The Supreme Court has ruled that self-help repossession clauses permitting unilateral waiver of notice and unguided entry into any place are void under the RBI Fair Practices Code and the Indian Contract Act, and accordingly, directed RBI to enforce compliance. The Court said that taking possession of a borrower’s vehicle at 1:00 a.m. by breaking the steering lock, without the seven-day notice mandated by the loan agreement, violates Articles 14 and 21 of the Constitution and forfeits the protection otherwise available to the financier.
The Apex Court cautioned that clause that extinguishes the borrower’s rights ‘ipso facto without any notice’, authorises recovery agents to ‘enter any place or places’, prescribes no procedure for possession or sale, and permits the lender to waive notice at its own discretion is contrary to the RBI Guidelines and the Indian Contract Act, 1872. At the same time, the Court said that Section 35-A of the Banking Regulation Act, 1949 gives statutory force to RBI directions, and the successive Master Circulars on Fair Practices Code, recovery agent conduct, and repossession safeguards are binding on NBFCs and Scheduled Commercial Banks alike.
Reiterating ICICI Bank v. Prakash Kaur [(2007) 2 SCC 711], the Court held that banks and financial institutions cannot employ muscle power or stealth to seize vehicles, and recovery must be through lawful means, with notice, an opportunity to cure, and a transparent sale process. Accordingly, the Apex Court directed the RBI to take effective steps to secure genuine compliance with its Guidelines, Master Circulars, and Clarifications by NBFCs and Scheduled Commercial Banks, and ordered the Registry to send a copy of the judgment to the RBI.
A Two-Judge Bench comprising Justice Pamidighantam Sri Narasimha and Justice Alok Aradhe observed that a financier’s right of self-help repossession is a matter of contract, and where such right is conferred, there is no legal impediment to its exercise unless the contract is unconscionable or opposed to public policy. However, since this right operates outside court supervision, it must be construed with great circumspection, lest it be read as an unbridled licence to seize property by stealth, force, or in the dead of night.
The Court noted that Section 35-A of the Banking Regulation Act, 1949 empowers the RBI to issue directions which carry statutory force. The RBI issued successive Guidelines on 05 May 2003, 21 November 2005, and 28 September 2006, followed by Master Circulars addressing fair practices, recovery methods, training of recovery agents, repossession clauses, and grievance redressal. Citing ICICI Bank Ltd. v. Prakash Kaur, the Court reiterated that recovery of loans or seizure of vehicles must be through legal means, and banks cannot employ ‘goondas’ to take possession by force.
On a careful scrutiny of Article 11 of the Loan Agreement, the Court found it neither in consonance with the RBI Guidelines nor with the Indian Contract Act, 1872. The clause suffered from four key defects: (i) it stipulated that the borrower’s rights stood determined ‘ipso facto without any notice’ upon default, contrary to the requirement of a notice period; (ii) it authorised recovery agents to ‘enter any place or places’ in search of the asset, offending fair procedure; (iii) it prescribed no procedure for taking possession or sale/auction; and (iv) it permitted the Company to unilaterally waive notice at its own discretion, converting minimum protection into an illusory promise.
On facts, the Court found that no seven-day notice, as mandated by Article 11(a)(i), was issued prior to repossession, and therefore the right of repossession never accrued to the Company. The possession was taken at 1:00 a.m. by breaking the steering lock, with no signed memorandum, a mode bearing every mark of the very ‘goondaism’ condemned in Prakash Kaur.
Briefly, on 25 March 2019, the appellant, Hari Dutta Sharma, obtained a commercial vehicle loan from Cholamandalam Investment and Finance Company Limited for his truck (Tata SFC 407). The sanctioned loan was Rs. 10.40 lakhs, of which Rs. 9.36 lakhs were disbursed, repayable in 75 monthly instalments and secured by hypothecation of the vehicle. A supplementary loan of Rs. 1.04 lakhs were extended on 12 June 2021.
The appellant defaulted in repayment, prompting a recall-cum-demand notice dated 17 January 2022. The Company repossessed the vehicle and issued a pre-sale letter on 13 June 2022. Thereafter, the appellant paid Rs. 86,726/- and the vehicle was released. Upon further default, various notices were issued and on 09 April 2023, at about 1:00 a.m., four unidentified persons broke the vehicle’s steering lock and drove it away from a consignor’s godown under CCTV surveillance at Ayodhya, without any prior notice to the appellant. The appellant lodged a lost article Report and an e-FIR the same day.
On 30 September 2023, the appellant received a legal notice from the Company stating that the vehicle had been sold on 31 August 2023 for Rs. 4.50 lakhs, against an alleged outstanding of Rs. 5.71 lakhs, leaving a further demand of Rs. 1.25 lakhs. A complaint under Section 156(3) CrPC was dismissed and the writ petition before the High Court was dismissed on the ground of delay and default.