TMI Blog2010 (9) TMI 236X X X X Extracts X X X X X X X X Extracts X X X X ..... Ms. Bina Gupta, Kuldeep S. Parihar, Ms. Bina Gupta, Kuldeep S. Parihar, H.S. Parihar, Pranab Kumar Mullick, Ms. Soma Mullick, Sanjay Kapur, Rajiv Kapur, Abhishek Kumar, Ashmi Mohan, Suhaas R. Joshi, Arun Aggarwal, Pallav Saxena, Rajesh Kumar, E.R. Kumar, Ms. Shakun Sharma, Kumar Shashank, Kavin Gulati, R.N. Karanjawala, Ms. Manik Karanjawala, Ms. Nandini Gore, Murli Kaushik, Kamal Nijhawan, Jitendra Kumar, Sumit Gaur, Mohinder Jit Singh Rupal, Yash Anand, Shree Pal Singh, Senthil Jagadeesan, Ms. Maneesha Dhir, Ms. Purti Marwaha, R.S. Paliwal, Ms. Jayashree Shukla, Ms. Tripti Gupta, Gagan Gupta, Apoorve Karol and Mayank Grover for the Appearing Parties. JUDGMENT S.H. Kapadia, CJI. - Leave granted. 2. The short question which we are required to decide in this batch of cases is - Whether inter se transfer of Non-Performing Assets ("NPA" for short) by banks is illegal under Banking Regulation Act, 1949 ("BR Act, 1949" for short) as held by the Gujarat High Court in the impugned judgment? According to the impugned judgment(s), assignment of debts by banks inter se is not an activity which is permissible under the said BR Act, 1949 and consequently all executed cont ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f : 2.2-1 The Assignee shall have the sole and absolute right of collecting all amounts representing the Debts in such manner as the Assignee may in its absolute discretion determines; 2.2-2 The Assignor shall not be subject to any duties and/or obligations in respect of the Financial Instruments; 2.2-3 The Assignee shall have all the rights and obligations under the Financial Instruments as if they were executed by the Clients in favour of the Assignee." 4. One of the borrowers of ICICI Bank Ltd., at the relevant time was M/s. A.P.S. Star Industries Ltd., a company which subsequently went under liquidation. By way of Company Application in the pending winding up proceedings before the Company Court, Kotak Mahindra Bank Ltd., moved Company Application for being substituted in place of original secured creditor, ICICI Bank Ltd. This was pursuant to the Deed of Assignment dated 31-3-2006. The Company Application for substitution was moved at a stage of provisional/final winding up proceedings. Before the Company Court, Kotak Mahindra Bank Ltd., submitted that, as per BR Act, 1949 read with the Guidelines of Reserve Bank of India dated 13-7-2005, sale and purchase of debts, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tak Mahindra Bank Ltd., through the process known to law and, therefore, they cannot be allowed to be substituted in place of the secured creditor of the company-in-liquidation, namely, ICICI Bank Ltd. 5. At this stage, it may be noted that by the impugned judgment, the High Court upheld the order of the Company Court only on the ground that assignment of debts by banks is not an activity which is permissible under the BR Act, 1949 and consequently, the impugned Deed(s) was illegal and the assignee bank(s) was not entitled to substitution in place of ICICI Bank Ltd., (assignor). The Division Bench has not examined the other questions referred to above. Submissions 6. Shri Harish N. Salve, learned senior counsel, appearing on behalf of the appellants submitted that the Division Bench of the High Court erred in holding that in assigning debts with underlying security the assignor banks were trading in debts which was not permissible under the BR Act, 1949 because the assignor bank had never purchased debts, it had advanced loans against security which was a part of its banking business. That, it was only when the account became NPA that the assignor bank decided to dispos ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to the learned counsel, as per section 6(1)( a ) of the BR Act, 1949 lending or advancing of money is indisputably a core activity of the bank. However, realization of such loans is an integral part of the core activity. In the alternative, it was submitted that, in any event, an activity of assignment of debt would fall within five of the clauses in section 6(1) of the BR Act, 1949, namely, clause ( a ), clause ( c ), clause ( g ), clause ( l ) and clause ( n ). According to the learned counsel, only prohibition under the BR Act, 1949 so far as the business of a bank is concerned is contained in sections 8 and 9 and neither of the said provisions limits or prohibits assignment of debts. According to the learned counsel, there is one more error in the impugned judgment. According to the High Court, Parliament had enacted Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 ("SARFAESI Act" for short) because the BR Act, 1949 did not permit banks to assign debts; that the SARFAESI Act is an exclusive Act for assignment of debts and that the said SARFAESI Act permitted banks to assign debts not inter se but only to certain specified ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ng on the RBI guidelines. In the circumstances, learned counsel for the appellants submitted that position taken on behalf of the Union of India before the Company Court was not relevant. Learned counsel further pointed out that RBI appeared before the Company Court and supported the case of the appellants herein by placing reliance on their Guidelines. For the aforestated reasons, learned counsel submitted that the impugned judgment is erroneous and is liable to be set aside. 