Supreme Court clarifies pre-deposit under SARFAESI Act: Sidha Neelkanth Paper Industries vs. Prudent ARC Limited (2023)

Introduction

Date of the Judgment: 5 January 2023
Citation: 2023 INSC 142
Judges: M.R. Shah, J. and B.V. Nagarathna, J.

When a borrower challenges actions taken by a lender under the SARFAESI Act, must they deposit a portion of the debt before their appeal can be heard? The Supreme Court of India recently addressed this question, clarifying whether proceeds from the sale of a mortgaged property can be used to satisfy the pre-deposit requirement under Section 18 of the SARFAESI Act. This judgment interprets the term “debt due” and its implications for borrowers seeking to appeal decisions made by the Debt Recovery Tribunal (DRT). The bench comprised Justices M.R. Shah and B.V. Nagarathna, with the judgment authored by Justice M.R. Shah.

Case Background

The case involves multiple appeals concerning the interpretation of Section 18 of the SARFAESI Act, specifically regarding the pre-deposit requirement for borrowers appealing orders of the Debt Recovery Tribunal (DRT). The core issue revolves around whether the amount realized from the sale of a secured asset can be adjusted against the pre-deposit that a borrower is required to make when filing an appeal before the Debt Recovery Appellate Tribunal (DRAT).

In one set of appeals (Civil Appeal Nos. 8969 and 8970 of 2022), Sidha Neelkanth Paper Industries Private Limited (the principal borrower) had taken a loan from Andhra Bank, which later became a Non-Performing Asset (NPA). The bank initiated proceedings under the SARFAESI Act, and the mortgaged property was eventually sold in an auction for Rs. 12.5 crores against a debt of Rs. 16.61 crores. The borrower challenged the auction and sought a waiver of the pre-deposit requirement under Section 18, arguing that the sale proceeds should be adjusted against the pre-deposit. The High Court directed the borrower to deposit 50% of the remaining debt (Rs. 4.1 crores), which was challenged by both the borrower and the secured creditor.

In another set of appeals (Civil Appeal Nos. 8972, 8973, and 8974 of 2022), the borrowers had taken a home loan from Bank of Baroda. After defaulting, the bank initiated action under the SARFAESI Act, and the mortgaged property was sold in an auction. The DRAT held that the borrowers were not required to make any pre-deposit since the bank had already recovered the debt by selling the mortgaged property. The auction purchasers challenged this order in the High Court, which was dismissed.

Timeline

Course of Proceedings

In the case of Sidha Neelkanth Paper Industries, the Debt Recovery Tribunal (DRT) initially directed the borrower to deposit Rs. 2 crores as a condition for interim stay. After the borrower failed to comply, the mortgaged property was auctioned. The borrower’s attempts to challenge the auction failed in both the DRT and the DRAT. The High Court initially directed the DRAT to hear the appeal on merits, observing that the recovery of Rs. 12.5 crores was more than 50% of the debt. However, the DRAT later waived the pre-deposit requirement, stating that the amount realized from the sale could be adjusted towards the pre-deposit. The High Court then directed the borrower to deposit 50% of the remaining debt (Rs. 4.1 crores), which led to the appeals to the Supreme Court.

In the other set of cases, the DRT dismissed the borrower’s application. The DRAT held that the borrower was not required to make a pre-deposit since the bank had already recovered the debt by selling the mortgaged property. This order was challenged by the auction purchasers in the High Court, which upheld the DRAT’s decision.

Legal Framework

The Supreme Court examined the following legal provisions:

• Section 18 of the SARFAESI Act: This section provides for appeals to the Debt Recovery Appellate Tribunal (DRAT) against orders of the DRT. The second proviso to this section mandates that no appeal shall be entertained unless the borrower deposits 50% of the amount of debt due from him, as claimed by the secured creditors or determined by the DRT, whichever is less. The third proviso allows the DRAT to reduce this amount to not less than 25% for reasons recorded in writing. The relevant text is:
  
  “Provided further that no appeal shall be entertained unless the borrower has deposited with the Appellate Tribunal fifty per cent. of the amount of debt due from him, as claimed by the secured creditors or determined by the Debts Recovery Tribunal, whichever is less:”
• Section 2(ha) of the SARFAESI Act: This section defines “debt” by referring to Section 2(g) of the Recovery of Debts and Bankruptcy Act, 1993. The relevant text is:
  
