In Central Bank of India v State of Kerala and Ors on 27 February, the Supreme Court of India stated that the Recovery of Debts Due to Banks and Financial Institutions Act, 1993, (DRT Act) and the Securitization and Reconstruction of Financial Assets and Enforcement of Security Interests Act, 2002, (SARFAESI Act) do not create a preceding charge in favour of banks, financial institutions and other secured creditors. A specific statutory charge, meanwhile, prevails over the rights of any other secured creditor.
Under common law, a settled principle, also known as the doctrine of priority of state debts, allows the government to have a first charge over the priority of debts. However, there have been conflicts recently between secured creditors who have initiated credit recovery proceedings (under the provisions of the DRT Act or the SARFAESI Act) and the government, with respect to the priority of claims on the debts due to them.
In light of the doctrine of priority of state debts, the government has contended that it has priority over claims by secured creditors. Banks, financial institutions and other secured creditors that have initiated proceedings under the DRT Act or the SARFAESI Act have maintained that the non-obstante clause contained in both acts has an overriding effect on the provisions of any other legislation which provides for the recovery of dues, including debts due to the state.
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A non-obstante clause is a legislative device usually employed to override contrary provisions that may be found in one or more pieces of legislation.
In the present case, the Supreme Court tagged various appeals involving the interpretation of non-obstante clauses contained in the DRT Act and the SARFAESI Act in relation to clauses contained in several pieces of state government revenue legislation. These include the Bombay Sales Act, 1959, and the Kerala General Sales Tax Act, 1963, which permit a first charge in favour of the government over the property of an assessee who has defaulted in the payment of government dues.
The Supreme Court noted that the non-obstante provisions contained in the two acts merely override the credit recovery proceedings initiated under the two pieces of legislation, not the legislation itself. Further, the acts regulate the distribution of money received by the secured creditor, and do not create a preceding charge in favour of the secured creditor.
The Supreme Court also observed that it could give effect to the non-obstante clauses contained in the DRT Act and SARFAESI Act only if there was a specific provision in creating a first charge in favour of banks, financial institutions and other secured creditors. It cited the non-obstante provisions of the Companies Act, 1956, and the Employees’ Provident Funds and Miscellaneous Provisions Act, 1952, which recognize the priority of workers’ dues over other debts.
While the Supreme Court has recognized that the DRT Act and SARFAESI Act have been created for the benefit of banks, financial institutions and other secured creditors, it has clarified the fact that these two pieces of central legislation do not create a first charge in favour of secured creditors.
It can therefore be concluded that the state will have a priority claim if specific provisions awarding priority to state dues exist. However, if the dues are recoverable merely as arrears of land revenue, those debts cannot have a priority claim over the dues of a secured creditor.
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The legislative and regulatory update is compiled by Nishith Desai Associates, a Mumbai-based law firm. The authors can be contacted at nishith@nishithdesai.com. Readers should not act on the basis of this information without seeking professional legal advice.
