Dharani Sugars and Chemicals Ltd. Vs. Union of India & Ors.

The judgment provides that the RBI dependence on Section 35AA was for only a specific cause and it will affect the legal compliance if used in any matter rather than a specific clause and without the authorisation provided by the Central Government. RBI should create a new and specific regulatory framework which provide for the implementation intended through the power already conferred in the code.
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Introduction

The Case Comment provide a brief and summarised insight in the case of Dharani Sugars and Chemical v. Union of India[1] which took place in February 2018. The case provides for the ultra vires action conducted on the behalf of Reserve bank of India through its Circular RBI/2017-18/131.DBR.No.BP.BC.101/21.04.048/2017-18 dt. February 12, 2018. The Circular was ultra vires of the Section of the Banking Regulation (amendment) Act, 2017. The circular was challenged by many petitioners such Association of Power Producers (APP). The Hon’ble Supreme Court of India was approached in a transferred petition to provide judgment on the matter as the Government was also a part of the Case.

Facts

The Supreme Court was presented with a transferred civil case in transferred petition. The appellant(s) being the Dharani Sugars and Chemicals ltd. and the Respondents being the Union of India & Ors. The present case was clubbed petition for a number of writ petition going through the courts against the same matter. In February 2018, the RBI put out a circular on the classification of non-performing assets, which stated that the banks out not waste any time when it is referring accounts with more than 2,000 crores. The matter In Hand was that Reserve bank of India through it circular introduced “Resolution of Stressed Assets- Revised Framework”. In which many particulars such were mentioned being:

  1. Early identification and Reporting of stress: which determines that lenders shall report credit Information, including classification of an account. Lenders shall identity incipient stress in loan accounts, on default by classifying stressed assets as special mention accounts (SMA) which was furthered divided into categories.
  2. Implementation of Resolution Plan: which states that all lender shall put board-approved policies for resolution of stressed assets under the framework, including the timeline for resolution. This means if a there is default in the borrower entity’s account with any lender, or all lender salinities steps to cure the default. The RP may involve many actions and plans reorganisation including, but not limited to, regularisation of the account. The RP shall be documented by each lender.
  3. Implementation Conditions for RP ; condition being that
  4. the borrower entity is no longer in default with any of the lenders;
  5. if the resolution involves restructuring; then i. all related documentation, including execution of necessary agreements between lenders and borrower / creation of security charge / perfection of securities are completed by all lenders
  6. Timelines for Large Accounts: “The residual debt of the borrower entity, in this context, means the aggregate debt (fund based as well as non-fund based) envisaged to be held by all the lenders as per the proposed RP”

Such guidelines allowed the RBI to give direction to any bank or banks to initiate an insolvency resolution process under the provision of the Insolvency and Bankruptcy Code 2016 in respect to the word “Default”. Thus, creating among other things, the circular was challenged on basis that the section 35AA of the Banking Regulation Act, 1949 (Banking Regulation Act) does not empower the RBI to issues or provide any such direction to Banks for the reference of IBC without the consideration of specific defaults.

Issues

  • Whether the RBI’s February 12 Circular on stressed assets was ultra-virus and the constitutional validity of the section 35AA of the Banking Regulation (amendment) Act, 2017?

Summary of Court Decision

The Hon’ble Supreme Court observed that provisions amended provides regulatory powers to the RBI to regulate its functions under the act and are not any different in quality from any of the sections already conferred. Under section 35A, power have been conferred to the RBI to ensure necessary direction to be provided to the banking companies in the interest of public. Such provisional empowerment cannot be considered to be arbitrary in nature. In view of which the exercise of power by RBI and Such Guidance can be obtained from the statement of objects and reasons as well as from the provisions of the code under section 22, 25, 29, 30 and 31.

Such exercise of power in the view of section 35AA and 35AB are constitutionally valid. Later on, The Supreme Court observed that Section 35AA Enables the central government to provide authorisation to RBI to issue directions in respect of a “Default”. Default would mean non- payment for any debt. The Impugned Circular applies to banking and non-banking institution alike. It was held that the above impugned order has no effect on law and is ultra vires in current situation. Consequently, Due to which all actions and guidelines issued under the said circular must fall with the circular.

As a result, the cases where debtors proceeded against by financial creditors under section 7 of the code only because of the operation of the circular.

