9911796707
TMI Blog1982 (10) TMI 214X X X X Extracts X X X X X X X X Extracts X X X X ..... overdraft facilities. D. S. Gowda took the loan and commenced construction. The loan sanctioned was perhaps found insufficient. So he could neither finish the building nor could repay the loan. On Nov. 26, 1973, he executed an irrevocable power-of-attorney in favour of the bank manager authorising him to supervise and/or to put up construction according to the sanctioned plan and to induct tenants and recover rents from them. Still the loan could not be cleared. It went on mounting with addition of compound interest, penal interest and service charges. In 1975, the building still remained unfinished with the outstanding loan and interest mounted up to rupees four lakhs and seventy one thousand. The bank then thought that it must have adequate security from D. S. Gowda. On Oct, 10, 1975, D. S. Gowda executed a deed of equitable mortgage in favour of the bank with deposit of title deeds of his site for total liability of rupees five lakhs. It appears the bank gave him further accommodation at the time of executing the said deed. The material terms of the said deed are : 3. The mortgagor hereby covenants to reply mortgage loan of ₹ 5,00,000/- as above together with in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... es, P.W.1 and P.W.2, while D.S.Gowda has examined himself as D.W.1. The Court below after considering the evidence on record held : D.S.Gowda was initially given ₹ 4,22,000/- as loan and the interest accrued on that sum was ₹ 78,000/-. He therefore, executed the equitable mortgage in respect of his site for rupees five lakhs. He has not proved that he was not liable to pay interest with quarterly rests; and the bank, therefore, was justified in charging interest as claimed in the suit. On the question of relief claimed under the Mysore Usurious Loans Act, 1923, it was held that D.S.Gowda has not established that his loan transaction was unfair or the interest charged was excessive or exorbitant. With these findings, the Court below made a preliminary decree directing D.S.Gowda to pay the suit claim along with costs and future interest at the rate of 16.5 percent per annum within six months, failing which the bank was given liberty to realise the decretal amount by sale of the mortgaged property. 7. Being aggrieved by the said judgment and decree D.S. Gowda has appealed to this Court. 8. The first contention of Mr. Byra Reddy, Senior Advocate for the appellan ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... s and also to outline briefly the structure of the Reserve Bank of India with its power of superintendence and control over all banking institutions. THE RESERVE BANK OF INDIA. In 1926, the Royal Commission on India Currency and Finance, by its report had recommended the setting up of a Central Bank. After much debate, the Reserve Bank of India was established on April 1, 1935 as a Shareholders' Bank with the objective of regulating the issue of bank notes and the keeping of reserve with a view to securing monetary stability in India and generally to operate the currency and credit system of the country to its advantage . After independence, the Reserve Bank was nationalised by the Reserve Bank of India (Transfer to Public Ownership) Act, 1948. The Act empowered the Central Government to issue directions to the Reserve Bank as were deemed to be in public interest. 12.01. The general superintendence and direction of the Reserve Bank affairs are vested in the Central Board of Directors consisting of one Governor, four Deputy Governors, four Directors nominated under Section 8(1)(c) and 1 Director nominated under Section 8(1)(d) of the Reserve Bank of India Act. The Go ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... the commercial banking system which is the most important constituent of the country's market. 13. THE BANKING REGULATION ACT 1949 ( THE B.R. ACT ) HISTORY : The law relating to banking companies are dealt with in the Indian Companies (Amendment) Act, 1936 in a special part of the Act called part X-A. This part X-A was repealed by the Banking Companies Act, 1949, which was later amended by Banking Companies (Amendment) Act, 1950. There were series of amendments to that Act from 1956 to 1964. By amending Act no. 23 of 1965, the name of the Act was changed to Banking Regulation Act ( The B.R. Act ) from Banking Companies Act. This Act also has undergone amendments from time to time conferring more and more powers on the Reserve Bank with a view to have an effective control on all Banking companies. A comprehensive amendment was introduced by Act No. 58 of 1968 which came into force on February 1, 1969. 