Unit 1:

• FUNCTIONS OF RBI

The RBI should maintain a close and continuous relationship with the Union Government while
implementing the policies. If any differences arise, the government’s decision will be final.
• There are various functions which are performed by Reserve Bank of India, which are following:
1) Traditional functions
2) Development functions
3) Supervisory functions
Traditional functions
There are some traditional functions which are as followed:

1) RBI issues Currency Notes - Section 22 of the Reserve Bank of India Act 1934 provides that RBI
has sole right to issue currency notes except one rupee note and coins of smaller denomination,
RBI issues, against the security of gold bullion, foreign securities, rupee coins, exchange bills,
promissory notes and government of India bonds etc, currency notes of Rs. 2, 5, 10, 20, 50, 100,
500, 1000.
2) As a banker to other Banks - RBI guides, helps and directs other commercial banks of the
country. RBI keeps control the bank reserves. Every commercial bank has to maintain a part of
their reserves with RBI which is called Cash Reserve. If bank need fund they approach to RBI for
fund and RBI lend to them.
3) Banker of the Government - RBI also works as an agent of the governments. RBI makes
payments, taxes and deposits etc on the behalf of governments. It represents the government at
international level also. It maintains accounts of government and also provides financial advice to
the government whenever required.
4) Management of Exchange Rate - RBI prepares domestic policies for maintaining value of rupee.
It also prepares and Implements also the foreign exchange rate policy which helps in attaining the
exchange rate stability. It brings demand and supply of foreign currency (U.S.) dollar close to
each other for maintenance of exchange rate stability.
5) Credit Control - RBI has to balance growth with stability. Thus it checks the credit creation
capacity of commercial banks by using various credit control tools. If the credit creation by
commercial banks is unregulated then it may lead the economy into inflationary cycles.

6) Supervision - RBI has to supervise the commercial banks. It has the power to give license to new
 banks which are going to open or to new branches to be established. It guides and conducts the
audit of other banks,

Developmental functions

1) Financial System Development - The financial system includes many things like, financial
institutions, financial markets and financial instruments. For rapid economic development of the
nation's economy, sound and efficient financial system is necessary for which RBI encourages the
banking and non - banking institutions.
2) Agricultural Development - RBI always pays attention to agriculture sector by assessing credit
needs of this particular sector, Regional Rural Banks (RRBs), National Bank for Agriculture and
Rural Development (NABARD) which are only for agriculture finance are under the direct
control of RBI.
3) Industrial Finance - For economic growth of the country, Industrial development is necessary and
for this purpose RBI supports the industrial sector as well. RBI plays vital role for setting up of
industrial finance institutions like ICICI Limited, IDBI, SIDBI, EXIM etc.
4) Promotion of Export - RBI always encourage the facilities for providing finance for foreign trade
especially exports from India. The Export Import Bank of India (EXIM), and the Export Credit
Guarantee Corporation of India (ECGC) are supported by RBI.
5) Reports Publication - RBI has a separate publication division. It collects and publishes data on
different sector of the economy. The reports and bulletins are regularly published by the RBI and
available for public.
6) Collection of Data - RBI collects important statistical data about several topics like interest rates,
inflation, savings, investments, deflation etc. the data collected by RBI is very much useful for
policy makers and researchers.

Supervisory Functions -

1) License to Banks - RBI provides license to the banks going established. It also provide license to
the new branches of existing banks.

2) Inspection of Banks - RBI may as and when required, may inspect the assets and liabilities of the
banks which are under its control

3) Control on Non-Bank Financial Institutions -RBI may issue directives to the NBFIs from time to
time with regard to their functioning. It can control the NBFIs through periodic inspection.
• POWERS OF RBI

Powers of the Reserve Bank of India

• Power to issue licence for new Banks and grant permission for starting new branches.
• Power to determine the credit policy to be followed by Banks.
• Power of inspection.
• Power to issue directions. Sec. 35 of the Act (Banking Regulation Act, 1949).
• Power to control management. Sec. 38AA of the Banking Regulation Act, 1949.
• Power to advice Banks. Sec.36 of the Act. (Banking Regulation Act, 1949).
• Power to assist in proposals for amalgamation.
• Power to receive and scrutinize the returns.
• To grant moratorium. Sec. 45, Banking Regulation Act, 1949.
• To appoint liquidator.
• To give advice to the Central Government.
• The Reserve Bank of India may require any Banking Company to call a meeting of its directors
to discuss any matters relating to the affairs of the company.

CLASSIFICATION OF BANKS
There are two broad categories under which banks are classified in India- SCHEDULED AND
NON-SCHEDULED BANKS. The scheduled banks include COMMERCIAL BANKS AND
COOPERATIVE BANKS. The commercial banks include REGIONAL RURAL BANKS,
SMALL FINANCE BANK, FOREIGN BANKS, PRIVATE SECTOR BANKS, and PUBLIC
SECTOR BANKS. PAYMENTS BANK is a new introduction to the category. Cooperative banks
include URBAN AND RURAL BANKS.

SCHEDULED BANKS are the banks which are covered under the second schedule of the
Reserve Bank of India Act, 1934. To qualify for being a scheduled bank, a minimum of 5 lakh
paid-up capital is required on the bank’s behalf. The RBI lends loan to these banks at bank rate as
and when required.

COMMERCIAL BANKS are regulated and managed under the Banking Regulation Act, 1949.
These are profit making banks based on their business model. Granting loans to the government,
general public, and corporate and accepting deposits counts as the primary function.

There are four types of commercial banks:

PUBLIC SECTOR BANKS

These banks for more than 75% of the total banking business in the nation. They are called
nationalized banks. The government holds the majority stakes at these banks. Post-merger,SBI is
the largest public sector banks by volume. It also ranks amongst the top 50 banks in the world.

PRIVATE SECTOR BANKS

Private shareholders hold majority stakes in private sector banks. Reserve Bank of India lays
down all the rules and regulations.

FOREIGN BANKS

A bank operating as a private entity in India but headquartered in a Foreign country is a foreign
bank. They are governed by both the country they are located in as well the country they have
headquarters in.
 REGIONAL RURAL BANKS

These banks were established mainly to support the weaker and lesser fortunate section of the
society like marginal farmers, laborers, small enterprises etc. they mainly operate at regional
levels at different states and may have branches in urban areas as well. Their main features are:
1) Supporting rural and semi-urban region financially
2) Pension distribution and Wage disbursement of MGNREGA workers
3) Added banking facilities like locker, cards-debit, and credit
SMALL FINANCE BANKS
These banks cater to a niche segment in the society and help with financial inclusion of sections
which are not taken care of by other leading banks. They look after micro industries, unorganized
sector, small farmers etc. RBI and FEMA are the governing bodies of these banks.
COOPERATIVE BANKS

Run by the elected members of a managing committee and registered under the Cooperative
Societies Act, 1912 are the cooperative banks. These are no-profit, no-loss banks and mainly
serve entrepreneurs, industries, small businesses, and self-employment.
PAYMENTS BANK
This is a new and upcoming model of banking in India. It has been conceptualized and signed-off
by RBI with restricted operations. Maximum of Rs. One Lakh is acceptable per customer by these
banks. Like other banks, they also offer para-banking services like ATM cards, Debit- Credit
cards, net-banking, mobile banking etc.

FEDERAL BANK V. SAGAR THOMAS

In Federal Bank vs Sagar Thomas (2003), the Kerala High Court held that the bank was
performing a public duty and, therefore, it was included in the definition of "other authorities" in
Article 12 of the Constitution which deals with state. On appeal, the Supreme Court declared that
a private company carrying on business of a scheduled bank could not be termed as carrying on a
statutory or public duty.
"Any business or commercial activity, whether banking, manufacturing or similar activity
generating resources, employment, production and resulting in circulation of money which do
have an impact on the economy of the country in general, cannot be classified as one falling in the
category of those discharging duties or functions of a public nature," the court had held in that
case. However, in the case of public sector undertakings, the rule might be different as in the case
of Delhi Transport Corporation vs DTC Mazdoor Congress (1991). In that case, the Supreme
Court ruled that the rule of termination violated Article 14 as the absolute power to terminate
employees was against public policy.
R C COOPER CASE

The major findings of the Court in the present case are as follows-

The major contribution of this case was the overruling of the ‘Mutual Exclusivity Theory’ which
had been practiced for 20 years till this case happened, from A. K Gopalan Vs. State of Madras.
The Court held that just on the basis of technicalities, it can’t reject a petition which clearly shows
that the Fundamental Rights of the citizens are being violated. Just because a Legislative action
was also violating the Rights of the company didn’t mean that the Court was not having the
jurisdiction to protect the Rights of the shareholder of the company as well. The Court also struck
down the ‘Object’ test and laid down the ‘Effect’ test. The Effect test would now look into the
Effect of any particular legislative Act, rather than looking at the objective with which it had been
formulated. Thus, if any Act of the Legislature, even at a remote stage, violated the Fundamental
Rights of the citizens, then, it was liable to be struck down.

As far as whether the Ordinance was promulgated properly or not, to this the Court said that since
the Ordinance had already been converted into an Act, so it was unnecessary for the Court to
discuss the same. The Court said that the same had become a question for academicians to ponder
upon, but not for the present case.

As far as the arguments regarding the Parliament’s competence to acquire banking companies
was concerned, the Court, very interestingly, rejected both the petitioner’s as well as the
respondent’s arguments. The Court said that the term property included all the Rights, liabilities,
assets, etc., which were associated with the property. The power of the Parliament to acquire any
banking company was an independent power of the Parliament and it required no separate
Legislation to be enacted first under List II and List III.

The Court declared the Act to be clearly violative of the Article 31, as Article 31 talked about
compensation for the acquired property. Now, the term ‘compensation’ meant complete
indemnification to the person, whose property was being acquired. Since it was frankly clear from
the objectives of the Act that equal indemnification was not going to be provided and also, after
applying the test of severability, as the Act was not independent enough to stand alone without
the part in question, so it was liable to be struck down.

The Court, however, for the contention of Articles 19(1)(g) held that the Act was not violative of
Article 19(1)(g), as the State had the complete Right to partially or completely monopolise any
business that it felt to.

However, the Court discovered that the Act was in clear violation of Article 14. This was held on
the basis of the following reason that the concerned Act barred the 14 banks carrying out banking
activities within the country, however, other banks, including the foreign banks, had not been
stopped from doing so. The Supreme Court, thus, held the Act to be ‘flagrantly practicing
discrimination’ and thus, held it to be violative of Article 14.

Justice A.N. Ray was the only Judge who gave the dissenting opinion. He gave the following
points-

The only way in which the Ordinance passing power of the President could be challenged was on
the basis of malafide and corrupt intentions. The fact that the Ordinance had been
promulgated just two days before the session of the Parliament began indicated that the same had
been passed legitimately, although in a haste.

There was considerable speculation in the country regarding Government’s intention with regard
to nationalisation of banks during few days immediately before the Ordinance.

The reason is obvious that in matters of policy, just as Parliament is the master of its province,
similarly the President is the supreme and sole judge of his satisfaction on such policy matters on
the advice of the Government.

He dismissed the petitions upon various other reasons and thus, declared the petitions to fail.
A shareholder can’t approach the Court for the violation of his Rights, which at the end, were
associated with a company, which by virtue of being a non-citizen, and did not possess the Right
to claim Fundamental Rights.

The ‘mutual exclusivity theory’, as propounded in the A. K. Gopalan case, was upheld by him.
However, there were indeed two things upon which he agreed with the majority and they were-

That the impugned Act was not violative of Article 19 (1) (g) of the Constitution of India,
inhibiting the freedom to carry on any trade or business.

That the Parliament was competent enough to pass the impugned Act, related to the acquisition of
banking.

UNIT 2:

Common law definition of Bank

• United Dominions Trust Ltd v. Kirkwood- UDT did not maintain current accounts, so was not
 carrying on a banking business.
• Lord Denning held-the usual characteristics of banking are the conduct of current accounts, the
payment of cheques, the collection of cheques for customers.
• Harman J noted that its difficult to define the business of banking & that no statute has defined
it.
• Banker is the one who carries on as his principal business; the accepting of deposits of money
on current account or otherwise subject to withdrawal by cheque, draft or order.
• Diplock LJ held that a banker should accept money from his customers upon a running account
into which sums of money are from time to time paid by the customer & from time to time
withdrawn by him.

Statutory Definition of Banking- India

• The term BANK has not been defined.

• According to section 5(b) of the Banking Regulation Act, 1949,
• “banking” means the accepting, for the purpose of lending or investment, of deposits of money
from the public, repayable on demand or otherwise and withdrawable by cheque, draft, and
order or otherwise.
• The essential characteristics of the ‘banking business’ as defined in section 5(b) of the Banking
Regulation Act are:
• Acceptance of deposits from the public, for the purpose of lending or investment
• Withdraw able by means of any instrument whether a cheque or otherwise.

Can Banks engage In trade?

S.5(c)-’Banking company’ means any company which transacts the business of banking in India.
Explanation to S 5(C)provides: Any company which is engaged in the manufacture of goods or
carries on any trade and which accepts deposits of money from the public merely for the purpose
of financing its business as such manufacturer or trader shall not be deemed to transact the
business of banking within the meaning of this clause.

S 8-Prohibition of trading-no banking co shall directly or indirectly deal in buying ,selling or

bartering of goods, except in connection with realization of security given to it or held by it. So,
this section thus prohibits the banking company to engage any other business, other than those
forms of business mentioned in Section 6(1). However, a bank can engage in trade activities only
 in regard to the realisation of security in order to recover the amount of loan and advances.

PERMITTED BUSINESS OF BANKS – SECTION 6, SECTION 8, SECTION 9

Banking Company
Banking Company is a company which transacts the business of banking in India. This company
fulfils the state of affairs of being a company as given in companies’ act 1956.

Business allowed for a banking company (Section 6)

• Lending/Borrowing of money with/ without security, issuing travellers’ cheque, buying &
selling foreign exchange notes, deposits vaults, collecting & transmitting of money & securities,
buying bonds and other securities on the behalf of customers.
• Transacting and carrying on every kind of guarantee & indemnity business.
• Selling, managing & realizing any property which comes in possession of the bank in procedure
of settlements of claims.
• Executing and undertaking of trusts
• Other works which are advancements of main purpose of the company or incidental
• A form of business that is defined by the Central Government in its issued notification
Prohibition on trading (Section 8)

banking company cannot get in directly or indirectly contracts in buying or selling or exchange
of goods.

Disposal of Non Banking assets (Section 9): Banks cannot hold any property for more than 7
years for the purpose of settlements of debts or obligations. Such time limit of 7 years can be
augmented by the Reserve Bank of India for another 5 years, if it thinks appropriate.
• PROHIBITED BUSINESSES

Prohibited business for banks in India

Section 8 of Banking Regulation Act prohibits banks from engaging activity of trading and
associated risks. However it can do such buying or selling in connection:

• with bills of exchange received for collection or negotiation

• undertaking the administration of estates as executor, trustee

S. 22- Licensing of banking companies.
a) No Company w/o license from RBI can carry on Banking Business
b) Existing Companies – within 6 months must write to RBI seeking for license. Existing banks can
continue till license is denied
c) RBI will satisfy itself that (Clause 3)
• Company is in a position to pay present or future depositors in full
• Affairs of the Co are not detrimental to depositors
• General Character of the Co no detrimental to public interest
• Co has adequate capital structure and earning prospects
• Grant of license will benefit public interest
• Existing banking facilities and future growth and consolidation of banking system must not be effected
• Any other factors that the RBI deem relevant
d) Before granting any licence under this section to a company incorporated outside India, the Reserve
Bank may require to be satisfied by an inspection of the books of the company (Clause 3A)
e) RBI can cancel License if
• Company ceases to carry on banking business in India
• Company at any time fails to comply with any of the conditions imposed upon it under sub-section
(1)
• if at any time, any of the conditions referred to in sub-section (3) and sub-section (3A) is not
fulfilled:

In case of cancellation due to the 2nd or 3rd ground Bank may be given an opportunity to comply with
conditions so imposed
f) Appeal against cancellation to CG within 30 days of cancellation being communicated
g) Decision of CG in such appeal is final and binding

S. 23 - Restrictions on opening of new and transfer of existing, places of business

• RBI permission needed to change place or open new place inside or outside India
• RBI must conduct inspection under S. 35 before granting permission - as to the financial condition and
history of the company, the general character of its management, the adequacy of its capital structure and
earning prospects and that public interest will be served by the opening or, \, change of location, of the
place of business
• RBI can impose conditions on grant and in case of breach of conditions may issue show cause and revoke
permission under this Section
• RRB needs to approach RBI through the National Bank
• place of business” includes any sub-office, pay office, sub-pay office and any place of business at which
deposits are received, cheques cashed or moneys lent

Shivabhai Zaverbhai v RBI- Sec 22(3)

Banking - licence - Article 226 of Constitution of India and Section 22 (3) Banking Regulation Act,
1949 - petitioners promoters of proposed Urban Co-operative Bank applied for licence for 'chaklashi
town' - refusal of banking licence by Reserve Bank of India challenged - Reserve Bank conducted
viability study to find out whether there were prospects of business potential so as to make proposed
Urban Co-operative Bank in area of viable unit thereby enabling it to properly deploy its resources and
earn sizable income so that interests of all its depositors well protected - in present case Reserve Bank
on relevant material and on germane considerations concluded that proposed urban bank not viable unit
and refused licence - petition dismissed.

