SARFAESI | Bank Can Forfeit Entire 25% Deposit & Not Just The Extent Of Loss Due To Default By Auction Purchaser : Supreme Court
In a significant verdict, the Supreme Court held that the entire earnest money deposited by an auction purchaser would be forfeited as per Rule 9(5) of the Security Interest (Enforcement) Rules, 2002 (SARFAESI Rules) on the failure to deposit the remaining amount within the stipulated period.The Court rejected the view taken by the Madras High Court that the forfeiture of the earnest...
In a significant verdict, the Supreme Court held that the entire earnest money deposited by an auction purchaser would be forfeited as per Rule 9(5) of the Security Interest (Enforcement) Rules, 2002 (SARFAESI Rules) on the failure to deposit the remaining amount within the stipulated period.
The Court rejected the view taken by the Madras High Court that the forfeiture of the earnest money deposit by the bank could only be to the extent of the loss suffered by it.
The Supreme Court held that the High Court erred in law by holding that forfeiture of the entire deposit under Rule 9 sub-rule (5) of the SARFAESI Rules by the appellant bank after having already recovered its dues from the subsequent sale amounts to unjust enrichment.
"The consequence of forfeiture of 25% of the deposit under Rule 9(5) of the SARFAESI Rules is a legal consequence that has been statutorily provided in the event of default in payment of the balance amount. The consequence envisaged under Rule 9(5) follows irrespective of whether a subsequent sale takes place at a higher price or not, and this forfeiture is not subject to any recovery already made or to the extent of the debt owed. In such cases, no extent of equity can either substitute or dilute the statutory consequence of forfeiture of 25% of deposit under Rule 9(5) of the SARFAESI Rules," the Court stated.
The Bench comprising Chief Justice of India D.Y. Chandrachud, Justices J.B. Pardiwala and Manoj Misra held that the secured creditor's right to forfeit the earnest deposit amount by the auction purchaser doesn't arise due to loss or damage suffered due to a breach of contract but under a statutory requirement mentioned under SARFAESI Rules.
The Supreme Court held that the principle underlying Sections 73 and 74 of the Indian Contract Act 1872 - that the compensation payable due to a breach of contract is limited to the losses suffered by the other party due to the breach - did not apply to an auction purchase under the SARFAESI Act.
The Court observed that the SARFAESI Act is a special legislation with an overriding effect on the general law more particularly the Indian Contract Act, 1872.
“Being so, the underlying principle envisaged under Section(s) 73 & 74 of the 1872 Act which is a general law will have no application, when it comes to the SARFAESI Act more particularly the forfeiture of earnest-money deposit which has been statutorily provided under Rule 9(5) of the SARFAESI Rules as a consequence of the auction purchaser's failure to deposit the balance amount.”
The auction purchaser could not claim back the earnest money deposited with the secured creditor in the event of non-payment of the remaining amount of the total value of the auction sale.
“Once the afore-stated conditions are satisfied i.e., the auction purchaser after confirmation of sale fails to deposit the balance amount within the stipulated time, the secured creditor is required to forfeit the original auction purchaser's earnest money deposit and the secured assets have to be resold.”
Rule 9(5) of the SARFAESI Rules puts a mandatory requirement on the successful auction purchaser to deposit a 25% amount after the sale is confirmed by the secured creditor in favor of the auction purchaser. Moreover, the Rule makes it clear that in default of payment of the remaining 75% amount by the auction purchaser within the period mentioned in Rule 9(4) i.e., 15 days, the deposit shall be forfeited by the secured creditor and the auction purchaser would not be entitled to receive the 25% deposited earnest money.
Why banks should be entitled to forfeit entire amount?