8. In reply, Shri T.R. Andhyarujina, learned senior counsel appearing for the borrower, inter alia submitted that the assignment of financial instruments in possession of ICICI Bank Ltd., to Kotak Mahindra Bank Ltd., transfers not only the right of recovering debt but also transfers the obligations under the financial instruments "as if the said financial instruments were executed by the clients of ICICI Bank in favour of the assignee". That, the assignment of a debt can never carry with it the assignment of the obligations of the assignor. Unless there is a novation of the contract by all parties, there cannot be a transfer of the obligations of the assignor. In this connection, Shri Andhyarujina relie ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... banks or any other financial institutions. As regards NPA Norms of RBI, learned senior counsel submitted that RBI has not issued directives under section 35A; that the relevant circular is by way of guidelines and is entitled "RBI Prudential Norms on Income Recognition Asset Classification and Provisioning Pertaining to Advances" dated 30-8-2001. Lastly, learned counsel submitted that assignment of debt by ICICI Bank is not a mode of recovery. According to the learned counsel, assignment of debt and recovery of debt are two different concepts. When there is recovery, the debt is totally extinguished whereas in the case of assignment the debt is not extinguished, the debt remains, the debtor remains, only the creditor changes. That, the assignee Bank cannot be said to be recovering debt when it in fact assigns the debt because both the debtor and the debt continue to exist and they are not extinguished. In the written submissions submitted on behalf of the borrower, one additional point is taken. According to the borrower, in the present batch of cases all rights and liabilities have crystallized on the date of the winding up order and, therefore, assignment of debt by a bank cannot ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ( d )"company" means any company as defined in section 3 of the Companies Act, 1956 (1 of 1956); and includes a foreign company within the meaning of section 591 of that Act; (1) "Reserve Bank" means the Reserve Bank of India constituted under section 3 of the Reserve Bank of India Act, 1934 (2 of 1934); 6. Forms of business in which banking companies may engage. (1) In addition to the business of banking, a banking company may engage in any one or more of the following forms of business, namely : ( a )the borrowing, raising, or taking up of money; the lending or advancing of money either upon or without security; the drawing, making, accepting, "discounting, buying, selling, collecting and dealing in bills of exchange, hoondees, promissory notes, coupons, drafts, bills of lading, railway receipts, warrants, debentures, certificates, scrips and other instruments and securities whether transferable or negotiable or not; the granting and issuing of letters of credit, traveller s cheques and circular notes; the buying, selling and dealing in bullion and specie; the buying and selling of foreign exchange including foreign bank notes; the acquiring, holding, issuing on commi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r or any extension of such period as in this section provided, and such property shall be disposed of within such period or extended period, as the case may be : Provided that the banking company may, within the period of seven years as aforesaid deal or trade in any such property for the purpose of facilitating the disposal thereof : Provided further that the Reserve Bank may in any particular case extend the aforesaid period of seven years by such period not exceeding five years where it is satisfied that such extension would be in the interests of the depositors of the banking company. 12. Regulation of paid-up capital, subscribed capital and authorised capital and voting rights of shareholders. (1) No banking company shall carry on business in India, unless it satisfies the following conditions, namely : ( i )that the subscribed capital of the company is not less than one-half of the authorised capital, and the paid-up capital is not less than one-half of the subscribed capital and that, if the capital is increased, it complies with the conditions prescribed in this clause within such period not exceeding two years as the Reserve Bank may allow; ( ii )that the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Explanation. In this section, and in section 24, ( a )"liabilities in India" shall not include ( i )the paid-up capital or the reserves or any credit balance in the profit and loss account of the banking company; ( ii )any advance taken from the Reserve Bank or from the Development Bank or from the Exim Bank or from the Reconstruction Bank or from the National Housing Bank or from the National Bank or from the Small Industries Bank by the banking company; ( iii )in the case of a Regional Rural Bank, also any loan taken by such bank from its Sponsor Bank; ( b )"fortnight" shall mean the period from Saturday to the second following Friday, both days inclusive; ( c )"net balance in current accounts" shall, in relation to a banking company, mean the excess, if any, of the aggregate of the credit balances in current account maintained by that banking company with State Bank of India or a subsidiary bank or a corresponding new bank over the aggregate of the credit balances in current account held by the said banks with such banking company; ( d )for the purposes of computation of liabilities, the aggregate of the liabilities of a banking company to the State Bank ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... any on account of the loan, or advance together with interest, if any, due thereon within the period stipulated at the time of the grant of the loan or advance, or where no such period has been stipulated, before the expiry of one year from the commencement of the said section 5 : Provided that the Reserve Bank may, in any case, on an application in writing made to it by the banking company in this behalf, extend the period for the recovery of the loan or advance until such date, not being a date beyond the period of three years from the commencement of the said section 5, and subject to such terms