14. There then came the nationalisation of fourteen major banks by Act No. 5 of 1970 called the Banking Companies (Acquisition and Transfer of Undertaking) Act , which came into force on July 19, 1969. Again six more commercial banks were nationalised by Act No. 40 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... er or not the transactions of the Bank which came to his notice have been within the powers of the Bank, whether or not the returns have been found adequate, and whether profit and loss accounts show a true balance of profit or loss covered by such account. Section 35 confers power on the Reserve Bank to inspect any transaction or affairs of baking companies either suo motu or on being so directed so to do by the Central Government. Section 35A confers power to give directions to banks either in the public interest or in the interest of the banking policy and also to prevent the affairs of any bank being conducted in a manner detrimental to the interest or prejudicial to the interest of depositors or of the bank. The directions may also be for the purpose of securing the proper management of banking companies generally. Sub-section (4) of Section 46 of the B.R. Act imposes penalties for contravention of the provisions of the B.R. Act or for committing any default in not complying with the requirements of the Act or any order, rule or directions made or condition imposed thereunder. The person guilty of such contravention or default shall be punishable, with fine which may ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... discount usance bills at a rate, in either case, higher than 16.50 per cent per annum: interest shall be charged with quarterly rests. XX XX XX XX XX XX XX XX On March, 17, 1976, a circular was issued reducing that 16.5 per cent maximum lending rate to 14 per cent in respect of long-term loans for period not less than seven years. On June 26, 1976, a further directive was issued prohibiting banks from charging penal rate of interest in lieu of commitment charge or as a revenue raising measure. It, however, permitted banks to charge penal interest to enforce discipline in the conduct of the account subject to one per cent to 2.5 per cent above the normal rates applicable to advances, but not exceed 2 per cent over the ceiling rates on advances. On August 17, 1976, the Reserve Bank reiterated that its earlier policy that banks shall not charge quarterly rests and shall not compound interest on current dues on agricultural advances, shall continue even after the directive dated March 13, 1976. On November 15, 1976, the Reserve Bank issued a circular giving some guidelines with regard to service charges to be recovered by banks on their borrowal accounts. It was stated t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... culars of the Reserve Bank made available to us. 19. EFFECT OF THE DIRECTIVE OF THE RESERVE BANK. Having seen the nature of directives and circulars of the Reserve Bank something more needs to be said about their effects and binding nature. It is an accepted principle that if the object of the Legislature in regulating the rate of interest was to the protection of the public or for the fulfilment of some object of public policy, then a contract that falls to comply with the directives was impliedly prohibited. It is also a well established rule that the contracts that are expressly or impliedly prohibited by stature, orders, rules or regulations are illegal and void. In the law of contract by Cheshire and Fifoot, ninth Edition, page 321, it is stated : For instance, if the sole object of the statute is to increase the national revenue, as for instance by requiring a trader or to take out a licence: or to punish the contracting party who fails to furnish certain particular, the contract that he may have made is not itself prohibited and is in no sense tainted with illegality. On the other hand, if even one of the objects is the protection of the public or the furtheranc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... case the greater rate of interest has been paid, the person by whom it has been paid, or his legal representatives, may recover back in an action in the nature of an action of debt, twice the amount of the interest thus paid from the association taking or receiving the same; provided that such action is commenced within two years from the time the usurious transaction occurred. (See pages 124 and 156 of the Banking Law, (1976) Edition, by James J. White, published by West Publishing Company). 21. We may now revert to the facts of the case for a while in order to find out whether the terms of the mortgage deed are in contravention of the directives of the Reserve Bank. The deed provides for payment of interest at the rate of 16.5 per cent per annum and such rate of interest as may be prescribed. It also provides for payment of interest at the end of each calendar month and in the event of default, overdue interest would be charged. The meaning of the words that in the event of default overdue interest may be charged was understood by the bank executives as a right to charge compound interest with monthly rests. That has been so stated by Sadananda Shenoy (P.W.1) and Shivar ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ge our minds of any doubt or confusion that might have been created in the matter. We have gone through almost all the standard books on law of banking. M.L. Tannan in his book Banking Law and Practice in India (1977), does not refer to any such custom or practice prevalent in our country. Lord Chorely in his book Law of Banking , Sixth Edition (1974) does not also refer to any such banking practice prevalent in