An Indian Jurisprudential Analysis Of The Arbitrability Of Fraud In Commercial Disputes
Author: LawSphereX
Category: Banking & Finance
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AN INDIAN JURISPRUDENTIAL ANALYSIS OF THE
ARBITRABILITY OF FRAUD IN COMMERCIAL DISPUTES
Ipsa Mittal & Saesha Gehani, National Law Institute University, Bhopal
ABSTRACT
This paper studies the arbitrability of fraud in commercial disputes in India. Arbitration is designed to resolve conflicts efficiently while reducing court intervention. The Arbitration and Conciliation Act, 1996 supports this by limiting judicial interference and granting tribunals power over their own jurisdiction. However, the concept of “arbitrability” defines which disputes can be referred to arbitration, and fraud remains a contested category. Fraud, as defined under the Indian Contract Act, 1872, includes deception, concealment, false assertions, and misleading acts. Jurisdictions differ on whether fraud can be arbitrated. India’s approach has evolved through case law, moving from the court-centric stance in N. Radhakrishnan to a more arbitration-friendly position in Avitel Post Studioz, subject to public interest considerations.
The paper traces this evolution through key judgments such as Booz Allen, A. Ayyaswamy, Rashid Raza, and Vidya Droila. It examines distinctions between fraud in inducement, which allows the contract to stand, and fraud in factum, which negates the contract entirely. The analysis shows how these distinctions affect the tribunal’s jurisdiction. The study also compares Indian developments with international approaches, including the separability doctrine upheld in Prima Paint (US) and Fiona Trust (UK). These cases reflect a global trend towards allowing arbitration in fraud disputes unless the arbitration agreement itself is directly challenged. By examining statutory provisions, judicial reasoning, and comparative perspectives, the paper aims to clarify the boundaries of arbitrability in cases involving fraud.
It highlights the current legal position in India and identifies gaps that still require resolution.
Introduction “Relationships of trust depend on our willingness to look not only to our own interests, but also the interests of others”. - Peter Farquharson Arbitration is designed to offer a fair and efficient resolution to disputes while minimizing judicial intervention. The Arbitration and Conciliation Act, 1996, (“Arbitration Act”) was enacted to give the arbitral tribunals more freedom by promoting party autonomy and reducing the burden on courts. 1 This can be inferred by Section 5 and 16, which provides for the scope of judicial intervention that no judicial authority can intervene except where so provided in the Arbitration Act,2 and by giving them the power to rule and decide on their own jurisdiction and challenges regarding the same. 3 Arbitration can be of various kinds.
Amongst these, Commercial Arbitration provides a just and systematic resolution mechanism for disputes between two commercial entities without hampering their relations and undergoing the tedious process of litigation. However, some disputes fall outside the purview of arbitration and are known as “non-arbitrable”. Thus, the term “arbitrability” is used to determine if a dispute is amenable to arbitration or not. For understanding arbitrability, it is vital to understand the components of a valid arbitration agreement. According to Section 17 of the Indian Contract Act, 1872, fraud includes acts committed by a party, their agent or with their connivance intended to deceive or induce another into a contract. 4 It involves false assertions, deliberate concealment, unfulfilled promises, deceptive acts or legally recognized fraudulent omissions.
The complexity around arbitrability of fraud arises due to jurisdictional differences and public policy concerns. Some legal systems exclude disputes involving fraud from arbitration, requiring judicial intervention, while others allow it to be decided out of court. India’s evolving jurisprudence on disputes involving fraud in arbitration shifts from N. Radhakrishnan,5 where it was held non-arbitrable, to Avitel Post Studioz,6 where it held it arbitrable unless affecting public interest, creating an ambiguity
1 Haryana Telecom Ltd v. Sterlite Industries, (1999) 5 SCC 688.
2 The Arbitration and Conciliation Act 1996, §5.
around it. This essay will analyse the issue of arbitrability of fraud in commercial arbitration by examining its various manifestations, legal implications and institutional responses. By identifying the timeline of relevant case laws in India, it will help understand the need for stronger safeguards to uphold the integrity of arbitration as a trusted dispute resolution process and help in figuring out the current judicial opinion on this matter. Commercial Arbitration: Origin and Meaning Since the existence of trade and commerce, dispute resolution as a necessity and force has developed exponentially. Arbitration has its traces everywhere, ranging from prehistoric Romans to the Malwas. 7 One of the earliest arbitrators in world history was Solomon. 8 Later, even the Queen of the Malwa Kingdom, Her Highness Ahilya Bai Holkar insisted on referring all disputes to arbitration.
