SARFAESI ACT, 2002

Economics

The SARFAESI Act, 2002 stands for the Securitization and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002. It is a landmark legislation enacted to enable banks and financial institutions to recover their non-performing assets (NPAs) efficiently without the intervention of courts in most cases.

The Act provides a legal framework through which secured creditors can enforce their security interests, seize collateral, and recover dues from defaulting borrowers. It marked a major shift in India’s banking recovery mechanism and led to the establishment of Asset Reconstruction Companies (ARCs), including the first ARC in India, ARCIL.

OVERVIEW OF SARFAESI ACT, 2002

The SARFAESI Act applies only to secured loans where the lender has a charge over an asset such as land, building, plant, machinery, or other movable or immovable property.

For unsecured loans, banks must approach civil courts or tribunals.

The Act allows banks and financial institutions to:
• Take possession of secured assets (except agricultural land)
• Sell or lease the secured assets
• Manage or transfer the secured assets
• Recover dues without court intervention

The Act also permits banks to sell NPAs to Asset Reconstruction Companies regulated by the Reserve Bank of India.

In essence, SARFAESI is a statutory tool to deal with bad loans and reduce the burden of NPAs in the banking system.

OBJECTIVES OF SARFAESI ACT, 2002

METHOD OF WORKING UNDER SARFAESI ACT

The Act empowers banks and financial institutions with three major mechanisms:

SECURITIZATION OF ASSETS

Securitization refers to converting illiquid financial assets such as loans into marketable securities.

Under this process:
• Banks sell financial assets to securitization companies or ARCs.
• ARCs raise funds by issuing Security Receipts to Qualified Institutional Buyers.
• The ARC may take possession of the mortgaged property to recover dues.
• Funds raised are used to clean bank balance sheets and revive stressed assets.

ASSET RECONSTRUCTION

Asset reconstruction aims at converting non-performing assets into performing assets.

The reconstruction process includes:
• Taking over management of the borrower’s business
• Sale or lease of the borrower’s business or assets
• Rescheduling or postponement of loan repayment
• Enforcement of security interest
• Settlement of borrower’s dues
• Possession and disposal of secured assets

All reconstruction activities must comply with RBI guidelines.

ENFORCEMENT OF SECURITY INTEREST

When a borrower defaults:
• The bank issues a 60-day notice demanding repayment.
• If the borrower fails to respond, the lender may:
  – Take possession of secured assets
  – Sell, lease or assign the secured assets
  – Appoint a manager to manage the secured assets
  – Recover money directly from debtors of the borrower

If there are multiple secured creditors, action can be taken only with consent of at least 75 percent of creditors by value.

ROLE OF RBI UNDER SARFAESI ACT

RBI regulates and supervises Asset Reconstruction Companies.
RBI grants registration to ARCs.
ARCs can raise capital by issuing Security Receipts.
RBI monitors compliance, governance, and financial health of ARCs.

REGISTRATION OF SECURITY RECEIPTS

Security receipts generally do not require registration under the Registration Act, 1908.
Registration becomes mandatory when:
• There is transfer of security receipt
• Receipt creates or assigns rights over immovable property

AMENDMENTS TO SARFAESI ACT, 2002 (2016)

The 2016 amendment strengthened the SARFAESI framework in line with insolvency reforms.

Key features:
• Expanded RBI’s regulatory powers over ARCs
• RBI empowered to inspect, audit, penalize and remove ARC management
• Increased penalty for non-compliance from Rs 5 lakh to Rs 10 lakh
• Inclusion of hire purchase and financial leasing under the Act
• Introduction of electronic filing and online DRT processes
• Strengthened role of DRTs under the insolvency framework
• Mandatory deposit of 50 percent of dues before filing appeal

These amendments improved speed, transparency, and accountability in recovery proceedings.

RIGHTS OF BORROWERS UNDER SARFAESI ACT

Borrowers can repay dues before sale and redeem the secured asset.
Borrowers can challenge wrongful action by bank officials.
Borrowers can appeal to:
• Debt Recovery Tribunal (within 45 days)
• Debt Recovery Appellate Tribunal (within 30 days)
Compensation is payable to borrowers for unlawful actions by authorized officers.

PREREQUISITES FOR INVOKING SARFAESI ACT

The debt must be secured.
The account must be classified as a Non-Performing Asset.
Outstanding amount must exceed Rs 1 lakh and 20 percent of principal plus interest.
Agricultural land cannot be taken as security.

The Act applies to both movable and immovable secured assets created through mortgage, hypothecation or charge, excluding personal belongings.

IMPORTANT DEFINITIONS UNDER SARFAESI ACT

Asset Reconstruction:Acquisition of bank’s rights in financial assets by an ARC for recovery purposes.

Appellate Tribunal:Forum where appeals against DRT orders are filed.

Bank:Includes commercial banks, cooperative banks, RRBs and notified financial institutions.

Borrower:Any person who has received financial assistance against security.

Central Registry:Registry for recording securitization, reconstruction and security interest transactions.

Debt Recovery Tribunal (DRT):Tribunal established under the RDBFI Act, 1993 for speedy recovery of bank dues.

Default:Failure to meet repayment obligations of loan or credit.

Financial Assistance:Includes loans, advances, debentures, bonds, guarantees and credit facilities.

Non-Performing Asset (NPA):A loan where interest or principal remains overdue beyond 90 days.

Secured Asset:Property on which security interest is created and enforceable under SARFAESI Act.
 

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Subject: Economics

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