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3/8/13

RBI guidelines & SARFAESI proceedings?


It is very clear that the Banks should follow RBI guidelines on Asset-Classification before classifying any loan account as ‘Non-performing Asset (NPA)’. There were judgments saying that it is mandatory for the Banks to follow RBI guidelines while classifying an account as ‘Non-Performing Asset (NPA)’ and any deviation in this regard can vitiate the proceedings initiated under SARFAESI Act, 2002. While RBI guidelines are detailed when it comes to Asset Classification and related issues; the Bank officials or the Banks may have to make a subjective assessment of certain issues. It is understood from the reading of RBI guidelines on Asset-Classification that genuine borrowers facing temporary difficulties may be treated separately and based on reasonable assurance of recovery. Guideline 4.2.4 of RBI guideline deals with the issue of ‘accounts with temporary deficiencies’ and narration of few of the temporary deficiencies in the said guideline appear to be ‘inclusive’ in nature allowing the Bank to make certain subjective assessments on case-to-case basis. Obviously, no creditor and especially secured creditor want to harass a genuine borrower having a good track-record with the Bank for a considerable time. However, with constant emphasis on the issue of reduction of NPAs, it seems that the Banks are very strict while getting the accounts classified as ‘NPAs’. The most important thing about the issue of recovery by the Bank is that they are allowed to proceed against the borrower for default in any of the facilities availed by him when a borrower avails multiple credit facilities. Banks are asked to initiate recovery proceedings ‘Borrower-Wise’ and not ‘Facility-Wise’ and it is very clear in the RBI guideline 4.2.7. Again, Banks are not supposed to lay complete focus on the value of the security available with the Bank as such while initiating the recovery proceedings and it is very clear in RBI guideline 4.2.3. The extract of the said RBI guidelines are as follows:

4.2.7 Asset Classification to be borrower-wise and not facility-wise:

i) It is difficult to envisage a situation when only one facility to a borrower/one investment in any of the securities issued by the borrower becomes a problem credit/investment and not others. Therefore, all the facilities granted by a bank to a borrower and investment in all the securities issued by the borrower will have to be treated as NPA/NPI and not the particular facility/investment or part thereof which has become irregular.

4.2.3 Availability of security / net worth of borrower/ guarantor:

The availability of security or net worth of borrower/ guarantor should not be taken into account for the purpose of treating an advance as NPA or otherwise, except to the extent provided in Para 4.2.9, as income recognition is based on record of recovery.

Again, dealing with the issue of temporary deficiencies in adhering to the terms of the loan agreement, RBI guideline 4.2.4 says as follows:

4.2.4 Accounts with temporary deficiencies:

The classification of an asset as NPA should be based on the record of recovery. Bank should not classify an advance account as NPA merely due to the existence of some deficiencies which are temporary in nature such as non-availability of adequate drawing power based on the latest available stock statement, balance outstanding exceeding the limit temporarily, non-submission of stock statements and non-renewal of the limits on the due date, etc.

The problems for many borrowers or the Small Businessmen availing the loan facilities from the Bank comes from the issue that the Banks are asked to initiate recovery proceedings ‘borrower-wise’ and not ‘facility-wise’. Borrowers availing facilities from the Bank with the complex commercial arrangements and agreements face problems with this discretion available with the Banks or the Bank Officials. Many complain that there is no effective redressel mechanism to raise all these issues even when the borrower has a very good case for restructuring or for questioning the judgment of the Bank in classifying a particular account as a ‘Non-Performing Asset’. In most cases, the borrowers are driven either to approach the High Court under Article 226 of Constitution of India challenging the classification of an account as NPA or the borrower may have to inevitably file an Appeal before the Debt Recovery Tribunal under section 17 of SARFAESI Act, 2002. Even-though Banks can consider the proposal for restructuring of a loan account upon certain conditions and re-negotiating the terms, Banks do exercise great discretion in this regard.  Coupled with this situation, as the Banks can argue that the value of security has got nothing to do while classifying an account as NPA, genuine borrowers or borrowers/small businessmen with temporary/genuine/understandable problems face lot of pressure and problems. For example, an industry may have a very valuable property lying with the Bank as a security and may be facing some problems in its business with the obvious reasons which are beyond its control, and in such cases also, if the Bank is not convinced, the borrower becomes remediless.

Emphasis has always been laid on the issue of recovery and establishing an efficacious internal system by the Banks and Guideline 4.2.2 of RBI guidelines says as follows:

4.2.2. Banks should establish appropriate internal systems to eliminate the tendency to delay or postpone the identification of NPAs, especially in respect of high value accounts. The banks may fix a minimum cut off point to decide what would constitute a high value account depending upon their respective business levels. The cutoff point should be valid for the entire accounting year. Responsibility and validation levels for ensuring proper asset classification may be fixed by the banks. The system should ensure that doubts in asset classification due to any reason are settled through specified internal channels within one month from the date on which the account would have been classified as NPA as per extant guidelines.

RBI guidelines on ‘Asset Classification’ are well-balanced and the Banks are asked to make many subjective decisions and RBI guidelines do focus on the issue of not harassing genuine borrowers while emphasizing at the need of speedy and efficacious recovery. Along with the provisions dealing with the restructuring of loans or advances, RBI guidelines also deal with the issue of up-gradation of loan accounts classified as NPAs and the relevant RBI guideline in this regard is as follows:

4.2.5 Upgradation of loan accounts classified as NPAs:

If arrears of interest and principal are paid by the borrower in the case of loan accounts classified as NPAs, the account should no longer be treated as nonperforming and may be classified as ‘standard’ accounts. With regard to upgradation of a restructured/ rescheduled account which is classified as NPA contents of paragraphs 11.2 and 14.2 in the Part B of this circular will be applicable.

On certain issues, RBI guidelines are very clear as to when an account should be treated as NPA. But, with regard to providing relaxation or understanding the temporary difficulties of the borrower while considering upgradation of loan account or regularizing the loan account, Banks do exercise lot of discretion. If at all the borrower feels that the Secured Creditor or the Banks are unfair in dealing with his loan account or loan accounts, he can do nothing except approaching superior officers, approaching Banking ombudsmen or approaching High Court under Article 226 of Constitution of India. Though, even the DRT (Debt Recovery Tribunal) can consider all objections raised by the borrower while entertaining an Appeal under section 17 of SARFAESI Act, 2002, DRT may not have power to analyze a particular case in the light of RBI guidelines in its entirety though DRT can certainly look into the guideline dealing with the criteria for classifying a particular loan account or accounts as ‘Non-performing Assets’. Normally, Banks do not commit any mistakes in classifying an Account as NPA applying the RBI guidelines strictly. Apart from the criteria, the DRT can look into the issue of ‘debt’, objections regarding debt and the correctness of the procedure followed by the Bank under SARFAESI Act, 2002. Normally, Banks do not commit mistakes in the procedure and the borrower will have objection to the classification on the basis that he is not a willful-defaulter and the deficiency in making payment is temporary in nature. However, these things are not considered by the DRT normally as I think and they may not have power to consider all these issues in-spite of various judgments of the Constitutional Courts from time to time emphasizing at the powers of the Tribunal under section 17. Only due to the judgments of the Courts, the borrowers are allowed to question every measure initiated by the Banks under SARFAESI Act, 2002 now and technicalities are normally ignored while entertaining appeals under section 17. It is also clear that they can look into all objections pertaining to the loan account or even raised by the third-party if he is connected. The Civil Court may be having limited jurisdiction to look into the issues connected to the SARFAESI proceedings and the jurisdiction of the High Court under Article 226 of Constitution of India is largely dependent on the facts of the case, and the discretion of the Court.