9 The King, Queen and other royal members of the State delivered arbitral awards after understanding the extant issues and problems. Thus, the primitive society settled their disputes through arbitration or friendly settlement, as then called. This substantiates the existence of alternative dispute resolution mechanisms even through the 15th and I6th centuries. There is no set definition for the word “commercial” in the field of arbitration. However, several attempts have been made to chalk out the parameters under the various conventions to identify the same. The history of tracing the circumference of the word began from 1923 when the League of Nations, predecessor of the UN, along with the International Chamber of Commerce, took the initiative of drafting a protocol which could allow enforceability of the arbitration agreements.
Initially, it was called the Geneva Protocol on Arbitration Clauses of
1923 and the enforcement of the awards was limited up to the territory of the respective States
only.10 The categorisation of the transaction as “commercial” was left upon the discretion of the protocol. Thereby, a transaction would fall under the ambit of the “commercial transaction” based upon the national law. 7 Eleanor Zelliot Manushi, Ahilyabai Holkar, A Magnificent Ruler, Saintly Administrator (Rare Book Society of India, May 2001).
8 Frank D. Emerson, History of Arbitration Practice and Law (1970) 19 Clev St L Rev ISS.
9 Id at n 7.
10 Geneva Protocol on Arbitration Clauses (adopted on 24 September 1923 by League of Nations).
Later in the year 1953, the International Chamber of Commerce chose to propose a new treaty and the proposal of the same was taken up by the United Nations Economic and Social Council which led to the formation of the “United Nations Convention on the Recognition and Enforcement of Foreign Arbitral Awards” in 1958. 11 The United Nations Convention on the Recognition and Enforcement of Foreign Arbitral Awards (New York Convention) substituted the Geneva Convention, 1927; it repeated the same provisions with regard to the enforcement of a foreign arbitral award and was adopted by the United Nations. India, having signed the New York Convention, determines the nature of the transaction as commercial or non-commercial based upon the national legislation. 12 The Commercial Courts Act, 2015, helps in doing the same by providing a definition under Section 2(c).
13 It specifies the transactions which may fall under the ambit of commercial transaction in India. This legislation came into force on 23 October 2015. With reference to the Arbitration and Conciliation Act, 1996, all matters based on international commercial arbitrations involving disputes of the subject-matter of value amounting to more than Rs 1 crore have been brought within the jurisdiction of the Courts according to section 10 of the Act. 14 Therefore, such matters shall be heard and disposed of by the Commercial Courts. Furthermore, there is a limit on the awards that can be enforced in India on the basis of public policy. 15 The Concept of Arbitrability The only known reference to arbitrability in the Indian legal regime is found in Section 2(3) of the Arbitration Act according to which there is a possibility that some disputes may not be submitted to arbitration.
16 However, it provides a limited point without any clarity. It is vital to understand that arbitrability has a wide scope and can encompass multiple scenarios. It could pertain to the existence and validity of an arbitration agreement, ensuring that the dispute falls within the contours of the arbitration agreement or ensuring that the subject matter of the dispute is suitable to be resolved by arbitration. 11 United Nations Convention on the Recognition and Enforcement of Foreign Arbitral Awards (adopted on 10 June 1958 by a United Nations Diplomatic Conference).
Arbitrability essentially entails that facet of arbitration law which determines whether specific classes of disputes are barred from arbitration due to national legislation or judicial authority, usually finding a basis in equity and public policy. 17 In this context, either a party may pose a challenge to the entire contract or it may challenge just the arbitration agreement and not the entire contract. 18 An arbitrability dispute can have various grounds such as scope, validity, legality or interpretation of the underlying contract or the arbitration agreement.
Even though arbitrability disputes can arise in numerous ways and “there are accordingly multiple ways to carve and classify these disputes, a fundamental distinction exists between those that challenge the legal character of the underlying agreement and those that challenge whether the underlying agreement ever came into existence”. 19 The Supreme court case Booz Allen v SBI (“Booz Allen”),20 played a crucial role in defining the arbitrability of disputes by establishing that matters involving rights in rem, affecting third parties, are generally non-arbitrable, while disputes involving rights in personam, affecting only the contracting parties, are arbitrable. Influenced by this principle, the Supreme court later laid down a four-fold test in Vidya Droila v Durga (“Vidya Droila”),21 to determine when a subject matter of a dispute is non-arbitrable.
: “(1) when cause of action and subject matter of the dispute relates to actions in rem, that do not pertain to subordinate rights in personam that arise from rights in rem. (2) when cause of action and subject matter of the dispute affects third party rights; have erga omnes effect; require centralized adjudication, and mutual adjudication would not be appropriate and enforceable. (3) when cause of action and subject matter of the dispute relates to inalienable sovereign and public interest functions of the State and hence mutual adjudication would be unenforceable; and (4) when the subject-matter of the dispute is expressly or by necessary implication non-
17 Laurence Shore, “Defining Arbitrability” (2009) NYLJ 1.
18 Richard C. Reuben, “First Options, Consent to Arbitration, and the Demise of Separability: Restoring Accessto Justice for Contracts with Arbitration Provisions” [2003] 56 SMU L. Rev. 819. 19 John A. E. Pottow, Jacob Brege and Tara J. Hawley, “A Presumptively Better Approach to Arbitrability” [2013] Law & Economics Working Papers.
