The Banks and Financial Institutions are considered as the backbone of any nation in regard to the economic advancement of that nation. They primarily act as a link between the borrowers and the investors (depositors). The main service of Banks and Financial Institutions is to give interest on deposits and charge interest on loans granted, and the difference between the former and the latter is the key source of income of them. The loans that Banks and Financial Institutions grant to individuals or organisations which require financial facility are considered as an Asset because they help in generating income and the interest which they pay on deposits. These Assets are later classified as Non-Performing if the borrowers stop paying the interest on the loan to the Banks and Financial Institutions as per the agreed rate of interest. These Non-Performing Assets (NPA) do not help Banks and Financial Institutions in any way to generate income by charging the interest. This is one the most continuous problem before the Banks and Financial Institutions. In exchange for loans the Banks and Financial Institutions take as security movable or immovable property of the borrower.
The security on immovable property is made through mortgaging that property and the security on movable property is made through a pledge or hypothecation. It is much easier for Banks and Financial Institutions to enforce their right over immovable properties since it can be disposed just by giving a notice to the Pawner with the help of The Indian Contract Act, 1872 but to enforce the right over immovable properties, is a bit difficult process for the Banks and Financial Institutions and even the Civil Laws of the nation can take up to years for a decree. Before 2002, there was no such provision for helping the Banks and Financial Institutions to enforce their rights over immovable properties and recover the loan dues without approaching any court or tribunal. A special statute was the need of the hour then, a statute that could give right to Banks, Financial Institutions or any creditor of the country to enforce their rights over the mortgaged immovable property of the loan defaulters without any intervention or approaching any court or tribunal.
SARFAESI ACT, 2002
The Securitisation and Reconstruction of Financial Assets and Enforcement of Securities Interest Act, 2002 (also known as the SARFAESI Act) commenced on 21st June 2002 and came into force from 17th December 2002. This legislation, at the time of enactment, was considered as a helping tool for the Banks and Financial Institutions since it gave them the power to enforce their rights upon the secured immovable asset of the borrower by was taking possession over the property, right to transfer through lease, sale for realising the immovable asset. This act gave powers to Banks and Financial Institutions to enforce their right over the secured immovable asset without intervention of any court or tribunal was earlier impossible. It allowed banks and other financial institution to auction residential or commercial properties (of Defaulter) to recover loans. This Act was formed by the Narsimha Committee I & II and the Andhyarujina Committee. The SARFAESI Act’s constitutionality was also challenged in the case of Mardia Chemicals vs Union Of India, in which the Hon’ble Supreme Court of India upheld the constitutional validity of this Act with a few changes in some sections on grounds of natural justice and equality. For Banks and Financial Institutions, there are some essentials that have to be present, to ensure valid enforcement of their rights like,
The Loan must be a Secured Loan.
The Loan Account must be declared as an NPA (Non-Performing Asset).
The Loan amount must not be less than Rs 2,00,000=00 and more than 20% of the principal amount shall be due.
The mortgaged immovable property should not be an Agricultural Land.
MODE OF RECOVERY OF NPA UNDER THE SARFAESI ACT
There are certain provisions in the Act which helps the Banks and Financial Institutions in quick and better recovery of the bad debts and reduce the constantly increasing number of NPAs. There are 3 ways through which Banks and Financial Institutions can recover the NPA under the SARFAESI Act, 2002, which are:
SECURITISATION: Under this method, the Banks and Financial Institutions sell off the secured assets of the debtor in the form of securities to the Asset Reconstruction Companies (ARC) or Securitisation Companies (SC), these companies convert the NPA into marketable securities. An ARC or SC generally raises its funds to purchase the financial assets through several schemes to the Qualified Institutional Buyers (QIB), for which they have to maintain a separate account for each scheme, to make sure that the investments made by any QIB is directed towards realization of each financial asset secured. It can be said that the ARCs or SCs take control of the mortgaged secured asset from the Banks and Financial Institutions.