Now, if the Bank takes a decision to classify an account as NPA and rejects the objections or the request by the borrower, then, apart from writ remedy, the remedy available to the borrower is to file an appeal under section 17 of the SARFAESI Act, 2002. Based on the merits of the case, the DRT will grant interim relief and finally, only when it is established that there is a procedural irregularity, the DRT will allow the SARFAESI Appeal and can order the restoration of property if the physical possession has already been taken by the Bank pursuant to steps taken under section 13 (4) or by taking assistance of the police etc. using the mechanism provided under section 14 of SARFAESI Act, 2002. In many cases, DRT can insist on payment of some deposit while granting an interim-relief when the borrower approaches the Tribunal under section 17 of the Act challenging the proceedings initiated by the Bank under SARFAESI Act, 2002. If the Bank proceeds with the proceedings even during the pendency of the Appeal under section 17, then, it becomes further more complicated to the borrower and it is very often heard that the borrower is asked to file another appeal literally instead of looking into all developments in the pending Appeal itself by way of entertaining affidavits or petitions in the pending Appeal. Filing an Appeal against the order of the DRT to the DRAT under section 18 is another big process and many normally get discouraged to do this in-view of pre-deposit condition. In each and every step, the borrower is discouraged and made to run from pillar to post even in cases with some merit and it is the view of many of the professionals or the borrowers facing SARFAESI proceedings. There is no reason as to why Appeals can’t be speeded-up, additional Tribunals can’t be set-up. If Appeals are speeded-up and if sufficient Tribunals and Appellate Tribunals are constituted, then, at-least genuine borrowers seeking remedy may feel protected and at-present, every case of so-called default is treated in a same way.

The SARFAESI Act, 2002 (The Securitisation and Reconstruction of Financial Assets & Enforcement of Security Interest Act, 2002) seems to be proceeding on the basis that the Banks or the Bank officials do not commit any mistakes. It is quite possible to ensure speedy recovery through special legislations like SARFAESI Act, 2002 and also giving confidence to the borrower that he will be heard fairly especially when the borrower has got a very good track-record and long standing relation with the Bank along with having valuable and marketable security lying with the Bank. It is quite possible. Now, it seems that there is an amendment or the provision allowing the Authorized Officers to bid for the property when there were no bidders initially and the reason given for this step is that it will allow the Banks to clean-up their balance-sheets. But, this kind of provisions can harm the borrowers and already it has become extremely difficult for the borrowers to establish or state his case and coordinating with the Banks. If there is too much pressure from the Banks when the businesses are not doing well for the reasons beyond their control, then, small business may be suffering irreparable loss if the Bank doesn’t understand their concerns reasonably and sympathetically. Normally, at-times, taking note of industry specific problems, the Finance Ministry may come-up with some kind of directions to the Bank to be lenient or understandable while insisting on the speedy recovery in-respect of some specific industries and Banks also are asked at-times to post-phone the recovery process also.

Instead of discouraging the borrower to get any remedy or forum to advocate his problems, the legal frame-work governing recovery of secured loans can still be very fair, few more Tribunals and Appellate Tribunals can be constituted and well-drafted powers are to be conferred on the Tribunals to even give directions to the Bank when needed and in-favour of the borrower. For example, if the loan to be recovered is only 10 lakh and the security lying with the Bank is worth 50 lakh admittedly, and if the borrower seeks for payment of outstanding loan amount with interest and charges seeking regularization, then, DRT should be able to give direction to the Bank to accept the proposal. Delays in adjudication can certainly be curtailed and technicalities can be ignored while entertaining pleas from the Borrower.

Admittedly, on the issues of reduction of interest, acceptance of OTS etc., Banks will have their own internal systems and DRT may have little role in this regard.

With many more stringent provisions like allowing the Banks to file Caveats before Tribunals under SARFAESI Act, 2002, allowing the Banks to bid for the properties; discretion of the Banks or the Bank officials has grown like anything and the borrower increasingly feels that he can not state his case and get remedy.

RBI keeps updating or modifies the guidelines governing ‘Asset Classification’, but, borrowers feel that it has become so difficult for them to establish or advocate their case even when they are not clearly willful defaulters and even when a valuable and marketable security is lying with the Bank.

Whether it is a Public Sector Bank or Private Sector Bank, borrowers should have a forum providing speedy, effective and efficacious remedy.

Note: the views expressed are my personal, my own understanding and I can be wrong in my views.

2/25/13

SARFAESI Act & sorrows of Borrower?


There is every need for the Government to enable/assist the Banks in reducing their NPAs (Non-performing Assets) and it is beyond doubt that the Banks are now well assisted/equipped through the legal frame-work in recovering their dues. The provisions of SARFAESI Act, 2002 (The Securitisation and Reconstruction of Financial Assets & Enforcement of Security Interest Act, 2002), judicial pronouncements from time to time and amendments to the SARFAESI Act, 2002 enable the Banks to recover their dues speedily. While there should be emphasis on the need and urgency of the Banks in reducing their NPAs, the rights of the borrower can never be ignored. It is to be commended that the judiciary has maintained a great balance between the rights of the Banks on the one hand and rights of the borrowers on the other hand while interpreting the provisions of SARFAESI Act, 2002. The Act talks of a right of appeal available to the borrower/guarantor/aggrieved person against the possession notice issued by the Bank under section 13 (4) of the Act. Time limit is prescribed to prefer an appeal. If the appeal provision is interpreted in stricto senso, then, the borrower has to confine himself to the issue of demand notice issued by the Bank under section 13 (2), the issue of classification of an Account as NPA based on RBI guidelines, the issue of objections raised by the Borrower, the reply given by the Bank if any etc. issues and nothing more than that. If the provisions are seen strictly, then, the Bank may not even be questioned when it fixes the reserve price and sells the property for a very low price affecting the borrower and also the Bank at times. Addressing these concerns, the judiciary has maintained that all actions initiated by the Bank under the provisions of SARFAESI Act, 2002 can be challenged by the borrower in an Appeal under section 17 of SARFAESI Act, 2002. Technically, if the borrower is silent in questioning the possession notice issued by the Bank under section 13 (4) of the Act and chooses to question the Sale Notice, then, the borrower has to confine himself to the procedure followed by the Bank after the issuance of notice under section 13 (4) and the issues pertaining to Sale of Secured Asset. When the borrower questions the sale notice and did not question the notice under section 13 (4) within the prescribed period, the borrower has to explain as to why he has failed to question the notice under section 13 (4) within the prescribed period. In the absence of satisfactory explanation as to why the borrower has failed to question the possession notice under section 13 (4), his position to raise all kinds of objections to the Bank’s demand becomes untenable.

However, the system has become liberal and courts have also liberally interpreted the provisions dealing with the ‘right of appeal’ provided to the borrower and the borrower can question every action initiated by the Bank under the provisions of SARFAESI Act, 2002. The borrower or any person aggrieved can approach the Civil Court in a very limited situation where actually there is fraud or serious dispute with regard to the title of the ‘secured asset’/property mortgaged. Though there can be no bar on the jurisdiction of High Courts under Article 226 in dealing with the grievances of the borrower against the Bank when the Bank initiates action, the High Courts do desist in being alternative to the remedy available before the DRT normally. As such, there is enough support to the Banks through legal-framework in recovering their dues from the borrowers. It is true that in the absence of a special legislation like SARFAESI Act, 2002, it would have been very difficult for the Banks in recovering their dues and reducing their NPAs. From the borrowers’ point of view, the borrowers allege that they do not have an effective remedy against the illegal action being initiated by the Bank using the provisions of SARFAESI Act, 2002. The Courts have held that the DRT can look into all allegations while entertaining an appeal under section 17 of the Act and it includes the issue of disputes pertaining to the actual ‘debt’. Then, it is also settled that the DRT can order re-possession of the ‘secured asset’ when it is found that the Bank has illegally taken the possession of the ‘secured asset’. It is very important to look into various stages and issues when the borrower prefers an appeal under section 17 of the SARFAESI Act, 2002 and those are as follows:

  1. When the borrower prefers an Appeal under section 17 against the Bank, the DRT can grant ex-parte stay of proceedings against the Bank if there is sufficient ground to that affect from the averments in the ‘Grounds of Appeal’ and also the documents produced. If there is a caveat, then, the procedure differs. Normally, the DRT orders notice to the Bank irrespective of the fact as to whether it grants stay or not in-favour of the borrower.  The DRT can also ask the borrower to make some deposit while granting stay and it is also reasonable as the borrower has to make the payments towards installments to the Bank in any case and there can be some time lapse between the demand notice issued by the Bank under section 13 (2) and the appeal.

