Differential treatment of Foreign Lenders in India

In Depth

Differential treatment of Foreign Lenders in India

Rajesh Narain Gupta, S. Babu | May 2010

An expert analysis of legal rights available to foreign lenders to recover their outstanding dues in India…

India has become one of the primary centres of attraction for trade, commerce and international investments. Ever growing domestic consumption on all possible fronts and the growth opportunities are encouraging more and more banks, Financial Institutions (FIs), Private Equity (PE) funds and investors to look at India to meet their growth plans and Internal Rate of Return (IRR) targets.

Lending by foreign banks, institutions in India under the External Commercial Borrowings (ECB) route, popularly called as ‘Foreign Currency Loans’, buyer and supplier credits and also participation by way of various options available by way of structured finance to foreign subsidiaries of Indian parties, have been on the increase. All such lending and investments have naturally seen ups and downs. The problem arises when a lender or investor is required to initiate any legal action in India to protect its interests.

Amongst the emerging markets, the perception that the regulatory and judicial framework in India is far more strong and dependable is increasing. This is becoming one of the fundamental reasons for the increase in Foreign Direct Investment (FDI), lending and other investments in India.

RECOVERY MODES AVAILABLE TO A FOREIGN LENDER OR INVESTOR

Let us examine from the perspective of foreign banks and lending institutions as to what legal rights are available to them, if the borrower or investee company becomes delinquent.

One of the options available to such foreign lenders is to file a suit for recovery in the concerned court having jurisdiction in India. Ordinarily suit for recovery takes time depending upon the complexity of the transaction, place of jurisdiction, amount involved and nature of dispute. The legal proceedings are generally prolonged and take time. The only sense of relief is that the aggrieved party can obtain certain ad-interim orders for the attachment, or restraint on the rights of the borrowers, or guarantors from further selling, or disposing off, or mortgaging or charging their assets.
Foreign lenders generally take precaution of having an arbitration clause in the contract and by choice, it is preferred that the jurisdiction is kept at a neutral place other than India. The contract also specifies the choice on the laws, which will apply in the event of the dispute. There are several contracts already executed, which generally provide for arbitration and prescribe the place of jurisdiction as Singapore or London and the proceedings are agreed to be governed by English laws.

In such situations, though the arbitration award is obtained comparatively on a fast track mode, the difficulty arises in executing the arbitration award as the borrower or guarantor is in any case in India and their assets are also ordinarily in India.

On the academic side, foreign lender gets an executable decree or award from the foreign jurisdiction, while on the practical side, when execution is applied in Indian courts, the same foreign lender faces difficulty in execution thereof, as there are only few countries to be recognised as a ‘Reciprocating Territory’ under the Indian laws, (The Code of Civil Procedure, 1908) whereby any decree or award passed by certain courts in such reciprocating countries can be directly enforced in India.

Foreign lenders can also apply for winding up of the company where the borrower is a company incorporated under the Companies Act 1956. This option has its own merits and demerits, as it is more of a pressure tactics measure than a means of recovery.

SPECIAL RIGHTS AVAILABLE TO BANKS OR FIS IN INDIA

The foreign lender so far as the banks, financial institutions in India are concerned (including the foreign banks, which have the licence from the Reserve Bank of India to carry on banking business in India as scheduled banks) have special rights, which are discussed herein below.

On account of plethora of pending cases and the courts being clogged or jammed with commercial disputes and other matters, important legislations were enforced to ensure smooth and expeditious processes for recovery against delinquent borrowers in so far as bank and financial institutions are concerned. For instance:

the Recovery of Debts Due to Banks and Financial Institutions Act 1993 (DRT Act); and
the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI).

RIGHTS UNDER DRT ACT

The Government of India (the Government) realising the delay tactics followed by the borrowers by preferring appeals against any orders, passed by the Debt Recovery Tribunal (DRT), has also incorporated a provision to the effect that preference of appeal shall not be entertained by the Debt Recovery Appellate Tribunal (DRAT) unless 75 per cent of the amount of debt so due from a borrower is deposited with the DRAT. Further, by introducing certain amendments to the DRT Act i n the year 2000, far more powers have been vested with the DRTs.

The most important and significant being the powers to call for and direct the borrowers to furnish additional security, DRT finds that the borrowers may dispose-off any security, to order attachment of the properties of the borrower, to put the borrower under detention in civil prison, to appoint receiver and the like. Also, in order to prevent multifarious litigations, practiced by the borrowers to frustrate the enforcement mechanism, provisions to try counter-claims of the borrower by the DRT itself as a part of the same recovery application, were also introduced. This has been a great deterrent to the borrowers and discourages frivolous appeals, petitions and forum-shopping by the borrowers, thereby facilitating expeditious disposal of recovery application by DRTs.

Inspite of delay, which has crept in these fora or DRTs, the disposal rate of the cases of recoveries for the banks have been encouraging and satisfactory thereby ushering success, though not resounding, of the DRT Act in India in so far as the banks and financial institutions are concerned.

RIGHTS UNDER SARFAESI

SARFAESI empowers the banks or secured lenders to recover their nonperforming dues from the borrowers, without the intervention of the court. Once the asset becomes a Non Performing Asset (NPA) in the books of the banks, the bank has to issue a notice to be served on the delinquent borrower and thereafter can take steps to take possession of the secured assets without intervention of the court, in case the dues are not repaid within the notice period.

