Supreme Court settles the applicability of the SARFAESI Act to Cooperative Banks in Banking Law (2020)

Introduction

Date of the Judgment: May 05, 2020

Citation: (2020) INSC 375

Judges: Arun Mishra, J., Indira Banerjee, J., Vineet Saran, J., M.R. Shah, J., and Aniruddha Bose, J.

Can cooperative banks use the SARFAESI Act to recover loans? The Supreme Court addressed this important question, clarifying the scope of the Act in relation to cooperative banks. This judgment resolves conflicting decisions on whether cooperative banks, which are regulated under state laws, can invoke the SARFAESI Act for loan recovery. The five-judge bench of the Supreme Court, with the opinion authored by Justice Arun Mishra, provided a detailed analysis of the legal framework.

Case Background

The case arose from conflicting decisions regarding the applicability of the SARFAESI Act to cooperative banks. Initially, a full bench of the Bombay High Court had held that cooperative banks fell under the definition of ‘banking company’ under the Recovery of Debts Due to Banks and Financial Institutions Act, 1993 (RDB Act). However, this decision was overturned by the Supreme Court, which stated that cooperative banks did not fall under the definition of ‘banking company’ as defined in Section 5(c) of the Banking Regulation Act, 1949 (BR Act). Subsequently, the Banking Regulation (Amendment) and Miscellaneous Provisions Act, 2004, was passed, amending the BR Act retrospectively from 1.3.1966. This led to the question of whether the recovery provisions of the SARFAESI Act could apply to cooperative banks.

Several writ petitions were filed challenging the notification dated 28.1.2003, which allowed cooperative banks to use the SARFAESI Act, and the insertion of Section 2(1)(c)(iva) in the SARFAESI Act in 2013. The matter was referred to a larger bench due to these conflicting decisions.

Timeline

Legal Framework

The core legal provisions discussed in the judgment include:

• Entry 45 of List I of the Seventh Schedule of the Constitution, which deals with ‘Banking’.
• Entry 32 of List II of the Seventh Schedule of the Constitution, which deals with ‘co-operative societies’.
• Section 5(b) of the Banking Regulation Act, 1949, defining ‘banking’ as accepting deposits for lending or investment.
• Section 5(c) of the BR Act, 1949, defining ‘banking company’.
• Section 56(a) of the BR Act, 1949, which modifies the application of the BR Act to cooperative banks.
• Section 2(1)(c) of the SARFAESI Act, defining ‘bank’.
• Section 2(1)(d) of the SARFAESI Act, defining ‘banking company’ by reference to Section 5(c) of the BR Act.
• Section 2(1)(c)(iva) of the SARFAESI Act, which includes multi-State cooperative banks in the definition of ‘bank’.

The Supreme Court examined how these provisions fit within the constitutional framework, particularly the division of legislative powers between the Union and the States.

Arguments

Arguments by the Appellants:

• The term ‘banking’ under Entry 45 of List I should be interpreted in light of Section 5(b) of the BR Act, 1949, which defines ‘banking’ as an activity.
• There is a distinction between ‘entity’ and ‘activity’. Section 6(1) and 6(2) of the BR Act enable a banking entity to perform additional functions, but this does not confer the status of a banking company.
• The Parliament’s power is confined to the specific provisions of the BR Act, 1949, and the Reserve Bank of India Act, and it lacks the power to regulate cooperative societies.
• The object of the SARFAESI Act is to regulate securitization and reconstruction of financial assets, which is not a banking activity.
• The Parliament lacks the legislative competence to regulate financial assets related to the non-banking activity of a cooperative society.
• The notification dated 28.1.2003 is ultra vires as it includes cooperative banks, which are neither banking companies nor banking corporations.
• The amendment incorporating ‘multi-State cooperative bank’ is a colorable exercise of power.
• Cooperative societies are within the purview of the State List.
• There must be a harmonious construction of entries in List I and List II.

Arguments by the Respondents:

• Section 2(1)(c) of the SARFAESI Act incorporates the definition of ‘banking company’ from Section 5(c) of the BR Act, 1949, which includes cooperative banks through Section 56(a).
• The insertion of ‘multi-State cooperative bank’ in Section 2(1)(c)(iva) is an additional clarification, as these banks are already covered under the definition of ‘banking company’.
• Article 246 distributes legislative powers, and the Parliament has exclusive power to make laws regarding matters in List I, which includes banking.
• The SARFAESI Act does not deal with the incorporation, regulation, or winding up of cooperative societies. It only provides for recovery of dues, which is part of banking activity.
• The decision in Greater Bombay Coop. Bank Ltd. requires reconsideration and clarification.
• Banking operations include accepting deposits, granting loans, and recovering debts, all of which are essential banking functions.
• The Parliament can legislate on matters related to banking even if the entity is a cooperative society.
• The SARFAESI Act provides an additional remedy to cooperative banks to recover their dues.

