Section 45 Banking Regulation Act: Moratorium and Bank Reconstruction

A bank that is failing cannot simply be allowed to fail. Its depositors would lose their money, its borrowers would lose their credit lines, and the loss of confidence would spread to banks that are perfectly sound. Section 45 of the Banking Regulation Act is the provision by which the State stops a failing bank, freezes its liabilities, and rebuilds or merges it before the damage spreads. It has been used three times in recent years, and those three uses are now the best way to understand it.

1. The Scheme of Section 45

Figure 1: The steps from application to sanctioned scheme

• Application (Section 45(1)): the Reserve Bank may apply to the Central Government for an order of moratorium in respect of a banking company. Since the Banking Regulation (Amendment) Act, 2020, the Bank may also prepare a scheme of reconstruction or amalgamation without first making an order of moratorium, which removes the delay the earlier sequence imposed.
• The order (Section 45(2)): the Central Government may, after considering the application, make an order of moratorium staying the commencement or continuance of all actions and proceedings against the company for a period not exceeding six months, on such terms and conditions as it thinks fit, and may extend it so long as the total period does not exceed six months.
• Effect of a moratorium (Section 45(3)): except as otherwise directed, the banking company must not make any payment to depositors or discharge any liabilities or obligations to any other creditor during the period. The 2020 amendment added that it may also not grant any loans or advances or make any investment in any credit instrument.
• Preparation of a scheme (Section 45(4)): during the period of moratorium or at any other time, if the Reserve Bank is satisfied that it is necessary in the public interest, in the interests of the depositors, in order to secure the proper management of the banking company, or in the interests of the banking system of the country as a whole, it may prepare a scheme for the reconstruction of the banking company or for its amalgamation with any other banking institution.

Figure 2: The four grounds on which a scheme may be prepared

2. What a Scheme May Contain

• Constitution and capital: the constitution, name and registered office, the capital, assets, powers, rights, interests, authorities and privileges, and the liabilities, duties and obligations of the banking company or the transferee bank.
• Transfer: the transfer to the transferee bank of the business, properties, assets and liabilities of the banking company, on such terms and conditions as may be specified.
• Board and constitution (clauses (c) and (d)): any change in the board of directors or the appointment of a new board, and the alteration of the memorandum and articles.
• Legal proceedings (clause (e)): the continuation by or against the reconstructed or transferee bank of pending actions and proceedings.
• Members and creditors (clause (f)): the reduction of the interest or rights which the members, depositors and other creditors have in or against the company, to such extent as the Reserve Bank considers necessary in the public interest, in their interests or for the maintenance of the business of the bank, with payment to creditors and allotment of shares or cash to members under clauses (g) and (h).
• Employees (clauses (i) and (j)): the continuance of the services of all employees on the same terms, except those expressly excluded, and compensation for those who do not continue.
• Incidental matters: any other terms and conditions and incidental, consequential and supplemental matters necessary to give effect to the scheme.

3. Objections, Sanction and Effect

• Circulation (Section 45(6)(a)): a copy of the draft scheme is sent to the banking company, the transferee bank and any other banking institution concerned, for suggestions and objections within a period specified by the Reserve Bank. In practice the Reserve Bank also publishes the draft so that members, depositors and other creditors can respond.
• Modification (Section 45(6)(b)): the Reserve Bank may make such modifications in the draft scheme as it considers necessary in the light of the suggestions and objections received from the banks concerned and from their members, depositors and other creditors.
• Sanction (Section 45(7)): the scheme is then placed before the Central Government for sanction, and the Central Government may sanction it with or without modifications and bring it into force by notification in the Official Gazette on a date specified.
• Conclusive sanction (Section 45(7A)): the Central Government's sanction is conclusive evidence that all the requirements of the section have been complied with, and a certified copy of the scheme is admissible in all legal proceedings.
• Binding effect (Section 45(8)): from the date the scheme comes into operation, it is binding on the banking company, the transferee bank, and all the members, depositors, creditors and employees of each of them, and on any other person having any right or liability in relation to them.
• Vesting (Section 45(9)): the properties, assets and liabilities of the banking company stand transferred to the transferee bank to the extent the scheme provides.
• Parliament (Section 45(11)): a copy of the sanctioned scheme, and of any order removing difficulties under Section 45(10), is laid before both Houses of Parliament. Under Section 45(14) the section and any scheme under it override other law and agreements.

4. The Schemes in Practice

Yes Bank

• The moratorium: the Central Government made an order of moratorium on 5 March 2020 on the Reserve Bank's application, capping withdrawals at ₹50,000, and the Reserve Bank superseded the board under Section 36ACA and appointed an administrator, after a long deterioration in asset quality and a failure to raise capital.
• The scheme: the Yes Bank Limited Reconstruction Scheme, 2020 was notified on 13 March 2020. The State Bank of India invested so as to hold up to forty nine per cent and could not reduce its holding below twenty six per cent for three years, and other banks also subscribed. A new board was constituted.
• The moratorium was lifted on 18 March 2020, within the statutory period, and the bank continued as a going concern under its own name.
• The bond controversy: the administrator wrote down additional tier 1 bonds of about ₹8,415 crore to zero. The Bombay High Court set aside the write down in January 2023, holding that the sanctioned scheme contained no such clause and that the administrator had no power to effect it after the scheme came into force. The Supreme Court stayed that judgment, and as at the middle of 2026 the appeal stood reserved for judgment. The current position should therefore be checked before the point is relied upon.