  1. The Bank files its reply pursuant to the notice ordered by the DRT and they normally justify their action and say that the action initiated by the Bank is legal and the Appeal is liable to be dismissed. The Bank also can ask for vacating the interim order and can pray for allowing the Bank to continue with the further proceedings like Sale.

  1. If there is no interim order against the Bank while the Appeal is pending and the Bank is allowed to proceed with the sale proceedings, the issue gets complicated. The borrower should be allowed to raise any point and additional grounds by way of additional affidavit in the pending Appeal and there is nothing wrong in it and technicalities are to be ignored. For example, the borrower might have chosen to challenge the possession notice issued by the Bank under section 13 (4) and during the pendency of Appeal, if the Bank initiates the Sale Proceedings, the borrower should be allowed to question the Sale Proceedings in the same Appeal instead of bringing technicalities and asking the borrower to challenge the Sale proceedings separately.

  1. Obviously, during the pendency of SARFAESI Appeal, if the Bank proceeds with the sale of ‘Secured Asset’, it is likely that the property may not fetch the actual market value as the bidder discounts all the possible risks associated with the bidding. If the Bank is able to raise the money and can get the entire debt recovered through the sale consideration, then, the Bank is safe and appeal under section 17 literally becomes meaningless though it is usual to see an order where DRT says that ‘sale confirmation is subject to the final disposal of Appeal’. Or DRT can allow the Bank to proceed with the sale of Secured Asset and can say that the ‘sale confirmation’ is to be stayed until further orders. Instead of doing this, the DRT can dispose of the SARFAESI Appeal itself as it can ascertain the facts so fast based on the averments in the SARFAESI Appeal, the documents filed and the reply presented by the Bank.  Once the SARFAESI Appeal is finally disposed off then, it is not easy to prefer an appeal against the final order of DRT as the borrower will have to make pre-deposit with the DRAT which can vary from 50% to 75% depending upon the discretion of the DRAT. Now, with the provision enabling the Banks/secured creditors to bid for the property when the sale is post-phoned for want of bidders, it has become much easy for the Banks to deal with the ‘secured asset’ and claim recovery.

  1. The proceedings before DRT can not be compared to the proceedings before Civil Court and adjudication process before the DRT is simple and can be fast. However, it is also true that DRT requires time to look into the facts and read the documents apart from hearing the oral submissions from the Bank. Additional DRTs and DRATs can be constituted if required rather allowing the borrower to suffer and feel that the remedy before the DRT and DRAT is not effective.

  1. Again, the DRT can either allow the Appeal filed by the borrower under section 17 or dismiss the same finally. If the DRT allows the Appeal filed by the borrower under section 17, then, it can order re-possession of the ‘secured asset’ if the physical possession of the ‘secured asset’ is already taken. The Appeal can be allowed or dismissed either with costs or without costs. More than this, I don’t think that the DRT can do anything else or can give any direction to the Bank. For example, the borrower may be entitled for getting his loan restructured at the given point of time pursuant to some notification from the ministry of finance or RBI and the Bank must have ignored it. Even then, the DRT can not direct the Bank to restructure the loan of the borrower while disposing off the appeal. This is where the borrower feels remediless at times. If the Bank is to be asked to do something as per law, where can the borrower go?. The borrower can give a representation to the Bank officials, can write to the superior authorities and may approach the High Court under Article 226 of Constitution of India seeking direction. However, even the High Court may direct the Banks to consider the representation and with all the might and luxury, the Bank can make the borrower to run from pillar to post. This happens in many cases though the factor of habitual litigants can not be ignored.

  1. Very rarely, the Appeal filed by the borrower gets allowed and even then, the Bank will again be initiating the proceedings correcting the lacunae. For example, during the pendency of Appeal under section 17, the borrower may say that he is willing to regularize his account and abide by the loan terms and the market value of the ‘secured asset’ can be intact. In such cases, the Bank is in no way gets effected by regularizing the loan as it collects the interest and also the legal expenses for initiating the proceedings. However, the DRT can not give such a direction to the Bank though it can orally ask the Banks to consider the proposal of the borrower. Now with the recent amendments, the Secured Creditor is enabled with the right of filing ‘Caveat’ and it presents many difficulties to the borrower and it becomes now literally impossible to get an ‘ex-parte stay order’ against the Bank. And also, it has become very easy for the Banks to sell the ‘secured asset’ as there is no need of following separate procedure of Sale if the ‘Sale’ is postponed for want of bidders etc.

It is quite possible to ensure a system or practice under the provisions of SARFAESI Act, 2002 which is fair and also effective. If the ‘secured asset’ is valuable, then, there can not be any worry to the Bank at all as it can recover the dues with interest and expenses. If the ‘secured asset’ is not valuable in comparison to the dues recoverable, then, the officials of the Bank are to be blamed as to how they have sanctioned the loan in the first place.

Emphasis is always laid as to how to enable the Banks to speed-up their recovery, but, little emphasis is laid as to how the borrower feels remediless in some cases. Even while providing the best possible legal-framework enabling the Banks to recover their dues, the concerns of the borrower can certainly be addressed and it is very much possible. From the borrowers’ point of view, the following issues need to be considered.

a.     The Appeal mechanism under the provisions of SARFAESI Act, 2002 can be liberal and the borrower should be allowed to question every action initiated by the Bank under SARFAESI Act, 2002 without raising any technicalities like condonation of delay etc.

b.     It should be mandatory on the part of the Banks to mention marketability and market price/price of the ‘secured asset’ in its reply to the appeal of the borrower under section 17 among other things.

c.      There should be time-limit for the Banks in filing their reply in an appeal under section 17 of the Act and in the absence of filing the reply within the specific period, the proceedings of the Bank under SARFAESI Act against the borrower should automatically be stayed.

d.     Though there is a time-limit for disposing the Appeals under section 17 in the Act, the disposal normally takes time. If work-load in the DRTs and DRATs is the main cause for the delay, then, additional DRTs and DRATs can be constituted and so that, Appeals under section 17 and under section 18 of the Act can be disposed of as quickly as possible.

e.     The scope of powers of the presiding officer of DRT under section 17 should be expanded further and it should include giving suitable directions to the Bank from time to time keeping the need of ‘recovery of dues’ in mind.  

With the system aimed at speedy recovery and balanced heavily towards the Bank, genuine borrowers who are not willful or habitual defaulters also get affected. The borrowers feel remediless now and even if the remedy is provided, most of the borrowers feel that the remedy provided is ineffective. 

While it is important to improve the financial health of the Banks/Financial Institutions, there is no justification for a completely one-sided draconian legal system where the borrower is harassed like anything. Bank officials exercise great discretion and the Bank officials must be extremely happy with the legal provisions now governing the recovery of ‘secured loans’ under SARFAESI Act, 2002. It has become totally one-sided affair now and ordinary citizens & small businesses may feel it better to approach the private money leaders for their financial needs rather approaching Banks and Financial Institutions in this country.

I expect constitutional courts to entertain certain important issues under SARFAESI Act, 2002 in public interest rather supporting every view of the government.

Note: the views expressed are my personal.

