Non-performing Assets and Recovery in Banking Law: Complete Notes

Bad debt is where banking law is tested. Every other branch of the subject, the licence, the capital, the appraisal and the security, exists to keep a bank out of this one. When it fails, the law supplies a sequence: recognise the loss honestly, try to resolve the account, enforce the security, sue for the balance, and if nothing works, put the company itself into insolvency. This note sets out that sequence and the statutes that make up each stage.

Figure 1: The sequence from recognition to insolvency

1. Recognition

• The test: an asset is non-performing when it ceases to generate income. For a term loan, interest or an instalment overdue for more than ninety days; for a cash credit or overdraft, the account out of order for ninety days; for a bill, overdue more than ninety days; for agriculture, two crop seasons for a short duration crop and one for a long duration crop.
• Out of order: the balance continuously above the limit or drawing power, or no credits for ninety days, or credits short of the interest debited.
• Day end and borrower-wise: classification is done as part of the day end process, and all facilities of a borrower are classified together.
• Early warning: SMA-0 at one to thirty days, SMA-1 at thirty one to sixty, SMA-2 at sixty one to ninety, reported to the Central Repository of Information on Large Credits.
• The four classes: standard; sub-standard, non-performing for twelve months or less; doubtful, sub-standard for twelve months, in three sub-classes; and loss.
• Provisioning: fifteen per cent for sub-standard (twenty five if unsecured), twenty five, forty and one hundred per cent of the secured portion for the three doubtful classes with one hundred per cent of the unsecured portion, and one hundred per cent for loss.
• Income: recognised only on receipt, with unrealised interest reversed, and upgradation only on payment of the entire arrears.
• The instruments now: for commercial banks the norms sit in the Income Recognition, Asset Classification and Provisioning Directions, 2025, issued in the Reserve Bank's consolidation of 28 November 2025, and an expected credit loss framework, finalised on 27 April 2026, applies to commercial banks other than small finance, payments and local area banks from 1 April 2027.

2. Resolution and Culpability

• Dharani Sugars and Chemicals Ltd. v. Union of India, (2019) 5 SCC 480: struck down the circular of 12 February 2018 as ultra vires Section 35AA of the Banking Regulation Act, which permits a direction to initiate insolvency only in respect of a specific default by a specific debtor on the Central Government's authorisation.
• The Prudential Framework of 7 June 2019: recognition on default; a review within thirty days; an inter-creditor agreement binding all where lenders holding seventy five per cent by value and sixty per cent by number agree, with dissenters entitled to exit or to liquidation value; and implementation within one hundred and eighty days of the end of the review period. For commercial banks the framework is now carried in the Resolution of Stressed Assets Directions, 2025.
• The price of delay: an additional provision of twenty per cent beyond one hundred and eighty days and thirty five per cent beyond three hundred and sixty five, half reversible on filing an insolvency application and the rest on admission.
• Wilful defaulters: under the Master Direction of 2024, effective 28 October 2024, wilful default is default plus capacity to pay, diversion, siphoning, disposal of security without approval, or failure to infuse equity as promised. It must be intentional, deliberate and calculated.
• Process and threshold: accounts of ₹25 lakh and above are examined, classification completed within six months of the NPA date, through an Identification Committee and a Review Committee, with a show cause notice, a written representation and a personal hearing.
• Consequences: no further credit, and none for one year after removal; no credit for a new venture for five years after removal; ineligibility for restructuring until one year after removal; a bar on the person being on the board or in the management; and possible criminal proceedings.

3. The Debts Recovery Tribunal

• The Act: the Recovery of Debts and Bankruptcy Act, 1993, so renamed by the Insolvency and Bankruptcy Code, 2016, upheld in Union of India v. Delhi High Court Bar Association, (2002) 4 SCC 275.
• Jurisdiction: Section 17 for applications by banks and financial institutions where the debt is not less than ₹20 lakh, raised from ₹10 lakh in 2018; Section 18 bars civil courts, saving the Supreme Court and the High Courts under Articles 226 and 227.
• Procedure: Section 19 governs the application, with thirty days to show cause, set off and counterclaim, interim attachment and injunction, and an endeavour to decide within one hundred and eighty days. Section 22 frees the Tribunal from the Code of Civil Procedure while binding it to natural justice, and Section 24 applies the Limitation Act, 1963.
• Appeal: Section 20 within thirty days, and Section 21 requires a debtor to deposit fifty per cent of the determined debt, reducible for recorded reasons to twenty five per cent.
• Execution: a recovery certificate is executed by a Recovery Officer under Section 25 by attachment and sale, taking possession, arrest or the appointment of a receiver, with the Income-tax Act schedules applied by Section 29. Section 26 bars any dispute before him about the amount, and Section 30 gives an appeal to the Tribunal within thirty days, on a fifty per cent deposit by the debtor under Section 30A.