Pramod Malhotra v Union of India- Sec 22 (2)proviso. Sec 22(3), Sec 23

RBI not liable for deficiencies in working of bank – Operational deficiencies in the Bank – petition to
recover money from RBI – dismissed – No Negligence or statutory violation by the RBI

• ROLE OF RBI IN FUNCTIONING OF COMMERCIAL BANKS

Whether RBI has a fiduciary relationship with other Banks?

Reserve Bank of India and Ors. Vs. Jayantilal N. Mistry and Ors. [MANU/SC/1463/2015 ]

■ RBI is supposed to uphold public interest and not the interest of individual banks. RBI is
clearly not in any fiduciary relationship with any bank. RBI has no legal duty to maximize the
benefit of any public sector or private sector bank, and thus there is no relationship of 'trust'
between them. RBI has a statutory duty to uphold the interest of the public at large, the
depositors, the country's economy and the banking sector. Thus, RBI ought to act with
transparency and not hide information that might embarrass individual banks. It is duty bound to
comply with the provisions of the RTI Act and disclose the information sought by the
Respondents herein.

■ RBI does not place itself in a fiduciary relationship with the Financial institutions (though, in
word it puts itself to be in that position) because, the reports of the inspections, statements of the
bank, information related to the business obtained by the RBI are not under the pretext of
 confidence or trust. In this case neither the RBI nor the Banks act in the interest of each other. By
attaching an additional "fiduciary" label to the statutory duty, the Regulatory authorities have
intentionally or unintentionally created an in terrorem effect.

Commercial Banks are the oldest Banking Institutions in the organized sector. They constitute
the predominant segment of the banking system in India. They cater to need of trade, commerce
industries, agriculture, small business, transport and other activities, with a wide network of
branches throughout the country. The Commercial Banking System consists of scheduled banks,
and non-scheduled banks. Scheduled Bank: Scheduled Bank is one which is registered in the
second schedule of the Reserve Bank of India.

The following conditions should be fulfilled by a Bank for inclusion in the schedule: 1) The Bank
concerned must be carrying on a business of banking in India. 2) The Bank must have paid-up
capital and reserve of an aggregate value of not less than RS.5Iakhs. 3) It must satisfy that its
affairs are not being conducted in a manner detriment to other interest of the Depositor. Presently,
the R.B.I. has prescribed minimum capital of RS.100 crore for starting a new Commercial Bank.
Non-Scheduled Bank: Bank which is not included in second schedule of the R.B.I. is known as
Non-Scheduled Bank. The Scheduled Bank come within the direct purview of the credit control
measures of the R.B.I. They are entitled to borrowing and rediscounting facilities from R.B.I.
Non-Scheduled Bank are not entitled to such facilities.

• SUSPENSION AND WINDING UP

Banking Regulation Act, 1949

37. Suspension of business

(1) The High Court] may on the application of a banking company which is temporarily unable
to meet its obligations make an order (a copy of which it shall cause to be forwarded to the
Reserve Bank) staying the commencement or continuance of all actions and proceedings against
the company for a fixed period of time on such terms and conditions as it shall think fit and
proper, and may from time to time extend the period so however that the total period of
moratorium shall not exceed six months.

(2) No such application shall be maintainable unless it is accompanied by a report of the

Reserve Bank indicating that in the opinion of the Reserve Bank the banking company will be
 able to pay its debts if the application is granted:

PROVIDED that the 163[High Court] may, for sufficient reasons, grant relief under this section
even if the application is not accompanied by such report, and where such relief is grated, the
163[High Court] shall call for a report from the Reserve Bank on the affairs of the banking
company;, on receipt of which it may either rescind any order already passed or pass such further
orders thereon as may be just and proper in the circumstances.

(3) When an application is made under sub-section (1), the High Court may appoint a special
officer who shall forthwith take into his custody or under his control all the assets, books,
documents, effects and actionable claims to which the banking company is or appears to be
entitled and shall also exercise such other powers as the High Court may deem fit to confer on
him, having regard to the interests of the depositors of the banking company.]

(4) Where the Reserve Bank is satisfied that the affairs of a banking company in respect of
which an order under sub-section (1) has been made, are being conducted in manner detrimental
to the interests of the depositors, it may make an application to the High Court for the winding up
of the company, and where any such application is made, the High Court shall not make any order
extending the period for which the commencement or continuance of all actions and proceedings
against the company were stayed under that sub-section.

• Sec 37- Suspension of business -

• Meaning of moratorium – Staying all proceedings against the Company
• Application by the banking company – to HC
• Due to temporary inability to pay off debts
• Fixed period upto 6 months
• RBI Report –This report is a must in order for the application to be maintainable. The report
must provide that in the opinion of the RBI if such suspension is granted the Co can
subsequently repay its debts
• HC can grant suspension if needed in the absence of a report from RBI but must obtain the
report post granting and can then rescind it if needed
• If granted, HC appoint a special officer who takes into custody all assets, books, docs etc
• RBI can recommend to HC to wind up such companies that have been suspended if it deems fit
and HC will not give further renewal of such suspension
 Winding up of Banking Companies

The Banking Company can be wound up like any other company (i.e.) compulsorily or
voluntarily or subject to the supervision of the Court. The High Court shall be order the winding
up of Banking Company if the Banking Company is unable to pay its debts in the following
circumstances. (i) If it has refused to meet any lawful demands made at any of its offices within
two working days, such a demand is made at a place where there is an office or in other cases
within 5 days. (ii) If the R.B.I. certifies in writing that the Banking Company is unable to pay its
debts
Sec 38 to 44 – Winding Up
Sec 38

Winding up by HC [S. 38(1)]

• banking company is unable to pay its debts

• application for its winding up has been made by the Reserve bank under section 37/38

Winding up on application by RBI

• RBI application under Sec 37 or Sec 38

• Sec 38 (3) (a), (b)
• S. 38(a)(i) - failed to comply with the requirements specified in section 11
• S. 38(a)(ii) - by reason of the provisions of section 22 become disentitled to carry on banking
business in India
• S. 38(a)(iii) - Has been prohibited from receiving fresh deposits by an order under clause (a) of
sub-section (4) of section 35 or under clause (b) of sub-section (3A) of section 42 of the Reserve
Bank of India Act, 1934 (2 of 1934.)
• S. 38(a)(iv) – Failed to comply with other requirements in the Act and has not rectified the same
within the specified time period given by RBI
• S. 38(b) – Application for winding up may be filed by the RBI if in its opinion –
• S. 38(b)(i)- a compromise or arrangement sanctioned by a Court in respect of the banking
company cannot be worked satisfactorily with or without modifications; or
• S. 38(b)(ii)- the returns, statements or information furnished to it under or in pursuance of the
provisions of this Act disclose that the banking company is unable to pay its debts; or
• S. 38(b)(iii)- the continuance of the banking company is prejudicial to the interests of its
depositors
Sec 44- Voluntary winding up

• No banking company may be voluntarily wound up unless the Reserve Bank certifies in writing
that the company is able to pay in full all its debts to its creditors as they accrue.
• The High Court may, in any case where a banking company is being wound up voluntarily,
make an order that the voluntary winding up shall continue, but subject to the supervision of the
court
• HC may of its own motion based on application of RBI order winding up if
a) At any stage of Voluntary winding up the Company is unable to meet debts
b) Where voluntary winding up is detrimental to the interest of depositors

SPECIAL PROVISIONS FOR SPEEDY DISPOSAL OF WINDING UP PROCEEDINGS

• Part III A
• Inserted through an amendment in 1953
• S. 45 B- Power of High Court to decide all claims in respect of banking companies
• S. 45C- Transfer of pending proceedings
• S. 45D- . Settlement of list of debtor
• S. 45F- Special provisions to make calls on contributories
• S. 45N- Appeals.- allowed if suit amt greater than 5k

• Sec 45 Q- Power to inspect

Joseph Kuruvilla v. RBI (AIR 1962 SC1371)

• RBI under sec 38 of the Banking Companies Act applied for winding up of the plaintiff’s
banking business.
• Issues: -Sec 38 read with Sec 3 (b)(iii) was violative of Art. 14 and 19 (f) and (g) of the
Constitution -discrimination between banking company and other companies -Unreasonable
restriction on right to carry banking -Procedure of winding up is arbitrary
• Judgement- Not unconstitutional.
• In view of the history of the establishment of the Reserve Bank as a Central Bank for
India, its position as a Banker's Bank, its control over banking companies and banking in
India, its position as the issuing bank, its power to license banking companies and cancel
their licences and the numerous powers, a law which empowered the Reserve Bank to come
to a decision to wind up a tottering or unsafe banking company in the interest of the
depositors could not be challenged as unreasonable, because even if the court were called
 upon to take immediate action it would almost always be guided by the opinion of the
Reserve Bank.
• A law may, with reason, leave the determination of an issue to an expert body, and such
law is justified on the ground of expediency arising from the respective opportunities for
action.
• while ordinary companies dealt with the money of the stock holders, banking companies
were in a different class as they dealt with the money of the depositors and had to be
regulated differently.
• the Reserve Bank having been given by the Banking Companies Act the power and
invested with the duty of watching the affairs, of every banking company with a view to
ensuring the safety of the depositors' money, there was a valid classification ;
• consequently ss. 38(1) and (3)(b)(iii) of the Banking Companies Act did not offend Art.
14 of the Constitution.

Prafulla Chandra Sinha vs Chotanagpur Bank Association Ltd.

• Court can take suo moto action under S. 38(1)

• Company -Winding Up - Section 433 of Companies Act; Sections 38, 38(1), 37(2) of
Banking Companies Act - Appeal by Appellants-depositors against an order passed by a
single judge directing winding up of a bank named Chotanagpur Banking Association Ltd -
Whether acceptance of dividend debarred Appellants from prosecuting Appeal - Whether
Bank was unable to pay its debts so as to justify its winding up - Held, payment of dividend
was due to result of winding up order and but for said order Appellants could not have
drawn this amount as a matter of right - Acceptance of dividend precluded Appeal
• Reason for judge's holding that bank was unable to pay its debts was that liabilities of bank
far exceeded its assets - Said finding was based on enquiry report made by a functionary of
Reserve Bank under Section 37(2) of Act

UNIT 3:
• Deposit accounts- Accounts opened with a deposit of money by the customer are called as
deposit accounts.
• Different accounts can be opened with different facilities & privileges.
• Generally, 3 categories -Fixed deposit accounts -Savings deposit accounts & -Current
accounts
 • Demand Deposits- withdrawable without notice but on demand. e.g. current deposits,
savings deposits.
• Time Deposits-any deposit which is not repayable on demand is a time deposit.
• It is repayable at a fixed date or after a period of notice. e.g. Fixed deposits, short-term
deposits or notice deposits. Fixed Deposit Accounts-accounts opened for a fixed period
(longer duration- more than an year)
• On the expiry of the specified period chosen by the depositor he can get back money as
and when he needs it.
• Anumati v. PNB- SC held that an FD in joint names of two persons is nothing but a joint
account which is repayable on the expiration of the agreed period.
• Short term deposits- deposits usually received for a period of less than 12 months.
• Notice deposits-deposits withdrawable at a certain notice, normally given 15 days or more
in advance before the amount can be withdrawn. Deposits requiring longer notice bear a
higher rate of interest than those requiring shorter notice. (enables liquidity)
Joint Account- joint operation,
1. Either or survivor( only 2),
- These can be accessed and managed by either of the account holders, i.e. the primary account
holder as well as the secondary account holder. If one of the account holders passes away, then
the account balance can be paid to the “survivor” account holder.
2. Anyone or survivor(more than 2),
- More than two people can operate the account. Thus, just like the “either-or survivor” a joint
account is a good option for a couple, the “anyone or survivor” is a good option for a family as
a whole. This is because this type of joint account can be managed by all the family members. If
an account holder dies, the remaining or “survivor” account holders can then operate the
account and become the owner of the balance amount.
3. Former or survivor
- Only the primary account holder can operate the account. The secondary account holder gets
access to the account when the primary account holder passes away.
4. Latter of survivor
- The secondary account holder has access to the account. The primary account holder can get
access to the same only if and when the second account holder passes away.
5. Jointly
- all transactions operated by all jointly
• SPECIAL CUSTOMERS

Special types of Bankers Customers

Minors, Lunatics, Illiterates, Executors, Hindu Joint Family Partnership Firm, Joint Stock
Companies, Clubs, Societies, Charitable Associations, Trustees etc.

A Minor is under a legal incapacity to enter into a contract. A deposit account of a minor can be
opened by the Bank and operation can be allowed by his natural guardian. Sometimes the court
appoint, as a guardian of a minor some person who is not a natural guardian. The account is in the
minor’s own name: It is clear that no overdraft can be given to a minor. Minor can have only
saving Bank account. Where however the account is to be kept in credit two questions arise (a)
whether the minor can draw a valid cheque; and (b) whether he would on attaining majority be
bound by the withdrawals made by him by cheques when he was a minor. As to Sec. 26(a) of The
Negotiable Instruments Act provides that a minor may draw endorse, delivery and negotiable
instruments and hence a minor can validity draw a cheque. As to (b) if he can validly draw a
cheque, it follows that the Bank would be bound to pay the same and be discharged by making
payment in due course. Relaying on this principle, many commercial banks not open deposit
accounts in the name of minor operates upon by himself. Ordinarily the balance is confined to a
particulars maximum and the age of the minor ordinarily 12 years or above. When a minor attains
majority the account can be continued. It is however, advisable to take a balance confirmation
letters signed by him immediately on his attaining the majority. In an account operated by the
nature guardian on behalf of a minor the guardian becomes functus officio on the minor attaining
majority who can then alone operate the account.

Lunatics : No Banker would knowing the open an account in the name of a person of unsound
mind because that would easily involve him in the difficulty of choosing between the risk of
unjustifiably dis-honouring the Customer cheques on the one hand and of being held to have
debited his account without adequate authority on the other.

Joint Hindu Family: A Banker dealing with joint Hindu families will find to his cost, that certain
laws and Customers relating to succession and transfer of rights among Hindus, put serious
obstacles in the way of his providing financial accommodation on the security of what is
ordinarily considered to be normal and reliable Bank securities. (For eg.) In a joint Hindu family
governed by Mitakshara Law, all the member acquire a right in the ancestral property by birth and
the accrual of that right dates from conception, so that there is always the danger of having a
transaction impugned by even a person who at the date of the transaction was not born. In order to
change a joint family estate, it is necessary that all the members of the family should join the
execution of the deed or should give their consent or that the deed should be made by the head of
the family in his capacity as Karta or Manager. The powers of the Karta are however, limited and
a change created by him is binding on the family property only if the loan for which the change is
created, is taken for a purpose necessary or beneficial to the family or is in discharge of a lawful
antecedent debt due from the family. In the event of a suit being filed by a Banker, who has
granted loan on the security of the joint family estate, the burden of the joint family estate, the
burden of the proof that, before he granter the loan he had satisfied himself that the loan was
taken for purposes beneficial to the family lies in the Banker.

Illiterate persons Banks are providing loans to the Illiterate persons. However the illiterate
persons cannot even write their names, cannot fill in the paying in slip, cannot sign cheque, cannot
verify the statement of account and thus the Banker are find themselves in trouble. However the
banks are now opening the accounts of illiterate person also with a view to mobilise savings and
to give an insensitive to those illiterate persons to save money. The Bank may open the account
for illiterate person, but the following precautions must be observed.

• The Bank must ask for an introduction from a responsible person so that fraud can be
eliminated. Respectable Customer, Gazetted Officers, an M.L.A., Municipal Councillor,
An Employee of the Bank. Mode of introduction: A passport size photograph of the
illiterate person is identified before the Banker in presence of the account holder and the
left hand thumb impression in case of a male and right hand thumb impression in case of a
female is clearly attested by some responsible person on the account opening form.

• All dealings and operations should be allowed on the account only by the illiterate person.

• The illiterate person should be provided with a Pass Book, which should also contain his
photograph and similar photograph should also be affixed in the account opening form so
that there may be no problem in dealing with such persons.

• Just like the specimen signature in the case of an illiterate person, his thumb impression on
the cheque and on the back of the cheque or withdrawal form should be duly compared
with the specimen impression as kept by the Bank. Executors and Trustees An Executor is
a person to whom the execution of a will is entrusted by the Testator. A Trustee is a
person in whose case the control of an estate generally by a deceased person under a will
or trust deed is placed. As a rule a Banker will avoid opening accounts of executors and
trustees, but can have no objection to do so, if the accounts are to be in their personal
 capacities. Otherwise, he should thoroughly acquaint himself with documents appointing
the executors or trustees and should leave no dealing with the estate until the official
probate or letters of administration has been inspected by him. In practice however, a
Banker sometimes grants banking facilities to person known to be representative of the
deceased pending the issue of the official documents.

