Author: Sidrat Mir, Advocate { Loan Settlement; Laws, & The Reserve Bank of India }

Loan Settlement

Loan Settlement, also known as Debt Arbitration, Debt Negotiation or Credit Settlement, is a process, or a relief recourse available to debtors against creditors. Through this method, a debtor may provide proof of valid reasons and circumstances, such as financial inability, etc, due to which he is unable to fulfil his debt obligations. Thereafter, the creditor, if he chooses to do so, may accept a one-time re-payment of the loan, granting a reduction in the total amount of the loan, which may come in the way of interest, penalties or even from the principal amount. Although, it is a great mechanism to discharge liability, when the encumbrance has become too heavy for you, but taking this course of action may hurt your credibility in the market. Nevertheless, this option is still available, in case you find yourself in a financial predicament.

BENEFITS:

1. Reduced Liability: In case the Debtor is facing financial difficulties due to any reasons or unforeseen circumstances, this becomes an opportunity to discharge liability through a reduced amount and thereby provides some level of relief to the debtor by making him free of the continued  encumbrance.
2. Creditor’s Risk: By opting for this procedure, a creditor can secure his interest by obtaining some amount of the loan back, when he is assured of their being  a good possibility that the debtor may not be able to fulfil his obligation in the future.
3. Avoiding default: When a debtor becomes unable to repay instalments and interest regularly, that may result in default and thereby make him liable to penalties. For example, a Bank may mark him as a wilful defaulter and take legal action against him.  By repaying the reduced amount at one time, the debtor eliminates the possibility of this default and the consequent penalty.
4. Accelerated Debt Resolution: By making a one-time payment, debtors can become debt-free in a quicker time frame, rather than remaining incumbent for years.

CONS:

As soon as you settle a loan, you may for the time being become debt free, but the creditor immediately reports it to the CIBIL (Credit Information Bureau (India) Ltd.)  and your Credit Score drops by 75-100 points. Therefore, a loan Settlement affects your Credit Score severely and hurts your credibility before future Lenders,  showing them your inability to fulfil loan obligations and thereby deter the Creditors from lending you any money in the future. That is why, Loan Statements should be the last resort after you have assessed every other possibility.

PROCESS:

The process of a loan Settlement may differ based on individuals and circumstances, but the basic premise remains the same : Taking of the following steps, culminating into an agreement of debt settlement:

1. Accessing financial capacity and exhausting other options: Since a Loan Statement leads to a bad Credit Score, before going for this option, a person should assess his financial capacity and exhaust other options such as using savings, liquidating assets, negotiating with creditor to reshape the terms of the loan, etc
2. Intimation: Once you are sure that loan settlement is your last resort, contact your debtor, or any of his representatives and intimate the fact of your financial inability together with the proof of the same, so that he may assess the situation properly.
3. Negotiation: Once the debtor is satisfied as to your inability, negotiate the terms with him, such as what amount will be reduced, how much of the interest or the penalty will be forgone, etc. All of this will depend on the condition of the debtor and the willingness of the creditor.
4. Contract: Once the terms are reached, draw up an agreement containing all the details of the settlement.
5. Payment: Pay the agreed upon amount on or before the deadline stipulated in the Contract.
6. Writing-off: After the payment and completion of other formalities, the creditor will write-off the loan from his books, and the amount will be finally settled.

Laws:

In India, the parties to a Loan can take legal recourse by resorting to different methods of Alternate Dispute Resolution, depending on their needs, instead of going through a traditional and arduous legal process. For example, they may seek the help of an Arbitrator through the means of the two main Debt Arbitration Laws in India: The Arbitration and Conciliation Act, 1996, and The Recovery of Debts Due to Banks and Financial Institutions Act, 1993 (RDDBFI Act).

Or they may simply settle for Negotiation or Mediation by mutually  appointing a Negotiator or Mediator who will then help them in reaching a settlement. The basic premise of these negotiations will be governed by the Indian Contract Act, 1872 and the Insolvency and Bankruptcy Code, 2016.

Benefits of Alternate Dispute Resolution Methods:

These methods offer a number of benefits to all the stakeholders involved in the process of debt resolution. Some of them are: 

1. Speed: Alternate Dispute Resolution is generally a much faster process than court litigation. This is due to the fact that appointed third party is  frequently more experienced in commercial disputes and is not constrained by the same legal procedures as courts.
2. Cost: Compared to litigation, Alternate Dispute Resolution  may be less expensive. This is due to the fact that the parties can frequently agree on the fees to be paid to the third party  and do not have to pay court costs.
3. Flexibility: The parties to an negotiated agreement have a lot of flexibility in terms of how the whole process  is conducted. This includes the choice of the third party, the place of the Alternate Dispute Resolution process, and the rules that will govern the process.
4. Expertise: The mutually elected third-party is  often an  expert  in the field of law or business that is relevant to the dispute. This means they can provide the parties with valuable insights and help them reach a fair and equitable resolution.
5. Confidentiality: All Alternate Dispute Resolution methods are confidential. This means that the parties to the dispute  and the mediators  are prohibited from disclosing any information about the case to anyone else.
6. Non-Adversarial: The whole process of an Alternate Dispute Resolution method is non-adversarial in nature. There no two contending parties, and two contending Advocates only seeking to secure personal  individual interests. Instead there is just one third-party which is guiding the whole conversation in a amicable way, trying to maintain as conducive of an environment as possible.
7. Win-win situation: Unlike a traditional Court, there is no declaration of a winning and a losing party. Nobody’s rights are secured more than the other. The job of the third-party instead is to secure the mutual benefit of both the parties to the dispute by guiding them to equally favourable provisions of the agreement. No side gets the raw and of the stick.

