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Sarfaesi Act: An Overview

The financial Assets for Indias effort to achieve success rapidly developing its economy. But slow pace of recovery of defaulting loans and escalating levels of Non-Performing Assets of the bank and financial institutions is big hurdle to develop rapidly. Narasimhan Committee I and II and Adhyarujina Committee was constituted by the Central Government for the purpose of examining banking sector reforms.

These Committees have made suggestions to form a new legislation of Securitization and empowering banks and financial institutions to gain possession of the securities and to sell them without intervention of the court here.

Role Of Sarafaesi Act, 2002

This Act is created to remove all the loopholes from the system. Its roles are as follows:
  1. To Secure the Financial Assets and issues the receipt of the secured Assets:

    Securitization is a process by which a company clubs its different financial assets/ debts to form a consolidated financial instrument which is issued to investors. In return, the investors in such securities gets interest. This process enhances liquidity in the market. This serves as a useful tool, especially for financial companies, as it helps them raise funds.

    If such company has already issued a large number of loans to its customers and wants to further add the number, than the practice of securitization comes to its rescue. In such a case the company can club its assets/debts, form financial instruments and then issue them to investors. This enables the firm to raise capital and provide more loans to its customers. On other hand, investors are able to diversify their portfolios and earn quality returns.
     
  2. Reconstruction of Financial Assets:

    • According to RBI standards, an SCO or RCO may carry out asset reconstruction in any of the accompanying directions
    • Taking over the operation of the borrower's business.
    • Restructuring the borrower's management of his or her firm.
    • Selling or leasing a portion or all of the borrower's business.
    • The debt payment schedule has been rescheduled.
    • Putting the security interest into action.
    • Entering into a debt settlement agreement with the borrower.
    However, the aforesaid actions are subject to the requirements of any other legislation that is now in effect.
     
  3. Enforcement of Security Interest:

    Section 13 of the SARFAESI ACT 2002 states that:
    1. Notwithstanding anything contained in section 69 or section 69A of the Transfer of Property Act, 1882 (4 of 1882 ), any security interest created in favour of any secured creditor may be enforced, without the intervention of the court or tribunal, by such creditor in accordance with the provisions of this Act.
       
    2. Where any borrower, who is under a liability to a secured creditor under a security agreement, makes any default in repayment of secured debt or any instalment thereof, and his account in respect of such debt is classified by the secured creditor as on- performing asset, then, the secured creditor may require the borrower by notice in writing to discharge in full his liabilities to the secured creditor within sixty days from the date of notice failing which the secured creditor shall be entitled to exercise all or any of the rights under sub- section (4).
       
    3. The notice referred to in sub- section (2) shall give details of the amount payable by the borrower and the secured assets intended to be enforced by the secured creditor in the event of non- payment of secured debts by the borrower.
       
    4. In case the borrower fails to discharge his liability in full within the period specified in sub- section (2), the secured creditor may take recourse to one or more of the following measures to recover his secured debt, namely:
      1. Take possession of the secured assets of the borrower including the right to transfer by way of lease, assignment or sale for realising the secured asset.
      2. Take over the management of the secured assets of the borrower including the right to transfer by way of lease, assignment or sale and realise the secured asset;
      3. Appoint any person (hereafter referred to as the manager), to manage the secured assets the possession of which has been taken over by the secured creditor.
      4. Require at any time by notice in writing, any person who has acquired any of the secured assets from the borrower and from whom any money is due or may become due to the borrower, to pay the secured creditor, so much of the money as is sufficient to pay the secured debt.
         
    5. Any payment made by any person referred to in clause (d) of sub- section (4) to the secured creditor shall give such person a valid discharge as if he has made payment to the borrower.
       
    6. Any transfer of secured asset after taking possession thereof or takeover of management under sub- section (4), by the secured creditor or by the manager on behalf of the secured creditor shall vest in the transferee all rights in, or in relation to, the secured asset transferred as if the transfer had been made by the owner of such secured asset.
       
    7. Where any action has been taken against a borrower under the provisions of sub- section (4), all costs, charges and expenses which, in the opinion of the secured creditor, have been properly incurred by him or any expenses incidental thereto, shall be recoverable from the borrower and the money which is received by the secured creditor shall, in the absence of any contract to the contrary, be held by him in trust, to be applied, firstly, in payment of such costs, charges and expenses and secondly, in charge of the dues of the secured creditor and the residue of the money so received shall be paid to the person entitled thereto in accordance with his rights and interests.
       
    8. If the dues of the secured creditor together with all costs, charges and expenses incurred by him are tendered to the secured creditor at any time before the date fixed for sale or transfer, the secured asset shall not be sold or transferred by the s cured creditor, and no further step shall be taken by him for transfer or sale of that secure asset.
       