ASSET RECONSTRUCTION: As the name implies, Asset Reconstruction is the way of converting the Non-Performing Assets of the Banks and Financial Institutions into Performing Assets, for which there are ARCs and SCs. The ARCs and SCs purchase the bad asset alongwith the underlying mortgaged asset and using debentures, bonds and securities to convert the Non-Performing Asset into a Performing Asset. These companies have to ensure that the legitimate administration of the business of the borrower, by change in, or taking charge, of, the administration of the business of the borrower the deal or rent of a section or entire of the business of the borrower rescheduling of instalment of obligations payable by the borrower implementation of security interest, settlement of loan due by borrower by getting possession of the mortgaged asset in accordance to the SARFAESI Act.
Registration of ARCs/SCs:
All ARCs and SCs must get the certificate of registration from the Reserve Bank of India (RBI).
Any ARC or SC which is registered under the RBI can undertake the process of Securitisation or Asset Reconstruction or both.
If any ARC or SC does not get itself registered with the RBI, it may continue with the process of Securitisation and Asset Reconstruction, but not under the purview of SARFAESI Act.
SECURITY INTERESTS ENFORCEMENT
The most common mode of recovery through SARFAESI Act is the enforcement of security interest, under this the Banks and Financial Institutions, in case of loan defaults, issue a notice to the borrower (defaulter) or guarantors under section 13(2) of the act giving them 60 days to pay off their debts and informing them about the intent of the Banks and Financial Institutions to take possession of the mortgaged property under section 13(4) of the SARFAESI Act.
Furthermore, if the borrower fails to pay off their debt within the 60 days period, the Banks and Financial Institutions continue with the process of taking possession of the borrowers property and putting it up for sale to recover the dues.
If the borrower makes any query, the bank has to respond within 7 days of such query since they are legally bound. The borrower can seek explanation and clarification about the Principal Amount, Interest Rate, etc. if there is any error in the notice given under Section 13 of the act.
Nevertheless, such communication between the borrower and creditor shall not grant any right to the borrower to prefer an application at the Debts Recovery Tribunal (DRT).
All such notices are served by the Authorised Officer of Bank only, who’s rank should be of Scale IV and above. Once the possession is taken by the bank, they have to publish the possession notice in any 2 newspapers within 7 days of taking the possession, with the purpose of informing the general public about the same.
The borrower may move to/approach the DRT, within 45 days from the date on which the Bank took the possession of the property, for grievance redressal. The borrower may further approach the DRAT (Debt Recovery Appellate Tribunal) if aggrieved by the decision of the DRT, within 30 days of the order of DRT.
The mortgaged property of the borrower can be sold on when proper valuation of the property is done by a Government Authorised Valuer and then publishing it in any 2 newspapers out of which one shall be in vernacular language giving a 30 days period. The mortgaged property can be sold for any maximum amount, and the difference between the loan amount and the amount realised through sale can be recovered by the borrower by approaching the DRT.
AMENDMENT IN SARFAESI ACT (2016)
The SARFAESI Act was amended by the “Enforcement of Security Interest and Recovery of Debts Laws and Miscellaneous Provisions (Amendment) Bill, 2016”. In August 2016, the Government of India amended the SARFAESI Act, giving powers to the ARCs to reconstruct the DRTs and improve the process of asset reconstruction under the new bankruptcy code. Through this amendment the RBI had more regulatory powers over the working of the ARCs. The amount of penalty was increased from Rs 5,00,000=00 to Rs 1,00,00,000=00. This amendment was done with the aim of speeding up the procedure of DRTs, initiation of online filing of recovery applications, statements, documents, etc. The DRTs are the backbone of such bankruptcy laws that deals with bankruptcy/insolvency proceedings of individuals and sole proprietor businesses.
ISSUES UNDER THE SARFAESI ACT
The SARFAESI Act, 2002, validates Security Receipts which are held and issued by the Qualified Institutional Buyers. However it does not include any Non-Banking Financial Company (NBFC) or any other government body unless it is classified as a Financial Institution by the Central Government. Any Securitisation Receipt (SR) grants right of title or interest to its holder in financial assets incorporated under securitisation. With inconsistent shares, in cases of “Pay through Securities”, the definition is not legally sufficient. Many times risk is involved in the process of securitisation like Security Collapse Risk, Credit Risk, Legal Risk, Financial Guarantor Risk, Prepayment Risk, Swap Counterparty risk, etc.