20 Booz Allen & Hamilton Inc. v. SBI Home Finance Ltd, (2011) 5 SCC 532.
21 Vidya Drolia v. Durga Trading Corporation, (2021) 2 SCC 1 ¶ 45.
arbitrable as per mandatory statute(s). ” Types of Commercial Disputes Involving Fraud Commercial disputes involving fraud can be broadly categorized on the basis of two factors. Firstly, whether the fraud committed permeates the entire contract or secondly, whether it affects the public at large. An example of fraud committed permeating the entire contract could be fraudulently obtaining the consent for executing a gift deed in favour of the defendants by an illiterate woman. 22 Another such example is when a group of shipping companies entered into charter contracts secured through fraudulent misrepresentation and bribery. 23 Fraud not permeating the entire contract is demonstrated by the following factual scenario. Suppose two companies, a pharmaceutical manufacturing company and a hospital chain, enter into a supply chain agreement for medicine.
However, there are allegations of fraud on the manufacturing company like tampering with the quality of medicines to get the required approval. These allegations do not affect the contract directly as the contract was not signed on the basis of the fraudulent tampering of quality but these allegations lead to loss of reputation of the other party. Therefore, it is a commercial dispute arising due to fraud but not permeating the entire contract. Another such example is investors relying on a prospectus of a tram company claiming they have government approval and purchasing its shares. 24 When a multinational company engages in massive accounting fraud by inflating its financial statements with fake bank accounts and falsified revenues, it is an instance of commercial disputes arising out of fraud which affect the public at large.
It affects the public as thousands of investors can lose their savings, and the scandal can shake global financial markets. 25 Agreements arising out of fraudulent misrepresentation of facts and affecting only the contracting parties involved are examples to the contrary. 26 Furthermore, there are different types of fraud, such as when the consent is obtained fraudulently, when there is fraud in a material fact of the contract, when there is fraud to the
22 Dularia Devi v. Janardan Singh, (1990) Supp SCC 216.
23 Fiona Trust & Holding Corp v. Privalov, [2007] UKHL 40.
24 Derry v. Peek, (1889) LR 14 App Cas 337.
25In re Parmalat Securities Litigation, (2003) 377 F Supp. 2d 390.
26 Avon Insurance PLC v. Swire Fraser Ltd., [2000] 1 ALL ER (Comm) 573.
material fact of the contract etc. All of such different kinds of fraud are to be dealt under the same header using the same principles. Evolving Jurisprudence The jurisprudence on the arbitrability of fraud in India has undergone a significant transformation, reflecting a shift from judicial intervention to a more pro-arbitration stance. The timeline of cases highlights how Indian courts have gradually embraced arbitration as a viable mechanism for resolving fraud-related disputes, while still maintaining judicial oversight in matters affecting public interest. The Supreme Court’s ruling in Abdul Kadir v Madhav,27 set the early precedent by holding that fraud allegations should generally be adjudicated by courts rather than arbitrators. This position was later reinforced in N. Radhakrishnan v. Maestro (“N.
Radhakrishnan”),28 where the Court held that serious allegations of fraud required a full-fledged judicial trial and could not be decided in arbitration despite the presence of precedents like Hindustan Petroleum v PinkCity,29 and P. Anand v P. V. G ,30 to the contrary. The judgements referred to Section 8 of the act which in clear terms mandates that a judicial authority before which an action is brought in a matter that is the subject of an arbitration agreement should refer such parties to arbitration and held that the language of this Section is unambiguous and peremptory in nature.
Therefore, in cases where there is an arbitration clause in the agreement, it is obligatory for the Court to refer the parties to arbitration in terms of their arbitration agreement and nothing remains to be decided in the original action after such an application is made except to refer the dispute to an arbitrator. The correction of the path adopted by the court in N. Radhakrishnan was pursued in the single bench Swiss Timing v Commonwealth, (“Swiss Timing”)31 judgement along with the World Sport Group (Mauritius) Ltd. v. MSM Satellite (Singapore) Pte Ltd,32 case of the same year. It placed reliance on Section 16 of the Arbitration Act that provided that the Arbitral Tribunal would be competent to rule on its own jurisdiction including ruling on any objection with regard to existence or validity of the arbitration agreement implying the doctrine of kompetenz-