Married Woman

• Competent to enter into a contract

In case of a debt taken by her husband shall not be liable except in certain cases-
o if the loan is taken with the consent or authority of the husband
• if the debt is taken for the supply of necessaries of life to the wife & in case the
husband defaults in supplying the same to her.

• Husband will not be liable for the debts taken by his wife in any other circumstance.
• Creditor may recover his debt out of the personal assets of the married woman,
• therefore the banker before granting a loan to her should examine her own assets &
ensure that the same are sufficient to cover the amount of the loan.

Kids Banking Account

• Kids banking account- Covers Newly born kids up to the age of 14.

• Parents, natural guardians can with their KYC open saving account in the name of kids.

• Savings account, monthly deposit scheme, recurring deposit can be opened with the
name & photo of the minor as well as natural guardian.

• SBI allows openin & operating of bank accounts to children of 10-12 age to encourage
savings with some conditions- in self accounts balance shall not exceed 2 lakhs, in case of
fixed account with guardian maximum amount will be 20 lakhs for 10 years.

Drunkard

• According to Indian Contract Act provisions.

• Voidable option for him.

• But if the instrument has passed into the hands of a holder, who takes it in good faith &
value, it will be valid against the drunkard.
Partnership Firm
• Banker should carefully examine the partnership deed. The maximum number of partners
in a firm should not exceed the statutory limit, or if so it should be registered under the Co
Act else it will be illegal & contracts would not be valid.
• A firm’s account should always be opened in the name of the firm & not in the name
of individual partners. The banker should confirm the right of the applicant to open an
account in the name of the firm from the partnership deed or from any other available
document.
• Alliance Bank v. Kearsley- the mere existence of a trade partnership is no warranty that
a partner has authority to bind the firm by opening a bank account on its behalf, in his
own name.
• The authority given in favor of a particular partner to operate the firm’s account may be
withdrawn by any of them by giving a notice to the banker. In such cases the banker
should pay the cheques which are signed by all the partners. A partner can also stop
payment of a cheque issued by any other partner on the firm’s account.
• Banker should honor cheques signed by all partners or by those partners who are
authorized to operate the account.
• If a cheque payable to the firm is endorsed by a partner in his own favor & is
deposited by him to be credited to his personal account, the banker should make an
enquiry about it from other partners.
• Surjit Singh & Ors v. Ram Ratan Sharma- H.C observed that from the very definition
of partnership itself it follows that there is an implied mutual agency to each of the
partners of a registered partnership firm. When an amount was borrowed by a partner on
behalf of the firm, that act of him was binding on the firm as well as the members of the
firm.
• While one of the partners can bind the firm for the debts incurred by him on behalf of the
firm, it is not necessary that documents for the debt are signed by all the partners.
Signature of one partner also will be sufficient. However, as a precautionary measure
banks can take signatures of all the partners on loan agreements.
• The joint and several liabilities of partners continue until all debts of the firm are
discharged or the constitution of the firm changes due to death, retirement or insolvency
of a partner & the banker is informed of it.
Company

• Along with the application to open an account in the Co’s name a certified copy of the
resolution passed by the BOD of the Co should also be given-The resolution must contain
the following particulars-appointing the bank as the banker of the Co, naming the persons
who are authorized to operate the bank account on behalf of the Co.
• Borrowing power of the Co-should be authorized by the MOA or AOA.
• Specimen signature of persons authorized to operate
• Before a Company can be bound by a cheque or a negotiable instrument one of the
essential condition is that the instrument on its face must show that it has been drawn,
made, accepted or endorsed by the Co; this can be done by showing the name of the Co
itself on the instrument or by the statement of the person making the instrument that he is
doing so on behalf of the Co. If not complied, it would not bind the Co & cannot be
enforced against it- Oriol Industries Ltd v. Bombay Mercantile Bank Ltd.
• If Directors borrow money without authorization from the Co’, Co will be liable if the
money has been used for the benefit of the Co- Kumar Krishna Rohtagi v. State Bank
of India.

OPENING AND HANDLING OF ACCOUNTS

Standard of Care to be Taken by Banker in Opening An Account

• Before opening a new account, a banker should take certain precautions and must
ascertain by inquiring from the person wishing to open the account, if such person is
unknown to the banker, as to his profession or trade as well as the nature of the account
he proposes to open. By making necessary inquiries from the reference furnished by the
new customer, the banker can easily verify such information and judge whether or not the
person wishing to open an account is a desirable customer. It is necessary for a bank to
inquire, from responsible parties, given as references by the customer, as to the latter's
integrity and respectability, an omission of which may result in serious consequences not
only for the banker concerned, but also for other bankers and the general public. (ML
Tannan)
• “Before opening an account for a customer who is not already known to him, a banker
should make proper preliminary inquiries. In particular, he should obtain references from
responsible persons with regard to the identity, integrity and reliability of the proposed
customer. If a banker does not act prudently and in accordance with current banking
 practice when obtaining reference concerning a proposed customer, he may later have
cause for regret”.

Indian Overseas Bank v Industrial Chain Concern

1. If the Banker was negligent in following up the references given at opening of account and
subsequently cheques etc. are collected for the customer paid into that account and those
happened to be someone else the Bank may be liable for conversion, unless protected by law.
2. Fictitious bank account opened in appellant's bank in name of respondent's firm due to which
respondent suffered loss.
3. Whether appellant was negligent?
4. Test is whether bank followed Rules or instruction or not.
5. Court found there was no violation of Rules - no evidence of any notice so as to arise suspicion
on part of bank while accepting cheque. Bank not negligent in opening account or accepting
cheque.

Section 82 of Bills of Exchange Act-Protection to collecting banker

Where a banker, in good faith and without negligence, receives payment for a customer of a
cheque crossed generally, or specially to himself, and the customer has no title or a defective title
thereto, the banker shall not incur any liability to the true owner of the cheque by reason only of
having received such payment. A banker receives payment of a crossed cheque for a customer
within the meaning of this section notwithstanding that he credits his customer’s account with the
amount of the cheque before receiving payment thereof.

In Ladbroke & Co. v. Todd (1914) 30 TLR 433, the plaintiff drew a cheque and sent it to the
payee by post. The letter was stolen and the thief took it to the defendant, a banker, and used it for
the purpose of opening an account for the purpose which he forged the payee's endorsement. The
defendant accepted believing him to be the payee. He was not introduced to the Bank and no
references were obtained. The defendant opened the account and the cheque was specially cleared
at the request of the thief, and he drew out the proceeds on the next day. On the discovery of the
fraud the plaintiff brought an action against the defendant for conversion. It was held that the
banker had acted in good faith, but was guilty of negligence in not taking reasonable precautions
to safeguard the interest of the true owner of the cheque and that therefore he had put himself
outside the protection of Section 82 of the Bills of Exchange Act, 1882. Baithache,J. also said that
the banker would have been entitled to the protection of the section as having received payment
for a customer, but had lost it owing to his want of due care. It was also held that the relation of
banker and customer began as soon as the first cheque was handed in to the baker for collection,
and not when it was paid.

In Turner v. London and Provincial Bank, evidence was admitted as proof of negligence, that
the customer had given a reference on opening the account and that this was not followed up.

Non-liability of banker receiving payment of cheque. - A banker who has in good faith and
without negligence received payment for a customer of a cheque crossed generally or specially to
himself Will not, in case the title to the cheque proves defective, incur any liability to the true
owner of the cheque by reason only of having received such payment.
Explanation - A banker receives payment of a crossed cheque for a customer within the meaning
of this section notwithstanding that he credits his customer's account with the amount of the
cheque before receiving payment thereof.

In Lloyds Bank Ltd. v. E.B. Savory and Company (1983) AC 201, the bank was held to be
negligent (depriving it of the protection of Section 82) not to ask a customer though respectively
introduced the name of his employer and in the case of a married woman the name of her
husband's employer.[This is a case where a fraud had arisen through an employee stealing
cheques from his employer and placing them into the credit of his account. Had the bank known
his employer, enquiries would have been made.]
Bapulal Premchand v Nath Bank- There was no absolute and unqualified obligation on a bank
to make inquiries about a proposed customer and that modern banking practice required that a
customer should be properly introduced or the bank should act on the reference of someone
whom it could trust. Therefore, perhaps in most cases it would be wiser and more prudent for a
bank not to accept a customer without some reference. [ In that case the manager of the
defendant-bank accepted the reference of the cashier Modi and also in fact made certain inquiries
of Modi as to the position and status of the customer. It was held that it was not obligatory upon
the defendant-bank to make any further inquiries about his customer and in having failed to make
any such further inquiries in his Judgment they were not guilty of negligence. In the instant case
the Manager himself gave the introduction”]
 UNIT 4:

BANKER CUSTOMER RELATIONSHIPS

Definition of Banker

No satisfactory definition- Until the passing of the Companies Amendment Act 1936, the term
was not legally defined in any statute and judicial decisions on its interpretation were not
satisfactory.
Section 277F of 1936 Act
Lot of effort to understand the ambit of definition-hard nut to crack due to the multifarious
functions and services (ex- dealing in stocks and shares, trusteeship, executorship etc) that banks
perform in addition to or in conjunction with what is characterized as banking business.
Section 3 Negotiable Instruments Act- “Banker includes persons, or a corporation or a company
acting as bankers.”
Bankers Book Evidence Act and Indian Stamp Act also failed to define the term properly.
The Banking Regulations Act (B R Act) 1949 does not define the term ‘banker’ but defines what
banking is? As per Sec.5 (b) of the B R Act “Banking' means accepting, for the purpose of
lending or investment, of deposits of money from the public repayable on demand or otherwise
and withdrawable by cheque, draft, order or otherwise."
According to Sec. 2 of the Bill of Exchange Act, 1882, ‘banker includes a body of persons,
whether incorporated or not who carry on the business of banking.’
Sec 5(c) of BR Act defines "banking company" as a company that transacts the business of
banking in India. Since a banker or a banking company undertakes banking related activities,
The meaning of banker or a banking company from Sec 5(b) can be inferred as a body corporate
that:
(a) Accepts deposits from public.
(b) Lends or
(c) Invests the money so collected by way of deposits.
(d) Allows withdrawals of deposits on demand or by any other means.
Dr Hart- “A banker is one who in his ordinary course of business honors cheques drawn upon
him by persons from and for whom he receives money on current accounts.” This definition is
 based on the dicta given in a lot of decisions starting from Foley v Hill. According to this
definition, the essential function was to enable a person, firm or institution to be regarded as a
banker or a banking institution capable of receiving current deposits against which cheques can
be drawn.
Sir John Paget- 4 essential functions a person desiring to be a baker must perform- was laid down
in the Birbeck Building Society Case. No person, body corporate or others can be a banker if he
does not
1. Take deposit accounts
2. Take current accounts
3. Issue and pay cheques
4. Collect cheques crossed ad uncrossed for his customers

Banker-Customer Relationship

• The relationship between a banker and a customer depends on the activities; products or
services provided by bank to its customers or availed by the customer.
• Transactional relationship.
• As the banker-customer relationship is contractual, a bank follows that any person who
is competent to contract can open a deposit account with a branch of his choice or
convenience. For entering into a valid contract, a person needs to fulfil the basic
requirements of being a major and possessing sound mental health.
• The relationship between a bank and its customers can be broadly categorized into
General Relationship and Special Relationship.
• Sec 5(b) of Banking Regulation Act, states that bank’s business hovers around accepting
of deposits for the purposes of lending.
• Thus the relationship arising out of these two main activities are known as General
Relationship.
• In addition to these two activities banks also undertake other activities mentioned in
Sec.6 of Banking Regulation Act. Relationship arising out of the activities mentioned in
Sec.6 of the act is termed as special relationship.
• The general relationship between banker and customer is that of debtors and creditors
according to the state of the customer‘s account i.e. whether the balance in the account
is credit or debit, but there are certain additional obligations to be borne in mind and
these distinguish the relationship form that of the normal debtors and creditors. In
 addition to his primary functions, a banker renders a number of services to his customer.
Bankers also act as an agent or trustee of his customer if the latter entrusts the former
with agency or trust work. In such cases, the banker acts as a debtor, agent and a trustee
simultaneously but in relation to the specified business.

OBLIGATIONS/DUTIES OF A BANKER

The relationship between the banker and customers creates some obligations on the part of a
bank. The fundamental obligations of a banker towards it’s customers are as follows:

1. Obligation of Banker to Honour Cheques

The bank has a statutory obligation to honour the cheques of its customers up to the amount
standing to the credit of the customer’s account. If a bank wrongfully refuses to honour the
cheque of its customer, the bank shall be liable to compensate the customer. This obligation is
subject to some conditions, namely:

• There must be sufficient funds of the customer in the hands of the bank.
• The funds must be properly applicable for the payment of the customer’s cheque.
• The cheque must be properly drawn up i.e., it should be complete in all respects.
• The cheque must be presented for payment within a reasonable time(within 90 days
from the date of issue).
a) There must be no legal bar preventing the payment of such cheques. If the bank has received any
order from a court or any other competent authority prohibiting payment, it is the duty of the bank
to obey such orders.

2. Obligation of banker to Maintain Secrecy

The banker must not disclose to any outsider the details about the customer’s account; as such
disclosures may adversely affect the credit and business of the customer. However, a disclosure
can be made under the following two situations:
(a) When the law requires such disclosures to be made, and
(b) when the practices amongst the banks permit such disclosure.
3. Obligation of Banker to Maintain Proper Records
The banker is under an obligation to maintain accurate record of all the transactions(credits and
debits) of the customers made with the bank.
 4. Obligation of Banker to Follow Customer’s Instructions
The banker is under a legal obligation to follow the instructions of the customer. This is so
because there is the contractual relationship between the bank and the customer.
5. Obligation of Banker to give Notice before Closing the Account
If a banker wishes to close the account of a customer, it must give a reasonable notice to this
effect to the customer. Thus, a bank cannot close the account of a customer on its own wish,
because it may have serious consequences to the customer.

• RIGHTS

The Rights of a Banker

• Bankers Right of a General Lien

• Bankers Right of set-off
• Bankers Right for Appropriation of Payment
• Bankers Right of a General Lien
• Bankers Right to claim Incidental Charges
Lien means a legal claim to hold property as security. Bank retains certain goods, property or any
other assets as security in return of an unpaid debt. The ownership of the security should be with
the person holding the debt.

• A lien does not require any special agreement, written or oral but it arises only by
operation of law subject to the conditions:-

• That the creditor is in possession of goods, security, etc. and has come in possession
thereof in the ordinary course of business.

• That the owner of the goods, securities have a lawful debt to pay to the person in
possession thereof.

• That there is no contract, express or implied to the contrary. Bankers right to set off
Set-off is the legal right which states that a person who owns a debt may deduct it from any debt
which is immediately payable to him by the creditor.

For instance, if A has two accounts in the same bank. He also owns 1 lakh to bank. Now banks
have the right to debit the second account of A. if A deposits any money in his second account.
The bank will combine the accounts of A to set off the amount due.
Bankers right for appropriation of payment

• Rule of appropriation says the money given for specific purposes should be applied only
for that. Banker is obliges to clear only that debt which is specified by the customer. The
question of appropriation arises when debts owed by the creditor is two or more.

• The appropriation of payment is defined under Indian Contract Act under Section 59 to
61 . Appropriation by the Debtor (Section 59)
• The debtor has the right to instruct expressly the debt he wants to set off first. He can
appropriate the payment by either an express intimation or under circumstances
implying that the payment is to be applied to the discharge of some particular debt.

• For instance, if A owned three debts to B of 250rs, 300rs and last one of 500rs which
falls due on 30th December 2019. Here, if A doesn’t mention the type of debt to be set
off and pays the amount of 500 to B. It would be clearly taken, payment is meant to be
appropriation towards the third debt.

• Appropriation by the Creditor (Section 60) The creditor’s right of appropriation will
only be applied if the debtor had the opportunity to exercise such a right of
appropriation but has omitted to do so. Creditor may exercise his right of appropriation
at any time. He needs not to declare his intention in any express term.

Appropriation by law neither by any party (Section 61)

• If neither party has made any appropriation of payment, the payment shall be discharge
each one after another based on the time.

• If the debt carrying interest and the principal amount then the amount paid first be
applied to set off the interest than the surplus amount is paid to set off the principal
amount.(M/s Kharavela Industries Pvt. Ltd v. Orissa State Finance Corporation and Others)

Bankers Right to claim incidental Charges

• Another special feature of the relationship that exists between banks and a customer is
that the banker may claim incidental charges on unremunerated accounts. The incidental
charges mean ledger folio charges, service charge etc.
Bankers right to charge compound interest
As per general law levying of compound interest is strictly prohibited. But, a banker is given the
special privilege of charging compound interest. Usually bankers charge interest on the money
lent at the end of every quarter. But agricultural loans are exempted from compound interest.
SPECIAL RELATION

Statutory Obligation to honour cheques: When a Customer opens an account there arises a
contractual relationship between the Banker and the Customer by virtue of which the Banker
undertakes an obligation to honour his Customer’s cheque. This obligation is a statutory
obligation, since Sec. 31 of The Negotiable Instrument Act compels a Banker to do so.

