[Harshal and Rishabh are students at Gujarat National Law University and National Law School of Indian University, respectively.]
The Supreme Court recently dealt with the interplay between Section 65 of the Indian Contract Act 1872 (Act) and its exception in pari delicto potior est defendentis, which denies restitution if both parties are equally at fault, in the controversial ruling in Loop Telecom and Trading Limited v Union of India (Loop Telecom).
The suit arose from the famous 2G scam, as Loop Telecom’s 2G spectrum licence was quashed by the Supreme Court in Centre for Public Interest Litigation v. Union of India (CPIL) on account of the spectrum allocation scheme being illegal, arbitrary, and violative of Article 14 of the Constitution. Therefore, Loop Telecom claimed a refund of its entry fee under Section 65 of the Act. In determining whether Loop Telecom was at equal fault with the government or not, the court held in the affirmative, finding that Loop Telecom willingly entered into the agreement, knowing its illegality, and benefitted from the same. Therefore, it was considered in pari delicto with the government and its claim for restitution was rejected.
In this piece, we analyze the Supreme Court’s ruling and argue that it has created uncertainty regarding the application of the maxim in government contracts. First, we analyze the general approach of courts while applying the maxim, and show how Loop Telecom demonstrated a similar approach. We then highlight the exception to this approach which is adopted in government contracts, and argue that the court ignored this exception in the instant case, thereby creating uncertainty and presenting unwanted and inequitable consequences which go against the very purpose of the maxim.
Loop Telecom and the Courts’ ‘Conventional’ Approach
Conventionally, courts apply a two-pronged test of knowledge and will to ascertain the extent of fault of parties. The test entails that if the plaintiff knew about the illegality of the agreement and entered into the agreement with free will, despite such knowledge, they are considered to be in pari delicto with the defendant and are not entitled to restitution. For instance, in Kuju Collieries Limited v. Jharkhand Mines Limited and Others, the Supreme Court held that Section 65 is applicable only when either party does not know about the illegality of the agreement. This view was affirmed in Mohd Salimuddin v. Misri Lal and Another, where the court clarified that the maxim is attracted only when “both parties have voluntarily and by their free will joined hands to flout the law for mutual gain”. Thus, the conventional practice is to determine whether the parties entered into the agreement voluntarily and with the knowledge of the illegality.
Has the Supreme Court applied the same practice in the instant case? The short answer is yes. The court used the aforementioned precedents to hold that the legal footing of the parties, i.e., their knowledge and will to enter into the illegal agreement, was the only relevant factor while determining the extent of their fault. Consequently, the court relied on CPIL and the INR 50 lakh cost imposed on Loop Telecom therein to hold that it was a beneficiary of the illegal scheme, and therefore, had prior knowledge of the scheme’s illegality. Despite such knowledge, it entered into the agreement, indicating willingness on its part. Thus, the court held that since Loop Telecom knew about the illegality and agreed to the contract willingly, it was on the same legal footing as the State and was therefore in pari delicto.
This shows that the court’s approach in the instant case aligned with the usual practice of the courts, as it used the same test of knowledge and relief to deny relief to Loop Telecom. That, however, does not vindicate it from criticism, as the court has erroneously applied this conventional approach.
Ignorance of Law: A Disregard of the Exception to the Exception
The maxim in pari delicto est potior defendeteris is an exception to the general rule of restitution contemplated in Section 65. However, merely because the general principles for its application are fulfilled does not mean that it will, in every scenario, be applied. Exceptions have been carved out in India through case law, particularly in government contracts, where even if the parties entered into the agreement voluntarily and with knowledge, they were still allowed compensation for losses incurred by them.
For instance, in Humanity and Another v. State of West Bengal, the appellant was allotted a plot but later requested the government to exchange it for a larger plot. It was then allotted the larger plot without floating any advertisement or conducting an auction, as required under the law. The court found the government’s actions to be unreasonable and arbitrary, as it unfairly benefitted the appellant by denying opportunities to other interested competitors, and cancelled the allotment. Interestingly, despite the appellant's voluntary complicity in entering into the agreement, the Court still directed the State to compensate the appellant—a claim which would not have otherwise been allowed under the conventional approach.