27 Abdul Kadir v. Madhav Prabhakar Oak, AIR 1962 SC 406.
28 N. Radhakrishnan v. Maestro Engineers, (2010) 1 SCC 72.
29 Hindustan Petroleum Corp. Ltd. v. PinkCity Midway Petroleums, (2003) 6 SCC 503.
30 P. Anand Gajapathi Raju & Ors. v. P. V. G. Raju (Dead) & Ors, (2003) 4 SCC 539.
31 Swiss Timing v. Commonwealth Games, (2014) 6 SCC 677.
32 World Sport Group (Mauritius) Ltd. v. MSM Satellite (Singapore) Pte Ltd, (2014) 11 SCC 639.
kompetenz. 33 Further clarity was provided to the issue of arbitrability of fraud in the 2016 Supreme Court judgement A. Ayyaswammy v Paramsivam. (“A. Ayyaswamy”)34 It was held that mere allegation of fraud simplicitor may not be a ground to nullify the effect of arbitration agreement between the parties. It is only in those cases where the Court, while dealing with Section 8 of the Arbitration Act,35 finds that there are very serious allegations of fraud which make a virtual case of criminal offence or where allegations of fraud are so complicated that it becomes absolutely essential that such complex issues can be decided only by civil court on the appreciation of the voluminous evidence that needs to be produced, the Court can sidetrack the agreement by dismissing application under Section 8 and proceed with the suit on merits.
However, this reinforced that the complexity of the dispute would render an allegation of fraud to be non-arbitrable. The full bench judgement of Rashid Raza v Sadaf (“Rashid Raza”) articulated the two tests laid down to determine the seriousness of the allegation of fraud in the A. Ayyaswamy case. 36 The two tests were described as: (1) does this plea permeate the entire contract and above all, the agreement of arbitration, rendering it void, or (2) whether the allegations of fraud touch upon the internal affairs of the parties inter se having no implication in the public domain. In the 2020 case of Avitel v. HSBC (“Avitel”),37 the Supreme Court went into detail about the topic and expanded on the classification that was established in Rashid Raza.
It improved the second condition by elucidating that a dispute would only be deemed non-arbitrable because of allegations of fraud if the State or its agents are accused. Despite the extensive discussion on the classifications, the court consistently maintains the view of considering the voluminous nature of the dispute to determine arbitrability. It was next year that the N. Radhakrihshnan judgement was effectively overruled in the Vidya Droila judgement which laid down the fourfold test to determine arbitrability of the subject-matter of a dispute. 38
33 Id n 3.
34 A. Ayyaswammy v. Paramsivam, (2016) 10 SCC 386.
35 The Arbitration and Conciliation Act 1996, s 16.
Conclusion: Need for a definite Pro-Arbitration Stance Therefore, as observed in the evolution of arbitrability of fraud through the array of judgements, Indian courts have gradually transitioned from a rigid, court-centric approach to a more arbitration-friendly framework. This evolution ensures that commercial disputes, including those involving fraud, are efficiently resolved while safeguarding legal integrity in matters of wider public concern. The 246th Law Commission Report of 2014, also emphasized that arbitration should be the preferred mechanism for resolving commercial disputes, including those involving allegations of fraud, unless they impact the contract’s validity itself or have wider implications for public policy. It recommended amendments to the Arbitration Act to restrict excessive judicial intervention and reinforce the autonomy of arbitration proceedings.
International jurisprudence also supports a pro-arbitration approach. In Prima Paint Corp. v. Flood & Conklin (U. S. , 1967), the U S Supreme Court upheld the separability doctrine, affirming that an arbitration clause remains valid even if the main contract is alleged to be fraudulent. Similarly, in Fiona Trust & Holding Corp. v Privalov (U K , 2007), the English Courts reinforced the principle that fraud allegations do not automatically render a dispute nonarbitrable, unless the arbitration agreement itself is directly challenged. These cases reflect a global shift towards arbitration as an effective means of dispute resolution, ensuring speed, confidentiality, and finality in commercial disputes. However, the issue has still not been clearly clarified.
In spite of the litany of judgements forming the jurisprudence related to the issue, its resolution still depends on the subjective interpretation of the courts to assess the “seriousness” of the fraud leading to contrary views. For example, in United Machinery & Appliances v. Greaves Cotton Ltd,39 since criminal proceedings were initiated, the court held that the dispute should not be referred to arbitration. This was in contravention of decision of the courts in judgments like the Swiss Timing case wherein it was held that mere existence of criminal complaint will not render the matter nonarbitrable. Hence, such contravenous instances demonstrate the need for a definite pro-arbitration stance. There is a requirement of intervention by the legislature to establish an unequivocal support for
39 United Machinery & Appliances v. Greaves Cotton Ltd, (2024) SCC OnLine Cal 2802.
arbitration in matters involving allegations of fraud despite the complexity of the disputes to eliminate any ambiguity around the issue.