Non-performing assets (NPAs) have been a perennial problem for banks and financial institutions (FIs). It is to counter the extent and negative impact of NPAs on FIs that Parliament enacted the Recovery of Debts due to Banks and Financial Institutions Act, 1993 (RDBFI Act), followed by the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (Sarfaesi Act), to establish a separate mechanism for debt recovery to enable FIs to recover their NPAs and enforce security without the intervention of the courts.
Under the provisions of the Sarfaesi Act, a secured creditor has the right to enforce security interests if the loan is classified as an NPA in accordance with guidelines issued by the Reserve Bank of India. In the case of financing by more than one secured lender, the rights under Sarfaesi can be exercised only after it is agreed upon by secured creditors representing not less than three-fourths in value of the amount outstanding, and such action is binding on all secured creditors.
A precondition to initiating action under the Sarfaesi Act is that an NPA must be backed by securities charged to FIs by way of hypothecation, mortgage or assignment— whether by the borrower or a third party.
Under the provisions of the Sarfaesi Act, if a borrower fails to discharge its dues in full within a notice period of 60 days, then the FI may take recourse by taking possession of the security, and selling, leasing or assigning the right over the security and/or managing the same or appointing any person to manage the same.
The Sarfaesi Act, while welcomed by FIs, was challenged by defaulting borrowers. With the Supreme Court upholding the Constitutional validity of the Sarfaesi Act in the Mardia Chemicals case, the next legal challenge for FIs was whether they could simultaneously proceed against a borrower under the RDBFI and Sarfaesi Acts. The Supreme Court, in the Transcore judgement, held that FIs are not required to elect one of the two remedies, but could simultaneously proceed under both RDBFI and Sarfaesi.
However, an area of conflict that persists is the interplay between the Sick Industrial Companies (Special Provisions) Act, 1985 (Sica), and the Sarfaesi Act. Though the Sick Industrial Companies (Special Provisions) Repeal Act, 2003, repealing Sica, has been passed by Parliament, it is yet to be notified and Sica continues to be the applicable law in relation to industrial sickness.