The Court explained that if Section(s) 73 and 74 respectively of the 1872 Act are interpreted so as to be made applicable to a breach in payment of balance amount by the successful auction purchaser, it would lead to a chilling effect in the following ways: -
(i) First, it would be quite preposterous to suggest that in an auction which is a process meant for recovery of debt due to default of the borrower, the balance amount if not paid by the successful auction purchaser, another recovery proceeding would have to be initiated by the secured creditor in terms of Section(s) 73 and 74 of the 1872 Act to recoup the loss and expenditure occasioned to it by the defaulting successful auction purchaser.
(ii) Secondly, such an interpretation would allow unscrupulous borrowers being hands-in-glove with the auction purchasers to use subversive methods to participate in an auction only to not pay the balance amount at the very end and escape relatively unscathed under the guise of Section(s) 73 and 74 of the 1872 Act, thereby gaming the entire auction process and leaving any possibility of recoveries under the SARFAESI Act at naught.
The Court relied on its recent judgment of Authorized Officer State Bank of India v. C. Natarajan, to explain the purpose of providing an overriding effect to SARFAESI over the Indian Contract Act.
“If indeed section 73 and section 74, which are part of the general law of contract, were sufficient to cater to the remedy, the need to make sub-rule (5) of rule 9 as part of the Rules might not have arisen. Additionally, insertion of sub-rule (5) with such specificity regarding forfeiture must not have been thought of only for reiterating what is already there. It was visualized by the law makers that there was a need to arrest cases of deceptive manipulation of prices at the instance of unscrupulous borrowers by thwarting sale processes and this was the trigger for insertion of such a provision with wide words conferring extensive powers of forfeiture. The purpose of such insertion must have also been aimed at instilling a sense of discipline in the intending purchasers while they proceed to participate in the auction-sale process. At the cost of repetition, it must not be forgotten that the SARFAESI Act was enacted because the general laws were not found to be workable and efficient enough to ensure liquidity of finances and flow of money essential for any healthy and growth-oriented economy.”
While referring to the case of Celir LLP. v. Bafna Motors (Mumbai) Pvt. Ltd. & Ors, the court that only those laws which have been either enumerated in Section 37 of the SARFAESI Act or which occupy and deal with the same field as the SARFAESI Act will be applicable in addition to the SARFAESI Act but Indian Contract Act.
According to the court, the consequence of forfeiture is not a matter of breach of contract but an operation of the statutory provision.
“No doubt, the forfeiture is a result of a breach of obligation, but the consequence of forfeiture in such case is taking place not because of the breach but because of operation of the statutory provision providing for forfeiture that is attracted as a result of the breach.”
“However, the legislature has consciously provided for only one consequence in the event of failure of the successful auction purchaser in depositing the balance amount i.e., forfeiture and has not provided for imposition of any other stipulation by the secured creditor in the event of a breach. This has been done, keeping in mind the larger object of the SARFAESI Act, which is to facilitate recovery of debt in a time-bound manner by giving teeth to the measures enumerated within Section 13 of the SARFAESI Act, more particularly sale of the secured asset in the event the borrower fails to repay the debt.”, the court added.
Accordingly, the court held that the mandate to forfeit the entire 25% deposit amount in the event of failure to deposit the remaining amount by the auction purchaser would not be due to a breach of contract and therefore, cannot be held to the extent of loss or damages incurred by the Bank but only according to the statutory requirement i.e., entire 25% deposit amount.
“What can be discerned from the above is that the SARFAESI Act is a special legislation with an overriding effect on the general law, and only those legislations which are either specifically mentioned in Section 37 or deal with securitization will apply in addition to the SARFAESI Act. Being so, the underlying principle envisaged under Section(s) 73 & 74 of the 1872 Act which is a general law will have no application, when it comes to the SARFAESI Act more particularly the forfeiture of earnest-money deposit which has been statutorily provided under Rule 9(5) of the SARFAESI Rules as a consequence of the auction purchaser's failure to deposit the balance amount.”
Case Details: THE AUTHORISED OFFICER CENTRAL BANK OF INDIA VERSUS SHANMUGAVELU | CIVIL APPEAL NO(S). 235-236 OF 2024
Citation : 2024 LiveLaw (SC) 85