Karnataka HC Allows Arbitration Plea Filed By Retired Partner As It Was Not Filed As Partner Of Unregistered Firm

The Karnataka High Court has held that, in the facts of the case, a retired partner can seek to refer a dispute to arbitration to defend himself in a recovery suit, and such a plea cannot be rejected merely because the partnership firm was not registered.

A Division Bench comprising Chief Justice Vibhu Bakhru and Justice C.M. Poonacha was considering an appeal challenging an order of the Commercial Court, which had refused to refer the parties to arbitration under Section 8 of the Arbitration and Conciliation Act.

The dispute arose from a suit filed by Siraj Ummer seeking recovery of over Rs 4 crore along with interest. Siraj claimed that he had invested Rs 2.85 crore in Sea Line Trading on the assurance that he would be inducted as a partner. According to him, despite making the investment, the other partners failed to formalize his partnership and later misrepresented documents to his detriment.

Siraj further alleged that upon demanding a refund, the defendants issued cheques which were dishonored. A subsequent settlement for Rs 4 crore also failed as the cheques issued pursuant to it were returned unpaid.

Sarfaraz Munaf, a retired partner, filed an application under Section 8 of the Arbitration and Conciliation Act seeking reference of the dispute to arbitration, relying on arbitration clauses contained in various partnership and reconstitution deeds.

However, the Commercial Court rejected the application, holding that Siraj's claim pertained to lending money in his personal capacity without entering into any agreement containing an arbitration clause, and therefore, the dispute was not arbitrable.

Setting aside the order, the High Court held that the approach adopted by the Commercial Court was erroneous.

The bench emphasised that at the stage of considering an application under Section 8 of the Arbitration and Conciliation Act, the court is only required to examine whether a prima facie arbitration agreement exists. Once such an agreement is found, the parties must be referred to arbitration.

On the objection based on Section 69 of the Partnership Act, the Court held that the bar applies to suits or proceedings enforcing contractual rights as a partner of an unregistered firm. It clarified that in the present case, the retired partner was not seeking to enforce any such right, but was invoking arbitration to defend the claim on the ground that he was not liable after his retirement.

“However, defendant No.3 does not seek to maintain the application under Section 8 of the A&C Act as a partner of an unregistered firm. He seeks to defend the suit, inter alia, on the ground that, having retired from the firm, he would not be liable for the plaintiff's claim in respect of any investment in the firm. In this view, we are unable to accept that defendant No.3's application under Section 8 of the A&C Act could be discarded and rejected as not maintainable by virtue of Section 69 of the Partnership Act.”

Dealing with the argument that the Commercial Courts Act overrides the Arbitration and Conciliation Act, the bench held that the contention was “bereft of any merit”.

“Arbitration is an alternative dispute resolution mechanism outside the Court's adjudicatory processes. However, the courts have a limited role in arbitration matters. Section 5 of the A&C Act also provides the extent of judicial intervention in matters governed by Part I of the A&C Act."

It added:

“The CC Act does not oust arbitration, but provides for recourse to the Commercial Division, the Commercial Appellate Division, or the Commercial Court, to the limited extent as contemplated under the A&C Act.”

On the issue of fraud, the court reiterated that mere allegations of fraud do not render disputes non-arbitrable. It observed that unless the allegations are of a serious nature, disputes arising between parties to a commercial transaction can be resolved through arbitration.

Accordingly, the court allowed the appeal, set aside the impugned order, and referred the parties to arbitration.

For Appellant: Advocate Syed Khaleel Pasha

For Respondents: Advocate Sachin B.S