The Hindu Business Line : Settling their dues out of court

Since the introduction of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act (Sarfaesi) Act, out-of-court settlements have become an effective way of recovering sticky bank debts, helping PSBs to reduce non-performing assets to manageable levels. For bankers, such settlements save time, cost and manpower, besides speeding up the recycling of bank funds.

IN 1893 Gandhiji, a young lawyer then, was invited to South Africa to argue a lawsuit. His client was one Dada Abdulla Sheth and the opposing party was one Tyeb Sheth. Both were relatives. The cost of litigation, dragging out for more than a year, was ruining both. Gandhiji, who disliked competitiveness among lawyers and doctors, suggested a compromise through out of court arbitration. The arbitrator heard the case and decided in favour of Dada Abdulla.

Now, a new problem confronted Gandhiji. If Tyeb paid up the amount agreed with cost he would go bankrupt. Gandhiji prevailed on Dada Abdulla to permit the loser to pay in instalments stretched over an extended period. Both litigants were satisfied. Gandhiji always believed settlements out of court were preferable to trials. He followed this practice during his 20 years as a lawyer. "I lost nothing thereby — not even money, certainly not my soul," he later declared.

Public sector banks (PSBs) have been putting this Gandhian technique to good use in recent years with promising results. Loans which were not repaid for long and loans which were never likely to be repaid are getting repaid. The defaulters and the banks are both happy, the former having got rid of a burden which has been nagging them for long and the latter having got back the money that had been written off in many cases.

A manufacturing unit that started off well closed shop in the early 1990s due to unexpected factors. The matter went to the Debt Recovery Tribunal. The promoter of the unit absconded. Recently, the bank, which had financed him, traced a piece of real estate belonging to the promoter and issued a notice under the Sarfaesi Act to take possession of the property. The promoter promptly appeared before the bankers for an out-of-court settlement.

Taking the present position of the borrower, the bank settled for `book outstanding' (the amount owing to the bank at the time when the account became bad) sacrificing the interest portion, which had grown to huge proportions.

In another case, a farmer had taken a loan to purchase a tractor in the 1980s. After a few years, he stopped making any payment to the bank, which also lost track of his whereabouts. The matter had almost been forgotten except for occasional reminders sent to the last known address of the borrower. Recently, as part of the recovery drive, the bank traced the defaulter and brought him for a one-time settlement. It appeared that the account had gone bad due to some family dispute as a result of which the tractor could not be put to proper use.

Taking the plight of the borrower into consideration, the bank settled for an amount lower than the book outstanding, writing off the balance portion. Such instances are becoming common in the PSBs' drive to reduce their non-performing assets to manageable levels.

One-time settlement: For decades, the non-performing assets of public sector banks seemed too formidable to tackle and kept mounting. Even after financial reforms were introduced in the early 1990s, the NPA question remained a daunting proposition for the banks.

Special Debt Recovery Tribunals were set up to speed up cases involving defaults to banks, but for some reason or the other debt cases kept dragging on as before.

At the same time, the Reserve Bank of India wisely promoted Compromise Settlements or One Time Settlements (OTS) to encourage out-of-court settlements of bad debts. Different categories of OTS were announced for different categories of defaults such as for small loans, big defaults and so on.

The PSBs were also directed to devise their own OTS schemes to suit their respective needs. These out-of-court settlements have opened up a new vista of recovering sticky bank debts effectively.

Foreclosure: Bank debt recovery took a marked turn after the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act (Sarfaesi) Act was introduced in mid-2002. The Act empowered the banks to dispose of the defaulters properties given as securities to recover the dues after giving notice. The defaulters were not normally given any opportunity to challenge the action of the banks in any court.

In case a defaulter wanted to have the action of bank reviewed, he was required to deposit 75 per cent of the amount he owed the bank in advance with the court. The Act was an answer to the banks' long-pending demand for a foreclosure law, as in the Western economies, to recover their dues without delay or cumbersome procedure.

It took sometime for the implications of the new Act to sink in for the defaulters and the bankers. But once the initial confusion and doubts were cleared, the defaulters started queuing up before the banks for out-of-court settlements to clear their dues.

However, some of the big defaulters got the Act stayed by the Supreme Court contending that it favoured the bankers unduly, and that genuine defaulters were not given adequate opportunity to defend themselves.

The Supreme Court, in a landmark judgment, upheld the Act but sought to balance the lender's right with his responsibility in order to provide a level playing field for both banks and borrowers. It underscored the borrowers' right for transparency and fairness in the settlement of debts in line with international best practices.

The Supreme Court also struck down the provision to deposit 75 per cent of the amount due upfront before preferring an appeal as not fair to the borrowers.

Latest amendments: Following the Supreme Court judgment, the Government has now amended the Sarfaesi Act to provide that defaulters who choose to prefer an appeal in the Debt Recovery Appellate Tribunal against the bank action will have to deposit only 50 per cent of the decreed amount, upfront. Furthermore, the special courts have been given the discretion to lower the amount to 25 per cent of the decreed amount in deserving cases. It has also been stipulated that the courts have to dispose of such appeals within four months of their application.

On their part, banks have now been empowered to take over businesses of the defaulting borrowers and dispose of them by way of lease or sale to recover their dues. The defaulters cannot also misuse the transparent dealings of the banks to go to court.

The real benefit of the Sarfaesi Act lies in its being instrumental in forcing the defaulters to come for out-of-court settlement. For the bankers too such settlements are desirable as they save time, cost and manpower besides speeding up the recycling of bank funds.

The latest amendments to the Act are bound to lead to more and more out-of-court settlements.

From the Table, it can be seen that except for 15 per cent of NPAs under agriculture, which are beyond the purview of the Sarfaesi Act, the rest of the bad debts of the PSBs are amenable to out-of-court settlement under OTS. Even in the case of farm loans, it is the experience of the PSBs that one-time settlements seem to find favour with the defaulters.

Relatively, the amount collected so far under the various recovery schemes such as Debt Recovery Tribunals, one time settlements and Sarfaesi may not be impressive in comparison to the total quantum of non-performing assets with the PSBs. But there can be no gainsaying the fact that all these recent measures which have made out-of-court settlements the preferred choice of the borrowers and the bankers are a giant leap in ushering in a healthy repayment culture in the country.

(The author is an economist with Indian Overseas Bank and can be contacted at dvenu@vsnl.net)

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