The Supreme Court has clarified that the ruling in State Bank of India vs. Rajesh Agarwal [(2023) 6 SCC 1] did not recognize any right in the borrower to a personal hearing by the banks before classifying their account as a fraud account. The RBI in its Master Directions of July 15, 2024 correctly understood the scope of Rajesh Agarwal judgment and incorporated Clause 2.1.1.1, 2.1.1.2, 2.1.1.3, and 2.1.1.4 as the procedure to be followed before classifying an account as a fraud account.
The Apex Court pointed out that the procedure set out in Rajesh Agarwal, which has been incorporated in the RBI Master Directions of 2024, strikes a fair balance between promptitude and fairness and duly comports with the principles of natural justice. Wherever audit reports are available, including forensic audit reports, the same shall be furnished to the borrower and their representation on the report be elicited. Disclosure by furnishing copies of the audit report to the borrower is mandatory.
If the banks, for reasons to be recorded, establish that the disclosure of any part of the report would affect the privacy of third parties, in that exceptional situation banks would be justified to withhold those portions of the report. Thus, the judgments of the High Courts which have taken a contrary view stand overruled, added the Court.
A Two-Judge Bench comprising Justice B. Pardiwala and Justice K. V. Viswanathan observed that the judgment in State Bank of India vs. Rajesh Agarwal did not recognize any right in the borrower to a personal hearing from the Banks before classifying their accounts as a fraud account. In the context of the entire judgment, what was contemplated was only a Show Cause Notice, a written representation in the form of a reply, and the mandate that the order passed thereon must be reasoned so as to comport with fairness and indicate due application of mind.
The Bench stated that the ultimate objective of the principles of natural justice is to ensure fairness in action and prevent miscarriage of justice, and it is a flexible concept that depends on the facts, circumstances, and framework of the law. Granting a right of personal hearing to each and every borrower would be practically inexpedient considering the large volume of cases. It explained that oral hearing is bound to convert an administrative process intended to be swift into a protracted one, defeating the very purpose of the exercise. It would also provide an opportunity to recalcitrant borrowers to dissipate assets, destroy evidence, or abscond, causing enormous prejudice to public interest.
Moving ahead, the Bench pointed out that the procedure of issuing a show cause notice, furnishing evidentiary material, eliciting a reply, and the obligation to pass a reasoned order meets the requirements of fairness and thwarts miscarriage of justice. The RBI in its Master Directions of 2024 correctly understood the scope of Rajesh Agarwal and incorporated Clause 2.1, which amply takes care of the lacunae identified in the earlier directions. The procedure evolved is a proportionate response to the situation and strikes a fair balance between promptitude and fairness.
As far as disclosure of Forensic Audit Reports is concerned, the Bench observed that the borrower has a right to be disclosed of the material relevant to the proceeding against him, including the disclosure of the audit report. The furnishing of findings and conclusions alone would not tantamount to compliance with the principles of natural justice, as a complete sense of the findings can only be made after reading the contents of the report.
However, the right to disclosure is not absolute if the disclosure of any part affects third-party interests. If some portion of the forensic audit report or other material is found to impinge upon third-party rights in the opinion of the bank, the bank can withhold disclosure of those parts of the report, concluded the Bench.
Briefly, the loan account of respondent No. 1 (Amit Iron Private Limited) was classified as a Non-Performing Asset (NPA) by the State Bank of India on Aug 20, 2019 due to defaults in repayment obligations. Thereafter, on Dec 27, 2023, the appellant-Bank issued a show cause notice alleging irregularities in financial conduct suggesting fraudulent activity, and later, communicated that the loan account had been classified as ‘fraud’ via a speaking order. The Calcutta High Court (Single Judge and Division Bench) directed that the borrower should be allowed a personal hearing and that the Forensic Audit Report should be supplied.
In another case, the Bank of India classified the account of Liliput Kidswear Limited as an NPA on March 27, 2012, and a show cause notice was issued on Aug 18, 2023 based on findings in the first Forensic Audit Report. A second show cause notice incorporating findings of another forensic auditor was issued on Jan 03, 2024, to which a reply was filed. The Bank passed an order classifying the account as ‘Fraud’ on May 14, 2025. The Delhi High Court (Single Judge and Division Bench) quashed the order and directed the grant of a personal hearing and the furnishing of the audit report.
Appearances:
Solicitor General Tushar Mehta, AORs Chandrashekhar A. Chakalabbi and Sanjay Kapur, along with Advocates Jatin Kumar, Anshul Rai, S.K. Pandey, G. Anusha, Varnik Kundaliya, Rahul Singh Latwal, Surya Prakash, Shubhra Kapur, Santha Smruthi, Aman Mehta, and Anuraj Mishra, for the Appellant
AORs Rajat Nair, Ramesh Babu M. R., Purti Gupta, and Misha Rohatgi, along with Advocates Nakul Mohta, Ayush Kashyap, K. Parameshwara, Suryakash Manot, Randeep Sachadeva, Vishal Sinha, Dhruv Pande, Akshaja Singh, Shivang Gupta, Prashant Sodhi, Mukund Sharma, Alok Dubey, Veda Singh, Manisha Singh, Nisha Sharma, Jagriti Bharti, Rohan Srivastava, Tanya Chowdhary, Purti Gupta, and Henna George, for the Respondent
