[Sourav Paul]
The author is a student of West Bengal National University of Juridical Sciences.
Introduction
The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (‘SARFAESI Act’) is one of the prominent laws in the long list of debt recovery and restructuring legislation enacted by the Indian Parliament. While introducing the Bill, the then Finance Minister said, “[t]his Bill is essentially for securitisation of financial assets so as to generate immediate liquidity, and it is also to enforce security because at the present moment, there are no powers. The commercial environment, both within the country as also globally, is changing. This results in what I would call an asset-liability mismatch as well as in mounting levels of Non-Performing Assets (NPAs). As a ratio of GDP, India’s Non-Performing Assets (NPAs) are really much lower than some of the countries. The Government is committed to constantly reviewing, constantly improving the provisions.”[[i]] In essence, the SARFAESI Act was brought in to tackle the mounting Non-Performing Asset (‘NPA’) crisis in the country, which was responsible for retarding the growth of the financial sector. The SARFAESI Act was also the sum total of the recommendations and concerns raised by the Narasimhan Committee II, the Andhyarjuna Committee, and the Reserve Bank of India (‘RBI’).[[ii]] In Mardia Chemicals v. Union of India, the Supreme Court of India (‘SC’) upheld the constitutionality of the SARFAESI Act, thereby solidifying its presence in the rich Indian debt recovery jurisprudence. Although the legislation played a pivotal role in clearing up the NPA mess created by the banks and financial institutions, it brought unique sets of problems with it. The architecture of the SARFAESI Act favours the speedy recovery of debts, which necessarily requires the relaxation of procedures and compliances in the sale of secured asset transactions. Over the years, the secured creditors have taken advantage of the loopholes of the SARFAESI Act and enjoyed impunity.
The central argument of this article is that the secured of checks since the mechanism imposes an unfair obligation on the bona fide purchaser. Therefore, the author calls for adopting the principle of caveat venditor instead of caveat emptor. It also argues that ‘as is, where is, whatever is’ clauses are unenforceable in nature.
In Section II of the article, the author explains the process of auctioning secured assets and the role of ‘as is, where is, whatever is’ clauses in auction notices. In Section III, the author analyses the duties of the seller in a transaction under §55 of the Transfer of Property Act, 1882 (‘Act’). In the next post, the author examines the paradigm shift in the judicial approach from caveat emptor to caveat venditor and provides recommendations.
A Primer on ‘As is, Where is, Whatever is’ Clauses in Auction Notices and Sale of Secured Assets
A debt gets converted into an NPA forwarded by any financial institution. . “holding any right, title or interest upon any tangible asset or intangible asset […]”, Since the property has been converted into an NPA, an auction takes place for selling these stressed assets post-issue of notice. Pursuant to §13(2) of the SARFAESI Act, the secured creditor issues notice to the borrower, which contains the details of the debt, and requests the borrower to clear all the liabilities within 60 days of receiving such notice. If the borrower fails to clear their liabilities within the deadline, the secured asset is sold in an auction. The takeover of the secured asset is executed as per the directions mandated under §13(2) and §13(4) of the SARFAESI Act. For the sake of brevity, the author shall not discuss in detail the procedure under these provisions (see here for an overview of the SARFAESI Act).
Often the sale of the secured assets occurs in an ‘as is, where is, whatever is’ manner which legitimises the sale of improper title, encumbrances, or any other undisclosed information pertaining to the secured asset. ‘As is, where is, whatever is’ is a clause inserted in the auction notices by the secured creditors, i.e., the banks and the financial institutions. The clause confers complete control of the secured asset to the highest bidder, including all the pending encumbrances, improper title, pending litigations, or any other defect. Consequently, the secured creditor sheds off its liabilities. The secured creditors ignore the bona fide buyers’ claims by arguing that it is the responsibility of the buyer to undertake adequate due diligence, thereby applying the principle of caveat emptor. Post-execution of the sale, when the bonafide buyer discovers the inherent defects in the property, the secured creditors invoke the ‘as is, where is, whatever is’ clause to deny any refund or compensation.
