Appointment of Arbitrator in Lender-Borrower Agreements

Introduction

The structure of arbitration rests upon the pillar of consent, once vitiated, the whole structure is bound to collapse. In addition, a bare perusal of Section 7 of the Arbitration and Conciliation Act, 1996¹ (hereinafter “the Act”) clearly states that there has to be a mutual agreement between the parties to constitute a valid arbitration agreement.

As arbitration as a dispute resolution mechanism ousts the jurisdiction of the courts, it is necessary that both parties should have a fair and equal opportunity to choose the arbitrator who will adjudicate their disputes.

A fair selection of an arbitrator is often a pipe dream for many of the parties who are not in a strong position to bargain. This usually happens in the case of any arrangements with banks, non-banking financial companies (NBFCs), and financial sector entities, wherein these lending entities are placed on a higher pedestal than the borrower.

This ultimately results in the parties entering a one-sided contract, and when such contracts collapse, the unilateral arbitration clause is set into motion and the arbitrator is appointed unilaterally by the lending entities. This leaves the borrower at the mercy of a biased arbitrator, who eventually passes an award in favour of the lending entities.

Disclosure² by an arbitrator is a sine qua non³ for any arbitration. However, some arbitrators abstain from giving complete disclosure⁴ about their prior relations⁵ with the appointing party. It is seen that such arbitrators work in collusion⁶ with the appointing party and provide them with the desired relief. This article aims to bring out the position of law revolving around the appointment of arbitrators, followed by the issue of unilateral and multiple appointments of arbitrators. Lastly, it highlights the legal recourse to such invalid appointments if considered, and the concluding note is supported by suggestions to solve this problem.

Appointment of arbitrator

The law on the appointment of arbitrators under the Indian arbitration regime has evolved significantly. Earlier, unilateral appointments were allowed⁷ in India, however, the position changed after the Arbitration and Conciliation (Amendment) Act of 2015.⁸ The appointment of an arbitrator became more streamlined and certain restrictions were imposed to determine the criteria for the ineligibility to act as an arbitrator.

Statutory approach

An arbitrator can only be appointed in two ways, for the resolution of any disputes or differences between the parties, either by approaching the appropriate court under Section 11⁹ of the Act, or by mutually agreeing on the name of the arbitrator and appointing the same.

To comment on the latter, the parties have to mutually agree on the name of the person who would act as an arbitrator, followed by which a request is made to the person concerned to accept his appointment. And eventually, when said person affirms the appointment, he is designated as arbitrator to adjudicate the disputes.

However, when any person is approached in connection with his possible appointment as an arbitrator, he is bound to give disclosure to the parties. The purpose of the disclosure is to establish the independence and impartiality of the arbitrator towards the parties in dispute. Such disclosure is made in accordance with Section 12¹⁰ read with Schedules 5¹¹ and 7¹² of the Act. The format for disclosure is further laid down under Schedule 6¹³ of the Act.

Judicial approach

Post the 2015 Amendment, the scope for unilateral appointment of arbitrators was narrowed, furthermore, through various judicial pronouncements the courts have hammered down and confined the law. The Supreme Court of India¹⁴ has repeatedly stated that a person who stands ineligible by the Bar of Section 12(5) of the Act to act as an arbitrator could not even appoint another to act as an arbitrator. In cases¹⁵ where only one party has an exclusive right to appoint a sole arbitrator, the choice made will always have an element of exclusivity in drawing the course for dispute resolution, thereby making the outcome to be in their own favour. Therefore, such unilateral appointments are to be discouraged.

The guiding principles while appointing the arbitrator are transparency, fairness, neutrality, and independence in the selection process. Thus, an appointment can either be through mutual consent or by an order by the competent court.

Multiple appointments of the same arbitrator

In cases where the arbitration clauses are termed unilaterally, the appointing authority gains an unfair advantage over the other party. An example of such clauses could be, “Any dispute arising out of this agreement shall be settled by an arbitrator appointed by Party A….” Such arbitration clauses entitle only one of the parties to appoint the arbitrator unilaterally, and mutual agreement between both parties is absent.

Often these clauses are incorporated by NBFCs and other entities to settle their low/mid-value disputes. These entities maintain a panel of arbitrators to appoint in case of any dispute with the borrower. Ultimately, they keep appointing the same arbitrator frequently for their disputes.

The appointing authority makes a financial arrangement with the arbitrator wherein, they give several matters¹⁶ to the same arbitrator for giving a favourable award. Such acts dilute the sanctity of arbitration and adulterate ethical practices. Such practices benefit the arbitrators as well as the appointing authority, immensely.