Plus all the duties for special customers as stated above.

GENERAL RELATIONS

General Relationship is there a depository relationship? : A depository is one who receives some
valuables and returns the same on demand. But at present, a Banker is not bound to return the
same coins and currency notes deposited by a customer. So, he is not a depository. Lord Cotten
ham rightly observed in Foley vs. Hill “the money paid into a Bank ceases altogether to be the
money of the principal; it is then the money of the Banker. He is known to deal with it as his own.
He is bound to return an equivalent by paying a similar sum that deposited with him when he is
asked for it”.

A Banker as a Bailee: A Banker becomes a bailee when he receives gold ornaments and
important documents for safe custody. If in that case he cannot make use of them to his best
advantage because he is bound to return the identical articles on demands.

A Banker as a Trustee: A Banker becomes a trustee only under certain circumstances. For
instance, when money is deposited for a specific purpose, till that purpose is fulfilled the Banker
is regarded as a Trustee for that money, a certain sum of money was deposited with the Bank with
the specific instruction to buy shares (Official Assignee vs. J. W. Irwin). When a cheque is given
for collection, till the proceeds are collected, he holds the cheque as a trustee.

A Banker as an Agent: The agent-principal relationship is said to exist between a Banker and his
Customer, when the Banker buys and sells shares, collects cheques, bills, dividends, warrants,
coupons and pays insurance premium subscriptions etc., on behalf of his Customer. The Banker is
acting as an agent of his Customer under such circumstances. So also when he executes the will
of the Customer, he is acting as an executor; when he administers the estate of a Customer he is
regarded as an administrator.

Debtor-Creditor relationship: According to Sir John Paget, the relation of a Banker and a
Customer is primarily that of a debtor and a creditor, the respective position being determined by
the existing state of the account. Instead of, the money being set apart in a safe room it is replaced
by a debt, due from the Banker. The money deposited by a Customer with the Banker becomes
the later’s property and is absolutely at his disposal. So Banker act as a debtor and the Customer
act as a creditor.

Banker as a Privileged Debtor:

Such deposit creates a relationship of debtor-creditor, the banker being the debtor is bound to
repay the deposit as and when the customer asks for it. The customer has no right to claim the
same coin or notes deposited by him as in the case of simple depository. The banker can repay in
any kind of bank-notes (legal tender) as the deposit does not constitute a bailment.

• The terms of the contract would necessarily mean that the bank is not liable to pay the
customer the full amount of his balance until he demands payment from the bank at the
branch at which his account is kept.

• A demand from the customer is necessary in case of a debt from banker - Joachimson
v. Swiss Bank Corporation.

• The relationship differs from relationship arising out of commercial transactions. A

request from the creditor is not necessary in other debts. But it is necessary in case of a
debt of the banker. That is why it is called as a favored or privileged debt.

The privileges enjoyed by a Banker have been listed below:

1. The creditor, i.e., the Customer must come to the Banker and make an express demand in
writing for repayment of the money.

2. In cases of ordinary commercial debt the debtor can pay the money to the creditor at any
place. But in the case of banking debt, the demand by the creditor must be made only at
the particular branch where the account is kept.
3. Time is not an essential element in the case of an ordinary commercial debt where as the
demand for repayment of banking debt should be made only during the specified banking
hours of business which are statutorily laid down.
 4. The Banker is able to get the deposit money without giving any security to the Customer
while it is not possible in the case of ordinary commercial debtor. Thus the Customer in
acting only as an unsecured creditor.

5. The law of limitation which is applicable to all debts lies down that a debt will become a
bad one after the expiry of three years from the date of t h e loan. But the law is not
applicable to a banking debt.

6. A Banker as a debtor has the right to combine the accounts of a Customer provided he has
two or more accounts in his name and in the same capacity (The right to set¬off).

7. An ordinary debtor can close the account of his creditor at any time. But a Banker cannot
close the account of his creditor at any time without getting his prior approval.

A Banker as a Creditor: In case of loan, cash credit and overdraft, the Banker becomes a creditor
and the Customer assumes the role of a debtor. Here again, the Banker is privileged person
because he is acting as a secured creditor. He insists upon the submission of adequate securities
by the Customer to avail of the loan or cash credit facilities. Moreover, the law of limitation will
operate in such cases from the date of the loan unless it is renewed.
Difference between Commercial Debt & Banker’s Debt

Commercial Debt

• No Demand of payment required

• Payment on a specified date
• Place of payment –flexibility
• Payment during hours of business-not an essential element
• Security- most of the cases
• Limitation period- subject to this.
• Right to combine accounts-not applicable
• Part payment-may or may not be applicable

Banker’s Debt

• Demand of payment should be made by the creditor.

• Only when a demand is made
• Place of payment –not flexible -at the branch where the account is held (ordinary cases)
 • Payment during hours of business-essential element.
• Security- not made for deposits.
• Limitation period-not applicable to bank deposits.
• Right to combine accounts- banker can claim such right.
• Part payment –generally always part payment is done, until the account is closed.

Conditions for payment of Deposit amount

• The creditor must demand payment-According to statutory definition of banking the
deposits are repayable on demand. The depositor makes the deposit for his convenience
apart from his motive to earn an income. Demand by the creditor is therefore essential for
the refund of the deposit money.
• Proper place & time of demand-Demand must be made at the proper place & in proper
time. A commercial bank with many branches may be one entity but the depositor enters
into a relationship with only that branch where an account is opened in his name. His
demand also must be made at the same branch else the banker is not bound to honor it.
• Demand must be made in proper manner-refund of money deposited must be made
through a cheque or an order as per the common usage amongst bankers. It should not be
made verbally through a telephonic message or in any such improper manner

UNIT 5:

PARTICIPATION CERTIFICATE

A Participation Certificate (PC) (also known as a Certificate of Participation) is a financial

instrument, a form of financing, used by municipal or government entities which allows an
individual to buy a share of the lease revenue of an agreement made by these entities. It is
different from a bond issued by these agencies since participation certificates are secured by lease
revenues. Municipal and government entities use this instrument to circumvent restrictions that
might exist on the amount of debt in other forms they able to take on.

Participation certificates are also a new form of credit instrument whereby banks can raise funds
from other banks and other central bank approved financial institutions to ease liquidity. In this
case banks have the option to share their credit asset(s) with other banks by issuing participation
certificates. With this participation approach, banks and financial institutions come together either
on risk sharing or non-risk sharing basis. While providing short term funds, participation
certificates can also be used to reduce risk. The rate at which these certificates can be issued will
be negotiable depending on the interest rate scenario.

DISCOUNTING AND REDISCOUNTING OF BILLS

Bill discounting and re-discounting: A simple explanation

Discounting: Commercial Banks usually purchase commercial papers below the face value and
then receive its face value on maturity date (say 90 days). The discount, (or) the difference
between the purchase price and the face value of the bill, is the interest received on the
investment.

For example, if a Commercial Bank purchase a commercial paper at Rs.900 and then receive
Rs.1000 on the date of maturity (say 90 days). The discount, (or) difference between the
purchase price and the face value of the bill is Rs.100, is the interest received on the
investment.

Features and conditions of discounting of bills:

1. Needs to be accepted and must hold at least two good signatures.

2. Usually only trade bills are discounted

3. Usance bill- for a fixed period after sight, the bill itself needs to be produced for proof
of maturity.

4. Bills financed by the receiving branch are considered to be receivable by both, the
remitting and the receiving branches.

Types of Bills:

1. Demand Bill- payable at sight or presentment to the drawee. Even a bill wherein no time of
payment is mentioned is also called a demand bill.

2. Usance Bill- also called a time bill- refers to the time period recognised by custom or usage for
the payment of the bills.

3. Documentary Bills- they are meant to be accompanied by certain documents the confirm that
a trade has been undertaken between the buyer and the seller of the goods. Further classified into:

a. Documents against acceptance- documents accompanying the Bill is deliverable against

acceptance by the drawee. This means the documentary bill becomes a clean bill after delivery of
documents.
b. Documents against payment bills- in the condition that a bill has been accepted by the
drawee the documents of title will be held by the bank till the maturity of the Bill of Exchange.

4. Clean Bills- not accompanied by any documents that show that a trade has taken place between
the buyer and the seller. Interest rate is higher than rate charged on documentary bills.

Rediscount:

Re-discount is discounting a short-term negotiable debt instrument for a second time. The
Central Bank provides loans to the commercial banks by re- discounting (buying back) the
commercial papers held by them before their termination (say 90 days).The rate at which the RBI
discounts the CPs is known as Bank rate or discount rate.

For example, if a Commercial Bank purchase a commercial paper at Rs.900 and then receive
Rs.1000 on the date of maturity (say 90 days). The Discount, (or) difference between the
purchase price and the face value of the CP is Rs.100, is the interest received on the
investment by the bank. If the same commercial bank is in urgent need of money after 30 days,
the Central-Bank provides loan by re-discounting (buying back) same commercial paper held by
the bank for Rs.950 for a period of next 30 days, but, before date of maturity of the CP (say 90
days). Here, the Re-discount, (or) the difference between purchase price (Rs.950) and face value
of the CP (Rs.1000) is Rs.50, is the interest received on the investment by the Central Bank.

UNIT 6

BANKING- NEGOTIABLE INSTRUMENTS ACT

Negotiable instrument means a promissory note, bill of exchange or cheque payable either to
order or to bearer, whether the word “order” or “bearer” appear on the instrument or not.”

In the words of Justice, Willis, “A negotiable instrument is one, the property in which is acquired
by anyone who takes it bonafide and for value notwithstanding any defects of the title in the
person from whom he took it”.

Thus, the term, negotiable instrument means a written document which creates a right in favor of
some person and which is freely transferable. Although the Act mentions only these three
instruments (such as a promissory note, a bill of exchange and cheque), it does not exclude the
possibility of adding any other instrument which satisfies the following two conditions of
 negotiability:

• the instrument should be freely transferable (by delivery or by endorsement. and delivery)
by the custom of the trade; and

• the person who obtains it in good faith and for value should get it free from all defects,
and be entitled to recover the money of the instrument in his own name.

As such, documents like share warrants payable to bearer, debentures payable to bearer and
dividend warrants are negotiable instruments. But the money orders and postal orders, deposit
receipts, share certificates, bill of lading, dock warrant, etc. are not negotiable instruments.
Although they are transferable by delivery and endorsements, yet they are not able to give better
title to the bonafide transferee for value than what the transferor has.

The proverb of English Law is "Nemo quod non habet", i.e., no person can give to another that of
which he was not the true owner. Thus, if a thief transfers to me for value a thing stolen by him,
the true owner can claim it from me even though I paid value for it, and had no notice of the theft.
There are certain exceptions to this general rule, of which a negotiable instrument is one. But
what is the meaning of a Negotiable Instrument? "A negotiable instrument is one, the property in
which is acquired by one who takes it bona fide and for value, notwithstanding any defects of title
in the person from whom he took it; from which it follows, that any instrument cannot be
negotiable unless it is such and in such a state that the true owner can transfer the contract or
engagement contained therein by simple delivery of the instrument". The latter part of this
definition is very important. It means that the instrument must be complete the time of the
transfer.

The main features of a negotiable instrument are

1. Easily transferable from person to person

2. Negotiability-Confers absolute and good title on the transferee
3. Holder in due course possess right to sue upon the instrument in his own name.

CHARACTERISTICS OF A NEGOTIABLE INSTRUMENT

A negotiable instrument has the following characteristics:

1. Property: The possessor of the negotiable instrument is presumed to be the owner of the
property contained therein. A negotiable instrument does not merely give possession of the
 instrument but right to property also. The property in a negotiable instrument can be transferred
without any formality. In the case of bearer instrument, the property passes by mere delivery to
the transferee. In the case of an order instrument, endorsement and delivery are required for the
transfer of property.

2. Title: The transferee of a negotiable instrument is known as ‘holder in due course.’ A bona
fide transferee for value is not affected by any defect of title on the part of the transferor or of any
of the previous holders of the instrument.

3. Rights: The transferee of the negotiable instrument can sue in his own name, in case of
dishonor. A negotiable instrument can be transferred any number of times till it is at maturity. The
holder of the instrument need not give notice of transfer to the party liable on the instrument to
pay.

4. Presumptions: Certain presumptions apply to all negotiable instruments e.g., a

presumption that consideration has been paid under it. It is not necessary to write in a promissory
note the words ‘for value received’ or similar expressions because the payment of consideration is
presumed. The words are usually included to create additional evidence of consideration.

5. Prompt payment: A negotiable instrument enables the holder to expect prompt payment
because a dishonor means the ruin of the credit of all persons who are parties to the instrument.

PROMISSORY NOTE

A promissory note is a legal instrument (more particularly, a financial instrument), in which one
party (the maker or issuer) promises in writing to pay a determinate sum of money to the other
(the payee), either at a fixed or determinable future time or on demand of the payee, under
specific terms. If the promissory note is unconditional and readily salable, it is called a negotiable
instrument.

Section 4 of the Negotiable Instruments Act, 1881, together with illustration (b) may be quoted
“A ‘promissory note’ is an instrument in writing containing an unconditional undertaking, signed
by the maker, to pay a certain sum of money, only to, or to the order of, a certain person, or to the
bearer of the instrument.”

S.4 recognizes three kinds of promissory notes:

1. A promise to pay a certain sum of money to a certain person,
 2. A promise to pay a certain sum of money to the order of a certain person, and
3. A promise to pay the bearer:

Characteristics

(i) that the promise to pay must be unconditional,

(ii) that the note must be in writing and signed by the maker,
(iii) that the promise to pay must be of a certain sum of money, and
(iv) that the promise to pay must be to, or to the order of, a certain person or to the bearer of the
instrument.

1) Promise to pay

In Mange Lal Vs. Lal Chand Rajasthan High Court has held that a document which was in the
form of a letter acknowledging receipt of certain sums and affixed with 20 paise revenue stamp
was held to be a receipt and not a promissory note.

In the case of Muthu Sastrigal Vs. Visvanatha,it has been held that a document containing the
following words “Amount of cash borrowed of you by me is Rs.350. I shall in two weeks time
returning this sum with interest, get back this letter.” Has been held to be a promissory note
because there is an unconditional undertaking to repay the borrowed money.

The promise to pay the money must be unconditional, or subject only to a condition which
according to the ordinary experience of mankind is bound to happen.

2) Note must be in writing and signed by the maker

Signature may be on any part of the document. Where the instrument is in the handwriting of a
person and it is addressed by him to another, that is sufficient evidence of his signature.

The Allahabad High Court in the case of Raj Bahadur Singh Vs. Hari Mehra has held that if a
document satisfies all the requirements of a valid promissory note, it would not make any
difference to its character as a negotiable instrument that it was an attested document. The
court held: Though attestation of a promissory note is neither required nor prohibited by law, a
document which is otherwise a promissory note does not cease to be so merely because it is
attested in as much as the document was unilateral and not bilateral, which is a necessity for an
agreement.
 3) Promise to pay must be of a certain sum of money

The instrument must be payable only in money. If the instrument contains a promise to pay
something other than money or something in addition to money, it will not be a promissory note.
The sum of money payable must also be certain.

4) Certainties of parties

The parties to the instrument must be designated with reasonable certainty. There are two parties
to a promissory note, ie the person who makes the note is called the maker and the payee is the
one to whom the promise is made. Both the maker and the payee must be indicated with certainty
on the face of the instrument.

Tests to determine whether a document is a promissory note

1. Is the sum to be paid a sum of money and is that sum certain?

2. Is the payment to be made to or to order of a person who is certain or to the bearer of the
instrument?
3. Has the maker signed the document?
4. Is the promise to pay made in the instrument the substance of the instrument?
5. Did the parties intend the document to be a promissory note?

Endorsement

The act of a person who is a holder of a negotiable instrument in signing his or her name on the
back of that instrument, thereby transferring title or ownership is an endorsement.

An endorsement may be in favor of another individual or legal entity. An endorsement provides a

transfer of the property to that other individual or legal entity. The person to whom the instrument
is endorsed is called the endorsee. The person making the endorsement is the endorser.

Endorsement of cheques
When the maker or holder of a negotiable instrument signs the same otherwise than as such
maker, for the purpose of negotiation on the back or face thereof or on a slip of paper annexed
thereto he is said to endorse the same is called the endorser.

Endorsement is derived from the latin term ‘in dorsum’, meaning ‘upon the back’ which
indicates that the usual place for an endorsement is the back of the instrument.
Endorsements are of various kinds.

• Endorsement in blank: The mere signature of the endorser on the back of an instrument
without mentioning the name of any specified person in whose favour the endorsement is
made, is said to be an endorsement in blank.

• Endorsement in full: If however, the endorser add a special direction to pay the amount
specified in the instrument to, or to the order of, a certain person, then the endorsement is
said to be in full.

• Conditional endorsement: Endorser may make his liability depend upon the happening
of a contingent event or make the right of the endorsee to receive the payment in respect
of the instrument depending upon the happening of an event

• Restrictive endorsement: It is the endorsement by which the endorsee’s right of

negotiating the instrument endorsed is restricted or excluded by express words.