Arguments by the Reserve Bank of India:

• The matter is covered by Entry 45 of List I, and the Parliament has the right to legislate on banking business as defined in Section 5(b) of the BR Act, 1949.
• Banking operations include accepting loans and deposits, granting loans, and recovering debts.
• The Parliament can enact a law about the conduct of business by a bank, even if it is a cooperative society.
• The 1965 amendment to the BR Act, 1949, brought cooperative banks within its purview.
• The SARFAESI Act is a legislation concerning banking and matters incidental to it.

Submissions

Issues Framed by the Supreme Court

The Supreme Court framed the following key issues:

1. Whether ‘cooperative banks’, which are also cooperative societies, are governed by Entry 45 of List I or by Entry 32 of List II of the Seventh Schedule of the Constitution of India, and to what extent?
2. Whether ‘banking company’ as defined in Section 5(c) of the BR Act, 1949 covers cooperative banks registered under the State Cooperative Laws and also multi-State cooperative societies?
3. (a) Whether cooperative banks both at the State level and multi-State level are ‘banks’ for the applicability of the SARFAESI Act?
4. (b) Whether provisions of Section 2(c) (iva) of the SARFAESI Act on account of inclusion of multi-State cooperative banks and notification dated 28.1.2003 notifying cooperative banks in the State are ultra vires?

Treatment of the Issue by the Court

The following table demonstrates as to how the Court decided the issues

Authorities

The Supreme Court considered the following authorities:

Judgment

How each submission made by the Parties was treated by the Court?

How each authority was viewed by the Court?

