KNK Construction entered into an agreement dated July 9, 2018, for civil and structural work relating to an office building. The total contract value was ₹133.68 crore.
Clause 19.13 of the agreement provided for arbitration of disputes arising from or relating to the contract. Modern Asset paid a mobilisation advance, while KNK Construction furnished a bank guarantee of ₹1,56,13,250 towards successful completion of the work.
KNK Construction maintained that it had completed approximately 95% of the work when Modern Asset threatened termination unless identified defects were rectified within 14 days. Modern Asset defended its termination of the contract.
Meanwhile, KNK Construction was admitted into the corporate insolvency resolution process on December 11, 2019. The contract was terminated after commencement of the insolvency proceedings.
Following admission into insolvency, an application was made to register KNK Construction as a small enterprise with the Ministry of Micro, Small and Medium Enterprises. Its erstwhile promoters subsequently submitted a resolution plan relying on the MSME-related provision under Section 240A(1) of the IBC.
Modern Asset submitted a claim of ₹12,26,30,840 before the resolution professional.
Under the resolution plan, it was provided payment of only ₹8,82,942, with interest, representing approximately 0.72% of its claim. The National Company Law Tribunal approved the plan on April 5, 2022, and the company’s erstwhile promoters returned to management as the successful resolution applicant.
The judgment records that payments to Modern Asset under the plan commenced on June 15, 2023, and had been fully satisfied by the time of the Supreme Court’s decision.
The Court treated the claim as having been accepted in its entirety, with the resolution plan substantially reducing the amount payable. It distinguished acceptance of the claim from the limited payment made following the haircut.
KNK Construction invoked arbitration through a notice dated March 13, 2023, seeking amounts allegedly payable under the same construction contract.
It subsequently filed an application under Section 11 of the Arbitration and Conciliation Act before the Karnataka High Court on June 20, 2023.
The High Court appointed an arbitrator and directed the parties to first approach the Karnataka Mediation Centre. If mediation failed, the matter was to proceed through the Bengaluru International Arbitration and Conciliation Centre.
Modern Asset challenged that order before the Supreme Court. Its objection was that its own contractual claim had already been reduced to a fraction through insolvency resolution, while the company was now seeking recovery under the very same agreement.
The judgment also records separate criminal complaints between the parties. Modern Asset alleged that the arbitration notice was a counterblast to its complaint concerning an allegedly forged work-completion certificate. These allegations formed part of the background; the Supreme Court’s ruling addressed the insolvency and arbitration issues.
Senior Advocate Shyam Divan, appearing for Modern Asset, argued that permitting arbitration would create a “one-way street”.
According to the appellant, the company could pursue its contractual claim, while Modern Asset would be prevented from pursuing its corresponding claim because of the IBC’s clean slate principle.
Modern Asset also emphasised that the same promoters who had managed the company before insolvency had returned as the successful resolution applicant. It argued that any claim available to the company should have been considered during the insolvency process, either by the resolution professional or in the promoters’ resolution plan.
It further contended that settlement through the resolution process left no subsisting agreement or arbitration clause on which the company could rely.
Senior Advocate Nikhil Nayyar, appearing for KNK Construction, submitted that approval of a resolution plan extinguishes claims against the corporate debtor but does not automatically extinguish amounts recoverable by it.
He argued that the arbitration agreement remained independently enforceable and that the resolution professional’s failure to pursue a claim could not prevent the successful resolution applicant from recovering dues owed to the company.
The Supreme Court affirmed that approval of a resolution plan extinguishes the creditor’s remaining claim against the corporate debtor and the successful resolution applicant.
It explained that Modern Asset could not seek fresh recovery of the balance merely because it had received only 0.72% of its claim. Even a claim not submitted during the resolution process would be subject to the established consequences of an approved resolution plan.
Conversely, amounts owed to the corporate debtor could still be pursued after resolution.
The Court also rejected the suggestion that the arbitrator could reconsider whether the clean slate principle applied to the successful resolution applicant. That legal position was settled and remained binding on the arbitral tribunal.
It found no basis to prevent recovery proceedings merely because the company’s erstwhile promoters had returned to management under the MSME framework.
While preserving these principles, the Court identified circumstances that warranted protection for Modern Asset.
Its claim had suffered a massive haircut; the company’s erstwhile promoters had returned as the successful resolution applicant; and both parties’ claims arose from the same contract.
The Court examined the resolution professional’s statutory duties to collect information concerning the company’s assets, finances, operations and disputes. It also noted the obligation of the company’s personnel and promoters to cooperate during the resolution process.
The promoters, as resolution applicants, were aware of Modern Asset’s claim. Nevertheless, neither the resolution professional nor the promoters had accounted for the company’s competing claim in the manner discussed by the Court before approval of the resolution plan.
By offering payment of 0.72% against Modern Asset’s claim, the successful resolution applicant was deemed, in these circumstances, to have accepted the entire claim while restricting the amount payable.
The Bench relied on Ujaas Energy Ltd. v. West Bengal Power Development Corporation Ltd., 2026 SCC OnLine SC 453.
In that case, the Supreme Court had permitted a counterclaim to be considered solely for set-off in arbitration, without allowing affirmative recovery of a claim extinguished through insolvency resolution.
The Bench found that the circumstances in the present dispute supported such relief with greater force. Modern Asset had actually submitted its claim during insolvency, and that claim had been accepted subject to the substantial haircut.
Accordingly, the Court directed that, after considering KNK Construction’s monetary claim, the arbitral tribunal must allow set-off to the extent of Modern Asset’s entire claim submitted before the resolution professional.
The Court expressly limited the relief to a defensive adjustment.
If the arbitral tribunal finds an amount payable by Modern Asset to KNK Construction, Modern Asset’s entire admitted counterclaim must be available for set-off against that liability.
However, Modern Asset cannot seek payment of any excess remaining after the adjustment. Even if KNK Construction’s claim is rejected entirely, Modern Asset cannot recover money on the strength of its counterclaim because that claim stands extinguished against the corporate debtor and the successful resolution applicant.
The tribunal must also examine the dispute concerning whether encashment of KNK Construction’s bank guarantee was proper.
The Supreme Court disposed of the appeal by sustaining the High Court’s arbitration order with this modification. The decision allows arbitration to proceed while ensuring that, on the facts of this case, the creditor’s accepted contractual claim remains available as a shield against recovery.
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