SARFAESI ACT, 2002- Objectives, Applicability, Documentation, & Process
One of the most important players in India's attempts to successfully expand its economy at a rapid pace has been the financial industry. The legal framework governing business transactions did not keep up with the banking sector reforms and evolving business practices. It increased the amount of nonperforming assets held by banks and other financial institutions and slowed the rate at which failing loans were recovered. The Central Government established the Andhyarujina Committee and Narasimham Committee I and II to look into banking sector reforms and assess whether the legislative system needs to be changed in these areas. These panels, among others, recommended creating new laws for securitisation and giving banks and other financial organisations the authority to acquire the securities and sell them without the need for judicial action.
Table of Content
What is the SARFAESI ACT, 2002?
"Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act" is the complete name of the SARFAESI Act. When a borrower defaults on a loan, banks and other financial institutions can recoup the loan amount by auctioning off residential or commercial properties under the SARFAESI Act. As a result, banks can lower their Non-Performing Assets (NPAs) through reconstruction and recovery techniques thanks to the SARFAESI Act of 2002. With the exception of agricultural land, banks are permitted by the SARFAESI Act to take possession of a borrower's property without going to court. Only secured loan situations where banks are able to enforce underlying securities like hypothecation, mortgage, pledge, etc. are covered by the SARFAESI Act of 2002. Unless the security is faulty or fraudulent, a court order is not necessary. The bank would have to take the defaulters to court and bring a civil case against them in the case of unsecured assets.
The SARFAESI Act of 2002 was introduced to:
Control financial asset reconstruction and securitisation
Implementation of the security interest
Information related to or incidental to it
It covered the entirety of India. Through the implementation of the Security Interest and Recovery of Debts Laws and Miscellaneous Provisions (Amendment) Act of 2016, the SARFAESI Act of 2002 was amended. Four statutes will be further amended by this act:
The Security Interest Enforcement and Securitisation and Reconstruction of Financial Assets Act of 2002 (SARFAESI).
Banks and Financial Institutions Act of 1993: Recovery of Debts Owing to (RDDBFI).
Indian Stamp Act of 1899
Depositories Act of 1996
For issues related or ancillary thereto
History of the SARFAESI Act
The Narasimham Committee I (Committee on the Financial System) noted in 1991 that banks and other financial institutions have trouble recovering non-performing assets (NPAs) because borrowers are able to get stay orders from regular courts. The establishment of Debt Recovery Tribunals in 1993 and the extension of the debt recovery process beyond the purview of regular courts were therefore necessary to fortify this procedure.
The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest (SARFAESI) Act was passed in 2002 in response to the 1998 observation by the Narasimham Committee II (Committee on Banking Sector Reforms) that a law was necessary to strengthen Debt Recovery Tribunals (DRTs).
Objectives of SARFAESI Act, 2002
The following are some of the main goals of the SARFAESI Act of 2002:
Giving banks and financing companies a way to get their money back from secured assets
Enabling banks to sell off residential or business properties at auction in the event that borrowers are unable to make their obligations
Reducing the time and expense required to reclaim secured assets
Defending the rights of borrowers and depositors
Encouraging economic stability
Applicability of SARFAESI Act, 2002
The following are covered by the Act:
The Reserve Bank of India registers and regulates Asset Reconstruction Companies (ARCs).
Enabling the securitisation of banks' and other financial institutions' assets, whether or not underlying securities are beneficial.
By issuing bonds, debentures, or any other instrument that can be converted into a debenture, the ARC promotes the easy transferability of financial assets in order to purchase financial assets from banks and other financial institutions.
Giving qualified buyers security receipts will allow the Asset Reconstruction Companies to raise money.
Assisting in the restoration of financial assets that are obtained while utilising the authority to enforce securities, change management, or exercise other rights that are suggested to be granted to banks and financial organisations.
Presentation of any asset reconstruction or securitisation firm that is a publicly traded financial institution with the Reserve Bank of India.
Any kind of security, such as a mortgage or charge on real estate, provided for the timely repayment of any financial aid provided by a bank or other financial organisation is referred to as a "security interest."
The borrower's account is classified as a non-performing asset in compliance with the guidelines or directives periodically provided by the Reserve Bank of India.
According to the guidelines established by the Central Government, the authorised officers would act in this capacity as secured creditors.
A first appeal to the relevant Debts Recovery Tribunal and a second appeal to the Appellate Debts Recovery Tribunal against the actions of any bank or financial institution.
