In light of the above context, this post aims to present a critique of the aforementioned NCLAT judgement, focusing on the scope and limitations of the powers of NFRA. I shall argue that the NCLAT was incorrect in granting retrospective powers to the NFRA, primarily contending that the change in forum to try CAs for disciplinary matters is not a mere procedural change and hence cannot be applied retrospectively. I assert that such powers conflict with established legal principles and procedural norms.
The NFRA was established to address the shortcomings of self-regulation by ICAI in the aftermath of the Satyam scam, sparking a debate on which authority should regulate and penalize auditors. Criticism of the ICAI’s investigation practices led to the creation of the NFRA under the Companies Act, 2013, aiming to strengthen oversight of financial reporting in India.
Regardless of the above noble objective, there are certain apprehensions about the NFRA’s constitution, the foremost among them being that an entity that has not granted a license to an individual for professional practice should refrain from exercising the authority to investigate that person for professional misconduct. The Supreme Court in Supreme Court Bar Assn. v. Union of India held that “since the jurisdiction to grant a licence to a law graduate to practice as an advocate vests exclusively in the Bar Council of the State concerned, the jurisdiction to suspend his license for a specified term or to revoke it also vests in the same body.” When juxtaposed with the functions of the NFRA, it becomes apparent that this authority operates in a manner inconsistent with the legal principles set forth by the Court. The ICAI is the sole authority to prescribe requirements for its memberships like passing an exam and obtaining three years of practical training. If this is the case, the Supreme Court precedent makes it absolutely clear that only the ICAI should have the power to revoke the licence of an auditor or take any other action for misconduct. However, under section 132 of the Companies Act, the NFRA has been given overarching powers to take action against aberrant CAs for misconduct to the extent of debarring them from practice for up to ten years.
The above discussion is important because, if the constitutionality of the powers given to the NFRA itself is dubious, the concerns regarding the recent judgement are exacerbated. This will be discussed in the following section.
The Judgement
The NCLAT ruled that the NFRA has retrospective jurisdiction over offences committed by CAs. This includes offences that occurred before the NFRA’s formation or the effective date of the relevant portion of section 132 of the Act. This post will not go into the merits of the offences but rather shed light on the procedural irregularities which plagued both the NFRA’s and the NCLAT’s orders. Consequently, the issues of ‘retrospective jurisdiction’ of the NFRA will be considered.
Retrospective Jurisdiction of the NFRA
It is a settled principle that no law which has a penal element can be enforced retrospectively. There is also a well-established exception to this principle that if a statute merely affects procedure, it is presumed to be retrospective in its application. In its judgement, the NCLAT has held that the MCA notification brought about a mere procedural change by prescribing a change in forum from the ICAI to the NFRA to try disciplinary matters. It further opined that “retrospective application in such procedural law and change in forum is barred only if express provision is made in new law.” However, the NCLAT’s oversight lies in its failure to acknowledge that the notification not only introduced a procedural change but also included alterations in substantive law as well as the procedural standards for establishing guilt in alleged offenses.
Change in Substantive Law
Prior to the 2018 notification, the Chartered Accountants Act, 1949 was the prevailing law. Sections 21 and 22 of this legislation did not stipulate any consequences against firms of CAs, and only individual auditors could be penalized for misconduct. However, under section 132 of the Companies Act, the NFRA has been granted the powers to proceed against not just the individual auditors but also the entire firm. The retrospective application of the NFRA, whereby it exercises jurisdiction over firms, essentially imposes consequences that were non-existent prior to October 2018. This should be disallowed, as it goes beyond procedural changes, impacting substantive rights and contravening the prospective nature of substantive law. Such allowance contradicts fundamental legal principles and the core tenets of public policy.
Change in Procedural Thresholds
A counterargument might suggest that while the change in substantive law applies to firms under NFRA scrutiny, no substantial alteration is evident for individual auditors, who could still be investigated under the previous law. It is contended that even though there is no apparent alteration in substantive law for individual auditors, the procedural thresholds necessary to establish their guilt have changed substantially. In this case, the procedural shift became so integral that it assumed the character of “substance”.
The ICAI conducts an annual peer review process to evaluate the quality of services provided by practicing CAs. Theobjective of this process is to ensure that members of the Institute comply with technical, professional, and ethical standards. Pursuant to this review, the appellants in the case received the ICAI’s certification for the financial year 2017-18, which established that their job was ‘satisfactory’ and that they conducted the audits in accordance with the industry standards. However, when matters relating to the same financial year were investigated by the NFRA, it found the appellants guilty of misconduct. It is argued that even though the law defining and criminalising misconduct existed prior to 2018, the standards and criteria required to be found guilty were ‘substantially’ different. When the ICAI examined the impugned audits, it gave a ‘satisfactory’ rating whereas when the same audits were scrutinised by the NFRA, it found the auditors guilty to the tune of barring them for a year. Therefore, a new obligation on auditors was imposed due to the change in forum, as audit standards that were meant to be followed changed significantly. The legal framework as existing on the date of execution of the audit report should prevail. If one peruses some of the NFRA’s quality review reports of audits for years prior to its constitution, it is evident that it has taken a different approach and interpreted certain definitions differently from what used to be construed by the ICAI previously. It is conspicuous that this marks not a mere change in forum but a change in the entire set of rules and standards defining ‘misconduct’. Therefore, the NFRA should not be looking at the audits conducted before its incorporation. Even though the heightened scrutiny is a welcome move, it cannot be used to re-open closed cases that were already reviewed by the ICAI.
Conclusion
This post critically examines the NCLAT judgment in Harish Kumar v. NFRA, highlighting concerns over retrospective jurisdiction and the claimed superior status of NFRA over ICAI. It has been argued that the NFRA cannot be accorded retrospective powers as its establishment substantially alters not just the procedural aspects of law but also the substantive rights of the people concerned. The analysis underscores the need for a nuanced approach to balance regulatory objectives and legal principles in auditing disciplinary matters.
– Anish Gupta