DIFFICULTIES FACED BY BANKS
INTERREFERENCE BY COURT: Many times aggrieved parties file Writ Petitions because of which the High Court interferes in the proceeding of SARFAESI Act. Although according to the Hon’ble Supreme Court, an aggrieved party may approach the High Court only when they have exhausted all their remedies as prescribed in the act, which are DRT and DRAT, but still the Courts entertain the petition and this leads to delay in the process of recovery. In the case of Transcore vs Union of India, the Hon’ble Apex Court decided that simultaneous proceedings can take place under SARFAESI Act, however recovery proceedings under RDDBFI (Recovery of Debts Due to Banks and Financial Institutions) are initiated against the borrower.
SALE OF SECURITY PROPERTY: Once the possession is taken by the bank, it is generally considered as a difficult task to commence the sale of property. This is because there is not specific law to obtain the property for its own, the bank can hold possession without an alternative to write off the debts from its books. The creditor can take part in the auction of the property and acquire it, with permission of the Civil Court. There is not certain provision under the SARFAESI Act in this context.
PRIMACY OF GOVERNMENT DEBTS: The Government dues and claims triumph and generally the amount received by sale is claimed by the Government Bodies. Although SARFAESI Act has supremacy over other laws. The Sales Tax Act amendment in several states, the Banks have an obligation to accept sales tax claims even when the mortgage is created in favour of Banks. To give Banks a relief from such exercise of power, the Government Bodies must verify that the claims are dated before the mortgage in favour of Bank and they should also prove that they took all necessary actions within the justified time period to recover their dues.
IMPACT OF SARFAESI ACT ON NPA
The SARFAESI Act, 2002, was enacted with a purpose of decreasing the number of NPAs in the country through various ways. The provision of ARCs as a Reconstruction Company (RC) and Securitisation Company (SC) under this act was done to ensure that they will take over the bad secured assets of the Banks and Financial Institutions. This Act clearly helped out the Banks and Financial Institutions to reduce the number of NPAs and Bad Loans, in the financial year 2017-18, the percentage of amount recovered through this act increased up to 41.3% from mere 13.8% in financial year 2016-17. In 2017-18, the Banks and Financial Institutions recovered around 5.28 Lakh Crores out of total 12.78 Lakhs Crores which were due and classified as NPA. Using the SARFAESI Act, the Banks and Financial Institutions recovered 26,500 Crores out of total amount 1,06,600 Crores, this ratio of recovery increased up to 24.8% whereas previous year it was 18.3%.
The SARFAESI Act has been considered as a helping tool for Banks and Financial Institutions to recover the amount from accounts classified as NPAs. Since 1991, the Indian Banking sector has seen several changes. More than Rs 85,000 Crores were classified as NPA and Indian Banks were suffering heavy loss. The general laws of the country were not effective, which made it impossible to recover to bad debts/ non-performing assets. Debt Recovery Tribunals (DRTs) were formed with the purpose of recovering the bad debts of Banks and Financial Institutions. In the beginning, the DRTs carried out well, but due to the excessive number of cases, their performance was affected. With the enactment of SARFAESI Act, 2002, Indian Banks and Financial Institutions have been able to scrutinize some of their non-performing assets. This measure and recovery process is administered by the Asset Reconstruction Companies (ARCs) which are established under the SARFAESI Act, 2002 that gives them special recovery power. In recent years, the SARFAESI Act had a profitable impact on the management of NPAs of Banks and Financial Institutions. Furthermore, this Act, also led to some out of court settlements and also impacted the repayment schedule of the borrowers. This act has been very productive and has fulfilled its purpose of changing the Indian Banking Sector and reduce the number of NPAs.
Suryansh Kumar Arora
Ph: +91 9458253477
Amity Law School Noida