For the purpose of registering transactions pertaining to asset reconstruction, securitisation, and the development of security interests, the Central Government may establish or order the establishment of a Central Registry.
The proposed legislation's initial application to banks and other financial institutions, as well as the Central Government's authority to expand its application to non-banking financial enterprises and other organisations.
The proposed regulation does not apply to security interests in agricultural lands, loans under one lakh rupees, or situations in which the borrower repays 80% of the loan.
Working of SARFAESI Act
A bank or other financial institution may take possession of a defaulting borrower's property under the SARFAESI Act of 2002. The financial institution may designate the account as a non-performing asset (NPA) if the loan borrowers default on any loan repayment or installment. Defaulting borrowers may receive letters from banks or other financial institutions requiring them to pay off their debts within sixty days. The SARFAESI Act provides a bank with the following options in the event that the defaulting borrower disregards the bank or financial institution notice:
Obtain the loan security
Rent, sell, or transfer ownership of the security
Oversee the same or designate someone to do so
In order to buy assets from banks and other financial organisations, the Act also calls for the creation of ARCs, which are subject to RBI regulation.
Documents Required under the SARFAESI Act
The SARFAESI Act requires specific documentation for different applications and amendments. These include:
E-Form CHG-1/e-Form CHG-9 for registration of creation and modification of charge
Certificate of registration
Charge particulars
Charge instrument, with an instrument copy to create or modify the charge
Sanction letter
Hypothecation deed
For digitally signed e-Form, the documents include:
Charge holder’s DSC
The Director Identification Number [DIN] of the director
Permanent Account Number [PAN] of the manager, CFO, or CEO’s
Company Secretary’s Membership Number
Recovery Methods for the SARFAESI Act
Three strategies for recovering non-performing assets (NPAs) are provided by the SARFAESI Act:
Securitisation: Converting current assets, like home or vehicle loans, into marketable securities is known as securitisation. Funds can be raised by selling these securities. Qualified Institutional Buyers (QIBs) are able to purchase financial assets through schemes created by asset reconstruction or securitisation firms.
Asset Reconstruction: Under the terms of the Act, firms can renegotiate debt payments, manage a borrower's business, or sell or buy it.
Enforcement of security without judicial intervention: Banks and other financial institutions have the authority to send notices requesting payment of the unpaid balance to anyone who has taken a secured asset from the borrower. Without going through the legal system, they can also demand payment from the borrower's debtor on the borrower's behalf.
Borrower Rights under the SARFAESI Act
The following rights belong to the borrowers:
Before the sale is completed, borrowers can pay the outstanding balance and keep their securities.
Compensation will be given to borrowers in the event that an officer defaults.
According to Section 17 of the SARFAESI Act, debtors who have complaints against a creditor or approved officer may file an application with the Debt Recovery Tribunal.
Amendments to the SARFAESI Act
The following changes were made to the SARFAESI Act by the Enforcement of Security Interest and Recovery of Debts Laws (Amendment) Act, 2016:
Any portion of the defaulting company's debt should be convertible into stock by the banks and Asset Reconstruction Companies (ARCs). According to this interpretation, lenders or ARCs would no longer be the company's creditors but rather equity holders.
If banks don't receive any requests during the auction, they are free to request any real estate that is up for auction on their own. In this situation, banks will be able to use the money paid for this property to adjust the loan. It enables the bank to seize the asset in order to partially repay the loan balance that has fallen behind.
Banks may also sell this property to a new owner by requesting that the buyer pay off all of the obligations over a certain length of time.
Assets Not Covered under the SARFAESI Act
The following assets are not covered by the SARFAESI Act:
Funds or securities issued in accordance with the Indian Contract Act of 1872 or the Sale of Goods Act of 1930.
Any agreement that does not constitute a security interest, such as a conditional sale, lease, or hire-purchase.
Any rights granted by Section 47 of the Sale of Goods Act, 1930 to the unpaid seller.
Any properties that, according to Section 60 of the Code of Civil Procedure, 1908, are not subject to sale or attachment.
Limitations of the SARFAESI Act, 2002
More employees are needed at the Debt Recovery Tribunals (DRTs) and Debt Recovery Appellate Tribunals (DRATs). Since there are over a million cases still pending, the case will take years to resolve and the debtor will keep the asset. Even in cases when DRT later authorises an auction, this results in a decline in the value of the assets (automotive, machinery, etc.).