Endorsement-Effects

• Crossed cheques are not payable over the counter, amount is credited to the bank
• account of the payee.
• Crossed cheque (which is not crossed as A/c payee only) can be endorsed further by
• the payee in favor of another beneficiary by writing ‘pay to…..’ on the reverse of the
cheque & signing. The cheque can be endorsed any number of times.
• Law permits proceeds of such cheques to be credited to the account of the endorsee.
• An account payee crossed cheque or not negotiable crossed cheque cannot be endorsed.

BILL OF EXCHANGE
Section 5 of the Negotiable Instruments Act- A bill of exchange is an instrument in writing
containing an unconditional order, signed by the maker directing a certain person to pay a certain
sum of money only to, or to the order of a certain person or to the bearer of the instrument.

Parties to a BOE- drawer, drawee & payee.

Drawer- who draws bill of exchange & orders his debtor to pay a certain sum of money.
Drawee- the acceptor who is directed to pay under the instrument. Payee-The person who is to be
paid.
S 3 of Bill of Exchange Act (English) 1882 defines: An unconditional order in writing, addressed
by one person to another, signed by the person giving it requiring the person to whom it is
addressed to pay on demand or at a fixed or determinable
future time a sum certain in money to or to the order of a specified person or to bearer.

Essentials
• In writing
• An order to pay (if it consists an order to pay in spite of being polite or courteous
language it will constitute a bill of exchange)
• Unconditional order (an order to pay Rs.50,000 out of the proceeds of sale of a house,
will be a conditional order, hence it’s not a BOE)
• Money only
• Parties must be certain (all 3 parties must be certain-but the drawer & payee can be
same)
• Drawee must be certain
• Payee must be certain
• bill must be signed & stamped

5 certainties of a BOE
-Drawer, Drawee, Payee, Order & Sum must be certain

Difference between PN & Bill of exchange

PROMISSORY NOTE
• 2 parties-maker & payee.
• Liability of the maker is primary.
• It contains an unconditional promise to pay
• Acceptance- does not require acceptance, from the date of issue it creates privity of
contract between parties.
• Dishonor-Pro-note is dishonored by non payment
• Relationship-Debtor-Creditor relation between maker & payee
Bill of exchange
• 3 parties-drawer, drawee & payee.
• Liability of drawer is secondary & drawee’s liability is primary.
• It contains an unconditional order for payment
• Acceptance of drawee is important without it no privity of contract between the
• parties.
 • Dishonor can be by non-acceptance & non-payment.
• Debtor-Creditor relation between drawee & drawer.

CHEQUES

Section 6 of the Negotiable Instruments Act- “A cheque is a bill of exchange drawn on a specified
banker and is not expressed to be payable otherwise than on demand.“

Cheque must satisfy the following conditions:

• It must be an unconditional order

• It must be signed by the drawer (The person giving it) It must be drawn on a banker
(Drawee)
• It must pay a certain sum of money on demand
• It must be drawn in favour of certain person(payee) or to his order or in favour of his
bearer.
• Cheque has the following characteristics- it is a bill of exchange, it is always upon a
banker and it is always payable on demand.

Parties to a cheque
1. Drawer-Person in whose favour a cheque has been issued
2. Drawee-The bank on which the cheque is drawn on by the drawer
3. Payee-Person to whole the payment is to be made by the bank.

Difference between Cheque & BOE

Cheque
• Drawee is always the banker
• Always payable on demand
• Acceptance-acceptance of drawee bank not required
• Always drawn on funds of the drawer
• Crossing can be done
• No stamping required
• Cheque can be countermanded(payment can be forbidden)
• Printed form, truncated cheques, digital signature
 • Validity period-3 months
• Post dated cheques ,stale cheques can be revalidated

BOE
• Drawee can be any one including banker.
• Payable on demand and otherwise, i.e, after a fixed period
• Requires acceptance of the drawee
• No funds of the drawer in the hands of the drawee
• No crossing
• Stamping required
• Bill cannot be countermanded
• No such provisions
• No provision
• Not so.
Types of Cheque
• Bearer Cheque
The bearer cheque is a type of cheque in which the bearer is authorised to get the cheque
encashed. This means the person who carries the cheque to the bank has the authority to ask the
bank for encashment.
This type of cheque can be used for cash withdrawal. This kind of cheque is endorsable. No kind
of identification is required for the bearer of the cheque.
For example: A cheque has been signed by Arjun (drawer) and the payee for the cheque is
Varun. Varun can either go himself to the bank or can send a third person to get encashment for
the cheque. No identification shall be required for the bearer’s name.

• Order Cheque
This type of cheque cannot be endorsed, i.e., only the payee, whose name has been mentioned in
the cheque is liable to get cash for that amount. The drawer needs to strike the “OR BEARER”
mark as mentioned on the cheque so that the cheque can only be encashed to the payee.
For Example: If a cheque has been signed with the name of Varun, then only the payee can visit
the bank to get an encashment for the same for a order cheque.
• Crossed Cheque
In this type of cheque, no cash withdrawal can be done. The amount can only be transferred from
the drawer’s account to the payee’s account. Any third party can visit the bank to submit the
cheque.

In case of a crossed cheque, the drawer must draw two lines at the left top corner of the cheque.
• Account Payee Cheque
This is the same as the account payee cheque but no third party involvement is required. The
amount shall be transferred directly to the payee’s account number.
To ensure that it is an account payee cheque, two lines are made on the left top corner of the
cheque, labelling it for “A/C PAYEE”.
• Stale Cheque
In India, any cheque is valid only until 3 months from the date of issue. So if a payee moves to the
bank to get withdrawal for a cheque which was signed 3 months ago, the cheque shall be declared
a stale cheque.
For example: If a cheque is dated January 1, 2020 and the payee visits the bank for withdrawal
on May 1, 2020, his/her request shall be denied and the cheque is declared stale.
• Post Dated Cheque
If a drawer wants the payee to apply for withdrawal or transfer of money after the present date,
then he/she can fill a post dated cheque.
For example: If the date on which the drawer is filling the cheque is May 10, 2020, but he wants
the payment to be done later, he/she can fill the cheque dates as May 30, 2020. It shall be called a
post-dated cheque.
• Ante Dated Cheque
If the drawer mentions a date prior to the current date on the cheque, it is called ante dated
cheque.
For example: If the current date is January 30, 2020, and the drawer dates the cheque as January
1, 2020. It shall be considered as an ante-dated cheque.
• Self Cheque
If the drawer wishes cash for himself he can issue a cheque where in place of the Payee’s name he
can write “SELF” and get encashment from the branch where he owns an account.
For example: If a person wants Rs.1,00,000/- in cash, he can issue a self cheque and visit his
bank branch where he owns an account and get encashment in place of a cheque.
• Traveller’s Cheque
As the name suggests, the Traveler’s cheque can be used when a person is travelling abroad
 where the Indian currency is not used.
If a person is travelling abroad, he can carry the traveller’s cheque and get encashment for the
same in abroad countries.
• Mutilated Cheque
If a cheque reaches the bank in a torn condition, it is called a mutilated cheque. If the cheque is
torn into two or more pieces and the relevant information is torn, the bank shall reject the cheque
and declare it invalid, until the drawer confirms its validation.
If the cheque is torn from the corners and all the important data on the cheque is intact, then the
bank may process the cheque further.
• Blank Cheque
When a cheque only has a drawer’s signature and all the other fields are left empty, then such a
type of a cheque is called a blank cheque.
The above-mentioned types of cheques are the most commonly known and used in the Indian
banking industry. Let us now know the parties associated with a cheque.

Payment in Due Course

Section 10- “Payment in due course” means payment in accordance with the apparent tenor of
the instrument in good faith and without negligence to any person in possession thereof under
circumstances which do not afford a reasonable ground for believing that he is not entitled to
receive payment of the amount therein mentioned.

HOLDER
Section 8 of the Act provides that the holder of a negotiable instruments any person who is for the
time being entitled in his own name and right to the possession of the instrument and to receive
and recover the amount due on the instrument.
A person can become the holder of a negotiable instrument only if the following conditions were
satisfied:
(i) He must be entitled to the possession of the instrument in his own name and under a legal title.
(ii) He must be entitled to receive or recover the amount from the parties concerned in his own name.
In the case of an order instrument, the name of the holder appears on the document as payee may
claim the money without having his name mentioned on the cheque.
According to the section 8, the holder is competent to receive payment or recover the amount by
filling a suit in own name against other parties, to negotiate the instrument and to give a valid
discharge. If a bill, promissory note or cheque is lost or destroyed, its holder is the person so
 entitled at the time of such loss of destruction. Every instrument initially belongs to the payee and
he is entitled to its possession.

Kinds of Holders
(i) A de jure holder is a holder of a negotiable instrument as a matter of legal right.
(ii) A de facto holder who is holder of a negotiable instrument merely by virtue of possession but not
entitled in his own right or name.

Rights and Powers of Holders

The following are the more important rights and powers of the holder of a cheque:
a) Special Endorsement: The holder of a cheque endorsed in blank may convert the blank
endorsement into a special endorsement by writing above the endorser’s signature a direction to
pay the cheque to or the order of himself or some other person.

b) Crossings: Where a cheque is uncrossed, the holder may cross it generally or specially; where it is
crossed generally, the holder may cross it specially; and where it is crossed generally or specially,
the holder may add the words ‘Not Negotiable’.

c) Duplicate of Cheque: Where a cheque has been lost before it is overdue, the person who was the
holder of it has the right to apply to the drawer to give him another cheque of the same tenor; if
required to do so , he must give security to the drawer, to indemnify him against all persons
whatever in case the cheque alleged to have been lost shall be found again. If on request, the
drawer refuses to give a duplicate cheque, he may be compelled to do so. The holder has,
however, no right to apply to an endorser to make a fresh endorsement on the duplicate cheque.

d) Negotiation: Generally, the holder of a cheque may negotiate it to another person. There are
exceptions: Thus a cheque which contains words prohibiting transfer, or indicating an intention
that it should not be transferable, is incapable of negotiation; again, a cheque may be restrictively
endorsed so as to prohibit its further negotiation. Usually, however, a holder has right to negotiate
a cheque to another person. Furthermore, a holder sometimes has a power to negotiate a cheque
even though he has no title or a defective title to it.

e) Presentation: If the holder of a cheque does not negotiate it to another person, he may present it
for payment to the bank which it is drawn. If the cheque is in an open one, he may present it
personally to the drawee bank and request payment in cash; but if the cheque is crossed, he cannot
require the drawee bank to make payment in cash, and he should, therefore, present it for payment
 through a bank.

f) Notice of Dishonour: If the holder of a cheque is present it for payment and it is not paid, he may
give notice of dishonour forthwith to prior parties in order to retain their liability to him. Prior
parties compromise the drawer and the endorsers.

g) Right of Action: It is one of the characteristics of a negotiable instrument that the holder may sue
on it in his own name. He may bring his action against anyone or more of the prior parties.
Whether his action on the cheque will succeed will very often depend upon whether he is mere
holder or a ‘holder in due course’.

Holder in Due Course

According to section 9, “Holder in due course means any person who for consideration become
the possessor of a promissory note, bill of exchange or cheque if payable to bearer, or the payee
or endorsee thereof, if payable to order before the amount mentioned in it became payable and
without having sufficient cause to believe that any defect existed in the title of the person from
whom he derived his title.

According to Section 9 here are 4 elements all of which must concur to make a holder in due
course-
1. The holder must have taken the instrument for value.
2. He must have obtained the instrument before its maturity.
3. The instrument must be complete and regular on its ace.
4. He must have taken the instrument in good faith and without notice of any defect either in the
instrument or in the title of the person negotiating it to him.

It is thus obvious that every holder is not a holder in due course. A holder of a negotiable
instrument will not be a holder in due course, if:-
a) he has obtained the instrument by gift; or
b) he has obtained the instrument for unlawful consideration; or
c) he has obtained the instrument after its maturity; or
d) he has obtained the instrument by some illegal method; or
e) he has obtained the instrument in good faith.
In Braja Kishore Dixit v. Purna Chandra Panda, the court held that three conditions are
necessary to be holder in due course. Firstly, he must be a holder for consideration, second, the
instrument must have been transferred to him before it becomes overdue, and third, he must be a
transferee in good faith and that he should not have any reason to believe that there was any
defect in the title of the transferor.

Privileges of a Holder in Due Course

• Possess better title- free from all defects if acquired in good faith & for consideration
• Liability of prior parties to holder in due course
• Rights in case of incomplete instruments, fictitious bills, obtained by unlawful means or
for unlawful consideration.
• Estoppel against denying capacity of payee to endorsee
• Prosecution in case of dishonor.

Truncated cheque

Cheques are being used as a medium for exchange of funds, which play a key role in the funds
management of customers and banks. The efficient cheque clearing system helps in settlement of
receipts and payments. Cheque Truncation is a new system introduced in Indian Banking
Scenario. It is a system of cheque clearance and settlement between banks based on electronic
data and/or images without the need for exchange of physical cheques and negotiable instruments
like demand drafts, pay orders, dividend warrants, etc.

Cheque truncation - Special features:

Bank customers would get their cheques realized faster

Quick realization helps in better cash management (receivables/payables)

In the long run, it would reduce the administrative costs for bank

Importantly this would assist banks’ in reconciliation and also reduction in clearing frauds.

Explanation b of Section 6 of Negotiable Instruments Act- Truncated cheque means a cheque

which is truncated during the course of a clearing cycle, either by clearing house or by the bank
whether paying or receiving payment immediately on generation of an electronic image for
transmission, substituting the further physical movement of the cheque in writing.
CROSSING OF CHEQUES

A cheque is a negotiable instrument. It can either be open or crossed. An open cheque is the
bearer cheque. It is payable over the counter on presentment by the payee to the paying banker.
While a crossed cheque is not payable over the counter but shall be collected only through a
banker. The amount payable for the crossed cheque is transferred to the bank account of the
payee. Types of cheque crossing are General Crossing, Special Crossing and Restrictive
Crossing. Let us learn about cheque crossing in more detail.

Crossing a Cheque

A crossing is an instruction to the paying banker to pay the amount of cheque to a particular
banker and not over the counter. The crossing of the cheque secures the payment to a banker.

It also traces the person so receiving the amount of cheque. Addition of words ‘Not negotiable’ or
‘Account Payee only’ is necessary to restrain the negotiability of the cheque. The crossing of a
cheque ensures security and protection to the holder.

However, we can negotiate a crossed bearer cheque by delivery and a crossed order cheque by
endorsement and delivery.

2 forms of Cheque Crossing

• General Cheque Crossing - Sec 123

• Special Cheque Crossing - Sec 124

General Cheque Crossing

• In general crossing, the cheque bears across its face an addition of two parallel transverse
lines and/or the addition of words ‘and Co.’ or ‘not negotiable’ between them.

• In the case of general crossing on the cheque, the paying banker will pay money to
any banker. For the purpose of general crossing two transverse parallel lines at the corner
of the cheque are necessary.

• Thus, in this case, the holder of the cheque or the payee will receive the payment only
through a bank account and not over the counter. The words ‘and Co.’ have
no significance as such.

• But, the words ‘not negotiable’ are significant as they restrict the negotiability and thus, in
the case of transfer, the transferee will not give a title better than that of a transferor.
Special Cheque Crossing

• In special crossing, the cheque bears across its face an addition of the banker’s name, with
or without the words ‘not negotiable’.

• In this case, the paying banker will pay the amount of cheque only to the banker whose
name appears in the crossing or to his collecting agent.

• Thus, the paying banker will honor the cheque only when it is ordered through the bank
mentioned in the crossing or its agent bank.

• However, in special crossing two parallel transverse lines are not essential but the name
of the banker is most important.

Restrictive Cheque Crossing or Account Payee’s Crossing

• This type of crossing restricts the negotiability of the cheque. It directs the collecting
banker that he needs to credit the amount of cheque only to the account of the payee, or
the party named or his agent.

• Where the collecting banker credits the proceeds of a cheque bearing such crossing to any
other account, he shall be guilty of negligence.

• Also, he will not be eligible for the protection to the collecting banker under section 131
of the Act.

• However, such crossing will have no effect on the paying banker. This is so because it is
not his duty to determine that the cheque is collected for the account of the payee.

Duties and Rights of Collecting Banker

The relationship between a banker and a customer is primarily that of debtor and creditor, the
respective positions being determined by the existing state of account. If the customer has a credit
balance with the bank, he is the creditor and if he has a debit balance with the bank, he is the
debtor of the bank. Thus, bank does not work as a trustee of money deposited with it by the
customer because, instead of money being set apart in a safe room, it is replaced by a debt due
from the bank. When a bank accepts the deposits from a customer, it becomes the debtor of the
customer and it will be bound to return the equivalent amount to the customer or his order on
demand. In other words, it is the obligation of the bank to honor the cheques issued by the
customer if the following conditions are fulfilled:
(a) There is sufficient balance in the account of the customer;

(b) The cheque is properly drawn and presented; and

(c) There is no legal restriction on payment.