• Rustom Cavasjee Cooper v. Union of India, (1970) 1 SCC 248:* The Court clarified that while ‘banking’ under Entry 45 does not include ‘banker’ or ‘bank,’ it encompasses all legitimate banking activities.
• Mahaluxmi Bank Ltd. v. Registrar of Companies, West Bengal, AIR 1961 Calcutta 666:* The Court acknowledged the definition of ‘banking’ as the relationship brought into existence by core banking activities, but did not limit the definition of banking in Entry 45 to just that.
• ICICI Bank Limited v. Official Liquidator of APS Star Industries Limited and Ors., (2010) 10 SCC 113:* The Court agreed that core banking functions are essential for a company to be regulated under the BR Act, but did not limit the definition of banking to core functions alone.
• The State of Madras v. Gannon Dunkerley & Co., (Madras) Ltd., AIR 1958 SC 560 and Diamond Sugar Mills Ltd. and Anr. v. State of Uttar Pradesh and Anr., AIR 1961 SC 652:* The Court acknowledged that these cases considered the meaning of ‘banking’ in the Entry to be the same as in the BR Act, but did not limit the definition of banking in Entry 45 to just that.
• Hinsa Virodhak Sangh v. Mirzapur Moti Kuresh Jamat and Ors., (2008) 5 SCC 33:* The court distinguished the case and held that the power of the Central Government is not confined to the entity of the kind referred under Clauses (i) to (iv) of Section 2(1)(c) of SARFAESI Act.
• K.C. Gajapati Narayan Deo and Ors. v. State of Orissa, AIR 1953 SC 375 and State of Tamil Nadu and Ors. v. K. Shyam Sunder and Ors., (2011) 8 SCC 737:* The Court distinguished these cases and held that the amendment is not a colorable exercise.
• Apex Cooperative Bank of Urban Bank of Maharashtra & Goa Ltd. v. Maharashtra State Cooperative Bank Ltd. and Ors., (2003) 11 SCC 66:* The court distinguished the case and held that cooperative societies are in the purview of the State List, but that does not mean that the banking activity of cooperative banks is also in the State List.
• Virendra Pal Singh and Ors. v. District Assistant Registrar, Cooperative Societies, Etah, and Anr., (1980) 4 SCC 109:* The Court distinguished the case and held that it was related to service regulations and not to the regulation of banking.
• S.S. Dhanoa v. Municipal Corporation, Delhi and Ors., (1981) 3 SCC 431, Daman Singh and Ors. v. State of Punjab and Ors., (1985) 2 SCC 670, and Dalco Engineering Private Limited v. Satish Prabhakar Padhye and Ors., (2010) 4 SCC 378:* The Court distinguished the cases and held that the Entries 43, 44 and 32 are different but that does not mean that the banking activity of cooperative banks is also in the State List.
• I.T.C. Ltd. v. Agriculture Produce Market Committee and Ors., (2002) 9 SCC 232:* The Court distinguished the case and held that arguments of alarm relating to an adverse effect on the banking sector would be of no consequence.
• Iqbal Naseer Usmani v. Central Bank of India and Ors., (2006) 2 SCC 241:* The Court distinguished the case and held that banking business for a cooperative society is not merely an incidental business.
• The Majoor Sahakari Bank Ltd. v. N.N. Majmudar and Anr., AIR 1957 Bom 362:* The Court relied on this case to show that a cooperative society doing banking business is a company.
• The Shamrao Vithal Co-operative Bank Ltd., Mumbai, and Anr. v. M/s. Star Glass Works, Mumbai and Ors., AIR 2003 Bom 205:* The Court relied on this case to show the meaning of incorporation by reference.
• Hindustan Lever and Anr. v. State of Maharashtra and Anr., (2004) 9 SCC 438, Kerala State Electricity Board v. Indian Aluminium Co. Ltd., (1976) 1 SCC 466, and Sita Ram Sharma and Ors. v. State of Rajasthan and Ors., (1974) 2 SCC 301:* The Court distinguished these cases and stated that ‘incorporation, regulation and winding up’ refers only to organizational aspects of corporations.
• State of A.P. and Ors. v. Mcdowell & Co. and Ors., (1996) 3 SCC 709:* The Court distinguished the case and held that the question of ‘occupied field’ is germane concerning the Concurrent List.
• Dewan Bahadur Seth Gopal Das Mohta v. Union of India and Ors., (1955) 1 SCR 773 and Khyerbari Tea Co. Ltd. and Ors. v. State of Assam, (1964) 5 SCR 975:* The Court distinguished these cases and held that petition under Article 32 of the Constitution is maintainable.
• The Greater Bombay Coop. Bank Ltd. v. United Yarn Tex (P) Ltd. and Ors., (2007) 6 SCC 236:* The Court overruled this judgment.
• Delhi Cloth & General Mills Co. Ltd. v. Union of India and Ors., (1983) 4 SCC 166:* The Court relied on this case to explain the principle of pith and substance.
• T. Velayudhan Achari and Anr. v. Union of India and Ors., (1993) 2 SCC 582:* The Court relied on this case to explain the principle of pith and substance.
• Union of India and Anr. v. Delhi High Court Bar Association and Ors., (2002) 4 SCC 275:* The Court relied on this case to explain the principle of pith and substance.
• UCO Bank and Anr. v. Dipak Debbarma and Ors., (2017) 2 SCC 585:* The Court relied on this case to explain the principle of pith and substance.
• State Bank of India v. Santosh Gupta and Anr., (2017) 2 SCC 538:* The Court relied on this case to explain the principle of pith and substance.

Reasoning of the Court:

The Supreme Court held that cooperative banks, while being cooperative societies, also perform banking functions and are therefore subject to the banking laws enacted by the Parliament. The court emphasized that the term ‘banking’ under Entry 45 of List I is broad and includes all legitimate banking activities, not just core functions. The court also clarified that Section 56(a) of the BR Act, 1949, makes the provisions of the Act applicable to cooperative banks, thus bringing them within the ambit of the definition of ‘banking company’ under Section 5(c) of the BR Act. The court held that the SARFAESI Act is a valid legislation under Entry 45 of List I and is applicable to cooperative banks. The court also held that the notification dated 28.1.2003 and the insertion of Section 2(1)(c)(iva) in the SARFAESI Act are within the legislative competence of the Parliament and are not ultra vires. The Court overruled the judgment of the Supreme Court in Greater Bombay Coop. Bank Ltd. v. United Yarn Tex (P) Ltd. and Ors., (2007) 6 SCC 236.

Conclusion

The Supreme Court’s judgment clarifies that cooperative banks are subject to the provisions of the SARFAESI Act. This decision has significant implications for the banking sector, as it allows cooperative banks to utilize the SARFAESI Act for the recovery of their dues. The judgment settles the conflicting views on the applicability of the SARFAESI Act to cooperative banks and provides a clear legal framework for their operations. The court emphasized the importance of a broad interpretation of ‘banking’ under Entry 45 of List I and the Parliament’s power to regulate banking activities, even when performed by cooperative societies. The judgment ensures that cooperative banks have the same avenues for loan recovery as other banking institutions, thereby strengthening the financial stability of the sector.

Flowchart of the Decision