and conditions, as the Reserve Bank may deem fit : Provided further that this sub-section shall not apply if and when the director concerned vacates the office of the director of the banking company, whether by death, retirement, resignation or otherwise. (3) No loan or advance, referred to in sub-section (2), or any part thereof shall be remitted without the previous approval of the Reserve Bank, and any remission without such approval shall be void and of no effect. (4) Where any loan or advance referred to in sub-section (2), payable by any person, has not been repaid to t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ch, having regard to the considerations referred to in clause ( c ), guarantees may be given by a banking company on behalf of any one company, firm, association of persons or individual, and ( e )the rate of interest and other terms and conditions on which advances or other financial accommodation may be made or guarantees may be given. (3) Every banking company shall be bound to comply with any directions given to it under this section. 22. Licensing of banking companies. (1) Save as hereinafter provided, no company shall carry on banking business in India unless it holds a licence issued in that behalf by the Reserve Bank and any such licence may be issued subject of such conditions as the Reserve Bank may think fit to impose. 23. Restrictions on opening of new, and transfer of existing, places of business. (1) Without obtaining the prior permission of the Reserve Bank ( a )no banking company shall open a new place of business in India or change otherwise than within the same city, town or village, the location of an existing place of business situated in India; and ( b )no banking company incorporated in India shall open a new place of business outside In ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ermediary or otherwise, in proposals for the amalgamation of such banking companies; ( c )give assistance to any banking company by means of the grant of a loan or advance to it under clause (3) of sub-section (1) of section 18 of the Reserve Bank of India Act, 1934 (2of 1934); ( d )at any time, if it is satisfied that in the public interest or in the interest of banking policy or for preventing the affairs of the banking company being conducted in a manner detrimental to the interests of the banking company or its depositors it is necessary so to do, by order in writing and on such terms and conditions as may be specified therein ( i )require the banking company to call a meeting of its directors for the purpose of considering any matter relating to or arising out of the affairs of the banking company; or require an officer of the banking company to discuss any such matter with an officer of the Reserve Bank; ( ii )depute one or more of its officers to which the proceedings at any meeting of the Board of directors of the banking company or of any committee or of any other body constituted by it; require the banking company to give an opportunity to the officers so dep ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... fine which may extend to fifty thousand rupees or twice the amount involved in such contravention or default where such amount is quantifiable, whichever is more, and where a contravention or default is a continuing one, with a further fine which may extend to two thousand and five hundred rupees for every day, during which the contravention or default continues. 47A. Power of Reserve Bank to impose penalty. (1) Notwithstanding anything contained in section 46, if a contravention or default of the nature referred to in sub-section (3) or sub-section (4) of section 46, as the case may be, is made by a banking company, then, the Reserve Bank may impose on such banking company ( a )where the contravention is of the nature referred to in sub-section (3) of section 46, a penalty not exceeding twice the amount of the deposits in respect of which such contravention was made; ( b )where the contravention or default is of the nature referred to in sub-section (4) of section 46, a penalty not exceeding five lakh rupees or twice the amount involved in such contravention or default where such amount is quantifiable, whichever is more, and where such the contravention or default is ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ection (1) shall, except where such rule or direction provides otherwise, be construed as referring also to the State Bank of India, a corresponding new bank, a Regional Rural Bank and a subsidiary bank." 11. For the purpose of deciding Issue No. ( i ), we are also required to quote relevant portion of RBI Guidelines dated 13-7-2005, which reads as under: " Guidelines on purchase/sale of Non-Performing Financial Assets Scope 1. These guidelines would be applicable to banks, FIs and NBFCs purchasing/selling non-performing financial assets, from/to other banks/FIs/NBFCs (excluding securitisation companies/reconstruction companies). 2. A financial asset, including assets under multiple/consortium banking arrangements, would be eligible for purchase/sale in terms of these guidelines if it is a non-performing asset/non-performing investment in the books of the selling bank. 3. The reference to bank in the guidelines would include financial institutions and NBFCs." Brief analysis of the BR Act, 1949 12. The BR Act, 1949 provides for the comprehensive definition of "banking" so as to bring within its scope all institutions which receive deposits for lending or ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the extent of any activity which is prohibited or restricted ( See : section 2). Section 12 says that no banking company shall carry on business unless it satisfies certain conditions. Section 17 refers to creation of Reserve Fund. Section 18 refers to creation of Cash Reserve. Section 20 refers to restrictions on loans and