  “debt” shall have the meaning assigned to it in clause (g) of section 2 of the Recovery of Debts Due to Banks and Financial Institutions Act, 1993 (51 of 1993) and includes— (i) unpaid portion of the purchase price of any tangible asset given on hire or financial lease or conditional sale or under any other contract; (ii) any right, title or interest on any intangible asset or licence or assignment of such intangible asset, which secures the obligation to pay any unpaid portion of the purchase price of such intangible asset or an obligation incurred or credit otherwise extended to enable any borrower to acquire the intangible asset or obtain licence of such asset;
  
• Section 2(g) of the Recovery of Debts and Bankruptcy Act, 1993: This section defines “debt” as any liability (inclusive of interest) claimed as due by a bank or financial institution. The relevant text is:
  
  “debt” means any liability (inclusive of interest) which is claimed as due from any person [or a pooled investment vehicle as defined in clause (da) of section 2 of the Securities Contracts (Regulation) Act, 1956 (42 of 1956),] by a bank or a financial institution or by a consortium of banks or financial institutions during the course of any business activity undertaken by the bank or the financial institution or the consortium under any law for the time being in force, in cash or otherwise, whether secured or unsecured, or assigned, or whether payable under a decree or order of any civil court or any arbitration award or otherwise or under a mortgage and subsisting on, and legally recoverable on, the date of the application [and includes any liability towards debt securities which remains unpaid in full or part after notice of ninety days served upon the borrower by the debenture trustee or any other authority in whose favour security interest is created for the benefit of holders of debt securities or;]”
  

The Court emphasized that the definition of “debt” under the SARFAESI Act includes interest, as per Section 2(g) of the Recovery of Debts and Bankruptcy Act, 1993. The Court also noted that the pre-deposit requirement under Section 18 is mandatory for the borrower to have their appeal entertained by the DRAT.

Arguments

Arguments on behalf of the principal borrower:

• The borrower argued that the High Court erred in directing them to deposit 50% of the remaining debt (Rs. 4.1 crores) as pre-deposit.
• They contended that since the secured property was sold for Rs. 12.5 crores against an original debt of Rs. 16.61 crores, the amount recovered was more than 50% of the original debt. Therefore, no further pre-deposit should be required.
• The borrower argued that the amount realized by the financial institution from the sale of the secured property should be adjusted when calculating the “debt due.”
• They also argued that the High Court misinterpreted the definition of “debt” under Section 2(g) of the Recovery of Debts and Bankruptcy Act, 1993, and that the “debt due” should be calculated after deducting the money received by the bank during the proceedings before the DRT.
• The borrower submitted that the High Court failed to apply the literal rule of interpretation to Section 18 of the SARFAESI Act when determining the meaning of “debt due.”

Arguments on behalf of the financial institution and auction purchaser:

• The financial institution argued that the High Court erred in directing the borrower to deposit only 50% of the remaining Rs. 4.1 crores and should have directed a deposit of 50% of the original debt of Rs. 16.61 crores.
• They argued that the High Court erred in directing that the amount realized from the auction sale should be appropriated for the pre-deposit amount, without considering the interest component.
• They submitted that as per Section 2(ha) of the SARFAESI Act, “debt” includes interest, and the High Court was wrong to ignore the interest component for the purposes of Section 18.
• The financial institution contended that since the borrower challenged the notice under Section 13(2) and the auction sale, the amount recovered from the sale of assets should not be adjusted against the pre-deposit.
• The financial institution relied on the Bombay High Court’s decision in Eskays Construction Pvt. Ltd. v. Soma Papers & Industries Limited & Others, which held that the amount realized from the sale of secured assets cannot be adjusted against the pre-deposit.

Arguments on behalf of the auction purchaser:

• The auction purchaser argued that the pre-deposit under Section 18 is not for securing payment to the creditor but to ensure the borrower’s bona fides and discourage frivolous litigation.
• They submitted that the language of Section 18 is clear that the “borrower shall deposit” the amount, and the amount from the auction sale cannot be used for the borrower’s benefit.
• The auction purchaser argued that the borrower can only benefit from the amount received in an auction sale if they accept the sale. If the borrower challenges the sale, they cannot claim the amount for their benefit.
• They relied on the Supreme Court’s decision in M/s Shilpa Shares and Securities v. National Cooperative Bank Ltd., which held that amounts deposited pursuant to a court order cannot be adjusted in pre-deposit.

Issues Framed by the Supreme Court

The Supreme Court framed the following issues for consideration:

1. Whether, while calculating the amount to be deposited as pre-deposit under Section 18 of the SARFAESI Act, 50% of which amount the borrower is required to deposit as pre-deposit, and whether while calculating the amount of “debt due”, the amount deposited by the auction purchaser on purchase of the secured assets is required to be adjusted and/or appropriated towards the amount of pre-deposit to be deposited by the borrower under Section 18 of the SARFAESI Act?
2. Whether the “debt due” under Section 18 of the SARFAESI Act would include the liability + interest?