The banker who is liable to pay the value of a cheque of a customer as per the contract, when the
amount is due from him to the customer is called “Paying Banker” or “Drawee Bank.” The
payment to be made by him has arisen due to the contractual obligation. He is also called drawee
bank as the cheque is drawn on him.

While making payment he should be cautious. He cannot honor the cheque when sufficient funds
are not available at the credit of the customer. If he pays by oversight he will be running the risk
of making good this loss i.e., making payment without having sufficient funds. At the same time
he will also run the risk when he dishonors cheque even when sufficient funds are available at the
credit of the customer. He is liable for damages for this wrongful dishonor. Thus in both the cases
he runs the risk. However, the customer should present the cheque at the branch where the
amount is kept and should not raise any objection if the cheque is dishonored at branches where
the customer does not hold the account. But he is at liberty to open accounts in any number of
branches and can draw cheques, when he is having sufficient funds in each account.

1. Due Care and Diligence in the Collection of Cheques: The collecting banker is bound to
show due care and diligence in the collection of cheques presented to him.

In case a cheque is entrusted with the banker for collection, he is expected to show it to the
drawee banker within a reasonable time. A cheque is not presented for payment within a
reasonable time of its issue, and the drawer or person in whose account it is drawn had the right,
at the time when presentment ought to have been made, as between himself and the banker, to
have the cheque paid and suffers actual damage, through the delay, he is discharged to the extent
of such damage, that is to say, to the extent to which such drawer or person is a creditor of the
banker to a large amount than he would have been if such cheque had been paid.

In case a collecting banker does not present the cheque for collection through proper channel
within a reasonable time, the customer may suffer loss. In case the collecting banker and the
paying banker are in the same bank or where the collecting branch is also the drawee branch, in
such a case the collecting banker should present the cheque by the next day. In case the cheque is
drawn on a bank in another place, it should be presented on the day after receipt.
2. Serving Notice of Dishonor: When the cheque is dishonored, the collecting banker is bound
to give notice of the same to his customer within a reasonable time. It may be noted here, when a
cheque is returned for confirmation of endorsement, notice must be sent to his customer. If he
fails to give such a notice, the collecting banker will be liable to the customer for any loss that the
customer may have suffered on account of such failure.

Whereas a cheque is returned by the drawee banker for confirmation of endorsement, it is not
called dishonor. But in such a case, notice must be given to the customer. In the absence of such a
notice, if the cheque is returned for the second time and the customer suffers a loss, the collecting
banker will be liable for the loss.

3. Agent for Collection: In case a cheque is drawn on a place where the banker is not a member
of the ‘clearing-house’, he may employ another banker who is a member of the clearing-house for
the purpose of collecting the cheque. In such a case the banker becomes a substituted agent. An
agent, holding an express or implied authority to name another person to act in the business of the
agency has accordingly named another person, such a person is a substituted agent. Such an agent
shall be taken as the agent of a principal for such part of the work as is entrusted to him.

4. Remittance of Proceeds to the Customer: In case a collecting banker has realized the
cheque, he should pay the proceeds to the customer as per his (customer’s) direction. Generally,
the amount is credited to the account of the customer on the customer’s request in writing; the
proceeds may be remitted to him by a demand draft. In such circumstances, if the customer gives
instructions to his banker, the draft may be forwarded. By doing so, the relationship between
principal and agent comes to an end and the new relationship between debtor and creditor will
begin.

5. Collection of Bills of Exchange: There is no legal obligation for a banker to collect the bills
of exchange for its customer. But, generally, bank gives such facility to its customers. In
collection of bills, a banker should examine the title of the depositor as the statutory protection.

Thus, the collecting banker must examine very carefully the title of his customer towards the bill.
In case a new customer comes, the banker should extend this facility to him with a trusted
reference.

From the above discussion, there is no doubt to say that the banker is acting as a mere agent for
collection and not in the capacity of a banker. If the customer allows his banker to use the
collecting money for its own purpose at present and to repay an equivalent amount on a fixed date
in future the contract between the banker and the customer will come to an end.
 Dishonour of a cheque

Dishonour is of 2 kinds:

1. Dishonour of bill of exchange by non-acceptance – Sec 91

2. Dishonour of promissory note, bill of exchange or cheque by non-payment – Sec.92

When presentment for payment is made and the maker, acceptor or drawee, as the case may be,
makes default in making the payment, there is dishonour of the instrument. And also if there are
certain circumstances when presentment for payment is excused and the instrument is deemed to
be dishonoured even without presentment. Thus when the maker, acceptor or drawee intentionally
prevents the presentment of the instrument is deemed to be dishonoured even without
presentment.

NOTICE OF DISHONOUR – Sec.93

Notice of dishonour means information about the fact that the instrument has been dishonoured.
Notice of dishonour is given to the party sought to be made liable and, therefore it serves as a
warning to the person to whom the notice is given that he could now be made liable. Enormous
delay in giving notice of dishonour may put an end to the plaintiff’s right in respect of the
dishonoured instrument.

NOTICE OF DISHONOUR BY WHOM?

Notice of dishonour is to be given by a person who wants to make some prior party of his liable
on the instrument. Therefore, such a notice may be given:
1. Either by the holder
2. A party to the instrument who remain liable for it

DISHONOUR OF CHEQUE
A person suffers a lot if a cheque issued in his favour is dishonoured due to the insufficiency of
funds in the account of the drawer of the cheque. To discourage such dishonour, it has been made
an offence by an amendment of the Negotiable Instrument Act by the Banking, Public Financial
Institution and Negotiable Instrument Laws (Amendment ) Act, 1988.

A new Chapter VII consisting of Sections 138 to 142 has been inserted in the Negotiable
Instrument Act.
Section 138 makes the dishonour of cheque an offence. The payee or holder in due course can
have recourse against the drawer, who may be held liable for the offence.

Under Section 138 –

Where any cheque drawn by a person on an account maintained by him with a banker for
payment of any amount of money to another person from out of that account for the discharge, in
whole or part, of any debt or other liability, is returned by the bank unpaid, either because of the
amount of money standing to the credit of that account is insufficient to honour the cheque or that
it exceeds the amount arranged to be paid from that account by an agreement made with that bank,
such person shall be deemed to have committed an offence and shall, without prejudice to any
other provision of this Act be punished with imprisonment [a term may be extended to 2 years], or
with fine which may extend to twice the amount of the cheque, or with both.

ESSENTIAL FOR AN ACTION UNDER SECTION 138

There should be dishonour of cheque

Section 138 makes dishonour of cheque in certain cases an offence. Cheque is the most common
mode of making the payment. In order to duly protect the interest of its payee, holder in due
course, there is an attempt to discourage dishonour of a cheque by making it an offence. These
provisions do not cover the dishonour of other negotiable instruments.

Payment in discharge of debtor liability

The cheque should have been drawn by a person on an account with a banker for payment of
money to another person for the discharge, in whole or part, of any debt or other liability. The
debt or other liability in such a case means a legally enforceable debt or other liability. If the
payment by way of cheque is made as gift or charity, it is not the payment for legally enforceable
debt or liability. The dishonour of such cheque does not attract the provisions of Section 138 of
the Negotiable Instrument Act.

Presentment of the cheque within the period of its validity

It is further necessary that the cheque has been presented before it became stale and invalid. It
means that the cheque has been presented within a period of 6 months from the date on which it is
drawn or within the period of validity, whichever is earlier.
 Dishonour due to insufficient fund
It is also necessary that the cheque should be returned by the bank unpaid. Dishonour may be
because of 2 reasons:
1. Either the amount of money present in the account is insufficient
2. Or the amount to be paid has exceeded the amount to be paid from that account as in the
agreement made with that bank.

It has been generally held in various cases that dishonour due to the insufficiency of funds has to
be interpreted liberally. Dishonour due to the remarks like “Account closed”, “Refer to the
drawer” or “Stop payment” of the cheque may be deemed to be covered by the provision
contained in Section 138 of the Act.

Notice and demand from the drawer and drawer’s failure to pay
Within 15 days of receipt of information from the bank about the dishonour of the cheque, the
payee or holder in due course of the negotiable instrument, as the case may be, must make a
demand of the said amount from the drawer by giving a notice in writing. Inspite of such a notice
the drawer of the cheque should fail to make the payment of the said amount of money to the
payee or the holder in due course of the cheque, within 15 days of the receipt of the said notice.

In the case of TomyJacob Kattikaran v. Thomas Manjaly A.I.R 1998 S.C. 366
The Supreme Court has held that if it was established that the appellant did not serve a notice on
the drawer within the period prescribed under Section 138 of the Act, the acquittal of the drawer
is justified.

CIRCUMSTANCES IN WHICH A BANKER IS JUSTIFIED IN DISHONOURING

CUSTOMER’S CHEQUE

PAYMENT COUNTERMANDED BY THE DRAWER

When the cheque drawer of the cheque countermands the payment that is it issues the instruction
to the bank not to make the payment. On receipt of a valid stop payment order, the cheque must
be returned unpaid with the remark “payment countermanded by drawer“

NOTICE OF DRAWER’S DEATH

On receipt of the confirmed news of death of account holder, cheques signed by him should be
returned unpaid with the remark “Drawer deceased”.
NOTICE OF CUSTOMER’S INSANITY
Where the account holder is certified as insane by a recognised medical practitioner then the
cheques signed by him should be signed by him should be returned unpaid.

NOTICE OF CUSTOMER’S INSOLVENCY

Where a customer is adjudged insolvent, the banker must refuse to pay cheques drawn by the
customer.

LIQUIDATION OF COMPANY

When a bank receives notice from the liquidator in accordance with the provisions of Companies
Act, requiring to pay the balance to liquidator’s account , all the cheques by the companies should
be returned unpaid.

OFFENCE BY COMPANY
A juristic person like incorporated companies and partnership firms are also made liable for the
offence of dishonour of cheque described under section 138.

Section 141 –

If the person committing an offence under section 138 is a company , every person who, at
the time the offence was committed, was in charge of, and was responsible to the company
for the conduct of the business of the company ,as well as the company, shall be deemed to
be guilty of the offence and shall be liable to be proceeded against and punished
accordingly.

Provided that nothing contained in this sub-section shall render any person liable to punishment if
he proves that the offence was committed without his knowledge, or that he had exercised all due
diligence to prevent the commission of such offence

Provided further that where a person is nominated as a Director of a Company by virtue of his
holding any office or employment in the central Government or State Government or a financial
corporation owned or controlled by the Central Government as the case may be, he shall not be
liable for prosecution under this chapter.

Not withstanding anything contained in sub-section (1), where any offence under this Act has
been committed by a company and it is proved that the offence has been committed with the
consent or connivance of or is attributable to, any neglect on the part of, any director, manager,
secretary, or other officer and shall also be deemed to be guilty of that offence and shall be liable
 to be proceeded against and punished accordingly.

Explanation- For the purpose of this section –

1. “Company” means any body corporate and includes a firm or other association of individuals;
and “Director” in relation to a firm, means a partner in the firm

Section 141 covers 3 categories of person liable for offence under Section 138-
1. The company as principal offender
2. Persons who were in charge and were responsible for the business of company
3. Any other person who is director or a manager or secretary or officer of the company

There must be a specific accusation against each of the persons alleged as accused that such
person was in charge of and responsible for the conduct of the business of the company or the
firm at the relevant time when the alleged offence was committed by the company or the firm.

In the case SMS Pharmaceuticals v. Neeta Bhalla

The Supreme Court has categorically held that there has to be specific averment in the complaint
to the effect that such a person was not only in charge of and responsible to the company for the
conduct of its business but it was also required to be stated as to how and in what manner he was
so responsible.

Justified Dishonour

• For want of sufficient & adequate funds

• In case of stale cheques
• In case of forged cheques
• cheques are mutilated
• cheques are materially altered
• drawer’s signature differs or is forged
• amount of cheque differs in words & figures
• Court prohibits payment from customer’s account under garnishee order
• Death, insolvency, insanity of customer.
• Reasonable suspicion by the drawee bank in case of truncated cheque
• In case of closed accounts.
• Cheques crossed specially more than one
 • payment has been stopped by customer
• Endorsement is irregular

• Presentment is not proper

UNIT 7

BANK GUARANTEE – KINDS, RIGHTS OF GUARANTOR, LIABILITY,

DISCHARGE OF LIABILITY

A bank guarantee is a tripartite agreement between the banker, the beneficiary and the person or
the customer, whereby the bank gives an undertaking to pay the beneficiary a definite sum of
money, or arrange the performance of the obligations of the client in the possible event of his
default. Banks are generally approached because they have the financial capacity to meet such
obligations. It is basically a sort of an absolute undertaking to pay the amount whenever
demanded by the guarantee holder.

A bank guarantee contract is distinct and independent from the underlying contract that subsists
between the beneficiary and the creditor i.e. it has nothing to do with the state of relations
between the guarantee holder and the person on whose behalf the guarantee is given. A bank
guarantee contract is distinct and independent from the underlying contract that subsists between
the beneficiary and the creditor. This is extremely important in determining the liability of the
banks in the event of default by the debtor.

It is basically for the free flow of the trade as guarantee given by bank , it saves the creditor from
the loss and also it give rights to the creditor to claim debt in case of default without the lengthy
process of litigation.

Bank Guarantees are guarantee basically given by Suppliers/Contractor Bank in favour of the
Buyer/Principal:

• Towards earnest money deposit

• As security against performance of the contract

As security against initial and stage payment made by the Buyer to the Supplier Towards
liquidated damages in exceptional cases of large value contracts etc.
Bank guarantee are often called first demand or on demand guarantee because they are to be paid
against the beneficiary first written demand for payment and no further documentation or proof of
default is required.

Need of Bank Guarantee

In this environment where new startups are being encouraged, bank guarantees plays a crucial
factor in encouraging these startups, it helps the new firms to set up efficiently which is a boon for
small scale businessman. At the initial stages of their business they can raise the required money
in credit keeping the bank as a surety. The credibility of the bank reduces the transaction risk in a
business transaction.

Types of Bank Guarantee

Advance Payment guarantee- This type of guarantee is mostly used in export and import
business but is now extended to Domestic trade. Buyers of goods generally use this guarantee to
secure the advance payment made by them. Advance guarantee paid can be recovered as it is the
primary obligation of the bank which is giving the guarantee.

Payment Guarantee- This guarantee makes the debtor bound for the payment, this is a more
secure guarantee as collateral securities is given with these type of guarantee , in case of default
by the debtor the bank can recover the given amount from the collateral securities given by the
debtor.

Liability under Bank Guarantee

The amount of liability undertaken in a bank guarantee without any demur or dispute under the
terms of guarantee is absolute and unequivocal. In a normal guarantee the surety liability as per
Sec. 128 of the Indian Contract Act,1872 is co-extensive with that of the principal debtor i.e. the
liability of the guarantee is to the same extent as that of the principal debtor, whereas in a bank
guarantee the bank becomes liable when the conditions in the guarantee instruments are fulfilled
without regard to the transaction between the beneficiary and the person for whose obligation the
guarantee has been given i.e. the liability may arise even when such latter person has not been in
default, his actual liability under that transaction would be much less than the amount paid under
the unconditional guarantee.

The bank guarantee can be enforced simply without probing into the nature of the transactions
between the Bank and the customer that led to the furnishing of the bank guarantee. The bank has
to pay irrespective of any dispute raised by the person at whose instance the guarantee has been
given and cannot raise a contention regarding the breach by principal debtor.

Also a variation in a contract put in effect by one of the parties does not affect the liability under
the guarantee. The bank may reject the bank guarantee if the beneficiary is not able to show that
the all the requisite terms in the bank guarantee are fulfilled, incase all the conditions are fulfilled
the bank has to make the payment.

Invocation of Bank Guarantee

A bank guarantee can be invoked anytime by the beneficiary when the terms of guarantee are
fulfilled, all that the bank has to verify that all the terms of the contract of guarantee are fulfilled
and for doing so the bank should have reasonable amount of time to verify the documents.
Invocation of a bank guarantee is dependent upon the terms of the guarantee. In cases of
unconditional guarantee the beneficiary has to realize the bank guarantee irrespective of the fact
that dispute is pending. If at the time of invocation of the bank guarantee, it is well within the
terms it is not even necessary that the beneficiary should assess the quantum of loss and mention
that figure.

Exceptions

Exceptions Payment under a bank guarantee may be refused of restrained:

Fraud- The bank can put an injunction against the encashment of bank guarantee if it is prima
facie evident that a fraud has been committed by the beneficiary and not by somebody else. A
strong prima facie case is necessary to show the fraud, mere allegation of fraud will not work.
This is basically to protect the credit system, otherwise the beneficiary would be claiming the
payment to which he had no entitlement.

Irretrievable harm or injustice- If the bank guarantee harms or any way leads to injustice to
one of the parties concerned then the creditor is not entitled to en-cash the bank guarantee, the
harm must be genuine and immediate.

Safe guards taken by banks:

To reduce the risks to which the banks are exposed while furnishing bank guarantees on behalf of
their clients, banks resort to the following to safeguard their interest.