advances. Section 21 deals with the power of RBI to control advances by banking companies. Section 21 empowers RBI to frame policies in relation to advances to be followed by banking companies. It further says that once such policy is made all banking companies shall be bound to follow them. Section 21(1) is once again a general provision empowering RBI to determine policy in relation to advances whereas section 21(2) empowers RBI to give directions to banking companies as to items mentioned there i.e., in section 21(2). Under section 21(3) every banking company is bound to comply with directions given by RBI at the peril of penalty being levied for non-compliance. Section 35A says that where RBI is satisfied that in the interest of Banking Policy it is necessary to issue directions to banking companies it may do so from time to time and the banking companie ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... banking company as long as it is in the core banking of accepting deposits and lending so that its main income is from the spread or what is called as "interest income". Thus, we may broadly categorise the functions of the banking company into two parts, viz., core banking of accepting deposits and lending and miscella- neous functions and services. Section 6 of the BR Act, 1949 provides for the form of business in which banking companies may engage. Thus, RBI is empowered to enact a policy which would enable banking companies to engage in activities in addition to core banking and in the process it defines as to what constitutes "banking business . The BR Act, 1949 basically seeks to regulate banking business. In the cases in hand we are not concerned with the definition of banking but with what constitutes "banking business". Thus, the said BR Act, 1949 is an open-ended Act. It empowers RBI (regulator and policy framer in matter of advances and capital adequacy norms) "to develop a healthy secondary market, by allowing banks inter se to deal in NPAs in order to clean the balance sheets of the banks which guideline/policy falls under section 6(1)( a ) read with section 6(1)( ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... NPAs threatens the repayment capacity of the banks. They have an adverse impact on the financial strength of the banks which in the present era of globalization are required to conform to International Standards. Thus, NPA means an asset or account receivable of a borrower, which has been classified by banks or financial institutions in terms of RBI Guidelines as sub-standard, doubtful etc. These guidelines are issued to improve quality of assets of the banks. The 2005 guidelines of RBI are not to eliminate NPAs but to restructure. The BR Act, 1949 vide section 21 empowers RBI in the interest of the Banking Policy to lay down guidelines in relation to advances to be followed by banking companies. The 2005 guidelines have been issued as "a restructuring measure" in order to avoid setbacks in the banking system. NPAs do not generate interest .85 per cent of the Indian Banks income comes from interest. Thus, NPAs adversely impact profits of the banks and hence, as a matter of Banking Policy, RBI as Regulator seeks through its guidelines under section 21 read with section 35A to manage these NPAs and not to eliminate. The said guidelines deal with restructuring of the banking syste ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t regard. According to the borrower(s) assignment of Financial Instruments in possession of ICICI Bank Ltd. to Kotak Mahindra Bank Ltd., transfers not merely the right to recover the debt but also transfers the obligations under the Financial Instruments "as if they were executed by the clients of ICICI Bank in favour of the assignee", i.e., Kotak Mahindra Bank Ltd. According to the borrower(s), an assignment of a debt can never carry with it the assignment of the obligations of the assignor unless there is a novation of the contract by all parties. Therefore, according to the borrower(s), the impugned Deed of Assignment is legally unsustainable without novation of original contract between ICICI Bank Ltd., (assignor) and the borrower(s) (assignee). We find no merit in the above arguments. 18. As stated above, an outstanding in the account of a borrower(s) (customer) is a debt due and payable by the borrower(s) to the bank. Secondly, the bank is the owner of such debt. Such debt is an asset in the hands of the bank as a secured creditor or mortgagee or hypothecatee. The bank can always transfer its asset. Such transfer in no manner affects any right or interest of the borrowe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ghts under a contract by a party who has performed his obligation thereunder and an assignment of a claim for compensation which one party has against the other for breach of contract. 19. In the case of Camdex International Ltd. v. Bank of Zambia [1998] Q.B. 22 (CA), the following observation which is relevant to the present case needs to be quoted : "The assignment of a debt will not be contrary to public policy solely on the grounds that the assignee has purchased the debt for a considerably discounted price or because that price is only payable after a period of credit. Nor will the assignment be contrary to public policy simply because the assignee may make a profit on the transaction at the end of the day. If there was no prospect of a profit, Hobhouse LJ observed, commercial entities would never purchase debts." 20. Similarly, the following proposition in Chitty on Contracts , 27th edn. (1994) at para 19.027 is relevant to be noted. "It is also well established that a claim to a simple debt is assignable even if the debtor has refused to pay. The practice of assigning or selling debts to debt collecting agencies and credit factors could hardly be carried ..... 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