For some businesses, such a hotel resort in a remote area where no other hoteliers are interested in investing, auction or liquidation might not always be the wisest course of action.
Restructuring the loans (i.e., lowering the interest rate percentage, extending tenure, finding new partners, etc.) could help banks recover more value in certain particular situations. However, such arbitration is not made possible by the SARFAESI statute.
Importance of SARFAESI Act, 2002
Among the many reasons why the SARFAESI Act is significant are the following:
Quickens the Recovery Process: Financial institutions can quickly settle non-performing assets (NPAs) and reinvest the money they recover back into their operations since the Act removes the need to file a civil lawsuit.
Increases the Power of Finance Companies: By outlining the consequences for non-compliance and violations, the Act gives financial institutions the authority to act under Section 13(4) with pending civil litigation.
Governance: With the assistance of the court, the legal framework regulates security interests and transactions. Finance organisations can manage assets, create asset reconstruction and securitisation enterprises, and deal with loan defaults in an efficient manner.
Conclusion
The financial sector is the backbone of any nation's economy. Financial institutions can take and sell collateral properties for recovery without the involvement of the court thanks to guidelines for securitisation provided by the SARFAESI Act of 2002. Following the identification of a non-performing asset, the financing firm uses a variety of strategies in accordance with the rules to handle the issue. In addition, the Reserve Bank of India manages the SARFAESI's operations and institutions, guaranteeing everyone's safety and equity.
FAQ
Q1. What assets are covered under the SARFAESI Act?
The SARFAESI Act covers any asset—movable or immovable—given as security through hypothecation, mortgage, or the creation of a security interest in any other way, with the exception of those prohibited under Section 31 of the Act.
Q2. Which loans are not covered under the SARFAESI Act?
Outstanding loans over Rs. 1 lakh that are categorised as non-performing assets (NPAs) are subject to the requirements of this Act.
NPA loan accounts that represent less than 20% of the principal and interest are exempt from the SARFAESI Act.
Funds or securities issued in accordance with the Sale of Goods Act of 1930 or the Indian Contract Act.
The unpaid seller's rights under Section 47 of the 1930 Sale of Goods Act.
Any properties that are exempt from attachment or sale under Section 60 of the Code of Civil Procedure, 1908.
Any conditional hire-purchase, sale, lease, or other transaction in which no security interest has been created.
Q3. Is SARFAESI Act applicable to NBFCs (Non-Banking Financial Companies)?
In a notification dated February 24, 2020, the Ministry of Finance stated that NBFCs having assets of at least Rs. 100 crore are qualified to enforce security interests on debts totalling at least Rs. 50 lakh under the SARFAESI Act.
Q4. Do cooperative banks come under the SARFAESI Act?
Yes. The Supreme Court ruled that the SARFAESI Act of 2002 applies to cooperative banks that are set up under state law or multi-state level societies.
Q5. What is the minimum amount of the SARFAESI Act 2002?
A bank or other financial institution must have at least Rs. 1 lakh in order to start recovery procedures under the SARFAESI Act.
Q6. Who comes under the SARFAESI Act?
For the purposes of securitisation, financial asset reconstruction, and security interest enforcement, the SARFAESI legislation is applicable across India. All financial institutions formed as asset reconstruction or securitisation firms that are registered with the Reserve Bank of India are covered by the act.
Q7. How to stop the SARFAESI Act?
By paying up the unpaid balance within the 60 days allotted in the demand notice, a borrower can avoid asset possession under the SARFAESI Act. As an alternative, the borrower may contest the creditor's action by appealing to the Debt Recovery Tribunal (DRT)
Q8. Who can postpone SARFAESI?
The Appellate Tribunal has the authority to excuse the failure to file an appeal under Section 18 of the SARFAESI Act within the 30-day period specified by the RDDB Act's proviso to Section 20(3).
Q9. What is a SARFAESI auction?
Financial institutions may auction off residential and commercial properties owned by defaulting customers under SARFAESI in order to recoup the remaining balance of their loans.
Q10. How many conditions are specified by the SARFAESI Act to enforce the rights of the creditor?
Without the need for judicial action, secured creditors are empowered by Section 13 of the SARFAESI Act to enforce their security interests and collect money owed to defaulting borrowers. If payments are not made within the allotted time, it entails sending a demand notice and seizing the secured assets.
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