SARFAESI Act & sorrows of Borrower?


There is every need for the Government to enable/assist the Banks in reducing their NPAs (Non-performing Assets) and it is beyond doubt that the Banks are now well assisted/equipped through the legal frame-work in recovering their dues. The provisions of SARFAESI Act, 2002 (The Securitisation and Reconstruction of Financial Assets & Enforcement of Security Interest Act, 2002), judicial pronouncements from time to time and amendments to the SARFAESI Act, 2002 enable the Banks to recover their dues speedily. While there should be emphasis on the need and urgency of the Banks in reducing their NPAs, the rights of the borrower can never be ignored. It is to be commended that the judiciary has maintained a great balance between the rights of the Banks on the one hand and rights of the borrowers on the other hand while interpreting the provisions of SARFAESI Act, 2002. The Act talks of a right of appeal available to the borrower/guarantor/aggrieved person against the possession notice issued by the Bank under section 13 (4) of the Act. Time limit is prescribed to prefer an appeal. If the appeal provision is interpreted in stricto senso, then, the borrower has to confine himself to the issue of demand notice issued by the Bank under section 13 (2), the issue of classification of an Account as NPA based on RBI guidelines, the issue of objections raised by the Borrower, the reply given by the Bank if any etc. issues and nothing more than that. If the provisions are seen strictly, then, the Bank may not even be questioned when it fixes the reserve price and sells the property for a very low price affecting the borrower and also the Bank at times. Addressing these concerns, the judiciary has maintained that all actions initiated by the Bank under the provisions of SARFAESI Act, 2002 can be challenged by the borrower in an Appeal under section 17 of SARFAESI Act, 2002. Technically, if the borrower is silent in questioning the possession notice issued by the Bank under section 13 (4) of the Act and chooses to question the Sale Notice, then, the borrower has to confine himself to the procedure followed by the Bank after the issuance of notice under section 13 (4) and the issues pertaining to Sale of Secured Asset. When the borrower questions the sale notice and did not question the notice under section 13 (4) within the prescribed period, the borrower has to explain as to why he has failed to question the notice under section 13 (4) within the prescribed period. In the absence of satisfactory explanation as to why the borrower has failed to question the possession notice under section 13 (4), his position to raise all kinds of objections to the Bank’s demand becomes untenable.

However, the system has become liberal and courts have also liberally interpreted the provisions dealing with the ‘right of appeal’ provided to the borrower and the borrower can question every action initiated by the Bank under the provisions of SARFAESI Act, 2002. The borrower or any person aggrieved can approach the Civil Court in a very limited situation where actually there is fraud or serious dispute with regard to the title of the ‘secured asset’/property mortgaged. Though there can be no bar on the jurisdiction of High Courts under Article 226 in dealing with the grievances of the borrower against the Bank when the Bank initiates action, the High Courts do desist in being alternative to the remedy available before the DRT normally. As such, there is enough support to the Banks through legal-framework in recovering their dues from the borrowers. It is true that in the absence of a special legislation like SARFAESI Act, 2002, it would have been very difficult for the Banks in recovering their dues and reducing their NPAs. From the borrowers’ point of view, the borrowers allege that they do not have an effective remedy against the illegal action being initiated by the Bank using the provisions of SARFAESI Act, 2002. The Courts have held that the DRT can look into all allegations while entertaining an appeal under section 17 of the Act and it includes the issue of disputes pertaining to the actual ‘debt’. Then, it is also settled that the DRT can order re-possession of the ‘secured asset’ when it is found that the Bank has illegally taken the possession of the ‘secured asset’. It is very important to look into various stages and issues when the borrower prefers an appeal under section 17 of the SARFAESI Act, 2002 and those are as follows:

  1. When the borrower prefers an Appeal under section 17 against the Bank, the DRT can grant ex-parte stay of proceedings against the Bank if there is sufficient ground to that affect from the averments in the ‘Grounds of Appeal’ and also the documents produced. If there is a caveat, then, the procedure differs. Normally, the DRT orders notice to the Bank irrespective of the fact as to whether it grants stay or not in-favour of the borrower.  The DRT can also ask the borrower to make some deposit while granting stay and it is also reasonable as the borrower has to make the payments towards installments to the Bank in any case and there can be some time lapse between the demand notice issued by the Bank under section 13 (2) and the appeal.

  1. The Bank files its reply pursuant to the notice ordered by the DRT and they normally justify their action and say that the action initiated by the Bank is legal and the Appeal is liable to be dismissed. The Bank also can ask for vacating the interim order and can pray for allowing the Bank to continue with the further proceedings like Sale.

  1. If there is no interim order against the Bank while the Appeal is pending and the Bank is allowed to proceed with the sale proceedings, the issue gets complicated. The borrower should be allowed to raise any point and additional grounds by way of additional affidavit in the pending Appeal and there is nothing wrong in it and technicalities are to be ignored. For example, the borrower might have chosen to challenge the possession notice issued by the Bank under section 13 (4) and during the pendency of Appeal, if the Bank initiates the Sale Proceedings, the borrower should be allowed to question the Sale Proceedings in the same Appeal instead of bringing technicalities and asking the borrower to challenge the Sale proceedings separately.

  1. Obviously, during the pendency of SARFAESI Appeal, if the Bank proceeds with the sale of ‘Secured Asset’, it is likely that the property may not fetch the actual market value as the bidder discounts all the possible risks associated with the bidding. If the Bank is able to raise the money and can get the entire debt recovered through the sale consideration, then, the Bank is safe and appeal under section 17 literally becomes meaningless though it is usual to see an order where DRT says that ‘sale confirmation is subject to the final disposal of Appeal’. Or DRT can allow the Bank to proceed with the sale of Secured Asset and can say that the ‘sale confirmation’ is to be stayed until further orders. Instead of doing this, the DRT can dispose of the SARFAESI Appeal itself as it can ascertain the facts so fast based on the averments in the SARFAESI Appeal, the documents filed and the reply presented by the Bank.  Once the SARFAESI Appeal is finally disposed off then, it is not easy to prefer an appeal against the final order of DRT as the borrower will have to make pre-deposit with the DRAT which can vary from 50% to 75% depending upon the discretion of the DRAT. Now, with the provision enabling the Banks/secured creditors to bid for the property when the sale is post-phoned for want of bidders, it has become much easy for the Banks to deal with the ‘secured asset’ and claim recovery.

  1. The proceedings before DRT can not be compared to the proceedings before Civil Court and adjudication process before the DRT is simple and can be fast. However, it is also true that DRT requires time to look into the facts and read the documents apart from hearing the oral submissions from the Bank. Additional DRTs and DRATs can be constituted if required rather allowing the borrower to suffer and feel that the remedy before the DRT and DRAT is not effective.

  1. Again, the DRT can either allow the Appeal filed by the borrower under section 17 or dismiss the same finally. If the DRT allows the Appeal filed by the borrower under section 17, then, it can order re-possession of the ‘secured asset’ if the physical possession of the ‘secured asset’ is already taken. The Appeal can be allowed or dismissed either with costs or without costs. More than this, I don’t think that the DRT can do anything else or can give any direction to the Bank. For example, the borrower may be entitled for getting his loan restructured at the given point of time pursuant to some notification from the ministry of finance or RBI and the Bank must have ignored it. Even then, the DRT can not direct the Bank to restructure the loan of the borrower while disposing off the appeal. This is where the borrower feels remediless at times. If the Bank is to be asked to do something as per law, where can the borrower go?. The borrower can give a representation to the Bank officials, can write to the superior authorities and may approach the High Court under Article 226 of Constitution of India seeking direction. However, even the High Court may direct the Banks to consider the representation and with all the might and luxury, the Bank can make the borrower to run from pillar to post. This happens in many cases though the factor of habitual litigants can not be ignored.