Further, in Akhil Bhartiya Upbhokta Congress v. State of Madhya Pradesh and Others, the appellant had challenged the process adopted by the State for reserving and allotting land to a trust, claiming that it was meant to unfairly benefit the trust. The court quashed the allotment, holding that the scheme was unfair, arbitrary and violative of Article 14. Here as well, the State was directed to compensate the trust despite the trust’s apparent complicity in the transaction. In New India Public School and Others v. HUDA, the appellants benefited from an illegal plot allotment process, leading to a court-ordered fresh allotment. Here, like in the previous cases, the court allowed compensation to the appellants despite their prior knowledge of the scheme’s illegality.
Hence, it is evident that courts have not applied the two-pronged test of knowledge and voluntariness in government contracts, and private parties can get compensation even if they were actively or passively complicit.
Was the 2G scam then a peculiar scenario such that cases of restitution arising out of it were not hit by this rule? The answer seems no, remarkably when this rule has been applied in other cases, similar to Loop Telecom, arising out of CPIL. For example, in S Tel v. Union of India (S Tel), S Tel sought a refund after its 3G spectrum license was annulled by CPIL. While it was an indirect beneficiary like Loop Telecom, the Telecom Disputes Settlement and Appellate Tribunal (TDSAT) still allowed the refund, holding that the license cancellation was not S Tel's fault. In fact, TDSAT considered it a “classic case of restitution”. Furthermore, in Unitech Wireless (TN) Private Limited v Bharat Sanchar Nigam Limited and Others, TDSAT held that no fault could be attributed to Unitech for the cancellation of licences as it was a circumstance beyond its control, even though it had directly benefited from the scheme. This holding was subsequently accepted by the Supreme Court. Since Loop Telecom has a similar factual scenario as these cases, it is natural to assume that the ruling would be similar. However, in the present case, the court still applied the test of voluntariness and knowledge and disregarded the exceptions to the same to deny relief to Loop Telecom.
Why did the court then adopt a different approach in the instant case? Should this case be considered an exception to the government contract-centric approach, or does it change that approach itself?
The questions remain unanswered as the Supreme Court overlooked relevant precedents and the prevailing position of law. Although it did refer to the S Tel judgement, it failed to provide adequate reasoning to distinguish it from the present situation and disregarded the fact that S Tel, which was similarly placed to Loop Telecom, was not considered responsible for the cancellation of its licence. Instead, the court conveniently adhered to conventional practices to deny relief to Loop Telecom.
Evidently, the ruling appears to be per incuriam and an aberration from what was a consistent and just position of law. This poses troubling consequences. Firstly, it has made uncertain the application of the maxim to government contracts, as courts will now have to decide whether to disregard and distinguish this ruling or treat it as the new position of law. Secondly, the ruling has opened the floodgates for unjust enrichment of the State, as it may deny restitution to private parties who knew about the illegality of the arrangement but entered into the contract under the pressure of losing out to competitors. Lastly, parties who did not know about the illegality and only indirectly benefited from the arrangement would also be unsuccessful under Section 65 as courts may infer the benefit to mean knowledge of the illegality as done in Loop Telecom. This is not only inequitable but also creates uncertainty and the potential for unwanted consequences.
Conclusion
The principle in pari delicto potior est defendentis is not absolute and is also subject to exceptions. One such exception highlighted above is in government contracts, where courts allow claims of restitution even though the private parties had knowledge of the illegality and were directly or indirectly complicit. This exception was ignored by the Supreme Court in Loop Telecom, which erroneously applied the conventional approach to deny relief to the appellants. The ruling is an aberration from the existing position of law and has made the application of the maxim uncertain in government contracts. It therefore presents unwanted consequences in future cases by allowing for unjust enrichment of the State at the expense of private parties, which is inequitable and attacks the very purpose of the maxim.