Britain, Sheldon in his book The Practice and Law of Banking , Eighth Edition (1958), however, states at page 213. A banker is entitled to charge interest on loans, either by express agreement or by right of custom. Moreover, owing to the banking practice of adding the interest to the principal debt each half year, he is usually enabled to charge compound interest. This right to charge compound interest is often further consolidated, at any rate so far as charges already incurred are concerned, by the customer's tacit acceptance of such charges in previous half-years . It is also stated at page 214: Mortgages for fixed sums, apart from express agreement, only carry simple interest. It is therefore, follows that the banker must keep the mortgage account ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ;s overdraft on his current account. On the balancing of this account each half year the amount of this interest was entered on the debit side of the account, a balance was then struck, and interest was charged during the next half- year upon that balance. The bank, by taking the account with these half-yearly rests, secured for itself the benefit of compound interest. This is usual and perfectly legitimate mode of dealing between banker and customer. In Holder v Inland Revenue Commissioners (1932) AC 624) the House of Lords again referred to the said banking practice as follows: From the year 1920 onwards the company was continuously indebted to the bank in large amounts. In accordance with the ordinary custom of banks, the interest accruing on the overdraft amounts was added to the amount overdrawn by half-yearly rests, interest being thereafter charged on the amount so added. 24. It is thus clear that the ordinary practice or custom of banks was only to charge interest with yearly or half yearly rests and that too only on overdraft amounts and unsecured loans. The monthly or quarterly rests, therefore, does not appear to be the recognised banking practice. It may ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... term deposits on a monthly basis, the banks are advised that I has been decided that they should charge interest on advances at monthly rests effective from July 1977. xx xx xx xx xx xx xx xx. The Reserve Bank has given two reasons for prescribing at monthly rests. First, to have parity in the method of payment and recovery of interest on deposits as well as advances. Second that some banks were already then paying interest on deposits on a monthly basis. It is difficult to discern any rational policy basis in the above reasoning. Banks do not give compound interest at monthly or quarterly basis on all deposits. There may be some special schemes with attractive interest rates prepared by some banks to invite more deposits, but it is not an accepted banking at all. Fortunately, this monthly rests on advances did not last long. By circular date February 28, 1978, the Reserve Bank prescribed a maximum lending rate at 15 per cent with quarterly or longer rests thus putting an end to monthly rests. From the above narration, one thing becomes very clear that the Reserve Bank did not pay adequate attention to the question of rests or the compound interests to be charg ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... or has parted with the security, order him to indemnify the debtor in such manner and to such extent as it may deem just. Explanation I:- If the interest is excessive the court shall presume that the transaction was substantially unfair but such presumption may be rebutted by proof of special circumstances justifying the rate of interest. Explanation II :- In the case of a suit brought on a series of transactions the expression 'the transaction' means for the purpose of proviso (I) the first of such transactions. II (a) :- In the section 'excessive' means in excess of that which the Court deems it to be unreasonable having regard to the risk incurred as it appeared, or must be taken to have appeared, to the creditor at the date of the loan. (b) :- In considering whether interest is excessive under this section, the Court shall take into account any amount charged or paid, whether in money or in kind, for expenses, inquiries, fines, houses, premia renewals or any other charges, and if compound interest is charged the periods at which it is calculated, and the total advantage which may reasonably be taken to have been expected from the t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Mr. Krishna Murthy for the Reserve Bank went a step further and submitted that the Court cannot, at all apply the Usury Act when the transaction complained of is governed by the Reserve Bank directives. Both the counsel in support of their contentions relied upon the recent decision of the Madras High Court in Indian Bank v. V.A. Balasubramania Gurukal, . Since this decision is the sheet anchor of the contentions of the counsel, we will set out hose facts and conclusions in a little more detail. The facts in brief are these : In 1971, the Indian Bank which is a nationalised Bank advances a sum of ₹ 1,850/- to defendants therein as agriculture medium term loan with interest at 4.5 per cent over the bank rate subject to