Limits:- Banks lay down maximum monetary limits up-to which they would furnish guarantees
and open letters of credit at any point of time. The limits are fixed on the basis of the financial
standing, extent to which the account has been maintained by customers satisfactorily, the volume
of transactions, past track record of the Counter client in-respect of such guarantees etc. The
limits are reviewed are re-fixed periodically along with monetary limits for overdrafts, cash
credits etc.

Margins- Banks lay down maximum monetary limits up to which they would furnish guarantees
and open letters of credit at any point of time. The limits are expired on the basis of the financial
standing, extent of which the account has been maintained by the customers satisfactorily, the
volume of transactions, past track record of the client in respect of such guarantee etc. The limits
are reviewed and re-fixed periodically along with monetary limits for overdrafts, cash credits etc.
The percentage of margin ranges from ten to fifty percentage of the bank guarantee. The margin
money will be released once the principal debtor has fulfilled its obligation towards the bank i.e.
has repaid the amount to the bank.

Counter Guarantee:-This is an additional method other than fixing limits and taking margin
money as security. Bank invariably obtain the counter guarantee from the principal debtor before
giving the guarantee, after this the bank debits the clients accounts when invocation of bank
guarantee is done by the creditor in order to proceed legally against the client incase of default by
him to repay the amount.

Limitation Period

The period of limitation for enforcing the bank guarantee is three years from the date on which the
letter of guarantee was executed. Recovery procedure initiated after three years is liable to be
quashed. Till the time the account is alive i.e. it is not settled nor there is any refusal by the
guarantors to carry out the obligations, the limitation period does not start.

LETTER OF CREDIT – MEANING ,PURPOSE, KINDS,INTERNATIONAL

,GUIDELINES UCP 600

Importance of letters of credit

Since the nature of international trade includes factors such as distance, different laws in each
country and the lack of personal contact during international trade, letters of credit make a
reliable payment mechanism. The International Chamber of Commerce Uniform Customs and
Practice for Documentary Credits oversees letters of credit used in international transactions
Parties to a letter of credit

• Applicant (importer) requests the bank to issue the LC

• Issuing bank (importer’s bank which issues the LC [also known as the Opening banker of
LC])

• Beneficiary (exporter)

Types of a letter of credit

The letters of credit can be divided into the following categories:

Sight Credit
Under this LC, documents are payable at the sight/ upon presentation of the correct
documentation. For example, a businessman can present a bill of exchange to a lender along with
a sight letter of credit and take the necessary funds right away. A sight letter of credit is more
immediate than other forms of letters of credit.

Acceptance Credit/ Time Credit

The Bills of Exchange which are drawn and payable after a period, are called usance bills. Under
acceptance credit, these usance bills are accepted upon presentation and eventually honoured on
their respective due dates. For example, a company purchases materials from a supplier and
receives the goods on the same day. The bill will be delivered with the shipment of goods, but the
company may have up to 30 days to pay it. This 30 day period marks the usance for the sale.

Revocable and Irrevocable Credit

A revocable LC is a credit, the terms and conditions of which can be amended/ cancelled by the
Issuing Bank. This cancellation can be done without prior notice to the beneficiaries.

An irrevocable credit is a credit, the terms and conditions of which can neither be amended nor
cancelled. Hence, the opening bank is bound by the commitments given in the LC.

Confirmed Credit
Only Irrevocable LC can be confirmed. A confirmed LC is one when a banker other than the
Issuing bank, adds its own confirmation to the credit. In case of confirmed LCs, the beneficiary’s
bank would submit the documents to the confirming banker.
Back-to-Back credit
In a back to back credit, the exporter (the beneficiary) requests his banker to issue an LC in
favour of his supplier to procure raw materials, goods on the basis of the export LC received by
him. This type of LC is known as Back-to-Back credit. Example: An Indian exporter receives an
export LC from his overseas client in the Netherlands. The Indian exporter approaches his banker
with a request to issue an LC in favour of his local supplier of raw materials. The bank issues an
LC backed by the export LC.

Transferable Credit
While an LC is not a negotiable instrument, the Bills of Exchange drawn under it are negotiable.
A Transferable Credit is one in which a beneficiary can transfer his rights to third parties. Such
LC should clearly indicate that it is a ‘Transferable’ LC

UCP 600
The Uniform Customs & Practice for Documentary Credits (UCP 600) is a set of rules agreed by
the International Chamber of Commerce, which apply to finance institutions which issue Letters
of Credit – financial instruments helping companies finance trade. Many banks and lenders are
subject to this regulation, which aims to standardise international trade, reduce the risks of trading
goods and services, and govern trade.

The UCP 600 (“Uniform Customs & Practice for Documentary Credits”) is the official
publication which is issued by the International Chamber of Commerce (ICC). It is a set of 39
articles on issuing and using Letters of Credit, which applies to 175 countries around the world,
constituting some $1tn USD of trade per year.
Types of LOC
(1) Traveler’s LOC

(2) Letter of Commercial credit.

(1) Traveler’s LOC- there are 3 parties. One who wishes such letter called ‘beneficiary’ or
applicant. The bank which provides or issues such letter is called ‘issuing bank’ or ‘opening
bank’. The corresponding banker or the borrower bank which is directed to provide such facility
is called the ‘negotiating bank’. Thus the parties are-the beneficiary, the issuing bank & the
negotiating bank.
A trader deposits Rs.1 lac with bank B in India requiring an LOC in England. B directs his branch
there C for payment of such amount. A is the beneficiary, B is the issuing bank & C is the
negotiating bank. The beneficiary may also be termed as buyer or customer.

Letter of Commercial Credit

• In most cases exporters are personally not acquainted with importers in foreign countries.
Similar is the case of sellers & buyers in the same country from different parts.
• In such cases exporter’s bear huge risk if they draw bills of exchange on importers
because, after having dispatched the goods as per their orders, if the latter default in
accepting the bill or making its payment, the exporter will suffer heavy losses & there
will be great inconvenience in litigation for recovery of price of the sold goods.
• To avoid such risks & convenience the exporter asks the importer to arrange an LOC
from his (importer’s) bank in favor of the exporter, on the basis of which goods may be
exported to the foreign importer.
• In cases of commercial credit there are 4 parties-the first 2 parties are –seller & buyer –
who are going to transact business between them. Rest two parties are banks: issuing
bank & negotiating bank of the Commercial Credit. The negotiating bank may also be
termed as advising bank. Negotiating & advising bank may also be the same or different
bank.

Classification of Commercial Letter of Credit-

• Revocable & Irrevocable LOC

• Fixed & Revolving LOC
• Documentary & Clean LOC
• With & Without Recourse LOC
• Transferable & Non-Transferable, Confirmed & Unconfirmed

Revocable & Irrevocable LOC

• LOC may be either- revocable or irrevocable. All credits must indicate whether they are
revocable or irrevocable. If no such indication is given, credit shall be revocable even
though the expiry date is stipulated.
• In case of revocable credit, the banker issuing it can cancel the authority at any time he
chooses but still he will be liable for bills negotiated before its cancellation.
 • An irrevocable LOC cannot be cancelled unless it runs its full course or unless its
beneficiary agrees to such cancellation.
• Confirmed credit & unconfirmed credit are used synonymously for revocable or
irrevocable credit. The former is used in connection with credits opened by banks abroad
when a local bank agrees to confirm them or to do otherwise.

Fixed & Revolving LOC-When the credit is issued for a fixed amount to be availed of within a
fixed period a fresh credit is necessary after the credit has been fully availed of, but in the case of
revolving credits the amounts are automatically renewed after the bills negotiated under them are
duly honored.

Documentary & Clean LOC-An LOC gives authority to whomsoever it is addressed to draw
bills according to its terms on the bank issuing at & includes a promise by the issuing banker to
accept all bills so drawn up to the limit of the credit. When the promise to accept is made
conditional on the attachment of documents of title of goods such as the invoice, the bill of
lading, insurance policy etc. it is known as a documentary LOC. It is clean & open credit where
the promise is unconditional or without reference to the attachment of documents of title to
goods.

With & Without Recourse LOC- Where the beneficiary of a LOC is the drawer of a bill who
holds himself liable to the holder of a bill if dishonored the credit is said to be with recourse. In
case he does not hold himself responsible, the credit is said to be without recourse.

Transferable & Non-Transferable LOC-Ordinarily a beneficiary is authorized to draw BOE

under a LOC. But if the beneficiary is an intermediary in the transaction & the goods are actually
to be supplied by someone else, the beneficiary may request the opener to arrange a transferable
LOC. Under a transferable LOC the beneficiary can transfer his right to draw a bill to somebody
else. In case of non-transferable LOC, the beneficiary may request a bank to open a new LOC in
favor of some other person on the security of the LOC issued in his favor. Such a LOC is called
Back to Back LOC.

Confirmed & Unconfirmed LOC–When the opening bank requests the advising bank in the
exporter’s country to add its confirmation to an irrevocable credit & the latter does so, it is called
‘irrevocable & Confirmed LOC’. Such undertaking cannot be cancelled or modified without the
agreement of all concerned. If the advising banker does not add his confirmation, LOC remains
an unconfirmed one. In such a case there will be no such obligation on the advising bank.

FORMS OF SECURITY – PLEDGE, BAILMENT, MORTGAGE

Bankers, whenever advancing loans, first ask for the security to be put for the loans requested.
Different types of securities are used depending upon the nature of the advances issued by the
banks. Adequate security must be enough to cover the risk, highly liquid, free from any
encumbrance, clean in ownership and easy to handle.

Types of Securities

There are four types of securities which are as under:-

• Lien
• Pledge

• Mortgage

• Hypothecation

Lien
Lien is the first kind of security which is the right of holdings the goods of the borrower until the
loan is repaid. The borrower remains the owner of the goods but the possession is given to the
lender. The agreement of lien explains whether it relates a particular debt or debts in general. In
the ordinary lien, the creditor has only the right to possession of goods.

He has no right to sell it, but the banker’s lien is not the same. The banker has a right to sell the
good after proper notice. The banker gets the property of the customer as his banker. Thus papers
of money or goods with the banker are not for the purpose other than a lien. The banker takes the
possession lawfully. There must not imply or express agreement against the lien.

Pledge

Pledge is also one of the types of securities. It can be defined as “Bailment of goods as protection
for payment of money owing or act of a promise”. The borrower is called pledger and the banker
is called pledge. In case of pledge, there should be a bailment of goods and the bailment should
be on behalf of the debtor or an intending debtor.

The delivery of goods is necessary for the contract of bailment. The delivery may be actual or
constructive. The constructive delivery is made when the bailee puts his lock on the doors of
Godowns storing the pledged goods or merely key of the lock on the Godowns door is received. It
is essential that the bailee should return the same goods to the bailer or dispose of them according
to his instructions.

Mortgage
Mortgage another type of security which can be defined as “A mortgage is the reassigning of
interest in the particular fixed property for the reason of protection of payment of funds advanced
by means of a loan, an presenting of future balanced due, or the act of commitment which maybe
rise to a financial liability”. The transferor may be known as a mortgager. The transferee may be
known as mortgagee. The contract is treated as a mortgage deed.

Hypothecation
Hypothecation is also from one of the types of securities and can be defined as “A lawful
transaction and essential goods are always accessible as security for a balance due without
transferring either the property or the possession to the lender”.

It is clear that possession and ownership of the goods remain with the borrower and an equitable
charge is created in favor of the lender. The borrower agrees to give the possession of the goods
to the banker whenever the banker requires him to do so. It is possible when the transfer of
possession is either inconvenient or impracticable.

If the borrower offers raw material or goods in possession as security, the transfer of possession
will stop the functioning of the borrowers’ business. The creditor possesses the right of a pledge
under the hypothecation deed. The position of the banker under hypothecation is not as safe as
under a pledge.

If the borrower fails to give the possession of eth goods hypothecated, the bank can file a suit in
the court of law for the recovery of the amount lent. The advances against hypothecation are
risky. The bank should make sure that the party has a good reputation, should check the property
regularly and asks the hypothecator to submit periodical reports.

Bailment is a transfer of custody of a piece of property rather than a transfer of ownership of a

piece of property.

How Does Bailment Work?

For example, let's say John Doe owns a big piece of farmland on the eastern shore of Maryland.
His adult son wants to move to the area and farm the land.Rather than transferring ownership of
the property to his son, John Doe (bailor) transfers possession or custody of the farmland to his
son (the bailee). The son might pay rent or a lease fee in return. The son only receives custody
and control of the property, but John still owns it. John is thus responsible for paying the property
taxes and is liable for what happens on the land (unless the bailee failed to care for the land
properly).

In general, there are three kinds of bailments:

Service agreement bailments, whereby the bailee agrees to perform a service for the bailor (such
as park or store a car).

Constructive bailment, whereby the bailee agrees to protect the bailor's asset (such as with a
safe deposit box).

Gratuitous bailments, whereby the bailor doesn't receive payment from the bailee for the
bailment (such as in free coat checks at a restaurant).

Bailment almost always involves a written contract. Sometimes, that contract is printed on the
back of a coat check stub or a claim ticket for valet parking. Bailment can occur without
compensation, however.

Unit 8

Introduction:
The Debts Recovery Tribunals (DRTs) were set up under theRecovery of Debts Due to Banks
and Financial Institutions(RDDBFI) Act, 1993 to help banks and financial institutionsrecover
their dues speedily without being subject to thelengthy procedures of usual civil courts.
The Securitization and Reconstruction of Financial Assets andEnforcement of Security Interests
(SARFAESI) Act, 2002 went astep further by enabling banks and some financial institutionsto
enforce their security interest and recover dues evenwithout approaching the DRTs. Yet the
amount banks recoverfrom defaulted debt is both meagre and long delayed.
Debt Recovery Tribunals
Debt Recovery tribunals were constituted with the objective ofproviding a faster & more
efficient mode of recovery of debtsfor banks & financial institutions.
In almost all cases the suit instituted by banks and financialinstitutions, there was delay in
disposal of the cases in thecourt often not due to the fault of the banks or financialinstitutions.
RDDBFI Act 1993
• The Committee on financial system chaired by Shri Narasimhanin its report to the Ministry of
Finance, in November 1991,endorsed the views of the Tiwari Committee for setting upspecial
legislation and special tribunals to expedite the recoveryprocess in the financial sector. (at that
time more than 5622crores was owed to Public sector banks and 391 crores toother financial
institutions).
• Thus the Recovery of Debts Due to Banks and FinancialInstitutions Act, 1993 was passed.
• Debt Recovery tribunals were constituted with the objective ofproviding a faster & more
efficient mode of recovery of debtsfor banks & financial institutions.
• However in almost all cases the suit instituted by banks andfinancial institutions, there was
delay in disposal of the casesoften not due to the fault of the banks or financial institutions.
• The total number of cases filed in DRT’s by schedulecommercial banks amounted to 1,50,503
of which 2601billions was the amount involved. Only 427 billions(16.43%)were recovered till
March 2014. Within less than a decade itbecame clear that the DRT’s failed to serve their
purpose.

SARFAESI Act 2002

• There were several loopholes in the RDDBFI Act and theseloopholes were mis-used by the
borrowers, which led thegovernment to introspect the Act and another committeeunder Mr.
Andhyarujna was appointed to examine bankingsector reforms and changes in law relating to
debt recovery.
• This led to the passing of SARFAESI Act in 2002. TheSecuritization & Reconstruction of
Financial Assets andEnforcement of Security Interest Act allows banks and otherfinancial
institution to auction residential or commercialproperties to recover loans when borrowers fail to
repay theirloans.
• It enables banks to reduce their non-performing assets(NPA’s)by adopting measures for
recovery or reconstruction.
• SARFAESI Act (2002) provides a three way procedure forrecovery of dues due to Banks and
FIs. Firstly, it provides a legalframework for securitization of assets in India, secondly itenables
sale or transfer of NPA accounts to ARCs and clean upthe balance sheet and thirdly, it gives
power to the banks andFIs to takeover immovable properties charged to the bank andenforce
security by way of auction or private treaty and adjustthe proceeds towards the dues without the
intervention ofcourts.
• Under SARFAESI also there is recourse for the respondents withDRTs if they are affected by
the action of banks.
• However, if the asset in question is an unsecured asset, thebank would have to move the court to
file civil case against thedefaulters.

The procedure is as follows:

1. The Bank or Financial Institution gives a notice undersection 13 (2) to the defaultingborrower
whose account wascategorized as “NPA” (default of 90 days)
2. The borrower who receives the notice under section 13 (2),can send his objections to the
Bank’s claim within the time limit.
3. The Bank shall consider the objections and however, it neednot pass any order after
considering the objections. This enablesthe Bank to correct itself if it is wrong in the process of
adjudication.
4. When the Bank feels that the objections are not tenable,then, the Bank can take possession of
the secured asset byissuing a notice under section 13 (4).
5.Steps under section 13 (4), gives the borrower a right to filean appeal to the Debt Recovery
Tribunal under section 17 andfurther appeal to the Debt Recovery Appellate Tribunal
undersection 18.
6. Not only the borrower, any person who is aggrieved by the action taken by the Bank under
section 13 of the Act, canapproach the Tribunal in accordance with the procedure.

