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On Friday, the Supreme Court of India made an important decision regarding how banks and financial institutions should resolve their disputes over secured assets. The Court ruled that if two or more banks have competing claims on the same secured asset, these disputes must be solved through mandatory arbitration as stated in Section 11 of the SARFAESI Act. This means that courts like the Debt Recovery Tribunals (DRTs) do not have the power to decide such cases between banks.
What Did the Supreme Court Say?
A Bench of two judges, Justices JB Pardiwala and Pankaj Mithal, clearly said that when banks or financial institutions disagree about who has the right to a secured asset, they must use arbitration or conciliation to resolve the matter. This is the only way allowed by law under Section 11 of the SARFAESI Act.
The Court explained that this rule helps avoid delays caused by multiple legal battles in courts. It protects the main goal of the SARFAESI Act, which is to allow quick recovery of debts by banks and financial institutions. The Court noted that allowing courts like the DRTs to handle these disputes could slow down this important process.
No Need for a Written Arbitration Agreement
One key point the Supreme Court emphasized is that banks and financial institutions do not need a separate written arbitration agreement for this process. The law itself assumes that the parties agree to arbitration automatically.
The judgment stated, “Section 11 of the SARFAESI Act provides for statutory arbitration for disputes between the parties listed, without needing an explicit written agreement.” This means that even if the banks have not signed any arbitration contract, they must still resolve their disputes through arbitration.
The Background of the Case
This case came from a dispute between two banks — Bank of India and Punjab National Bank (PNB) — over stocks of rice and paddy pledged by a borrower named Sri Nangli Rice Mills Pvt Ltd.
- Bank of India had claimed the stock as security since 2006 by hypothecation (a form of pledge).
- Later, in 2013, PNB gave loans using warehouse receipts as security, which related to the same stocks.
- When the borrower failed to repay loans, Bank of India found that the stock they had pledged also carried PNB’s pledge marks.
- This created a conflict between the two banks about who had the first right to the stock.
Both banks tried to enforce their security rights under the SARFAESI Act. The matter reached the Debt Recovery Tribunal (DRT), which first ruled in favor of Bank of India. However, when the case went to the Debt Recovery Appellate Tribunal (DRAT), the DRAT sent the case back to DRT asking if the DRT had the power to decide inter-bank disputes under Section 17 of the SARFAESI Act.
Later, the DRT said it did not have jurisdiction and told the banks to go for arbitration as per Section 11. The High Court agreed with this, but Bank of India challenged the decision in the Supreme Court.
Supreme Court’s Final Decision
The Supreme Court made it clear that arbitration under Section 11 of the SARFAESI Act is not optional — it is mandatory. The Court pointed to the word “shall” in the law, which creates a legal obligation to use arbitration.
The Court said:
“The word ‘shall’ in the provision means the parties must follow this method. They cannot ignore it or take the dispute to any other forum.”
This ruling means banks and financial institutions cannot bypass arbitration or take such disputes to courts or tribunals.
Scope of Disputes Covered
The Court explained that the phrase “non-payment of any amount due, including interest” in Section 11 covers a wide range of disputes. It not only applies to direct loan defaults but also covers situations where multiple creditors have claims against the same asset, such as when a borrower defaults on loans from more than one bank.
Legal Fiction for Arbitration Consent
The law creates a legal fiction where the parties are treated as if they have agreed in writing to arbitrate. This ensures that arbitration is automatic and compulsory, even if the parties have not signed an arbitration agreement.
Disputes Involving Borrowers Are Different
The Court also clarified that Section 11 applies only to disputes between banks, financial institutions, asset reconstruction companies (ARCs), and qualified buyers. It does not apply to disputes involving a borrower, even if the borrower is itself a financial institution.
The Court said:
“A financial institution that borrows money will be treated as a borrower under the SARFAESI Act and cannot claim arbitration under Section 11.”
Legal Representatives
The petitioner Bank of India was represented by Senior Advocate Dhruv Mehta along with other advocates. The respondents had their own legal teams.
Conclusion
In short, the Supreme Court has made it compulsory for banks and financial institutions to settle their disputes over secured assets through arbitration under Section 11 of the SARFAESI Act. This ruling prevents such disputes from being delayed in courts or tribunals, helping speed up debt recovery. The decision also clarified that no written arbitration agreement is needed, and the law itself ensures arbitration happens automatically.
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