  1. Very rarely, the Appeal filed by the borrower gets allowed and even then, the Bank will again be initiating the proceedings correcting the lacunae. For example, during the pendency of Appeal under section 17, the borrower may say that he is willing to regularize his account and abide by the loan terms and the market value of the ‘secured asset’ can be intact. In such cases, the Bank is in no way gets effected by regularizing the loan as it collects the interest and also the legal expenses for initiating the proceedings. However, the DRT can not give such a direction to the Bank though it can orally ask the Banks to consider the proposal of the borrower. Now with the recent amendments, the Secured Creditor is enabled with the right of filing ‘Caveat’ and it presents many difficulties to the borrower and it becomes now literally impossible to get an ‘ex-parte stay order’ against the Bank. And also, it has become very easy for the Banks to sell the ‘secured asset’ as there is no need of following separate procedure of Sale if the ‘Sale’ is postponed for want of bidders etc.

It is quite possible to ensure a system or practice under the provisions of SARFAESI Act, 2002 which is fair and also effective. If the ‘secured asset’ is valuable, then, there can not be any worry to the Bank at all as it can recover the dues with interest and expenses. If the ‘secured asset’ is not valuable in comparison to the dues recoverable, then, the officials of the Bank are to be blamed as to how they have sanctioned the loan in the first place.

Emphasis is always laid as to how to enable the Banks to speed-up their recovery, but, little emphasis is laid as to how the borrower feels remediless in some cases. Even while providing the best possible legal-framework enabling the Banks to recover their dues, the concerns of the borrower can certainly be addressed and it is very much possible. From the borrowers’ point of view, the following issues need to be considered.

a.     The Appeal mechanism under the provisions of SARFAESI Act, 2002 can be liberal and the borrower should be allowed to question every action initiated by the Bank under SARFAESI Act, 2002 without raising any technicalities like condonation of delay etc.

b.     It should be mandatory on the part of the Banks to mention marketability and market price/price of the ‘secured asset’ in its reply to the appeal of the borrower under section 17 among other things.

c.      There should be time-limit for the Banks in filing their reply in an appeal under section 17 of the Act and in the absence of filing the reply within the specific period, the proceedings of the Bank under SARFAESI Act against the borrower should automatically be stayed.

d.     Though there is a time-limit for disposing the Appeals under section 17 in the Act, the disposal normally takes time. If work-load in the DRTs and DRATs is the main cause for the delay, then, additional DRTs and DRATs can be constituted and so that, Appeals under section 17 and under section 18 of the Act can be disposed of as quickly as possible.

e.     The scope of powers of the presiding officer of DRT under section 17 should be expanded further and it should include giving suitable directions to the Bank from time to time keeping the need of ‘recovery of dues’ in mind.  

With the system aimed at speedy recovery and balanced heavily towards the Bank, genuine borrowers who are not willful or habitual defaulters also get affected. The borrowers feel remediless now and even if the remedy is provided, most of the borrowers feel that the remedy provided is ineffective. 

While it is important to improve the financial health of the Banks/Financial Institutions, there is no justification for a completely one-sided draconian legal system where the borrower is harassed like anything. Bank officials exercise great discretion and the Bank officials must be extremely happy with the legal provisions now governing the recovery of ‘secured loans’ under SARFAESI Act, 2002. It has become totally one-sided affair now and ordinary citizens & small businesses may feel it better to approach the private money leaders for their financial needs rather approaching Banks and Financial Institutions in this country.

I expect constitutional courts to entertain certain important issues under SARFAESI Act, 2002 in public interest rather supporting every view of the government.

Note: the views expressed are my personal.

8/22/12

Can a Bank go back from the promise of ‘Settlement of Default of Debt’ or ‘Settlement of Debt’?


It is known that while some loan transactions with the Bank like Housing Loan, Educational Loan etc. are very simple, some commercial loan transactions are very complex in nature. The Bank may provide various loan facilities to the Borrower and most of these commercial loans are complex to understand and these loans infact involve many complexities. When a Businessmen or a Corporate gets various loan facilities and if there is a default or allegation of default with regard to a particular loan facility, the Bank proceeds against the borrower and claims for the settlement of entire outstanding debt in respect of all facilities. The Banks use the provisions of “Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act)” which appear to be draconian in some cases while the Act is justified from another angle.  Irrespective of the long standing relation of creditor and borrower, in some cases, the Bank may be unreasonable towards a borrower and may insist for recovery of the entire outstanding dues even if the borrower commits a default in respect of only one facility among many other facilities extended to the same borrower. The Bank may say that they will proceed ‘borrower-wise’ in classifying any Account as ‘Non-performing Asset’ and proceed with the recovery process under the provisions of SARFAESI Act, 2002. Banks or the officers concerned do exercise some discretion in this regard while the Bank or the officers are left with no discretion in respect of few other cases. The Bank has to follow the RBI guidelines and the RBI circulars having binding nature from to time. It is known that the Banks should follow the guidelines of ‘Asset Classification’ prescribed by the Reserve Bank of India in classifying any loan account as ‘Non-performing Asset’. The guidelines never intended to unnecessarily and unreasonably harass the borrowers. The guidelines refers to the significance of looking at ‘risk factor’, the ‘value of security’, track record of the borrower and even getting the loan Account updated though Bank usually follows their internal guidelines. 


In some cases, the borrowers do not want to litigate the issues with the Bank and may try their level best to get the default rectified and may try to get the account settled finally under ‘One-time Settlement Scheme’. The Bank or the officers concerned in most of the cases maintain written or oral communication with the borrowers when there is default. The borrowers, in-turn, explains their difficulties in view of their long standing relationship with the Bank and may seek some relaxation and may seek indulgence of the Bank to rectify the default in repayment. This communication or negotiation happens before classifying any loan Account as “Non-performing Asset” and even after the classification of account as NPA and before initiating the proceedings under the provisions of SARFAESI Act, 2002. In some cases, the borrowers negotiate with the Bank for rectifying the default or for a ‘final settlement’ even after the issuance of demand notice by the Bank under section 13 (2) of the Act. This is the reason as to why there is delay on the part of the Bank in proceeding with the recovery under the provisions of SARFAESI Act, 2002 even after the issuance of demand notice under section 13 (2). When a borrower intends to avoid litigation, he may listen or act upon the oral understanding with the officials. Sometimes, the understanding for ‘rectification of default’ or ‘settlement of loan’ can be in writing also. While the ‘rectification of default’ is oral in most of the cases, the ‘final settlement of the account’ is in writing normally.

‘Settlement of Default of Debt/Regularisation’:

