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In the recent Supreme Court case of State Tax Officer (1) v Rainbow Papers Limited, it was ruled that a notwithstanding provision imposing a statutory first charge on a dealer’s property for outstanding taxes, interest, or penalties is not contrary to or inconsistent with section 53 or any other provision of the Insolvency and Bankruptcy Code. The IBC did not override the GVAT.

The SC held that a resolution plan (RP) did not comply with the IBC if it excluded statutory amounts due to a government or a government authority. The court prioritized the government's statutory obligations and held that the state was a secured creditor under the GVAT and had a security interest in its domain. Further, the Supreme Court has ruled that companies can be liquidated if they cannot pay their debts, including statutory obligations to the government or other authorities. The state argued that this provision is wide enough to include all security interests. The state’s claim constituted a security interest as defined in section 3(31) of the IBC, creating a statutory charge in accordance with the GVAT. The court also held no government or governmental entity is excluded from the IBC’s definition of a secured creditor.

Subsection 3(30), (31) and (33), read together, indicates that a security interest is required to be a secured creditor. This definition clearly implies that a security interest is an agreed arrangement or transaction between the parties. The concept should not be extended to include forced and non-consensual acts such as the attachment of property by tax authorities.

Under the waterfall mechanism in section 53 of the IBC, proceeds from the sale of assets in a company's liquidation are distributed in order of priority. Dues to workmen and secured creditors have a higher priority than government dues. This makes no sense if lawmakers intended to make tax authorities equal to secured creditors because tax obligations are not included in amounts due to the government.

Section 238 of the IBC states that it overrides any other conflicting law. This has been upheld in cases such as Innovative Industries Limited v ICICI Bank Limited and Leo Edibles & Fats Limited v The Income Tax Department. Since Parliament is supreme, a state law is invalid if it conflicts with an act passed by Parliament. Even in the absence of such a conflict, the IBC takes precedence over the GVAT under the doctrine of repugnancy.

The SC has made several rulings on issues before, always upholding the precedence of secured creditors over tax authorities. It held in an August 2022 judgement that income tax, being government debt, did not take precedence over secured creditors. In a case involving Rainbow Papers, which had been denied a refund by the government's Customs department, the SC held that the IBC prevails over the Customs Act, 1962. This contradicts previous court rulings and legislative intent as well as Bankruptcy Law Reform Committee recommendations on how tax refunds should be handled by governments.

The Supreme Court held the Resolution worthless and thus not binding on the state. The National Company Law Tribunal must reject the Resolution if it disregards statutory demands by any state government or legal authority. It makes no sense to declare a Resolution unlawful because it does not call for the payment of tax obligations, and to state that outstanding tax must be settled under the Resolution without taking into account section 53 and liquidation values.

Giving tax authorities the same status as secured creditors is a mistake. It weakens the IBC’s priority ranking and waterfall mechanism, and it undermines its core principles. Giving workers, tax officials, and secured creditors the same priority will cause conflict over the payment of dues for liquidation. An increase in claims for government debt is anticipated—this will impact credit delivery. Sales tax departments may make claims in virtually all corporate insolvency resolution processes where they did not receive proportionately.