Securitisation Law Scrutinized
by Shantimal Jain*
Cite as : (2004) JULY PL (Jour) 22
Consequent upon deepening integration of economies across the world and internationalisation of production, our country as well has also become an ever-churning whirlpool of fierce economic competition. The money has started moving all fast and on account of this, pragmatic regulations are needed to safeguard its irregularities and the like. There was therefore an acute need being felt for providing assistance to the banks and other financial institutions in the recovery of loans particularly those of them which had become bad and were sub-standard. On account of this these institutions were incurring heavy losses and therefore for regulating securitisation and reconstruction of financial assets and enforcement of security interest, the President on the 21st day of June, 2002 promulgated the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Ordinance, 2002. This Ordinance ultimately fructified into an Act, which received the assent of the President on 7-12-2002.
The lenders then started to issue 60 days notice to defaulting companies even under the Ordinance. Mardia Chemicals was one of such defaulting companies, which waged a legal battle against the provision of this Act. Initially in October 2002 the Apex Court ruled in the case of Mardia v. ICICI Bank that while lenders could take over assets of the defaulter but they cannot sell them. Things on this front kept moving.
Lately Reserve Bank of India has relaxed the cap and banks have been given greater freedom to give unsecured loan, although provisioning has been tightened and that way Reserve Bank recently in its policy statement liberalised the credit delivery system but then the provisions of the SARFAESI Act are to be followed.
As we have noticed hereinabove that M/s Mardia Chemicals Ltd. took the matter about the legality of this statute up to the Supreme Court and the Apex Court in the case of Mardia Chemicals Ltd. v. Union of India1 dissected most of its limbs and upheld the constitutional validity of the Act but struck down Section 17(2) which made it mandatory for borrowers to deposit 75% of the claim amount as a precondition to challenging the lenders action at the Debts Recovery Tribunal and on this I shall dwell at length a little later because this would be a core issue of this write-up. In the instant case before Their Lordships the points that were involved were about the principles of lenders liability and whether Sections 13 and 17 provided efficacious mechanism for considering objections, disputes of borrowers particularly in view of bar on approaching the civil court, and whether remedy available under Section 17 was illusory, whether provisions under Sections 13 and 17(2) are unconstitutional, whether this Act could be challenged being a duplicate of the existing law and finally whether the contractual rights could be altered unilaterally. The Apex Court ultimately ruled that under sub-section (2) of Section 3 it was mandatory upon the secured creditor to issue 60 days notice to the borrower for the measures as provided under sub-section (4) of Section 13 and that the borrower would be entitled to intimation, and then it would be open to the borrower to file a petition before the Debts Recovery Tribunal and that the Tribunal could pass stay/interim order on such petition and requirement of deposit of 75% of the amount claimed was arbitrary condition against all the canons of reasonableness and lastly that civil suit would lie for narrow scope on the limited grounds.
The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (54 of 2002) was conceived and brought on the statute-book for solving the difficulty which banks and financial institutions faced in recovery of dues from the clients and enforcement of security charged to them. This was due to the delay in the proceedings and processings. This Act was also intended to unlock the funds of the banks and financial institutions, which were blocked in unproductive assets, the value of which kept deteriorating with the passage of time. This was the aim and object of this Act.
A Debts Recovery Tribunal was created and constituted under the provisions of this Act. This speedy mechanism therefore became an irritant for the sub-standard borrowers who made an unsuccessful attempt of challenging the vires of this statute at various forums and ultimately the matter went to the Apex Court, which in its jurisprudential wisdom upheld the validity of the Act except Section 17(2) of the Act, which was struck down.
Section 17 of this Act speaks about the right to appeal and under its sub-section (2) there is a requirement of depositing 75% of the amount as claimed in the notice referred to in sub-section (2) of Section 3 before a Debts Recovery Tribunal could entertain an appeal. It is here where the shoe pinched because depositing of 75% of the amount as a precondition of filing the appeal was patently oppressive and onerous.