Arguments of Counsels

Appellants: Dr. Singhvi appears on behalf of APP. He relied heavily upon the reports of the parliamentary standing committees which were looking into the problems of power from time to time. He argued upon the power usage and its statistics and then the counsel went into the non-availability of fuel and took to the new Coal Distribution. Then he referred to a challenge that was made to the RBI’s circular in the Allahabad High Court ordered in court in the case of Independent Power Producers Association of India v. Union of India and Ors.[2]. He contended that by applying the RBI guidelines mechanically by the banks, financial institution will further push in trouble without any hope for recovery.

Apart from the aforesaid submissions, Dr. Singhvi referred in great detail to the relevant sections of the Banking Regulation Act and the RBI Act and argued that the impugned circular was ultra vires the provisions of those Acts. According to him, Section 35A and Section 35AB of the Banking Regulation Act cannot possibly be the source of power for the impugned circular. Section 35A was introduced by an Amendment Act of 1956 and cannot, therefore, be used to empower the RBI to relegate companies to insolvency under the Insolvency Code as it did not exist at the time, or to give directions for resolution of stressed assets.

He strongly referred to and relied upon Indian Banks’ Association v. Devkala Consultancy Service[3],[“Indian Banks’ Association”] for the proposition that the RBI’s functions under Section 35A are confined to the boundaries of the RBI Act and the Banking Regulation Act and not to other statutes, such as the Insolvency Code. He then referred to the circular of the Central Government dated 05.05.2017 which empowered the RBI to issue directions qua individual defaults that are committed. This being so, a general circular applying to all defaults of loans above INR 2000 crore, without having reference to the facts of each individual case would, therefore, be ultra vires and bad in law.

Respondent: Shri Rakesh Dwivedi, learned Senior Advocate appearing on behalf of the RBI, has taken us through various provisions of the RBI Act and Banking Regulation Act and has impressed upon us the fact that the regulatory regime laid down in these Acts must be construed broadly, being in public interest, in the interest of banking policy, and above all, in the interest of depositors. He stated that it is in the interest of the public and also it also interests the national economy to that the debt does not carry indefinitely.

He proposed that according to that the circular is not arbitrary in nature particularly. He relied upon Section 7 of the RBI Act, under which the Central Government may, from time to time, give such directions to the RBI that it may consider necessary in public interest, after consultation with the Governor of the RBI. Shri Dwivedi relied upon our recent judgment in Swiss Ribbons Pvt. Ltd. and Anr. v. Union of India and Ors.[4].

Analysis

  • In accordance with the judgment all the cases referred to IBC by the banks in view of the circular by RBI in the first and second list are to not effect by the present judgment in the court. All the writ petitions which were clubbed with matter at hand and before the filling will continue to be rejected by the RBI circular.
  • The matter at hand provides that the circular is ultra vires and the entire circular to be taken down by the RBI. Which means all the other provisions of the RBI circular have been struck down including the preparation of the resolution plan within 180 days from March1, 2018 or any first date of default.
  • The judgment also upheld that the banking regulation Act for regulation of banks including powers to issue directions for resolution of stressed assets outside IBC and the power to issue directions to start an IRP under the IBC in view of the Specific debtors. It does the general powers conferred to the RBI to issue guidelines defined under the code. Most of the sound and correct regulatory can be reintroduced.
  • The court also observed that the resolution plans implemented were consensual and were in the regulation than they may continue. Other cases and petitions have to rely upon the general procedure of the code for mater circular- prudential norms on Income Recognition, asset classification or may rely upon the circular which will be issued by the RBI.
  • It is also observed that the old regulatory framework which was by the new circular of 2018 will be revived as the new circular has been declared ultra vires. While RBI was in jurisdiction for the repeal of the old regulation it is not possible to revive and create resolution plans on the basis of the prior regulatory framework.
  • In a Regulatory point of view, the power of India’s banking regulatory has been diluted by the judgement. The power to direct banks to refer cases to insolvency courts will now be restricted to situation where only the central authorises to move forward with.

Conclusion

After the judgment, RBI made a press release declaring that it will quickly putting in place a revised and updated regulatory framework for preparation resolution of stressed assets which will be in accordance with the existing legal provisions and the Dharana Sugars judgment. The judgment provides that the RBI dependence on Section 35AA was for only a specific cause and it will affect the legal compliance if used in any matter rather than a specific clause and without the authorisation provided by the central Government. RBI should create a new and specific regulatory framework which provide for the implementation intended through the power already conferred in the code.


[1] 2019 SCC OnLine SC 460

[2] Writ – C No. 18170 of 2018

[3]  (2004) 11 SCC 1

[4] 2019 (2) SCALE 5

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