It is frequently alleged now-a-days by the borrowers that the Bank or the officers of the Bank agrees for the ‘settlement for rectification of default’, receives the money from the borrower and later-on, insists for the full settlement of the outstanding due. Inspite of updating the loan account, the Bank may choose to proceed under the provisions of SARFAESI Act, 2002 and may say that they are acting on the basis of classification and they never agreed for ‘regularizing the loan account’. This happens even after the demand notice issued under section 13 (2). Even after the demand notice, the borrower can negotiate with the Bank and the Bank may receive some substantial amount of money in-between and even then, suddenly may choose to proceed with the issuance of notice under section 13 (4). These are the usual allegations from the borrowers against the Bank when it comes to ‘regularization of loan accounts’.  The allegation in some cases is that the Banks goes back from their promise and in some cases, the Bank is not co-operating for regularization as even the RBI guidelines refer to the regularization if other factors like the track-record, risk-factor, value of security etc. are justified. Another thing is that the intention behind giving notice to the borrower under section 13 (2) of the Act is to invite objections if any. Law mandates the Bank to give a reasoned reply to the objections raised by the borrower under section 13 (3A). But, what happens is that the Banks agree for some kind of settlement either orally or in writing even after the issuance of notice under section 13 (2). Later on, after a gap of some one year and when the borrower makes the substantial payment, the Bank acts upon the demand notice and issues a possession notice under section 13 (4) of the Act. This is infact incorrect. If something notable has taken place with regard to the recovery of loan after the issuance of notice under section 13 (2) and if the Bank is silent in acting on section 13 (2) for a considerable time in view of the payments made by the borrower, then, it is incumbent upon the Bank to issue the demand notice afresh taking note of subsequent developments and this fresh demand notice under section 13 (2) of SARFAESI Act can give an opportunity to the borrower to include his objections afresh without taking a direct recourse to an appeal to Debt Recovery Tribunal (DRT) or without having to approach the High Court seeking intervention at times. But, this is not happening. In most of the cases, unless the Debt Recovery Tribunal sets the SARFAESI proceedings aside, the Banks do not issue demand notice twice under section 13 (2) and instead acts upon the demand notice issued earlier irrespective of time gap or lapse. These are the usual problems being faced by the borrowers in getting his or their account regularized or updated. The borrowers are infact left with no remedy in these cases as the scope of powers of DRT under section 17 of the Act does not include the power to give direction to the Banks to agree for regularization. These kinds of cases mostly come to High Court and the High Courts usually issues suitable directions noting the interests of the Bank and the rights and plight of the borrower.

‘Settlement of Debt/One-time Settlements’:

The second issue is with regard to ‘final settlement of debts’. In many cases, Banks are going back from their promise of ‘one-time settlement’. The Banks agree for ‘final settlement of account’ with the borrower. The Banks may ask the borrower to give an offer letter in a format and with some averments and then, the Banks will agree for settlement. When the substantial amount is paid, the Banks may say and are saying in most of the cases that the RBI guidelines do not allow them to get the account settled under ‘One-time Settlement’. Again, the Banks may say that the borrower has not disclosed all the facts with the Bank while coming forward with the ‘One-time Settlement Proposal’. Once the settlement proposal is agreed, the Banks will be very silent till the substantial amount is deposited with the Bank and finally, they can say that they do not have right to go for ‘settlement’ or can blame the borrower that he has not disclosed the whole facts.  These things do happen regularly now-a-days. The DRT normally do not look into these issues and the DRT may at best, look at the procedural irregularities if any and even the disputes pertaining to outstanding are not entertained as such though the DRT can look into those issues. The DRT normally goes with the stand taken by the Bank unless the Bank is apparently wrong in their approach. Public Sector Banks should concentrate on the recovery of money and at the same time, can not harass the borrowers who are willing to get their accounts regularized or willing to get their account finally settled. Even, the RBI guidelines hint at this. When there is security lying with the Bank and when original documents are with the Bank, the Banks pressurize the borrowers with all kinds of things and using the provisions of SARFAESI Act, 2002 to their advantage. The DRT in these cases proves to be ineffective and the borrower is not entitled to approach the Civil Court in these cases in view of the bar under section 34 of SARFAESI Act, 2002. Though there is a scope for the Civil Court to entertain even the SARFAESI related matters in some cases in a limited sense pursuant to the Mardia Chemical’s case, it is very difficult to persuade the Civil Court with regard to its jurisdiction in SARFAEI matters and this can be attributed to the lack of expertise on the part of the Civil Courts with the Securitisation Law.

Conclusion:

When there is a borrower willing to get his account regularized and willing for settlement, the Banks can not harass those borrowers. In most of the cases, where the borrowers allege wrong treatment or breach of promise on the part of Banks with regard to ‘settlement for regularization’ and ‘final settlement of outstanding due’, the borrowers do approach the High Court and in most of the cases, High Courts do justice to the Petitioner or the borrower keeping the interests of the Bank and borrowers in view. High Courts are very careful in interfering with the SARFAESI proceedings initiated by the Banks as it can not be seen as an alternative to the Debt Recovery Tribunals (DRTs). But, in fit cases, the High Courts may not agree with the arguments of the Banks with regard alternative forum and may exercise the jurisdiction under Article 226 of Constitution of India. 

The issue as to whether the Banks can go back from the ‘settlement of default’ or ‘settlement of loan’ will depend upon the facts of the case and especially the contents of written offer and agreement by the Banks.

Note: the views expressed are my personal.

Points to be raised in a SARFAESI Appeal and getting relief?


It has almost settled and become like a regular practice for the borrowers to question the proceedings initiated by the Banks at the last stage under the provisions of “Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act)”. In fact, the law mandates that the aggrieved can approach the Debt Recovery Tribunal under section 17 of the SARFAESI Act, 2002 within 45 days from the date of issuance of notice under section 13 (4) of the Act. However, as the process of recovery of money do not end at the issuance of section 13 (4) of the Act and as it is likely that the Bank can commit mistakes in the process and process even after the issuance of notice under section 13 (4), it is settled that the borrower is entitled to question all steps initiated by the Bank under the provisions of SARFAESI Act, 2002. The borrowers have started questioning the Sale Process conducted by the Bank and also started questioning the order of the Magistrate under section 14 of the Act before the High Court regularly and as a result, the Courts have consistently held that the borrower is entitled to question all the steps initiated by the Bank under the provisions of SARFAESI Act, 2002. There is another point in this. If the borrower is silent even after the receipt of notice under section 13 (4) and do not prefer any appeal, there can be an argument from the Bank that there is nothing wrong in the proceedings initiated by the Bank till the notice under section 13 (4). If such an argument is accepted and if the borrower is silent even after the receipt of notice under section 13 (4) of the Act, then, the scope of Appeal preferred by the borrower at a subsequent stage gets narrowed-down. If the Borrower challenges the Sale Process only, the borrower may have to confine himself to the illegalities committed by the Bank in the Sale Process. However, if the borrower could offer some kind of explanation as to why he could not challenge the proceedings initiated by the Bank under section 13 (4) of the Act, then, he must be allowed to raise all the points in his Appeal under section 17 of SARFAESI Act, 2002.

When an Appeal is prepared or preferred under section 17 of the SARFAESI Act, 2002, there will be usual grounds with the intention of getting some time to repay the loan. The usual grounds are vague and are like:

  1. The borrower is not a willful defaulter.

  1. The classification of Account as ‘Non-performing Asset (NPA)’ is incorrect.

  1. The interested charged is exorbitant.

  1. No notice or caution is issued by the Bank before classifying the Account as ‘NPA’.

  1. The outstanding claimed by the Bank is incorrect.

  1. The value of the ‘secured asset’ mortgaged with the Bank is much more than the outstanding loan.

  1. The Bank has not issued any notice or demand notice under section 13 (2) or 13 (4) of the Act etc.

These are the usual grounds in any SARFAESI Appeal preferred by the borrower under section 17 of the Act. As the law is settled that the procedure prescribed under the provisions of SARFAESI Act, 2002 is mandatory, the Debt Recovery Tribunal has to give a serious thought to the averment made in the Appeal that no demand notice is received by the borrower under section 13 (2) or 13 (4). If that is established, then, the Appeal deserves to be allowed straight-away and without any further enquiry. But, for knowing this, the DRT may give notice to the Bank to file their counter and to ascertain the truth. This process will take time as there will be a procedure for the paper work done legally in any Public Sector Bank. At times, it may take few months also.  In view of the averments in the Appeal that no notice is issued under section 13 (2) or 13 (4), the DRT may consider granting relief to the Appellant or the borrower. While doing so, the Debt Recovery Tribunal will consider the outstanding payable, the security and the averments with regard to the value of security mortgaged with the Bank.  In view of these practical and procedural difficulties, the DRT may be forced to grant an interim-stay of further proceedings initiated by the Bank and the DRT may insist that the borrower remits some deposit and usually it can be from 10% to 30% depending upon the discretion of the DRT. It all depends upon the averments made in the Appeal. It would be extremely difficult for the DRT to ascertain the facts by looking at the averments in the Appeal and if the DRT refrains from granting any interim-order, then, there is a possibility that the Bank proceeds with the process and even can complete the Sale Process at times creating some third party interest which will further complicate issues.