Treatment of the Issue by the Court

The following table demonstrates how the Court decided the issues:

Authorities

The Supreme Court considered the following authorities:

Judgment

What weighed in the mind of the Court?

The Supreme Court emphasized the mandatory nature of the pre-deposit requirement under Section 18 of the SARFAESI Act. The Court’s reasoning was primarily driven by the following points:

• Literal Interpretation: The Court focused on the literal interpretation of the phrase “borrower has to deposit,” concluding that the deposit must come from the borrower’s own funds and not from the proceeds of the sale of the secured assets.
• Definition of “Debt”: The Court relied on Section 2(g) of the Recovery of Debts and Bankruptcy Act, 1993, to clarify that “debt” includes interest, which must be considered when calculating the pre-deposit amount.
• Purpose of Pre-deposit: The Court noted that the pre-deposit requirement is not solely to secure the creditor’s dues but also to ensure the borrower’s bona fides and discourage frivolous litigation.
• Challenge to Sale: The Court highlighted that if the borrower challenges the auction sale, they cannot simultaneously claim the benefit of the sale proceeds towards the pre-deposit. The borrower must unequivocally accept the sale to claim such a benefit.
• Consistency with Precedent: The Court aligned its decision with the Bombay High Court’s ruling in Eskays Construction Pvt. Ltd., which held that sale proceeds cannot be used to fulfill the pre-deposit requirement.

Logical Reasoning

Judgment

The Supreme Court held that the borrower must deposit 50% of the “debt due,” which includes interest, as claimed by the bank or financial institution. The Court clarified that the amount realized from the sale of the secured property cannot be adjusted against the pre-deposit amount, especially when the borrower challenges the sale.

The Court stated that “it is the “borrower” who has to deposit the 50% of the amount of “debt due” from him. At the same time, if the borrower wants to appropriate and/or adjust the amount realised from sale of the secured assets deposited by the auction purchaser, the borrower has to accept the auction sale.”

The Court further noted that “in a case where the borrower also challenges the auction sale and does not accept the same and also challenges the steps taken under Section 13(2)/13(4) of the SARFAESI Act with respect to secured assets, the borrower has to deposit 50% of the amount claimed by the secured creditor along with interest as per section 2(g) of the Act 1993.”

The Court also observed that “it would be ludicrous to suggest that the money realised by the bank from sale of the secured assets could be used by the borrower to fulfil the condition of pre-deposit under Section 18.”

The Court allowed the appeals of the financial institutions and auction purchasers (Civil Appeal Nos. 8970, 8972, 8973, and 8974 of 2022) and dismissed the appeal of the borrower (Civil Appeal No. 8969 of 2022). The Court emphasized that the borrower must deposit 50% of the debt due, including interest, as claimed by the secured creditor, and cannot claim adjustment of the amount realized from the sale of secured properties when the auction sale is also under challenge.

Key Takeaways

• Mandatory Pre-Deposit: Borrowers appealing orders under the SARFAESI Act must deposit 50% of the debt due as claimed by the secured creditor, which includes interest.
• No Adjustment of Sale Proceeds: The amount realized from the sale of secured assets cannot be adjusted against the pre-deposit amount, especially if the borrower challenges the sale.
• Borrower’s Responsibility: The pre-deposit must come from the borrower’s own funds and cannot be satisfied by the proceeds of the sale of the secured assets.
• Purpose of Pre-Deposit: The pre-deposit serves to ensure the borrower’s bona fides and discourage frivolous litigation, not just to secure the creditor’s dues.
• Acceptance of Sale: If the borrower wants to use the sale proceeds towards the pre-deposit, they must unequivocally accept the sale.

Directions

The Supreme Court directed that the borrower has to deposit 50% of the amount of “debt due” as claimed by the bank/financial institution/assignee along with interest as claimed in the notice under Section 13(2) of the SARFAESI Act.

Development of Law

The Supreme Court clarified that the term “debt due” under Section 18 of the SARFAESI Act includes interest, as defined in Section 2(g) of the Recovery of Debts and Bankruptcy Act, 1993. The Court also established that the pre-deposit amount must be paid by the borrower from their own funds andcannot be satisfied by the proceeds from the sale of the secured assets, especially when the sale is being challenged. This ruling provides a clear interpretation of Section 18 and ensures that the pre-deposit requirement is strictly enforced, thereby discouraging frivolous appeals and upholding the integrity of the SARFAESI Act. This judgment further solidifies the mandatory nature of the pre-deposit and provides clarity on how the “debt due” should be calculated, which will have a significant impact on future appeals under the SARFAESI Act.