Conditions- The Act stipulates four conditions for enforcing therights by a creditor(bank/nbfc)
• The debt is secured;
• The debt has been classified as an NPA by the banks,
• The outstanding dues are one lakh and above and more than20% of the principal loan
amount and interest there on;
• The security to be enforced is not an Agricultural land.
• The SARFAESI Act also provided for the establishment of AssetReconstruction Companies
regulated by RBI to acquire assetsfrom banks and financial institutions.
• It provides for sale of financial assets by banks and financialinstitutions to Asset Reconstruction
Companies.
• RBI has issued guidelines to banks on the process to befollowed for sales of financial assets to
Asset ReconstructionCompanies.

DRT vs. SARFAESI

• DRT- DRT’s are for recovery of outstanding amount againstborrower’s with or without secured
asset.
• Tribunal for recovery of outstanding loans.
• SARFAESI- Is for attachment of secured asset for non-paymentof loan amount of banks and
NBFC’s without going to DRT’s.
• Mechanism for attachment of secured assets by banks withoutintervention of anyone.

RDDBFI v. SARFAESI
RDDBFI- The RDDBFI Act enables the Bank to approach theTribunals when the debt exceeds
the prescribed limit.
• Under RDDBI Act, the Debt Recovery Tribunal will adjudicate theamount that is due and
passes the final award.
SARFAESI- SAFAESI Act, provides a procedure wherein the Bankor Public FinancialInstitution
itself will adjudicate the debt.Only after adjudication by the Bank, the borrower isgiven rightto
prefer an appeal to the Tribunal under SARFAESI Act, 2002.
• The Banks or Financial Institutions can invoke the provisions ofSAFAESI Act, 2002 only in
respect of secured assets and not all.Thus, under SARFAESI Act, 2002, the Banks are given
powersunder section 13 to carry out the adjudication exercise.

IBC:
The Insolvency and Bankruptcy Code was implemented in 2016to facilitate
-timely resolution of insolvency and bankruptcy cases,
-provide maximization of value of assets,
-reorganization of business of corporate debtors,
-facilitate credit market,
-encourage entrepreneurship in India and to balance theinterest of all stake holders.

The Insolvency and Bankruptcy Code proposes two stages foreffective debt recovery-
• The first stage involves insolvency resolution negotiation;whereby the viability of running
the enterprise and protectingthe rights of creditors is assessed and
• second stage when negotiation to run the entity fails,liquidation of the corporate entity is
proposed.
• The code proposes to conclude both processes in a time boundmanner.

Innoventive vs. ICICI Bank: SC rules Insolvency Code prevails over state law
Brief Facts
1. An application was filed before the Mumbai Bench of National Company Law Tribunal
(“NCLT”) by ICICI Bank against Innoventive Industries Ltd. (“Innoventive”) for the insolvency
resolution process to be set in motion since Innoventive was stated to be a defaulter under the
IBC.
2. Innoventive’s main contention was that no debt was legally due since all liabilities of
Innoventive and remedies for enforcement were temporarily suspended for 2 years pursuant to
notifications[1] issued under the Maharashtra Relief Undertaking (Special Provisions Act), 1958
(“Maharashtra Act”).
3. The NCLT on 17 January 2017 held that the IBC would prevail against the Maharashtra Act in
view of the non-obstante clause in Section 238 of the IBC. It held that the Parliamentary statute
would prevail over the State statute and hence Innoventive had defaulted in making payments and
accordingly the application was admitted and a moratorium was declared.
4. An appeal was filed before the NCLAT against the above order which met with the same fate
and from there an appeal was filed before the Supreme Court.

Main Contentions
1. Whether the appeal was maintainable as it had been filed by the erstwhile directors of
Innoventive after an insolvency professional was appointed to manage the company?
2. Whether there was any repugnancy in fact between the IBC and the Maharashtra Act?
3. Whether the non-obstante Clause contained in Section 238 of the IBC of the Parliamentary
enactment under IBC will prevail over the non-obstante Clause contained in Section 4 of the
Maharashtra Act?

Held
The Hon’ble Supreme Court ruled as follows:

1. Once an insolvency professional is appointed to manage the company, the erstwhile directors
who are no longer in management cannot maintain an appeal on behalf of the company. Hence, in
the present case, the appeal was not maintainable. However, the Supreme Court did not incline to
dismiss the appeal on this score alone. Since this was the very first application that was moved
under the IBC, the judges thought it necessary to deliver a detailed judgment so that all Courts
and Tribunals may take notice of a paradigm shift in the law.

2. Default is defined in Section 3(12) of the IBC in very wide terms as meaning non- payment of
a debt once it becomes due and payable, which includes non-payment of even part thereof or an
instalment amount. It is of no matter that the debt is disputed so long as the debt is “due” i.e.
payable unless interdicted by some law or has not yet become due in the sense that it is payable at
some future date.

3. Under the explanation to Section 7(1), a default is in respect of a financial debt owed to any
financial creditor of the corporate debtor - it need not be a debt owed to the applicant financial
creditor.

4. On repugnancy, the Supreme Court discussed in detail various case laws and constitutional
principles to test whether there is any repugnancy between the IBC and the Maharashtra Act and
laid down (amongst others) the following propositions:
a.The inconsistency must be clear and direct and be of such a nature as to bring the two
Acts or parts thereof into direct collision with each other, reaching a situation where it is
impossible to obey the one without disobeying the other. This happens when two
enactments produce different legal results when applied to the same facts.
b.Though there may be no direct conflict, a State law may be inoperative because the
Parliamentary law is intended to be a complete, exhaustive or exclusive code... One test
of seeing whether the subject matter of the Parliamentary law is encroached upon is to
find out whether the Parliamentary statute has adopted a plan or scheme which will be
hindered and/or obstructed by giving effect to the State law.
c.If the subject matter of the State legislation or part thereof is identical with that of the
Parliamentary legislation, so that they cannot both stand together, then the State
legislation will be said to be repugnant to the Parliamentary legislation.

5. Based on the above test, the earlier State law (i.e. the Maharashtra Act) was held to be
repugnant to the later Parliamentary enactment (i.e. the IBC) as under the Maharashtra Act, the
State Government may take over the management of the relief undertaking, after which a
temporary moratorium takes place under Section 4 of the Maharashtra Act in the same manner as
that contained in Sections 13 and 14 of the IBC.

6. Unless the Maharashtra Act was out of the way, the IBC would be hindered and obstructed in
such a manner that it will not be possible to go ahead with the insolvency resolution process
outlined in the IBC.

7. It is clear that the later non-obstante Clause of the Parliamentary enactment will prevail over
the limited non-obstante Clause contained in Section 4 of the Maharashtra Act.
8. As a matter of constitutional law, the later Central enactment being repugnant to the earlier
State enactment by virtue of Article 254 (1), would operate to render the Maharashtra Act void
vis-a-vis action taken under the later Central enactment.

9. The Supreme Court was of the view that the Tribunal was correct in appreciating that there
would be repugnancy between the provisions of the two enactments. The judgment of the
Appellate Tribunal was not correct on this score because repugnancy does exist in fact.

10. The Supreme Court therefore held that the Tribunal and the Appellate Tribunal were right in
admitting the application filed by the financial creditor ICICI Bank Ltd.

Mardia Chemical Ltd. Vs Union of Indiaand others:

The Supreme Court pronounced its judgement in the case M/s Mardia Chemical Ltd. Vs Union of
Indiaand others, etc. etc. on 08.04.2004.The Supreme Court has - (i) upheld the validity of the
SARFAESI Act, - (ii) struck off the provisions ofSection 17(2) of the Act and - (iii) directed that
any reply made / objections raised by the borrower inresponse to the notice given under Section
13(2) of the Act should be considered andthe considerationshould be a meaningful one with
due application of mind and the objection should not be rejectedritually. The reasons for
not accepting the objections or points raised in reply, however brief theymay be, must be
communicated to the borrower.
The reasons so communicated shall only be for the purposes of the information / knowledge of
the borrower without giving rise to any right to approach the DRT under Section 17 of the Act, at
that stage.
The existing guidelines for dealing with borrower’s reply to the bank’s demand notice are
contained inChapter IV of the Bank’s Manual on Enforcement of Security Interest. These
providethat the AuthorizedOfficer can issue rejoinder,if the same is warranted by the
allegations made by the borrower in hisreply to the bank’s demand notice, after verifying the
facts of the matter vis-à-vis the allegations,rebutting such allegations. The rejoinder, if need be,
may be got vetted by the Law Officer/ Manager(Law) at RO/ZO.
Keeping in view the observations made by the Supreme Court, the borrower’sreply, if any,
to thebank’s notice must be considered. The reasons for not accepting the objections or
pointsraised,however brief they may be, must be communicated to the borrower.
 Unit 9:

E-Banking – advantages, disadvantaged and security threats E-BANKING

E-Banking now-a-days is the common trend here in our country. Everyone should be aware about
all the positive and negative side of the technology. There was a workshop organized at
Mangalmay Institute of Management & Technology, where the students got information about
how to use this facility properly.

E-banking refers to electronic banking. It’s like e-business in the banking industry. Electronic
banking is also known as “Virtual Banking” or “Online Banking”. Electronic banking is based on
banking based on information technology. Under this I.T system, banking services are delivered
through a computer-controlled system. This system involves a direct interface with customers.
Customers do not have to visit the bank’s facilities.
Popular services covered under E-banking include : –

1. ATMs,

2. Credit cards,

3. Debit Cards,

4. Smart Cards,

5. Electronic Funds Transfer System (EFT)

6. Check the truncation payment system,

7. Mobile Banking,

8. Internet Banking,

9. Telephone Banking, etc.

 Advantages of E-Banking : –

The main advantages of electronic banking are: –

1. The cost of operation per unit of services is lower for banks.

2. Offers convenience to customers since they are not required to go to the bank’s facilities.

3. There is a very low incidence of errors.

4. The customer can obtain funds at any time from ATMs.

5. Credit cards and debit cards allow customers to get discounts at points of sale.

6. The customer can easily transfer the funds from one place to another place electronically.

Disadvantages

Savings and credit cooperatives, and in particular small local cooperatives, strive to match the
level of convenience (ATMs and branches) that many banks offer their customers, although many
are part of shared networks that increase channels available to its members

Some Credit Units are limited in their product offerings

One must qualify for membership

One must pay a membership fee to join

Security Threats:
Attacks and Compromises:

When a bank’s system is connected to the Internet, an attack could originate at any time from
anywhere. Some acceptable level of security must be established before business on the Internet
can be reliably conducted. An attack could be any form like:

• The intruder may gain unauthorized access and nothing more

 • The intruder gains access and destroys, corrupt or otherwise alters data
• The intruder gains access and seizes control partly or wholly, perhaps denying access to
privileged users
• The intruder does not gain access, but instead forges messages from your system
• The intruder does not gain access, but instead implements malicious procedures that cause the
network to fail, reboot, and hang.

Modern security techniques have made cracking very difficult but not impossible. Further more,
if the system is not configured properly or the updated patches are not installed then hackers may
crack the system using security hole. A wide range of information regarding security hole and
their fixes is freely available on the Internet. System administrator should keep himself updated
with this information. Common cracking attacks include:

• E-mail bomb and List linking

• Denial-of-Service

• Sniffer attack

• Utilizing security hole in the system software

• E-mail bomb: This is a harassment tool. A traditional e-mail bomb is simply a series of
message (perhaps thousands) sent to your mailbox. The attacker’s object is to fill the
mailbox with junk.

• Denial-of-Service (DoS) attacks: DoS attacks can temporarily incapacitate the entire
network(or at least those hosts that rely on TCP/IP). DoS attacks strike at the heart of IP
implementations. Hence they can crop up at any platform, a single DoS attack may well
work on several target operating systems. Many DoS attacks are well known and well
documented. Available fixes must be applied.

• Sniffer Attack: Sniffers are devices that capture network packets. They are a
combination of hardware and software. Sniffers work by placing the network interface
into promiscuous mode. Under normal circumstances, all machines on the network can
“hear” the traffic passing through, but will only respond to data addressed specifically to
it. Nevertheless, if the machine is in promiscuous mode then it can capture all packets
and frames on the network. Sniffers can capture passwords and other confidential
 information. Sniffers are extremely difficult to detect because they are passive
programs. Encrypted session provides a good solution for this. If an attacker sniffs
encrypted data, it will be useless to him. However, not all applications have integrated
encryption support.

• Holes: A hole is any defect in hardware, software or policy that allows attackers to gain
unauthorized access to your system. The network tools that can have holes are Routers,
Client and Server software, Operating Systems and Firewalls.

• Payment Settlement Systems Act 2007

The Payment and Settlement Act System, 2007 (PSS Act, 2007) was set up by the Reserve Bank
of India (RBI) which received the assent of the President on 20th December 2007. It came into
force from 12th August 2008. The Act empowers RBI (apex institution) to deal with the matters
relating to that purpose and other purposes for which RBI is authorized to constitute a central
authority known as the Board for Regulation and Supervision of Payment and Settlement Systems
(BPSS). The Payment and Settlement Systems Regulations, 2008 was also made by RBI. Both
the regulations also came into force on 12th August 2008.

Objectives

The objectives of The Payment and Settlement Systems Act, 2007 are:

1. To provide regulation and supervision of payment methods in India.

2. To designate RBI, the apex institution as authority for purposes related to payment systems in
India.

3. To constitute such regularities by RBI to exercise its power and perform its functions.

4. To provide a legal basis for “netting” and “settlement finality”.

The two regulations made under the Act through RBI are Board for Regulation and Supervision
of Payment and Settlement Systems Regulations, 2008 and the Payment and Settlement Systems
Regulations, 2008.

The objective of the Board for Regulation and Supervision of Payment and Settlement Systems
 Regulation, 2008 are:

1. To deal with the constitution of BPSS

2. To deal with the composition, powers, and functions, its meetings, and quorum of BPSS

3. To constitute sub-committees or Advisory Committees by BPSS

4. To exercise its powers and perform its functions on behalf of the RBI. The objectives of the

Payment and Settlement Systems Regulations, 2008 are:

1. It deals with matters relating to the form of application to authorize commencing/ carrying on a
payment system and grant of authorization.

2. It prescribes payment instructions and determines the standard of payment systems.

3. It covers matters related to furnishing of returns or documents or other information.

4. It also deals with the furnishing of accounts and balance sheets by system providers.

RBI on Cyber Frauds

https://www.pwc.in/assets/pdfs/consulting/cyber-security/pov-on-rbi-circular-online.pdf

Banking Ombudsman

• The term means watchman of the administration, the protector of the little man
• Developed in Sweden
• Leads to an open government by providing a democratic control over the power of the
state.
• It has its own role to play by bringing Renaissance and humanism in the working of
modern gov. which have tend to develop an attitude to look to the paper rather than
person behind it.
• It is only an adversarial adjudicator of dispute he serves an alternative to the advisory
system for resolving disputes especially between citizens and gov. agencies.
• He is an independent and nonpartisan officer who deals with the specific complaints
against administrative injustice and maladministration.
o The Banking Ombudsman Scheme was introduced under Section 35 A of the Banking
Regulation Act, 1949 by RBI with effect from 1995.
o The Banking Ombudsman Scheme was first introduced in India in 1995 and it was revised
in 2002.
o Current Banking Ombudsman Scheme introduced in 2006.
o From 2002 until 2006, around 36,000 complaints have been dealt by the Banking
Ombudsmen.
o Banking Ombudsman is appointed by Reserve Bank of India.
o Banking Ombudsman is a senior official appointed by RBI. He handle and redress customer
complaints against deficiency in certain banking services.
o All Scheduled Commercial Banks, Regional Rural Banks and Scheduled Primary Co-
operative Banks are covered under the Banking Ombudsman Scheme

• As on end April 2018, twenty Banking Ombudsmen have been appointed with
their offices located mostly in state capitals.
• As per the present regulations, the ombudsman redressal is allowed for
complaints where the compensation amount for any loss suffered by the
complainant is limited to Rs 20 lakh. Similarly, the Banking Ombudsman may
award compensation not exceeding Rs 1 lakh to the complainant for mental
agony and harassment. The Banking Ombudsman will consider the loss of the
complainant’s time, expenses incurred by the complainant, harassment and
mental anguish suffered by the complainant while passing the compensation.
• The RBI introduced an NBFC Ombudsman scheme to redress complaints with
regard to NBFCs in 2018.
• The NBFC Ombudsman is a senior official appointed by the RBI to redress
customer complaints against NBFCs for deficiency in certain services covered
under the grounds of complaint specified under Clause 8 of the Scheme. Four
NBFC Ombudsman have been appointed with their offices located at Chennai,
Kolkata, New Delhi and Mumbai.
● Certainly, an adversarial adjudication by Courts necessarily stands on a higher plane than a
decision by the ombudsmen therefore if a matter is pending before a court ombudsman cannot
exercise jurisdiction.
● While designing it must I am sure that the lower is constitutionally valid must not violate
Article 14, 21, 32, 226 and 311 of the Indian Constitution it shall not transgress the fundamental
right doctrine of separation of powers rule of law and other basic features of the constitution.
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