4. The SARFAESI Act

• The idea: a secured creditor may enforce its security interest without the intervention of a court or tribunal.
• Preconditions: the account must be a non-performing asset, and the security must not fall within the exemptions in Section 31, which include agricultural land, amounts below ₹1 lakh and claims under twenty per cent of principal and interest.
• The notice: Section 13(2) gives sixty days to discharge the liability in full. A representation must be considered and reasons given within fifteen days under Section 13(3A), which confers no right of appeal.
• The measures (Section 13(4)): take possession with the right to sell, take over the management, appoint a manager, or require a third party debtor to pay. Where more than one creditor is secured, sixty per cent in value must agree.
• Assistance (Section 14): the Chief Metropolitan Magistrate or District Magistrate takes and delivers possession on an affidavit, within thirty days extendable to sixty in all, which is a ministerial function and not an adjudication.
• Redemption (Section 13(8)): since the 2016 amendment, only until publication of the sale notice.
• Priority (Section 26E): a registered secured creditor is paid in priority over all other debts and over revenues, taxes, cesses and rates due to government, and Section 26D makes registration a condition of enforcement.
• The borrower's remedies: an application to the Tribunal within forty five days under Section 17, with no deposit, and an appeal under Section 18 within thirty days on a deposit of fifty per cent reducible to twenty five.

5. Asset Reconstruction Companies

• Two ideas: securitisation converts a financial asset into marketable securities; asset reconstruction acquires a bank's rights in financial assistance for the purpose of realisation.
• Registration (Section 3): a certificate from the Reserve Bank and the prescribed net owned fund, raised in October 2022 from ₹100 crore to ₹300 crore, with existing companies to comply by 31 March 2026, so that the higher figure now applies to all.
• Acquisition (Section 5): by debenture or by agreement, and on acquisition the company is deemed to be the lender with all the bank's rights vested in it. The borrower's consent is not required.
• Schemes and receipts (Section 7): assets are held in trust for holders of security receipts, issuable only to qualified buyers, with the company required to invest a minimum proportion in each scheme.
• Measures (Section 9): change or takeover of management, sale or lease of the business, rescheduling of debts, enforcement of security interest, settlement of dues and taking possession, with power to convert debt into equity.
• The registry: CERSAI under Section 20, recording securitisation, reconstruction and security interests under Sections 23 and 26B.

6. The Insolvency and Bankruptcy Code

Figure 2: Which route applies

• The shift: from debtor in possession to creditor in control. On admission the board is suspended and a resolution professional manages the company under a committee of creditors.
• Section 7: a financial creditor may apply on a default of ₹1 crore or more, raised from ₹1 lakh on 24 March 2020, and a dispute is no defence, unlike an operational creditor's application under Sections 8 and 9. Since 26 May 2026 the Tribunal must decide within fourteen days or record its reasons for the delay.
• Section 14: the moratorium bars suits, transfers and the enforcement of security including under SARFAESI, while protecting essential supplies. It does not protect a personal guarantor.
• The committee (Section 21): financial creditors only, excluding related parties, voting in proportion to debt, approving a plan by sixty six per cent under Section 30(4).
• Timeline (Section 12): one hundred and eighty days, extendable once by ninety, with an outer limit of three hundred and thirty days including litigation.
• Section 29A: bars a wilful defaulter, a holder of an account non-performing for a year, an undischarged insolvent, a convict and connected persons from submitting a plan, with an exception for micro, small and medium enterprises.
• Section 31: an approved plan binds all stakeholders including government, and claims outside it stand extinguished.
• Section 53: the waterfall, in which a relinquishing secured creditor ranks with workmen immediately after costs, while an enforcing creditor's shortfall ranks alongside government dues much lower. The 2026 amendment treats an under-secured creditor as unsecured for the balance, and excludes from security interest one arising merely by operation of law.
• Banks are not corporate debtors: financial service providers are excluded from the Code, so a bank appears only as a creditor.

