Stepping up debt recovery

Amendments in debt recovery laws bring the rules in line with the recently introduced Insolvency and Bankruptcy Code, though it will take some time before changes are seen on the ground

Passage of the Enforcement of Security Interest and Recovery of Debts Laws and Miscellaneous Provisions (Amendment) Bill, 2016 in the Rajya Sabha last week has finally given the banking sector something to cheer about.

India's stressed assets situation reached record highs of $133 billion in 2015, a five-fold increase since 2011, giving banks plenty to worry about. The Supreme Court's concerns over the Kingfisher-Mallya story have further highlighted the extreme need to remedy the nation's debt recovery structure.

The Bill seeks to incorporate certain important provisions into four laws - the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (Sarfaesi Act); the Recovery of Debts due to Banks and Financial Institutions Act, 1993; the Indian Stamp Act, 1988; and the Indian Depositories Act, 1996, to modernise the process of asset securitisation.
 

The Bill also seeks to bring the current debt recovery framework in line with the Insolvency and Bankruptcy Code of 2015, aiming to create a more functional environment for asset reconstruction companies (ARCs).

"Having a well-defined law is the first step. With these amendments, we can now hope to see a framework that will create a competitive, transparent and efficient market for distressed assets. As with most new legislative change, the proof will be in the taste of the pudding," said Reshmi Khurana, managing director and head for South Asia at Kroll, the multinational corporate investigations and risk consultancy.

Under the new regime, non-institutional investors may hold up to a 100 per cent stake in ARC's. Relevant amendments to the Stamp Act also make the process of transferring stressed assets between banks and ARC's exempt from stamp duties. This makes the asset reconstruction process more feasible and gives the banks a real opportunity to get their books in order.

Alongside the liberalisation of foreign investment norms and expected evolution of the ARC market, the Bill also extends the powers of the Reserve Bank of India (RBI) to regulate these entities. The central bank is authorised to audit, inspect and set standards (including the fixation of fees) on ARCs, as well as to impose penalties (up to Rs 1 crore) and change the composition of ARC boards for illegality or non-competitive behaviour.

The Bill also creates a central registry to replace the previously decentralised system of registration, at both the central and state levels. This will make the process of undertaking due-diligence exercises simpler and more convenient. The changes make the process of registration with this central registry mandatory, to enforce securitisation of assets.

"The mandatory registration of security interest in a central registry and enhancement of the powers of the RBI vis-a-vis governance of ARCs will make the asset securitisation and reconstruction process more efficient and is expected to carry forward the objectives of the Insolvency and Bankruptcy Code," said Ramesh Vaidyanathan, partner, Advaya Legal.

"Creditors, though, will now have to ensure that they comply with filing requirements in a timely manner. This will help in establishing clarity on priority of claims and minimise competition which arise due to information asymmetry," said Divyanshu Pandey, partner, J Sagar Associates.

The Bill further mandates a maximum of 30 days (60 days after extension) for a District Magistrate to clear an application for possession made by a secured creditor under Sarfaesi. It also clarifies the jurisdiction of Debt Recovery Tribunals (DRT's), backbone of the recovery structure. The amendments propose an online mechanism for these tribunals, including filing of applications and documents in online form.

TIGHTENING DEBT RECOVERY
Takeaways from the Enforcement of Security Interest and Recovery of Debts Laws and Miscellaneous Provisions (Amendment) Bill 2016

• Non-institutional investors may hold up to 100% stake in asset reconstruction companies (ARCs)
• Transfer of stressed assets between banks and ARCs exempt from stamp duty
• RBI empowered to inspect, audit and regulate ARC’s
• Creation of a central registry with mandatory compliance requirements
• Fixing of time limit for Sarfaesi applications to district magistrate
• New categories of creditors eligible for remedies under Sarfaesi Act

Under the new system, debtors challenging DRT orders will first have to deposit half the adjudicated sum before approaching the appellate tribunal.

The Bill also brings hire purchase and financial leases under the Sarfaesi ambit. The changes also allow new classes of creditors, such as bondholders who subscribe to secured non-convertible debentures, to seek remedies under debt recovery laws. This is expected to strengthen the bond market in the coming days.

Other amendments to Sarfaesi allow secured creditors the opportunity to take control of an indebted company (if the amount of debt is equal to or greater than 51 per cent of the net worth of the concern) and restore its business to recover the necessary dues.

With liquidity issues still existent, the situation of non-performing assets might still be a worry even after the introduction of the new amendments but the changes are bound to improve the scenario for the banking sector.

"The impact of these legislative changes will only be visible on the ground over the next 12 to 18 months," said Vaidyanathan.