    9. In the case of financing of a financial asset by more than one secured creditors or joint financing of a financial asset by secured creditors, no secured creditor shall be entitled to exercise any or all of the rights conferred on him under or pursuant to sub- section (4) unless exercise of such right is agreed upon by the secured creditors representing not less than three-fourth in value of the amount outstanding as on a record date and such action shall be binding on all the secured creditors:
      Provided that in the case of a company in liquidation, the amount realised from the sale of secured assets shall be distributed in accordance with the provisions of section 529A of the Companies Act, 1956 (1 of 1956 ):
      Provided further that in the case of a company being wound up on or after the commencement of this Act, the secured creditor of such company, who opts to realise his security instead of relinquishing his security and proving his debt under proviso to sub section (1) of section 529 of the Companies Act, 1956 (1 of 1956 ), may retain the sale proceeds of his secured assets after depositing the workmen' s dues with the liquidator in accordance with the provisions of section 529A of that Act:
      Provided also that liquidator referred to in the second proviso shall intimate the secured creditor the workmen' s dues in accordance with the provisions of section 529A of the Companies Act, 1956 (1 of 1956 ) and in case such workmen' s dues cannot be ascertained, the liquidator shall intimate the estimated amount of workmen' s dues under that section to the secured creditor and in such case the secured creditor may retain the sale proceeds of the secured assets after depositing the amount of such estimate dues with the liquidator:
      Provided also that in case the secured creditor deposits the estimated amount of workmen' s dues, such creditor shall be liable to pay the balance of the workmen' s dues or entitled to receive the excess amount, if any, deposited by the secured creditor with the liquidator:
      Provided also that the secured creditor shall furnish an undertaking to the liquidator to pay the balance of the workmen' s dues, if any. Explanation.- For the purposes of this sub- section:
      1. "record date" means the date agreed upon by the secured creditors representing not less than three- fourth in value of the amount outstanding on such date;
      2. "amount outstanding" shall include principal, interest and any other dues payable by the borrower to the secured creditor in respect of secured asset as per the books of account of the secured creditor.
         
    10. Where dues of the secured creditor are not fully satisfied with the sale proceeds of the secured assets, the secured creditor may file an application in the form and manner as may be prescribed to the Debts Recovery Tribunal having jurisdiction or a competent court, as the case may be, for recovery of the balance amount from the borrower.
       
    11. Without prejudice to the rights conferred on the secured creditor under or by this section, secured creditor shall be entitled to proceed against the guarantors or sell the pledged assets without first taking any of the measured specifies in clause (a) to (d) of sub- section (4) in relation to the secured assets under this Act.
       
    12. The rights of a secured creditor under this Act may be exercised by one or more of his officers authorised in this behalf in such manner as may be prescribed.
       
    13. No borrower shall, after receipt of notice referred to in sub- section (2), transfer by way of sale, lease or otherwise (other than in the ordinary course of his business) any of his secured assets referred to in the notice, without prior written consent of the secured creditor. The same is applied in the judgment of "Blue Coast Hotels Ltd vs Ifci Ltd And 3 ors 2016 "

Keeping in mind the above mentioned extract, the FAQs dealing with the same are provided below:

  1. What is the difference between RDDB & FI ACT and SARFAESI Act?
    Ans. The RDDB & FI Act allows filing of proceedings for recovery of the entire defaulted amount including enforcement of the secured assets and recovery from the personal properties of the debtors whereas the SARFAESI Act confers power of enforcement only in respect of the secured asset/s.
     
  2. Can the secured creditor take action against a sick company which is registered with BIFR?
    Ans. Yes, SARFAESI action can be initiated against any sick company registered with the BIFR provided 75% of the secured creditors agree. Upon 75% of the creditors agreeing, the proceedings before BIFR abate. The same is reiterated in the judgment of " M/S MADRAS PETROCHEM LTD &ANR VS BIFR & ORS " where it was held that secured creditors represent not less than 75 % in value of the amount outstanding against financial assistance decided to enforce their security under SARFAESI ACT 2002 and Sick Industrial Companies (Special Provision Act 1985) cannot be proceed further the proceedings under Sick Industrial Companies (Special Provision Act 1985) will abate.
     
  3. Can the bank/financial institution proceed simultaneously under RDDB&FI Act and SARFAESI Act?
    Ans. Yes, in view of the judgement dated 29-11-2006 of the Supreme Court in the matter of 'Re : Transcore Electricals vs UOI"the secured creditor can proceed simultaneously under the RDDB & FI ACT and SARFAESI Act.
     
  4. How banks are misusing SARFAESI ACT for loan recovery?
    Ans. The coercive actions can be taken by the bank only when the other party has been termed as 'wilful defaulter'. A borrower becomes wilful defaulter when he fails to repay the loan amount, or the asset which he has given in the security has been sold or mis-utilized to the detriment of the bank's interest, or there is a fraudulent misrepresentation on the part of the borrower for securing loan amount.