But, when a borrower is serious in raising objections in his appeal under section 17, those objections to be in detail and specific. If the grounds in an Appeal under section 17 of SARFAESI Act, 2002 are mechanical and vague, then, it is very much possible for the DRT to come to an easy conclusion that the Appeal is preferred only to drag the proceedings and nothing more. In those circumstances, as soon as the Bank files its counter affidavit answering all the allegations in the Appeal preferred under section 17, the DRT may dismiss the Appeal. If the Appeal grounds are so vague and mechanical, it would be very difficult for the borrower to bring any new or additional facts in any further appeal proceedings before the DRAT or to the High Court subsequently. However, if the borrower chooses to file an appeal challenging the possession notice issued by the bank under section 13 (4) and while the Appeal is pending if the Bank goes ahead with further process with infirmities and illegalities, then, the Borrower is entitled to bring those further infirmities and illegalities in the form of an additional affidavit in the Appeal. As such, when the borrower is serious in his attempt to fight with the Bank challenging the SARFAESI proceedings under section 17 of the Act, pleadings to be detailed and perfect rather mechanical and vague. Even the DRT may not give much weight to the Appeal and the equities beyond a certain point if the grounds raised in the Appeal under section 17 are so vague and mechanical.

There may be instances where the borrower is not interested to fight with the Bank and instead may want to update the loan account and he must even have taken steps to do that. Under such circumstances, if the Bank is unreasonable and proceeds with their proceedings, then, the borrower can very well stick to his stand very firmly that he is not willful defaulter, has a fairly good track record in repayment issues, has the valuable security lying with the Bank and can continue to insist that the Bank is illegal in not agreeing to update the Account. It is a very interesting point if this stand is taken before the DRT. The DRT is empowered with certain powers under section 17 while entertaining an appeal from the borrower or any aggrieved person. Initially, the function of the DRT is to look into the procedural lapses committed by the Bank and nothing more. Later-on, the Courts have expanded the scope of powers of DRT and held that the DRT can look into the disputes pertaining to the outstanding claimed and all other issues and the DRT is even empowered to restore the possession back to the borrower if the physical possession of the property is taken by the Bank already. However, the DRT continues to exercise very limited powers and due this also; many Writ Petitions are filed to the High Court and even on SARFAESI issues, the High Courts issue directions to the Bank very frequently. While the DRT exercises some limited powers, there can not be any limitation on the powers or the power to issue directions by the High Court from time to time under Article 226 of Constitution of India.

Irrespective of the powers of the DRT under section 17 of SARFAESI Act, 2002, the borrowers should take-up all possible legal points in detail to the extent possible. Only due to the confusion with regard to the powers of DRT under section 17, the borrowers continue to approach Civil Courts at times and continue to approach the High Court very regularly. There can be a case where the borrower admits the minor default in repayment, he must have been other-wise good in repayment issues and must have expressed his willingness to update his account without raising any kind of litigation. If such is the attitude of the borrower, then, the borrower may prefer to approach the High Court seeking a suitable direction to allow him to get his account updated as even the RBI guidelines permit that and cautions against unnecessary harassment to the borrowers using technicalities. If this kind of cases are taken to DRT, then, apart from the expenses involved, the procedure before the DRT is different and the procedure delays the efforts of the borrower to get his account updated and the DRT may finally choose to look into the issue as to whether there is any procedural irregularity on the part of the Bank under the Act. An account which should have been updated very easily, may end-up as ‘Non-performing Asset’ forcibly and can lead to long litigation with the DRT, DRAT, High Court and Supreme Court and more interim applications in-between. It will not benefit either the borrower or the Bank and the Bank must be with the intention that they can recover the legal expenses incurred from the borrower finally.

As such, the borrowers should be very clear in their approach and should be careful in raising objections in their Appeal under section 17 of the SARFAESI Act, 2002.  

Note: the views expressed are my personal.

7/20/12

Simultaneous proceedings under section 397/398?


It is known that section 399 of the Companies Act, 1956 entitles minority shareholders, subject to the qualification prescribed, to approach the Company Law Board (CLB) under section 397/398 of the Companies Act, 1956 seeking relief against the ‘oppression and mis-management’ from the majority shareholders in the Company. As majority shareholders effectively controls the Board through their say in General Body Meetings, the protection to the majority is not envisaged though even the majority can approach the Company Law Board under section 397/398 of the Companies Act, 1956 when they become artificial minority under certain circumstances. There were several principles and precedents developed over the time on the scope of section 397/398 of the Companies Act, 1956 and these proceedings are seen as most complex usually. Though even the liquidation proceedings exercised by the High Court are complex at times, the proceedings under section 397/398 of the Companies Act, 1956 are really complex as the Board would be exercising its power to ‘put an end to the matters complained of’. Dealing with the scope of the provisions dealing with the ‘oppression and mismanagement’ under Companies Act, 1956, the Hon’ble Bombay High Court in Mauli Chand Sharma and another Vs. Union of India and others, (1977) 47 Com Cases 92, has held that:

“chapter II of the Act, which includes section 255, deals with corporate management of the company through directors in normal circumstances, while Chapter VI, which contains sections 397, 398 and 402, deals with emergent situations or extraordinary circumstances where the normal corporate management has failed and has run into oppression or mismanagement and steps are required to be taken to prevent oppression and/or mismanagement in the conduct of the affairs of the company. In the context of this scheme having regard to the object that is sought to be achieved by sections 397 and 398 read with sections 402, the powers of the court under can not be read as subject to the provisions contained in the other chapters which deal with normal corporate management of a company. Further, an analysis of the sections contained in Chapter VI of the Act will also indicate that the powers of the court under sections 397 and 398 read with section 402 can not be read as being subject to the other provisions contained in sections dealing with usual corporate management of a company in normal circumstances. The topic or subjects dealt with by sections 397 and 398 are such that it becomes impossible to read any such restriction or limitation on the powers of the court acting under section 402. Without prejudice to the generality of the powers conferred on the court under these sections, section 402 proceeds to indicate what types of orders the court could pass. Under clause (a) of section 402, the court’s order may provide for the regulation of the conduct of the company’s affairs in future and under clause (g) the courts order may provide for any other matter for which in the opinion of the court it is just and equitable that provision should be made. An examination of the aforesaid sections brings out two aspects; first, the very wide nature of the power conferred on the court, and secondly, the object that is sought to be achieved by the exercise of such power, with the result that the only limitation that could be impliedly read on the exercise of the empower would be that nexus must  exist between the order that may be passed thereunder and the object sought to be achieved by those sections and beyond this limitation which arises by necessary implication it is difficult to read any other restriction or limitation on the exercise of the court’s power. Further, section 397 and 398 are intended to avoid winding up of the company if possible and keep it going while at the same time relieving in minority shareholders from acts of oppression and mismanagement or preventing its affairs being conducted in a manner prejudicial to public interest and, if that be the objective, the court must have power to interfere with he normal corporate management of the company, and to supplant the entire corporate management, or rather, mismanagement, by resorting to non-corporate management which may take the form of appointing an administrator or a special officer or a committee of advisers, etc., who would be in charge of the company”. 

Though I am not going to deal with many issues under section 397/398 of the Companies Act, 1956, it is very important to understand two important pre-requisites to maintain a petition under section 397/398 and those are as follows:

(1)   Minority shareholders approaching CLB should establish clearly that they hold the requisite qualification under section 399.

(2)   Minority shareholders approaching the CLB should establish a prima-facie case though no case gets dismissed now-a-days on the issue of ‘non-establishment’ of prima-facie case as it can amount to giving a finding on the main petition itself at times.