Figure 3: The order of distribution in liquidation

7. Choosing a Route

The statutes overlap, and a bank ordinarily has more than one option. SARFAESI is fastest where the bank is secured and the security is outside Section 31, because it needs no court and no decree. The 1993 Act is the route where the bank is unsecured, where a money decree is needed for the shortfall, or where the security is exempt. The Insolvency Code is for a corporate debtor that is worth more as a going concern than in pieces, and it displaces the other two once a moratorium is in place. Transcore v. Union of India, (2008) 1 SCC 125 confirms that a bank need not elect: it may pursue an application before the Tribunal and SARFAESI measures at the same time, because the remedies are complementary rather than inconsistent.

What a bank cannot do is postpone the choice. The prudential norms fix the moment of recognition, the resolution framework prices delay in additional provisions, and the Insolvency Code gives any other creditor the power to begin a process in which the bank's own recovery is subsumed. The structure is designed so that inaction is the most expensive option available.

8. Quick Revision

9. Frequently Asked Questions

When does an account become a non-performing asset?

When interest or an instalment on a term loan is overdue for more than ninety days, when a cash credit or overdraft remains out of order for ninety days, when a bill is overdue more than ninety days, or, for agriculture, after two crop seasons for a short duration crop and one for a long duration crop. Classification is a day end process and is borrower-wise.

What must a bank do before enforcing security under SARFAESI?

Classify the account as a non-performing asset, check that the security is outside the Section 31 exemptions, and serve a Section 13(2) notice giving sixty days to discharge the liability. If the borrower makes a representation, the bank must consider it and communicate reasons for non-acceptance within fifteen days under Section 13(3A).

What is the difference between the 1993 Act and the SARFAESI Act?

The 1993 Act gives a forum: a bank applies to the Debts Recovery Tribunal for an adjudication of the debt and a recovery certificate. The SARFAESI Act gives a self help remedy: a secured creditor enforces its security without any court or tribunal. Transcore (2008) holds that a bank may use both at once, since the remedies are complementary.

Does the moratorium under the Insolvency Code protect a guarantor?

No. Section 14 protects the corporate debtor and its assets. Proceedings against a personal guarantor are not barred, and the approval of a resolution plan does not automatically discharge him, because his liability rests on a separate contract with the creditor. A guarantor who pays is subrogated to the creditor's claim, subject to the terms of any approved resolution plan.

Where does a secured bank rank in liquidation under the Code?

It chooses. A secured creditor that relinquishes its security to the liquidation estate ranks in the second tier of Section 53, equally with workmen's dues for twenty four months, immediately after process costs. One that enforces its security keeps what it realises, but any shortfall ranks much lower, alongside government dues for two years.

Can a court interfere with the decision of a committee of creditors?

Only narrowly. Committee of Creditors of Essar Steel India Ltd. v. Satish Kumar Gupta, (2020) 8 SCC 531 held the committee's commercial wisdom to be paramount and non-justiciable, and confined the Adjudicating Authority to the grounds in Section 31. What remains reviewable is whether feasibility and viability were considered, whether the distribution was arbitrary between similarly placed creditors, and whether the procedure was followed.

What is the practical order in which a bank chooses its remedy?

First, is the bank secured, and is the security outside the Section 31 exemptions. If so, SARFAESI is the fastest route, needing no court. Second, is a money decree required, for an unsecured facility or for the shortfall after enforcement. If so, the Debts Recovery Tribunal. Third, is the debtor a company worth more as a going concern, or has another creditor already moved. If so, the Insolvency and Bankruptcy Code, which displaces the other two once the moratorium begins. The bank need not elect between the first two, but it loses control of the choice once insolvency is admitted.

10. Related Topics and Provisions

• Principles of bank lending and credit facilities
• Hypothecation and mortgage
• Guarantee and indemnity in bank lending
• Inspection, directions and penalties
• Moratorium and reconstruction under Section 45
• Basel norms and capital adequacy