Lakshmi Vilas Bank

• The moratorium was imposed on 17 November 2020, after the bank's capital had been exhausted and its shareholders had voted against the reappointment of several directors.
• The scheme: the Lakshmi Vilas Bank Limited (Amalgamation with DBS Bank India Limited) Scheme, 2020 took effect on 27 November 2020, within ten days. The entire paid-up share capital was written off, and depositors were transferred to the acquiring bank without loss.
• Significance: it was the first use of a wholly owned subsidiary of a foreign bank as the acquiring institution, and it showed that equity holders bear the loss first while depositors are protected.

Punjab and Maharashtra Cooperative Bank

• All inclusive directions were issued under Section 35A on 23 September 2019 after large concealed exposures to a single borrower group came to light, and withdrawals were severely restricted for more than two years.
• The scheme: the bank was amalgamated with Unity Small Finance Bank, a newly licensed institution, by a scheme notified on 25 January 2022, with depositors paid in instalments over a period of years.
• The lesson: the long delay exposed the weakness of dual control over cooperative banks and was a principal reason for the Banking Regulation (Amendment) Act, 2020, which strengthened the Reserve Bank's powers over them and permitted a scheme without a prior moratorium.

5. Questions Arising

Why allow a scheme without a moratorium?

Because a moratorium is itself destructive. The moment withdrawals are frozen, the bank's franchise value collapses, its best customers leave and the price any acquirer will pay falls. The PMC Bank experience showed that a long moratorium can leave depositors without their money for years. The 2020 amendment therefore allows the Reserve Bank to prepare and have sanctioned a scheme while the bank is still open, so that the transfer can happen over a weekend rather than over years.

Can a sanctioned scheme be challenged in court?

Yes, but not easily. The scheme is made by a specialised regulator and sanctioned by the Central Government, and it is laid before Parliament. Courts will not reassess the commercial wisdom of a resolution. Review remains available where the scheme goes beyond the statutory power, where the procedure in Section 45(6) was not followed, or where something is done after the scheme that the scheme itself did not authorise. The Bombay High Court's decision on the Yes Bank bonds rested on the last of these.

6. Quick Revision

7. Frequently Asked Questions

What is a moratorium on a bank?

An order of the Central Government under Section 45(2), on the Reserve Bank's application, staying the commencement and continuance of all actions and proceedings against a banking company for a period not exceeding six months. During it the bank may make no payment to depositors and discharge no liability except as directed, and since the 2020 amendment may not lend either.

On what grounds may the Reserve Bank prepare a scheme under Section 45?

Where it is satisfied that a scheme is necessary in the public interest, in the interests of the depositors, in order to secure the proper management of the banking company, or in the interests of the banking system of the country as a whole. Any one of the four grounds suffices.

Can a scheme under Section 45 reduce what depositors are owed?

Yes. Section 45(5)(f) expressly permits a scheme to provide for the reduction of the interest or rights which the members, depositors and other creditors have in or against the banking company, to the extent the Reserve Bank considers necessary. In practice Indian schemes have protected depositors in full and imposed the loss on shareholders and, in the Yes Bank case, on bondholders.

What happened in the Yes Bank reconstruction?

A moratorium was imposed on 5 March 2020 and the Yes Bank Limited Reconstruction Scheme, 2020 was notified on 13 March 2020, requiring the State Bank of India to invest and hold at least twenty six per cent of the capital for three years, with a new board. The moratorium was lifted on 18 March 2020. The write down of about ₹8,415 crore of additional tier 1 bonds was set aside by the Bombay High Court in January 2023, stayed by the Supreme Court, and the appeal remains to be decided.

Why was the Banking Regulation Act amended in 2020?

Chiefly because of the Punjab and Maharashtra Cooperative Bank failure. The amendment strengthened the Reserve Bank's powers over cooperative banks, and amended Section 45 so that a scheme of reconstruction or amalgamation may be prepared without first imposing a moratorium, so that a failing bank can be transferred while it is still open rather than after depositors have been locked out for years.

Can a depositor challenge a scheme of reconstruction?

Only on narrow grounds. A scheme under Section 45 is sanctioned by the Central Government on the Reserve Bank's recommendation and, once it takes effect, Section 45(8) makes it binding on the banking company, the transferee, the members, the depositors and all other creditors. A depositor is therefore not a party whose consent is required and cannot resist the transfer of his account to the transferee. What remains open is a challenge by writ on ordinary administrative law grounds, that the scheme was made without the statutory preconditions, in excess of the powers the section confers, or in a manner that is arbitrary. The practical point is that the depositor rarely has an interest in resisting, since the alternative to reconstruction is liquidation and a claim limited to the insured amount.

8. Related Topics and Provisions

• Voluntary amalgamation and acquisition of undertakings
• Winding up of banking companies
• Deposit insurance
• Inspection, directions and penalties
• Management of banking companies
• Cooperative banks and the 2020 amendment