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Synopsis

The Supreme Court has said that any dilution of the forfeiture provided under Rule 9(5) of the SARFAESI Rules would result in the entire auction process being set at naught by mischievous auction purchasers through sham bids, thereby undermining its overall object of promoting financial stability, reducing nonperforming assets and fostering a more efficient and streamlined mechanism for recovery of bad debts.

The court set aside Madras High Court's judgment reading down provisions of the SARFAESI Act, that allowed harsh consequences like forfeiture of entire earnest money, for it amounted to unjust enrichment and diluted the underlying ethos of the Indian Contract Act. 

A bench of Chief Justice of India D Y Chandrachud and Justices J B Pardiwala and Manoj Misra said that the high court committed an egregious error in passing the judgment.

"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 bench said.

On an appeal by the Authorised Officer, Central Bank of India against the high court's order of 2021, the bench said, "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 bench said that 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 the deposit under Rule 9(5) of the SARFAESI Rules, it said. 

With regard to unjust enrichment, the bench said that it would be preposterous to tie or limit the forfeiture under Rule 9(5) of the SARFAESI Rules on an eventuality or a contingency of a subsequent sale of the secured asset if any.

"It would be preposterous to tie or limit the forfeiture under Rule 9(5) of the SARFAESI Rules on an eventuality or a contingency of a subsequent sale of the secured asset if any," the bench said.

The court also 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 the balance amount by the successful auction purchaser, it would lead to a chilling effect.

"Such an interpretation would completely defeat the very purpose and object of the SARFAESI Act and would reduce the measures provided under Section 13 of the SARFAESI Act to a farce and thereby undermine the country’s economic interest," the bench said.

The bench also said 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," the bench said.

Therefore, the bench said, it is clear that the forfeiture can be justified if the terms of the contract are clear and explicit. 

"If it is found that the earnest money was paid in accordance with the terms of the tender for the due performance of the contract by the Promisee, the same can be forfeited in case of non-performance by him or her," court said.

Dealing with the principle of reading down a provision, the bench said, "Rule of 'Reading Down' is only for the limited purpose of making a provision workable and its objective achievable".

In the case at hand, the high court took into account the harsh consequence of forfeiture of the entire earnest-money deposit irrespective of the extent of default in payment of the balance amount.

"However, harshness of a provision is no reason to read it down, if its plain meaning is unambiguous and perfectly valid," the Top Court said.

"A law/rule should be beneficial in the sense that it should suppress the mischief and advance the remedy. The harsh consequence of forfeiture of the entire earnest-money deposit has been consciously incorporated by the legislature in Rule 9(5) of the SARFAESI Rules so as to sub-serve the larger object of the SARFAESI Act of timely resolving the bad debts of the country. The idea behind prescribing such a harsh consequence is not illusory, it is to attach a legal sanctity to an auction process once conducted under the SARFAESI Act from ultimately getting concluded," the bench said.

Here, it was the respondent’s case that he was unable to make the balance payment owing to the advent of the demonetization, which led to a delay in raising the necessary finance and the bank failed to provide certain documents, affecting his chance to secure a term loan.

The respondent namely Shanmugavelu was a successful bidder to a property by offering a sum of Rs 12.27 Cr. He deposited over Rs 3.06 Cr as earnest money but since he failed to deposit the remaining amount within extended period of time, the bank cancelled the sale and forfeited the deposit. 

He approached the Debt Recovery Tribunal but the bank conducted a fresh sale which fetched it higher price of Rs 14.76 Cr. The DRT ordered the bank to refund the earnest money after deducting Rs five lakh. The DRAT, however, held the secured creditor was not entitled to forfeit the entire amount deposited, but partly allowed the appeal and enhanced the forfeiture from Rs five lakh to Rs 55 lakh.

The high court, however, took the view that the forfeiture of an amount or deposit by a secured creditor under the SARFAESI Rules cannot be more than the loss or damage suffered by it. Among others, it held that Rule 9 sub-rule (5) of the SARFAESI Rules which provides for forfeiture cannot override the underlying ethos of Section 73 of the Indian Contract Act, 1872.

By no stretch, this can be said to be an exceptional circumstance warranting judicial interference as demonetisation happened much before the auction, the Supreme Court said.

"What could be said is that the respondent being aware of his financial capacity, willingly participated in the e-auction and offered his bid fully knowing the reserve price of the Secured Asset and the consequences of its failure in depositing the balance amount," the bench said.

Case Title: The Authorised Officer, Central Bank of India Vs Shanmugavelu