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Finance Ministry reviewing Court Order prohibiting PSU Banks from issuing Look out Circulars against Loan Defaulters


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The Finance Ministry is currently reviewing a recent ruling by the Bombay High Court that prohibits public sector banks from seeking the issuance of look out circulars (LOCs) against wilful defaulters. This decision, which invalidates the powers granted by the Union government to public sector banks to take action against wilful defaulters, has raised concerns about its potential violation of fundamental rights.

Unconstitutional Powers and Expert Commentary

A division bench of Justice Gautam Patel and Justice Madhav Jamdar declared as unconstitutional a clause in an office memorandum issued by the central government, which empowered the Chairman, Managing Directors, and Chief Executive Officers of public sector banks to request the issuance of LOCs against default borrowers or guarantors. This ruling, detailed in a 289-page judgement, emphasized the limitations of executive functions and the need to adhere to constitutional principles.

Former Financial Services Secretary D K Mittal commented on the High Court order, expressing the view that it is not appropriate for banks to seek the issuance of LOCs against defaulters without thorough investigation. He highlighted the potential negative impact on borrowers, as well as the importance of investigative agencies like the Central Bureau of Investigation (CBI) in conducting proper investigations.

Understanding Default and Mediation Framework Recommendation

Mittal also acknowledged that default by a borrower can occur due to various reasons, such as business failure, adverse economic conditions, or global factors. He emphasized that only a few borrowers have wilful intentions to not pay, and cautioned against hastily labeling borrowers as wilful defaulters without thorough investigation.

Furthermore, Mittal discussed the detrimental effects of banks hastily labeling borrowers, leading to bankruptcy and reduced asset values, thereby causing losses for shareholders, banks, and promoters. He noted the timeliness of the recent recommendation by an expert committee for the introduction of a voluntary mediation framework under the Insolvency and Bankruptcy Code (IBC).

Recommendation for Voluntary Mediation Framework

The expert panel established by the Insolvency and Bankruptcy Board of India (IBBI) has suggested the phased introduction of voluntary mediation as a dispute resolution mechanism under the Code. This recommendation aims to complement existing insolvency resolution processes while upholding the established timelines.

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