    There is no doubt in this fact that this Act has enhanced the process of recovering the loans from the defaulting borrowers, which is the need of the hour. But, in the garb of this, the right of the borrowers shouldn't be jeopardized. For any Act in order to be successful in its implementation, it needs to maintain the balance between the relevant stakeholders, and thus the rights of the borrowers should not be infringed by the lenders unilaterally, after all, right to property is a constitutional right.[4]

    One of the major rights available to the borrower is that in case he feels that the step taken by the bank is not valid in the eyes of law, then he can appeal against the notice issued by the bank under Section 13 to take symbolic possession of the security under the Section 17 of the Act against the arbitrary actions of the bank in the Debts Recovery Tribunal (hereinafter, DRT).[5]

    There is a prescribed time limit of 45 days for making an appeal under Section 17
    of SARFAESI Act. The borrower is even allowed to appeal after the prescribed time limit, but for that he has to give a reasonable explanation for the delay. The defaulting borrower can either appeal for the wrongful possession of the property by the bank or the wrongful sale notice put up by the bank.

    If the borrower challenges the sale notice of the bank and omits to question the possession taken by the bank after notice given under Section 13(4), then the borrower first needs to satisfy the DRT as to why he failed to challenge the first step of the bank, i.e., taking possession of the property.

    This is done because of the fact that if the borrower is challenging the sale notice put up by the bank, then he must show that the possession taken by the bank at first place itself was not legal. If the borrower fails to give a satisfactory explanation to the possession notice, then the other claims pursued by him are liable to be dismissed. This resulted into the hardship faced by the borrowers, as they in order to prove the illegality of the bank's later action needed to prove that the earlier action taken by the bank was also against the spirit of the Act.

    The aforementioned scenario describes the approach adopted by the banks earlier, however, the DRTs have now resorted to a more moderate approach, where the defaulting borrower can challenge each and every action of the bank under the Act. However, the right of a borrower to approach the civil court is restricted and can only go to the civil court when there is some contention with respect to the title of the property which was given as security.

    The borrower can again have the right to go to the High Court under article 226 of the Indian Constitution, however, the High Court again are reluctant to hear the matter if the borrower has not approached the DRT first because of the settled law by the Hon'ble Apex Court that writ jurisdiction cannot be exercised if the party has an alternate remedy.
     
  5. Whether SARFAESI ACT is applicable to Cooperatives Bank?
    Ans. In 2007, while hearing a case, a three bench of the Supreme Court held that Cooperatives bank established under the Maharashtra Cooperative Societies Act, the Andhra Pradesh Cooperative Societies Act and the Multi-state Cooperative Societies Act, transacting the business of banking, do not fall within the meaning of "banking company " as defined in Section 5(c) of the Banking Regulation Act 1949.

    It was argued that Entry 45 of List -1 under the subject " Banking " cannot apply to Cooperatives Bank. Instead they will be covered under Entry 32 of List II which squarely covers the subject " COOPERATIVES SOCIETIES ".The three udge bench in that case also held that the provisions of the recovery of debts due to banks and financial institutions act by invoking the doctrine of incorporation are not applicable for recovery of dues by the cooperatives from their members. However in view of several conflicting issue a three-judge bench also referred the matter to a larger bench comprising of Justice Indira Baneree, Vineet Saran , Justice Mr Shah, Justice Aniruddha Bose and headed by Justice Arun Mishra in " Pandurang Ganpati Chaugule And Ors v/s Vishwarao Patil Murgud Sahakari Bank Ltd " recently effectuated that the Cooperatives bank established by the Coperative Societies to be recognised as banks under the SARFAESI ACT 2002.

Conclusion
Various developments in SARFAESI ACT 2002 is witnessed in the recent years to fulfill the criteria of the legislation . The judiciary has always helped to keep the doubts away from interpretation of legislature provisions .Thus the new development in the scope of SARFAESI ACT 2002 is the necessity that has been rightly held by the Supreme Court.
The SARFAESI ACT 2002 being an important Act for the betterment of countrys economy, widening its scope is felt to be an essential step to strengthen the financial institutions of the country.

Reference:
  • https://housing.com/news/sarfaesi-act/
  • https://lexlife.in/2020/05/16/explained-sarfaesi-act/
  • https://www.indiafilings.com/learn/sarfaesi-act-india/
  • https://www.legalraasta.com/blog/sarfaesi-act/
  • https://taxguru.in/corporate-law/overview-sarfaesi-act-2002-note-process-enforcement-security-interest-section-13.html
  • https://cleartax.in/s/sarfaesi-act-2002

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