Loan Defaulters Based on Legal Actions in India and Solutions

What is Loan Default?

When a borrower under a loan arrangement fails to pay back the loan upon due date in accordance with the agreed terms and conditions, it may involve one default or several defaults, or inability of the loaner to pay back the loan. Defaults can occur for various reasons: it could be because of financial mismanagement, economic downturns, health emergencies, or even because of willful defaults. Severe action awaits the one who defaults on the loan, ranging from legal action to damage to credit scores to losing precious assets accrued through hard-earned money.

Legal Framework of Action Against Loan Defaulters

In India, several legal mechanisms are in place to deal with loan defaults. These set of laws provide a framework whereby banks and other financial institutions can recover their dues from loan defaulters. Key legal provisions include:

1. The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act of 2002

SARFAESI Act, 2002 is perhaps one of the strongest weapons in the hands of the banks regarding recovery against NPAs. The Act enables banks and financial institutions to take possession and sell the assets of a loan defaulter without the intervention of courts, provided the loan is classified as a non-performing asset. The bank, under the SARFAESI Act, can issue a notice to the defaulter demanding the repayment within 60 days. In case the inability of the defaulter, the bank may exercise its ownership over the secured assets by their disposals in order to return the due loan amount.

2. Recovery of Debts Due to Banks and Financial Institutions (RDDBFI) Act of the year 1993

The RDDBFI Act, therefore, made provisions to establish DRTs and DRATS for speedy recovery of dues due to banks. Banks can approach the DRT for the recovery of dues if the debt amount exceeds ₹20 lakhs. DRTs are thus empowered to issue orders for the recovery of debts and enforce the sale of assets pledged as collateral.

3. Insolvency and Bankruptcy Code (IBC), 2016

Insolvency and Bankruptcy Code, 2016, was enacted to consolidate and amend the laws relating to reorganization and insolvency resolution of companies and individuals in a time-bound manner. Whenever there is a default in repayment by companies regarding loans availed of, the lenders can also initiate insolvency proceedings under IBC. These proceedings are governed by the National Company Law Tribunal, and if no resolution is arrived at within the required time, the assets of the company may be liquidated for paying off debts of all creditors.

4. Criminal Proceedings Under the Indian Penal Code (IPC)

In case of wilful default, criminal proceedings can be initiated under the IPC when there is a deliberate attempt to avoid repayment by the borrower despite having the means to repay the loan. Sections 406 is criminal breach of trust as well as Section 420 is cheating can be invoked against the defaulter under the IPC. However, criminal proceedings are normally resorted to in cases when there is a prima facie fraud or deception on the part of the borrower.

The Role of Credit Information Companies

CICs represent the third pillar of monitoring and reporting credit behaviour both for individuals and businesses. In India, CIBIL, Experian, and Equifax are the CICs that maintain records of credit repayment history for every borrower and assign a credit score based on their credit history. If the borrower defaults, the bank reports the default to the CIC, and the borrower's credit score erodes accordingly. The low credit score would affect the borrower's credibility in the future when getting loans, coupled with higher interest rates in subsequent borrowings.

Strategies for Loan Defaulters

Dealing with loan defaulters requires a strategic approach that will balance recovery with the maintenance of a relationship with the borrower. Banks and financial institutions can consider the following solutions in handling loan defaults:

1. Restructuring of Loan

The step a lender may start off with is the extension of the option of loan restructuring to the borrower. This means that some terms of the loan will be changed; in other words, the length of time to repay the loan could be extended, the rate of interest reduced on the payments. Such structuring of loans gives temporary relief to borrowers in financial distress by putting them back on track for repayment.

2. Loan Settlement

In some cases, a one-time settlement is offered to the loan defaulter by the bank itself. The account holder is given an opportunity to repay part of the outstanding loan amount as a full and final settlement of the entire loan amount. Though recovery will be less than the due amount, the bank is recovering sooner, and the non-performing asset load comes down.

3. Negotiation and Mediation

Negotiation and mediation can thus be effective ways of settling disputes between lenders and loan defaulters. By negotiation, the lender and borrower may come up with a mutually acceptable proposition by which the latter will pay up without resorting to legal redress. In mediation, there is a third party involved who conducts discussions between the parties to assist them in arriving at a settlement.

4. Legal Recourse

Legally, it may mean taking the loan defaulter to court. As mentioned earlier, it can be in the form of invoking the SARFAESI Act, filing a case with the DRT, or initiating insolvency under the IBC. Though this is really costly and time-consuming, it is necessary in recovering big debts, besides serving as a lesson and deterrent for other possible defaulters.

5. Preventive Measures

Default prevention is equally crucial as default resolution. Banks can prevent the defaults on many counts by taking many preventive steps to limit the possibility of defaults, including, but not limited to:

• Thorough credit assessment prior to granting loans.
• Prudent risk management.
• Stress testing of loan accounts on a regular basis.
• Providing counseling and financial support to borrowers in distress.

The problem of loan defaulters is a multivariate challenge. The Indian legal system, under the SARFAESI Act, the RDDBFI Act, and the Insolvency and Bankruptcy Code, provides multiple options for banks and other financial institutions to pursue a case against loan defaulters. However, courts should be the last resort; the banks must first seek other alternatives such as restructuring, negotiation, and settlement before knocking on the door of the courts.

It is important to the borrowers to understand what happens in case one fails to pay a loan and to ask for help where one is struggling to repay. This way, borrowers can work with the lender to avoid severe repercussions of the default, such as legal action against them and an attack on their credit score, by considering all the available options.

Loan defaulters require addressing through a mix of legal action, strategic solutioning, and prevention measures. Banks and financial institutions will have to achieve a balancing act in recovering their dues without affecting the relationship with the borrowers. By doing so, they will minimize the impact brought about by bank loan defaulters on their books and contribute towards the stability of the economy.