Under Schedule 5 to the Act, certain grounds have been stated that would give rise to justifiable doubt as to the independence and impartiality of the arbitrator. One of such grounds i.e. Entry 22 has been reproduced below:

The arbitrator has within the past three years been appointed as arbitrator on two or more occasions by one of the parties or an affiliate of one of the parties.

After having a bare perusal of the aforementioned ground, it is clear beyond doubt that an arbitrator will raise justifiable doubts if he has acted as an arbitrator on two or more occasions for one of the parties to dispute. Such circumstances need to be disclosed¹⁷ to the other party as it would raise questions towards the independence and impartiality of the arbitrator. However, as indicated earlier, in many cases of unilateral appointment, the arbitrator conceals¹⁸ his relations¹⁹ with the appointing authority.

Even though the Courts have reiterated²⁰ through several judgments²¹ and settled the proposition, some of the lending entities still engage in the unilateral appointment of arbitrators. The Courts have previously dealt with numerous such cases.²²

In Sawarmal Gadodia v. Tata Capital Financial Services Ltd.²³, the petitioner aggrieved by the impugned award, challenged it before the Bombay High Court, on the ground that the sole arbitrator purposefully gave an incomplete disclosure to deceive the petitioner and that the arbitrator was neither independent nor impartial.

Over inquiry and perusal of records, developments surfaced regarding the arbitrator intentionally misrepresenting his disclosure to the petitioner, concealing the fact that he acted as an arbitrator in 251 matters of the respondents. The Bombay High Court came down heavily over the respondents for indulging in the custom of appointing an arbitrator unilaterally. The Court further remarked that the same arbitrator should not be appointed in successive cases as it attracts questions about the independence and impartiality of the arbitrator.

The Court further suggested that in elementary matters where the borrower fails to deliver the payment under the loan/guarantee agreements/documents, the same arbitrator should not be appointed for all such affairs as there is no shortage of arbitrators to arbitrate such kinds of disputes.

In Aditya Ganapa v. Religare Finvest Ltd.²⁴, the Delhi High Court set aside the impugned award for being in violation of the principle of natural justice, where the learned arbitrator failed to disclose his appointment in 40 other cases of the respondent party.

It is incumbent upon the arbitrator to give a complete disclosure to each party, including any prior relations with any of the parties. Often the unilaterally appointed arbitrator by the lending entities purposefully conceals their relationship with the appointing authority to refrain the other party from raising any objections to their appointment.

However, such tactics have been heavily discouraged by the courts as they dilute the practice, the arbitration. It often shuns away the parties from pursuing arbitration. Therefore, such practices should be avoided, and the courts should penalise the defaulting party including the arbitrator, for unilaterally appointing and concealing the true disclosure.

Recourse to the appointment of arbitrator

The recourse for appointment of an arbitrator can be made under two circumstances, namely,

1. When there is justifiable doubt as to the “independence and impartiality” of the arbitrator; or

2. When the person becomes “ineligible” to be appointed as an arbitrator.

In the case of the former, the objections are made before the Arbitral Tribunal itself, pursuant to Section 12 read with Section 13²⁵ of the Act. If the arbitrator does not entertain the objections and continues with the proceedings, then the aggrieved party may make an application for setting aside such an award once passed.

As for the latter²⁶, the objections lie before the court pursuant to Section 12 read with Section 14 of the Act.²⁷ The arbitrator does not have the power to decide any objections concerning his own ineligibility, as the same would be against the principle of natural justice. The issue of ineligibility goes to the root²⁸ of appointment and thus, should be settled by the court. Unilateral appointments can be challenged under this section as the arbitrator is deemed to be ineligible.

The party aggrieved by the faulty appointment of the arbitrator can take either of the two approaches, depending on the circumstances and problem at hand.

Conclusion

The gaining popularity of arbitration clauses in the lender-borrower agreements stipulates a creative solution. Most of the disputes are small or mid-valued and the parties need a quick and effective resolution. Appointing an arbitrator with the consent of both parties is a pipe dream as the defaulting party would oppose the designation of a neutral arbitrator, thereby intentionally delaying the appointment. Moreover, given the time and expenses incurred by the parties to approach the courts under Section 11, rendering an application would prove to be burdensome to settle a small or mid-value dispute.

The most appropriate option for the parties would be to approach the arbitral institutes. By opting for this, the appointment of an arbitrator can be expedited, and the neutrality of the arbitrator can be maintained. A dedicated timeline can be followed with the utmost level of transparency. Subsequently, the parties would save their expenses and avoid going to court. If needed, the parties can even adopt a customised fee schedule to settle their disputes cost effectively.

Opting for institutional arbitration for financial and other related disputes could be a promising way to cater to quick resolution for the appointment of the arbitrator, giving arbitration its effectiveness as a mode of dispute resolution.