minimum of 10.5 per cent with quarterly rests. On the same date, bank also obtained from the defendants a promissory note for the said amount. The defendants did not discharge the loan in spite of repeated demands. So in 1977, the Indian Bank instituted a suit in the Munsiff's Court for recovery of a sum of ₹ 2,233.10 P. said to be the balance due from that party. The defendants therein resisted the suit disputing the rate of interest claimed and al ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... int reading of this integrated provision as a whole would establish that in the case of an advance to an agriculturist debtor where compound rate of interest is charged, the rate of interest is presumed to be excessive, but if that is rebutted, by proof of special circumstances justifying the rate, then the transaction will not be a 'substantially unfair' one despite the charging of excessive interest in order to enable the court to proceed under Section 3(1) (i) to (ii) and afford relief, XX XX XX XX XX XX XX XX In the present case, the relevant circulars which have been issued by the Reserve Bank of India have been produced by the petitioner and they are marked as Exts. A-17 and A-18. These circulars do contain instruction issued by the Reserve Bank of India, with reference to the charging of a particular rate of interest. This would be a special circumstance justifying the nationalised bank in charging the rate of interest it did, as otherwise, the petitioner bank would have violated Section 21(e) read with Section 21(3) and the penalties provided for violation thereof under Section 46(4) of the Banking Regulation Act would stand attracted. In addition, it must ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... directive will not apply to agricultural advances in respect of which the instructions issued in our letters No. Nat. 389/C. 453 (A)-72 dated the 14th March, 1972 and No. B.P.B.C. 107/C. 453(A)-74 dated the 5th Oct. 1974 will continue to prevail. In other words, payment of interest on agricultural advances should be insisted upon only at the time of repayment of principal/installment of principal and interest on current dues should not be compounded. 2. Please acknowledge receipt. Yours faithfully, Sd/- X X X CHIEF OFFICER. One does not know whether this circular was produced in the said case before the Madras High Court. 32. Even otherwise, we cannot, with respect, accept the soundness and tenability of all the steps in the reasoning of the Madras High Court. The principle declared therein is that the directive of the Reserve Bank would constitute a special circumstances within the scope of the Explanation-I to Section 3(1) of the Usury Act and the Court in a case governed by such directives cannot give any relief to the debtor. It seems to us that this principle appears to have been too broadly carved out ignoring the terms and tenor of the circu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e B. R. Act under Section 5-A. 35. This contention, in our opinion, proceeded on the misconception of the provisions of Section 5-A. The directives issued by the Reserve Bank, no doubt, have statutory force. They lay down the guidelines about the methodology of operations, policy, procedure and rate of interest in financing or advancing loans to various classes of persons. But the loan transactions entered into by the executives of banking institutions in the usual course of their business are not statutory agreements. They are just commercial transactions governed by the guidelines laid down by the Reserve Bank. Section 5-A of the B. R. Act provides that the provisions of the B. R. Act shall have overriding effect over the Articles of Association of the banking company or any resolution passed by it or any agreement executed by it. In brief, the effect is that banks, as we have earlier stated, cannot assume power or cannot bargain with their customers contrary to the provisions of the B. R. Act or in disobedience to the terms of the directives of the Reserve Bank. The action of banks taken in contravention thereof would be illegal, void and unenforceable. 36. We may now give ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ders Acts have in consequence substantially interfered with business loan transactions by non-banking companies and have placed quite unnecessary impediments on a legitimate form of business. (See Consumer Credit Report of the Committee, Vol. I, Pages 176, 177, para 4.2.6). 