The Wider Recovery Map: Lok Adalats and the Insolvency Code

In one line

Besides the Tribunal and SARFAESI, a bank may settle in a Lok Adalat, compromise directly, or take a corporate borrower into insolvency, where it stops being a creditor with a claim and becomes a member of a committee with a vote.

In the wording a student can write in an exam: a bank's recovery routes are a compromise settlement negotiated directly, a Lok Adalat award under the Legal Services Authorities Act, 1987, which is deemed a decree and is not appealable; an application to the Debts Recovery Tribunal under the Recovery of Debts and Bankruptcy Act, 1993; enforcement of security under the SARFAESI Act, 2002; and, for a corporate debtor, the corporate insolvency resolution process under the Insolvency and Bankruptcy Code, 2016.

Why there are so many routes

Each was created because the one before it failed, and none was repealed, which is the same pattern chapter 190 found in rural credit.

The civil suit was too slow, so the Tribunal came in 1993.

The Tribunal was swamped, so SARFAESI came in 2002 and let the secured creditor skip adjudication.

But SARFAESI only helps a secured creditor with realisable security. It does nothing about an unsecured creditor, nothing about a company whose value lies in its business rather than its assets, and nothing about the coordination problem when many creditors are chasing the same debtor.

That last problem is the reason for the Insolvency and Bankruptcy Code, 2016, and it is worth stating precisely because it explains the Code's whole design. When a company fails, each creditor's rational course is to seize what he can first. The result is that the business is dismembered and sold piecemeal, which destroys value that would have survived if the enterprise had been sold whole. A collective process solves a coordination failure that no individual remedy can.

Compromise and Lok Adalat

Compromise settlement. A bank may simply settle: accept less than the full debt in final discharge. Banks operate schemes, sometimes called one-time settlement schemes, with delegated authority to write off the balance.

Two legal points matter. A settlement with a borrower does not automatically discharge the guarantor unless the bank reserves its rights, because section 135 of the Contract Act discharges a surety where the creditor compounds with the principal debtor. Chapter 510 works the surety's discharges. And where the borrower is a director or his concern, section 20A of the Banking Regulation Act makes a remission void without the Reserve Bank's prior approval, as chapters 80 and 520 record.

Lok Adalat. Under the Legal Services Authorities Act, 1987, a Lok Adalat may determine and arrive at a compromise or settlement between parties in a case pending before a court, or in a matter falling within its jurisdiction and not yet brought before a court.