If we keep the qualification issue apart, it is long been settled that ‘an isolated incident’ can not entitle the minority shareholders to approach the Board under section 397/398 of the Act. There are several precedents on the issue though a lenient view is taken now-a-days on the issue of ‘continuity of acts’. Even isolated incident in the Company can lead to the intervention of the CLB under section 397/398 of the Companies Act, 1956 depending on as to how the Board considers the effect of that incident. It establishes a point that there can be issues between the minority and majority which can be settled before any other forum like Civil Court etc. without invoking the jurisdiction of Company Law Board under section 397/398. There can be an issue of enforcement of an agreement between two groups in the Company and that dispute can be settled through a Civil Court or by an Arbitrator if the agreement contains an Arbitration Clause. Thus, if the disputes erupt between the groups in the Company, then, one group may file a Criminal Complaint on the other group, may file a Civil Suit and even can ask for an appointment of arbitrator to look into the disputes if the cause for the dispute is with regard to the ‘enforcement of any specific agreement’.

Res-subjudice & Res-judicata:

The point is as to what is the effect of pending or concluded legal proceedings to the proceedings under section 397/398 of the Companies Act, 1956. Can the Board ignore the findings of concluded proceedings? Can the Board give a different finding on the issue concluded by other forum?. Can the Board ignore the pending legal proceedings between the minority and majority? Etc. The issue of approaching two forums with the same relief and seeking the same relief concluded by the competent forum are dealt-with under section 10 and 11 of Civil Procedure Code, 1908 and those are reproduced below without explanations.

“10. Stay of Suit – No court shall proceed with the trial of any suit in which the matter in issue is also directly and substantially in issue in a previously instituted suit between the same parties, or between parties under whom they or any of them claim litigating under the same title where such suit is pending in the same or any other Court in India having jurisdiction to grant the relief claimed, or in any court beyond the limits of India established or continued by the Central Government and having like jurisdiction or before the Supreme Court.”

“11. Res Judicata – No court shall try any suit or issue in which the matter directly or substantially in issue has been directly or substantially is in issue in a former suit between the same parties, or between the parties under whom they or any of them claim, litigating under the same title, in a court competent to try such subsequent suit or the suit in which such issue has been subsequently raised, and has been heard and finally decided by such court.”

These two principles are so important in a proceeding under section 397/398 of the Companies Act, 1956 though now-a-days it is rare to see a litigation pending in a Civil Court between the minority shareholders and majority or the Company. Certain settled legal principles like Res subjudice and Res judicata are to be followed by any judicial authority or quasi-judicial authority as it is supported by sound logic. This is similar to the ‘principle of natural justice’. However, application of these principles to the proceedings under section 397/398 of the Companies Act, 1956 are most complex and the Board exercises lot of discretion in this regard making a balance between the settled legal principles and the object of section 397/398.

Simultaneous jurisdiction:

Explaining a to how the shareholders are entitled to approach Civil Court or Arbitrator at times and as to how the CLB too has power to look into the issue, the Court in CDS Financial Services (Mauritius) Limited Vs. BPL Communications Limited and others, (2004) 121 Comp Cases 375, has held that:

“when there is no express provision excluding the jurisdiction of the civil courts, such exclusion can be implied only in cases where a right itself is created and the machinery of enforcement of such right is also provided by the statute. If the right is traceable to the general law of contracts or it is a common law right, it can be enforced through the civil court, even though the forum under the statute also will have jurisdiction to enforce that right. Sections 397, 398 and 408 of the Companies Act, 1956, do not confer exclusive jurisdiction on the company court to grant reliefs against oppression and mismanagement. The scope of these sections is to provide a convenient remedy for minority shareholders under certain conditions and the provisions therein are not intended to exclude all other remedies”.

Possible misuse:

With the simultaneous jurisdiction and shareholders having a scope to approach Civil Court or Arbitrator and also approach CLB at times, there is a possibility for converting the jurisdiction of CLB under section 397/398 to that of a Civil Court. It is very much possible as even isolated incidents are considered under section 397/398 of the Companies Act, 1956 though it depends upon as to how the CLB views it.  Though it was a case of exercise of powers by Company Court, dealing with the similar issue, the Court in B.Ramachandra Adityan Vs. Educational Trustee Co. (P) Ltd and another, (2003) 5 Comp LJ 413 (Mad), has held that:

“It is, no doubt, true that the scope of the civil suit is different as the proposed suit is one under the general law and the scope of the company petition is different. But, it will not be open to convert the proceedings in the company Court, which are summary in nature and to use the finding arrived at in the summary proceeding, if it is favourable to the petitioner, in the civil proceeding. It is in the sense that the proceedings under the company law are an abuse of the process of the court and it is well settled that the proceeding herein can not be used for some oblique or some extraneous purpose”.

Striking a balance:

Dealing with the issue, the Company Law Board in RDF Power Projects Ltd. and others Vs. M.Murali Krishna and others, (2005) 4 Comp LJ 97 (CLB), has held that:

 “the object of section 10 of the Code of Civil Procedure 1908, is to avoid conflicting decisions of two competent courts over the same matter and save the time of the court, where the subsequent proceedings are initiated in the same matter. By virtue of section 10, a court shall not proceed with the trail of a suit in which the matter is directly and substantially the same as the one in issue in a previously instituted pending between the same parties or parties under whom they claim to litigate under the same title. The following are essential conditions for application of the provisions of section 10:

(a)    There must be two pending suits on the same matter.
(b)   These suits must be between the same parties or parties under whom they or any of them claim to litigate under the same title.
(c)    The matter in issue must be directly and substantially the same in both the suits.
(d)   The suits must be pending before the competent court or courts.”

Further, the Board has observed that “in the light of the provisions of section 10, the subject matter involved both in the Civil Court and the Company Law Board must be examined”. Further, the Board went on observing that “a careful analysis of the issues both before the Civil Court and the Company Law Board would indicate that the whole of the subject matter in these proceedings is not identical. Section 10 is not attracted if one or some of the issues are in common as held by the courts in a number of decisions. The entire subject-matter of the company petition is not covered by the previously instituted suit. It is free from doubt that there is no substantial identity of the subject-matter before the Civil Court and the Company Law Board. The only issue before the Civil Court is in regard to the right of the second applicant to continue in the office of the managing director of the company. As a result the petitioners shall not interfere in the functioning of the company. Thus, none of the other contentious issues raised in the company petition is before the Civil Court. Therefore, the decision of the Civil Court will not definitely affect the decision in the present company petition, save the continuance of second applicant as the managing director, in which case it can not be said that the matter in issue is directly and substantially is the same in both the proceedings. Section 10 would only apply, in my view, where the decision in previous suit will definitely affect the decision in the later proceedings. Moreover, sections 397 and 398 provide adequate relief to the aggrieved members on account of the possible oppression by the majority and a Civil Court can not usurp the powers of a Company Court, whose jurisdiction brings from an enactment of Parliament and adjudge common law rights on a prior consideration”.

Conclusion:

1.     The CLB can certainly look into the concluded proceedings, but, can not give a different finding on the same issue concluded by a Competent Court.
2.     The Petitioners approaching the CLB can refer to the concluded proceedings; however, the petitioners may not be able to get a relief with the similar or same grievances raised in the concluded proceedings.
3.     Irrespective of pendency of any proceedings between the majority and the minority, the CLB can entertain a petition under section 397/398 of the Act and the CLB will take an appropriate decision as to the issue of grant of relief or the maintainability of a petition under those circumstances.
4.     When it comes to the issue of applicability of settled legal principles like Res Judicata or Res Judice, the CLB will exercise its discretion based on the facts of the case and no hard and fast rule can be laid in this regard.

Note: The views expressed are my personal.