Loan Settlement and the RESERVE BANK OF INDIA:

Banks are one of the main sources of money to which people go for obtaining loans in a legal and technical manner. So, does the concept of one time loan Settlement only apply on an ordinary Social to individual basic, or does its scope also extend to institutions like the Banks?

In India, The Reserve Bank of India is the Central Regulatory Body for banks in India and thus  lays down the different rules and regulations concerning the banks in India. Prior to June, 2023, the ruling was that if a person commits default in re-paying the loan instalments to the Bank, the Bank could then declare the borrower as a wilful defaulter, thereby declaring his account as a fraudulent account, and could then take legal recourse against him under the provisions of ‘Fraud’. But on June 8, 2023, the Reserve Bank of India changed this precedent vide the following notification https://m.rbi.org.in/Scripts/NotificationUser.aspx?Id=12513&Mode=0  titled “Framework for compromise Settlement and Technical Write-offs”, through  which a a framework has been laid out for formulating One Time Loan Settlement Schemes by the Banks in India. Accordingly on September 3, 2005 vide notification RBI/2005-06/153 RPCD.PLNFS. BC.No.39 / 06.02.31/ 2005-06, titled Guidelines on One-Time Settlement Scheme for SME Accounts, the Reserve Bank of India has laid out guidelines for framing One Time Settlement Schemes. https://www.rbi.org.in/commonman/English/Scripts/Notification.aspx?Id=64

The RBI has also issued new guidelines for loan settlement, which require banks and NBFCs to release all original movable and immovable property documents within 30 days of full repayment/settlement of the loan account. The move is aimed at addressing the issues faced by borrowers during loan settlement.

Supreme Court Judgment

This move may have come  as a result of the Supreme Court Judgment which upheld the decision of the Division Bench of the High Court of Telangana in  Mr. Rajesh Agarwal vs Reserve Bank Of India, AIR 2021 TELANGANA 50.

The Supreme Court, in the relevant Appeal declared that Lenders have to give the Borrower an opportunity of representation before declaring the account as a fraudulent one. And non-affordance of such an opportunity would lead to legal consequences for the lender. Rejecting the stand of both RBI and the consortium of lenders led by SBI, a Bench led by the Chief Justice said that a decision classifying a borrower’s account as fraudulent must be with reasoned order.

•State Bank of India v Rajesh Agarwal: Civil Appeal No. 7300 of 2022 : “The principles of natural justice demand that the borrowers must be served a notice, given an opportunity to explain the conclusions of the forensic audit report, and be allowed to represent by the banks/ JLF before their account is classified as fraud under the Master Directions on Frauds. In addition, the decision classifying the borrower’s account as fraudulent must be made by a reasoned order; and vii. Since the Master Directions on Frauds do not expressly provide an opportunity of hearing to the borrowers before classifying their account as fraud, audi alteram partem has to be read into the provisions of the directions to save them from the vice of arbitrariness.”, held the Court. https://indiankanoon.org/doc/105925409/

Following this, in an application filed before the Supreme Court of India by the Reserve Bank of India, seeking clarification with regards to the above case in relation to the issues of a personal hearing and the prospective effect of the judgement, the Chief Justice DY Chandrachud declared that the Court never meant for the hearing to be a personal one, but just meant for the borrower to be afforded a reasonable notice and opportunity to present his side. With reference to the issue of prospective effect, an application or Review was asked to be filed.

Latest development

In a latest development, a Bench of the High Court of Jammu, Kashmir and Ladakh, comprising of Justice Sanjay Dhar  has held that it is within a Bank’s prerogative to exclude certain borrowers from the One Time Settlement Scheme formulated by the Jammu and Kashmir Bank pursuant to the Reserve Bank of India guidelines, if the Bank is of the opinion that such borrower has high chances of re-paying the loan given his financial circumstances or that the loan can be recovered through mortgaged property. Such an exclusion will not amount to discrimination.

• Ghulam Ahmad Mir v J&K Bank and Others, WP(C) No.526/2024: “….it is clear that the grant of benefit under the Onetime Settlement Scheme is always subject to eligibility criteria mentioned under the scheme. It is also clear that it has to be presumed that a bank would take a prudent decision whether or not to include a particular class of borrowers in the OTS Scheme having regard to public interest involved. It is for the person seeking to challenge a guideline or covenant of an OTS scheme which excludes him from its purview to show that he has been invidiously discriminated against. In the instant case, as already noted, the respondent Bank has, while framing covenants relating to exclusion of certain classes of borrowers, kept in mind the financial prudence and this Court, in exercise of its writ jurisdiction, cannot question the decision of the respondent Bank in this regard. https://indiankanoon.org/doc/11634066/

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