In several cases, the banks within couple of days after the expiry of notice period have been able to get protection from Metropolitan Magistrate by way of police help to take the physical possession of secured assets.

Over the last few years, the procedures have become fairly standard and well accepted. Moreover, the Hon’ble Supreme Court of India, in Mardia Chemicals Ltd. vs. Union of India upheld the constitutional validity of SARFAESI Act and in Travancore vs. Union of India approved the concept of greater or complete autonomy of the banks and financial institutions in recovery of their dues without the intervention of the court or tribunal, stressing on the appropriate internal mechanism for speedy resolution of disputes. All these measures have given enough teeth to the secured lenders to recover their dues. The SARFAESI Act has been a roaring success.

CONCERNS OF FOREIGN LENDERS

So far as the foreign lenders are concerned, they cannot file or maintain any action before the DRT or the SARFAESI Act. In a nutshell, the best and expeditious relief available to the Banks and Financial Institutions in India having procured licence from RBI are not available to the Foreign Banks and Financial Institutions, which do not possess such licence. This is an anomaly.

To better understand the logic behind this anomaly, one may have to look at the Foreign Exchange Management Act, 1999 and regulations framed there-under wherein various restrictions have been prescribed for creation of security over immoveable properties, shares and issuance of guarantee by an Indian party.

RBI has also issued guidelines for ECBs by way of master circulars. Until July 11, 2008, permission of the RBI had to be taken for creation of any security by means of immoveable or shares or guarantee. In July 2008, RBI subdelegated this power of issuing ‘no objection’ to the authorised dealers and made the procedure simpler by stipulating certain minimum criteria, which has now facilitated foreign lenders to take greater exposure due to better security cover.

Though the Government has relaxed the security creation norms for ECB, concurrent amendments in the laws have not taken place. The DRT Act and SARFAESI Act are still available only to the banks and financial institutions, licenced by RBI. This may be due to the fact that (i) ECB can be availed from not only banks and financial institutions, but

Subhasis Banerjee CEO, China Trust Commercial Bank, India

How efficient are the legislations provided by Indian law in dealing with recovery of foreign loans?

Talking of the foreign lenders lending to Indian market which is what we do, if you look at whether the legislation is in favour of either the bank or the customer, I do not think that there is anything of that nature that I would personally feel. It all depends on the tightness of the proposal that has been created in the first place. When you create a proposal and if it is tight, then there are no loopholes at a later point in time. However, if the legislation finds that there are loopholes in the process itself, then it could go against the lender or the bank.

How successful is the enactment of SARFAESI in dealing with Non Performing Assets (NPAs)?

So far the SARFAESI Act has been found to be reasonably good in dealing with NPAs. Although our experience on the NPA front has been very low, yet I do not see any major issues with the SARFAESI Act.

Should foreign lenders be allowed to claim their dues through the instruments of DRT Act and SARFAESI Act?

Currently, the foreign lenders are not allowed to claim dues under the DRT Act and the SARFAESI Act. However, the lenders, be they foreign lenders, still lending to the Indian companies. I do not think that there should be any kind of differentiation. I think there should be some changes made in the laws to allow the foreign lenders to come under the jurisdiction of these Acts.

also from other ‘Recognised Lenders’; and (ii) not many countries are recognised as ‘Reciprocating Territory’ under Indian laws so that any award, decree and enforcement options are recognised by those countries as well and reciprocity exists between India and such countries.

However, ultimately the financial system becomes viable only when the interest of the lenders and investors is adequately protected. Where Indian businessmen or industrialists have availed foreign currency loans and structured finance by creating security on the moveable and immoveable assets or mortgaging the personal assets, as approved by RBI in its 2008 circular; sound reason goes on to suggest that the foreign lenders should also be allowed to enforce their rights at par with any other bank or financial institution in India.

The efficiency of the DRTs and action under SARFAESI has been proven beyond doubt. Today, any delinquent borrower is doubly worried and scared of any action under SARFAESI Act, which compels the delinquent borrower to honour its commitment vis-à-vis the lender. There is a threat of being vigilant and conscious on the part of the borrower to avoid any evasive and elusive action. It is most desirable that the interests of foreign lenders is duly protected in India to give them enough encouragement to keep on participating in the Indian markets and to give them a fair and equitable treatment at par with any other lenders.

CONCLUSION

In our view, the inequality on this front amongst lenders needs a review by all concerned by providing and issuing suitable guidelines and amendments to that effect. While issuing such guidelines and amendments, the Government may consider applicability of the provisions of DRT Act and SARFAESI Act:

to only foreign banks and financial institutions, which have a presence in India so as to prevent foreign lenders arbitraging on the Indian parties and their assets;
to only banks and financial institutions and not to any other ‘Recognised Lenders’ as is available to Indian lenders presently; and
to only foreign lenders from a ‘Reciprocating Territory keeping at par the reciprocity arrangement with other countries so that lenders and borrowers inter-se from such countries vis-à-vis India are treated at par and no disparity of rights and obligations subsists amongst them.

About Author

Rajesh Narain Gupta

Rajesh Narain Gupta is the Managing Partner of S.N. Gupta & Co., Advocates. He specialises in commercial, real estate, and banking laws. Mr. Gupta represents major international, private and public sector banks and financial institutions in India and abroad. He has been actively involved in framing of policies, procedures and guidelines for various Banks with regard to implementation on the procedural aspect of SARFAESI.

S. Babu

S. Babu is Partner with SNG & Partners, Advocates & Solicitors, Mumbai.