Now it is submitted that proceedings under Section 17 of the Act are in fact not appellate proceedings. It seems rather misleading. Truly speaking it is initial action, which is brought before this forum as prescribed under the Act. It is rather raising grievance against the action or measures taken by one of the parties to the contract. It may be likened to proceedings like filing a suit in civil court. Legally speaking proceedings under Section 17 of the Act are in lieu of a civil suit, which remedy is ordinarily available but the same has been barred under Section 34 of the Act. There is a fundamental distinction between right of suit and right of appeal. Now the requirement of deposit of any amount at the initial instance of proceedings has not been found in any decided case-laws. All the cases rotate and relate to appeal. The requirement of deposit of 75% of the demand claim at the initial proceeding itself sounds unreasonable and oppressive. This becomes all the more irritating when the secured assets and management thereof along with the right to transfer has been taken over by the secured creditor i.e. bank or financial institution.
It is also felt that the requirement of deposit of such a heavy amount on the basis of unilateral claim alone could not be said to be a reasonable condition at the first instance itself before beginning of the adjudication of the dispute. It is further contended that merely giving power to the Tribunal to waive or reduce the amount would not cure the inherent infirmity leaning one-sidedly in favour of the party, who, so far has alone been the party to decide the amount and the fact of default and classifying the dues as such without participation/association of the borrower in the process and in such exercise. It is felt that such an onerous and oppressive condition should not be left operative in expectation of reasonable exercise of discretion by the authority concerned. It has therefore been concluded by the Court that placed in a situation as indicated above, where it may not be possible for the borrower to raise amount to make the deposit, his secured assets having already been taken possession of or sold, such a rider to approach the Tribunal at the first instance of proceedings captioned as appeal, renders the remedy illusory and nugatory. It is a bad law.
The contention that the requirement of pre-deposit is that the secured assets, which may be taken possession of or sold, may fall short of the dues, therefore such a deposit may be necessary, the Court did not find any merit in this submission also. The Court therefore ruled and mandated that the condition of pre-deposit was bad and it rendered the remedy illusory on the grounds that it was imposed while approaching the adjudicatory authority of the first instance and not in appeal, there was no determination of the amount due as yet, the secured assets and their management was already with the secured creditor, no special reasons were given for double security in respect of the amount yet to be determined, 75% of the amount claimed was not a small sum and that it would leave the borrower in a position where it would not be possible for him to make 75% deposit of the undetermined demand. The Court therefore felt that sub-section (2) of Section 17 of the Act was unreasonable, arbitrary and violative of Article 14 of the Constitution. Under the existing and envisaged arrangements once a borrower turns a defaulter, the lending bank has to give a 60-day notice of enforcing the secured asset. Then after responding to the borrowers query, the bank has to wait for another 45 days before selling the asset. Now the borrower could approach DRT for stay without pre-deposit condition of 75% amount of claim, and if stay is secured, the entire recovery proceedings would be suspended, rather frustrated. The Supreme Court verdict is thus detrimental to the interest of the lender bank, which shall not now have blanket powers, and that demise of pre-deposit requirement would encourage futile litigation, which in turn would stale the possession and sale of the assets of the borrower by the lender. The borrowers would be emboldened to go in for rampant appeals/proceedings.
The public sector banks, State-run banks, financial institutions (FIs), Union Bank of India, IDBI Bank and private sector banks, UTI Bank all have initiated action under the provisions of the Securitisation Act and the ruling shall have far-reaching implications on such pending recovery proceedings.
However, speaking broadly, as the Supreme Court decision upholds the validity of the Securitisation Act except of Section 17(2), it would be a blessing to the banks and financial institutions because their right to proceed against the assets of the borrower has been sustained by the Apex Court.
Because of liberal credit delivery policies, the banks are required to make advances to priority sectors where recoveries are bleak. A car with starting problem and a long bumpy road ahead becomes the lot of banks and financial institutions on such loans/advances. This statute was therefore, innovated and brought on statute to remedy such contingencies. The Supreme Court has harmonised the provisions of this Act by a purposive interpretation touching its inbuilt disincentives. It has upheld the validity of the Act but struck down Section 17(2) which did not stand constitutional scrutiny. The verdict shall not cause heartbleeding to a lender or borrower.