37. Mr. Krishna Murthy relying upon the above observations urged that the general scheme of the usury enactments in our country too, was primarily intended to protect agriculturists and other borrowers belonging to the weaker sections of the community, but the Reserve Bank itself has taken care of such borrowers by prescribing concessional rates of interest for their benefits and Courts cannot further scale down such rates under the usury laws. According to the counsel, if that power is conceded to Courts, then it would be antithesis to the policy of purpose-oriented extension of credit which banks are entitled to follow. There are in our opinion, at least two reasons for not accepting this submission. The directives of the Reserve Bank, in the first place, are general in terms and not directed in respect of any individual transactions. Secondly, even in a category of borrowers specified by the directive ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f exercising what has come to be known as social control over banking. This policy of social control was introduced as a measure to improve the banking system by removing the then prevailing excess or deficiencies in the banking system. The basic postulate of the social control scheme as stated by the then Deputy Prime Minister and Minister of Finance in the Parliament on December 14, 1967 was: To ensure that particular links or groups of clients are not favoured in the matter of distribution of credit and whatever the character of the share holding its influence is neutralized in the constitution of the board of directors and in the actual credit decision taken at different levels of bank management. To achieve this object and to bring about a reorientation in the outlook of the banking system, the Reserve Bank was conferred with power to exercise strict control over banks so that they do not fritter away funds in improper investments and injudicious advances. The Reserve Bank operates this control through the techniques of (a) fixing minimum margins for lending against specific securities, (b) placing ceilings on the amounts of credit for certain purposes, and (c) lay ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... legality and reasonableness of the penal interest and the service charges a little later. Here we will examine whether the interest charged at 16 1/2 per cent annum on secured debt with monthly and/or quarterly rests was not excessive. Compounding of interest on monthly basis on the secured debt is not shown to be recognised banking practice. There was also no directives from the Reserve Bank during the material period, authorising banks to charge interest with monthly rests. It seems to us, therefore, that charging interest with monthly rests in a case like this is nothing but usury; and it is usually the evil practice followed by some private money lenders. 40. Even charging interest with quarterly rests is, in our opinion, not warranted by the facts and circumstances of this case. Counsel for the appellant submitted that since the debt was secured there was no risk involved for recovering the amount and the simple rate of interest even at 16 1/2 per cent would be extortionate. He relied upon the decision of the Supreme Court in S. Vardachariar v. Gopala Menon, . In that case, the Supreme Court while examining the principles of Usurious Loans Act, 1918, as amended by Madras Am ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Ltd, v. Greater London Council ((1982) 1 WLR 149) Forbes, J. in Queen's Bench Division, made some pertinent observation as to matters of principle at page 154: I feel satisfied that in commercial cases the interest is intended to reflect the rate at which the plaintiff would have had to borrow money to supply the place of that which was withheld. I am also satisfied that one should not look at any special position in which the plaintiff may have been; one should disregard, for instance, the fact that a particular plaintiff, because of his personal situation, could only borrow money at a very high rate or, on the other hand, was able to borrow at specially favourable rates. The correct thing to do is to take the rate at which plaintiffs in general could borrow money. This does not, however, to my mind mean that you exclude entirely all attributes of the plaintiff other than that he is a plaintiff. There is evidence here that large public companies of the size and prestige of these plaintiffs could expect to borrow at 1 per cent over the minimum lending rate, while for smaller and less prestigious concerns the rate might be a high as 3 per cent over the minimum lending rate ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... bove but less than 3 years was given 8.5 per cent, while deposits of 3 years and above were allowed the maximum of 10 per cent. (Sec : Reserve Bank of India, Annual Report 1980-81, page 14). (ii) The Reserve Bank Rate :- The bank rate charged by the Reserve Bank on the borrowings by banking institutions was 7 per cent on May 1974, 9 per cent on 22nd July 1974 and 10 per cent from July 11, 1981. This is in line with the bank rate payable on fixed deposits. It is thus seen that as on today banks get advances from the Reserve Bank at 10 per cent and pay the interest on deposits not more than 10 per cent for deposits of three years and above. 43. Considering the facts and circumstances of the case, in the light of the above bank rates and authorities to which we have called attention, it seems to us that 12.5 per cent interest with annual rests from the date of equitable mortgage would meet the ends of justice in this case. That would be keeping in line with the minimum lending rate at 12.5 per cent prescribed by the Reserve Bank and also with the annual rests prescribed subsequently. In regard to future interest, we leave that matter to the Court below. 44. As to ..... X X X X Extracts X X X X X X X X Extracts X X X X
|
