Supreme Court Quashes Controversial RBI circular on Debt Resolution

Author: thinkinglegal | April 11, 2019 - 17:12 | Tags: Regulatory Advisory

On 2nd April 2019, the Supreme Court in the matter of Dharani Sugars and Chemical Ltd. vs Union of India &Ors.1quashed the Reserve Bank of India’s (“RBI”) circular dated 12 February 2018 (“Circular”).

Brief Facts

In terms of the Circular, RBI directed banks and financial institutions to initiate resolution against defaulting companies with debts of more than Rs. 2000 crores. It also made a provisionfor recognising one-day defaults by large corporatehouses and called for insolvency action as a remedy if they are unable to adopt a resolution plan within 180 days. It mandated thatif the account was not resolved within a period 180 days of such reference, then banks and financial institutions have to initiate proceedings against these companies under the Insolvency and Bankruptcy Code, 2016 (“Insolvency Code”).

Issues Raised

This Circular led to petitions filed by various associations representing companies in shipping sector, power sector, sugar sector etc. The main contention was that the direction to initiate insolvency process if bad debts over Rs.2000 crores are not resolved within 180 days in the Circular, could not have been issued without the authorization of the central government.

Another question which was raised was that whether Section 35AA of the Banking Regulation Act, 1949 (“BR Act”) which talks about the power of Central Government to authorise Reserve Bank for issuing directions to banking companies to initiate insolvency resolution process is ultra vires in nature.

Ruling and Observations

It was argued before the Court by RBI that it has general powers to issue direction to banking companies under Section 35A of the BR Act and, thus, the source of issuing the Circular is Section 35A as no authorization from Central Government is needed to exercise the powers under Section 35A.

Dealing with this argument, the Court observed that prior to the enactment of Section 35AA, directions to the banking companies were issued by RBI under Section 21 and 35A of the BR Act. After the enactment of Section 35AA, RBI may do so only within the four corners of Section 35AA.

It wasfurther held that if a statute confers power to do a particular actand has laid down the method in which such power has to be exercised, it necessarily prohibits doing of such act in any manner other than that which has been prescribed. Thus, in accordance to the above principle, RBI can only direct banking institutions to move under the Insolvency Code if the following requirements have been fulfilled:

  1. there is a central government authorisation to do so, and
  2.  it should be in respects of specific defaults.

Thus, this Section by necessary implication prohibits the power from being exercised in any other manner other than the manner set out in Section 35AA. The Court further stated that authorisation of the Central Government is important for initiating the insolvency resolution process under the Insolvency Code as per Section 35AA of the BR Act.

It was further argued that concurrent powers have been given to the RBI on a combined reading of Section 21, 35A, 35AA, 35AB, the Court held that in general when concurrent powers are given to the same or different authorities, the BR Act expressly says so. Thus, it is clear to the point that without the authorisation of the Central Government, the RBI has no power to issue direction on its own.

Thus, when one section of a statute grants general powers and another section of the same statute grants specific power, the general provisions cannot be utilised where a specific provision has been enacted with a specific purpose in mind, thus the Court accordingly gave a distinct narrative to the argument made by respondent.The Court explained the scheme of Section 35A, 35AA and Section 35AB wherein,it provides that when it comes to issuing direction to initiate the insolvency resolution process under the Insolvency Code, specific power under Section 35AA is availed. When direction regarding stressed assets other than resolving the problem under the Insolvency Code is to be issued then general powers under Section 35AB read with Section 35A is availed. Hence, in the given case the RBI would have no power under Section 35AA, if there is no authorisation from the Central Government and Section 35AA only refers to specific cases of default and not to the issuance of directions to banking companies generally as has been done by the banking companies.

Consequently, all actions taken under the said Circular, including actions by which the Insolvency Code has been triggered must fall along with the said circular. As a result, all cases in which debtors have been proceeded against by financial creditors under Section 7 of the Insolvency Code, only because of the operation of the Circular will be proceedings which, being faulted at the very inception, are declared to be non-est.


(The author of this Article, Aditi Sanghi is an Associate at Thinking Legal.)



DISCLAIMER:  This article is for academic purpose and is solely to provide readers with general information regarding developments in Indian law. The information contained herein does not constitute legal or a professional advice. ]