Analysing §55 of the Transfer of Property Act, 1882: Understanding the Rights and Liabilities of the Seller
§ 55 of the Act imposes certain rights and liabilities on the buyer and the seller with respect to the sale of immovable property. The legislative intent behind the provision is to ensure fair dealing in property, thereby minimising fraud in these transactions.[[iii]] However, it is imperative to note that the provision applies only when there is no contract to the contrary. Nevertheless, the provision is a guideline for dealing with immovable assets in good faith. This segment shall analyse the duties of the seller in a sale transaction vis-à-vis §55 of the Act.
The basic rule governing any sale transaction is that the seller is under an obligation to disclose all the material defects to the buyer, and where the buyer, with ordinary due care, was unable to find any defect.[[iv]] , as per the standard laid down in Flight v. Booth. In B.S. Oberoi v. P.S. Oberoi, it was held that pending litigation is a material fact. It further held that the decision of a bonafide purchaser might change if pending litigation pertaining to the property is brought to light. In Surendra Maneklal Kathia v. Bai Narmada, the Gujarat High Court ruled that a claim against the seller under §55(1)(a) of the Act is maintainable in case the seller fails to disclose material facts to the buyer.
The burden of proving a good title is on the seller. It is trite law that the seller is bound to transfer a good title, and in case there are any defects, the seller is bound to disclose the same.[[v]] Pursuant to §17(1)(b) of the Specific Relief Act, 1963, a duty has been imposed on the secured creditor to ensure the marketability of the title in the absence of any reasonable doubt. In Rajendra Kumar Bhandari v. Poosammal, the Madras High Court noted that a title without any reasonable doubt could be considered marketable. For instance, a §13(2) SARFAESI Act notice received by the borrower would be classified as a material defect in the title of the property. In , the Bombay High Court ruled that a notice of acquisition of the property under the Land Acquisition Act, 1894 is a material defect.[[vi]]
The seller is obligated to transfer a title free from encumbrances to the buyer. A bonafide purchaser shall be free from any burden provided that the seller has given assurance that the immovable asset is free from any encumbrance. In a catena of judicial decisions, the Indian courts have upheld that the seller is bound to compensate the bonafide purchaser if he had to pay any encumbrance, which ought to have been paid by the seller.[[vii]] This rule does not apply in situations where the buyer expressly agrees to discharge such obligations.[[viii]]
The presence of ‘as is, where is, wherever is’ clauses complicate the scenario primarily because it signifies that the seller is not bound to undertake any due diligence on the existence of encumbrance in the secured asset, thereby contravening the general rule. It is well-settled that an express provision that allows for a ‘contract to the contrary’ can be circumvented by a clear and unambiguous clause mutually agreed between the parties.[[ix]]
In Asset Construction Company (India) Ltd. v. Florita Buildcon Pvt. Ltd., the Bombay High Court opined that if the secured asset is transferred along with encumbrances without the knowledge of the bonafide purchaser, it shall be the secured creditor’s duty to discharge such encumbrances. Further, §13(1)(c) of the Specific Relief Act, 1963 mandates that the seller must discharge liabilities with respect to all encumbrances on the asset post-execution of sale. However, if there is a contract to the contrary, the seller cannot be held liable to discharge his liabilities. In Gobardhan Das v. Afzal Husain, the Allahabad High Court noted that in cases wherein the encumbrance disrupts the buyer’s peaceful possession of the property, a claim of damages can be initiated under §55(2) of the Act.
[i] VINOD KOTHARI, SECURITISATION, ASSET RECONSTRUCTION & ENFORCEMENT OF SECURITY INTERESTS Part II (4th ed., 2013).
[ii] Id.
[iii] DR. POONAM PRADHAN SAXENA, PROPERTY LAW 333 (3rd ed., 2017).
[iv] Id., at 334.
[v] Id., at 335.
[vi] Lallubhai Rupchand v. Chimanlal Nandlal, (1935) AIR Bom 16.
[vii] Manishankaer v. Ramkrishna, (1906) 6 Bom LR 832; Gouri Shanker v.Munnu, (1935) AIR Oudh 142; Ram Chander Dutt v. Dwarkanath, (1889) ILR 16 Cal 330.
[viii] R. Munnirayana Reddy v. C.P. Chinaswamy Gownder, (1952) AIR Mys 120.
[ix] Sri Ram v. Kedari, (1925) AIR Lah 481; Nathuni Sah v. Satyanarain Prasad, (1961) AP 11.