By: Ramesh Vaidyanathan and Mansi Singh
With the increasing levels of non-performing assets (“NPAs”) in India over the years, reforming the legal framework for debt recovery and bankruptcy has become a sheer necessity. Presently, there are nearly 70,000 cases pending before the Debts Recovery Tribunals (“DRTs”) in India. The gross non-performing advances rose sharply to 7.6 per cent of total gross advances in March 2016 from 5.1 per cent in September 2015.
The enactment of the Enforcement of Security Interest and Recovery of Debts Laws and Miscellaneous Provisions (Amendment) Act, 2016, (“Act”) in August 2016 is a significant move towards improving the situation. The Act amends the following 4 laws as well:
Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (“SARFAESI”);
Recovery of Debts due to Banks and Financial Institutions Act, 1993 (”RDDBF”);
Indian Stamp Act, 1899 (“Stamp Act”); and
Depositories Act, 1996 (“Depositories Act”).
The DRTs and the Debt Recovery Appellate Tribunals (“DRATs”) were set up in 1993 as specialized tribunals under the RDDBF for expeditious adjudication and recovery of debts due to banks and financial institutions. It was also felt that setting up specialized tribunals would assist in clearing the backlog of cases in civil courts. The DRTs and DRATs were initially successful in this objective, however, with passage of time, they also became overburdened and were not able to keep up the expected pace due to various factors such as long-drawn out processes, prolonged vacancies due to insufficient presiding officers and numerous adjournments.
As the DRTs and DRATs could not reduce the NPAs on expected lines, the SARFAESI was enacted in 2002 to enable banks and financial institutions to take possession of a collateral security upon default. This allowed banks and financial institutions to sell the collateral security and recover the outstanding debt without the intervention of a court or a tribunal. So while lenders approached DRTs to recover their bad debts that could not be recovered even after selling the collateral, borrowers also approached them to challenge lenders’ actions under SARFAESI, thereby choking the DRTs and DRATs.
The Act has been passed to ease the process obstacles as well as to ensure that the debt recovery process proceeds in a time-bound manner.
We discuss the key thrust areas of the Act below:
Faster debt-recovery process
SARFAESI allowed secured creditors to take possession of a collateral with the assistance of the district magistrate without the intervention of courts or tribunals. However, no timeline was prescribed to complete the process. The Act has fast tracked this process by introducing a time limit of 30 days within which the process will have to be completed by the district magistrate..
Role of ARCs and the Reserve Bank of India
SARFAESI regulates the establishment and functioning of Asset Reconstruction Companies (“ARCs”). ARCs purchase NPAs from banks at a discount, allowing banks to recover partial payment for outstanding loan accounts. Previously, the Reserve Bank of India (“RBI”) was only empowered to determine policy and issue directions to the ARCs (or securitisation company) and call for information relating to the business or affairs of such ARCs (or securitisation company). The Act empowers the RBI to audit and inspect ARCs, remove its chairman/any director and appoint its officials to the board of the ARCs and regulate the fees charged by ARCs to banks at the time of acquiring assets.
The RBI has been empowered to impose penalties on the ARCs for non-compliance of its directives. If the payment is not paid by the ARC within the stipulated time period, RBI may cancel the registration of the ARC. These measures are likely to act as a deterrent against non-compliance of the RBI’s directives by the ARCs and encourage investments into ARCs.
With the recent opening up of 100% foreign direct investment in ARCs, the stage is set for the growth of ARCs as intermediaries for dealing with stressed assets and building a robust secondary market for distressed debt in India, which will remove NPAs from the balance sheets of Indian banks by building a robust secondary market for distressed debt in India.
The Act provides that where the secured creditors have acquired majority stake in a company by conversion of debt into shares, secured creditors shall not be liable to restore the management of the business to the debtor even after realisation of the entire outstanding dues of the borrower. This is likely to deter the borrowers from defaulting on the loans and instill the fear of losing the business to the secured creditor upon a default.
The Act seeks to integrate records on property rights in various registration systems with the records of the Central registry and set up a Central database of these rights. Secured creditors will not be able to take possession of the collateral unless it is registered with the Central registry. Further, these secured creditors, after registration of security interest, will have priority over all other claimants including claims of Central Government, State Government, tax authorities or any other local authority in repayment of the dues. This will create a wave of confidence among the banks and financial institutions.
Mandatory deposit for appeal
In a bid to discourage frivolous appeals made with an intention to delay recovery, the Act mandates the deposit of 50% of the amount of debt before an appeal is entertained. This amount can be reduced to 25% but cannot be waived completely. This is a departure from the earlier regime that allowed complete waiver of such deposit. Also, the time for filing an appeal has been reduced from 45 to 30 days.
Enhancing the infrastructure
The Act provides that the Presiding Officers of the DRTs and the Chairpersons of the DRAT shall be eligible for reappointment and has increased their age of retirement from 62 years to 65 years for DRT and from 65 years to 67 years for DRAT. The Act further provides that the Central Government may authorize the Presiding Officers of tribunals established under other laws to also perform functions of Presiding Officers of DRT and authorize the Chairmen of appellate tribunals established under other laws to perform the functions of the Chairmen of DRATs. This is an attempt to ensure that there are no delays in disposing off the matters due to insufficient number of Presiding Officers/Chairmen. The practicability of this provision is questionable as most tribunals in India are overburdened.
The Act provides for various filings to be made in the electronic form, which is expected to help speed up the process.
Relaxation of Stamp duty
The Act provides that stamp duty will not be charged on transactions undertaken for transfer or assignment of financial assets in favour of ARCs for the purpose of securitization or reconstruction. The will help reduce transaction costs.
Easy transfer of shares
The Act introduces a new section in the Depositories Act to enable the depository to register any issue of new shares in favour of any bank or financial institution or ARC on receipt of intimation from a depository participant. This will be by converting part of their debt into shares.
Significant gaps in the existing recovery processes have contributed to bad loans. The Act seeks to strengthen the debt recovery laws, improve the financial health of the banks and lead to ease of doing business. It is hoped that the Act along with the recently enacted Insolvency Code will provide a time-bound framework to deal with stressed assets and loan recovery. While the Act seeks to work in tandem with the Government’s initiative to reduce NPAs of banks by providing a framework to quickly bring willful defaulters to book and enable secured creditors to recover their dues, the effectiveness of some of these provisions will only be known in due course. For example, the benefits of allowing Presiding Officers/Chairmen from other tribunals are questionable due to the already existing back-log in most of the tribunals. Also, there is need for an increased number of DRTs and DRATs in the country to make these tribunals easily accessible and avoid adjournments due to non-availability of parties. Though the Act is well intentioned, its efficacy will depend on overhaul of existing infrastructure and filling up of vacancies.