A worker operates a machine inside a small scale manufacturing unit in Mumbai. File
| Photo Credit: Reuters

The Supreme Court has held that banks or creditors are required to identify the incipient stress in the account of the Micro, Small and Medium Enterprises (MSMEs), before their accounts turn into non-performing assets.

A Bench headed by Justice Bela Trivedi pronounced the recent order in a batch of appeals filed by MSMEs, represented by advocate Mathews J. Nedumpara, focusing on a notification ‘Instructions for the Framework for Revival and Rehabilitation of Micro, Small and Medium Enterprises’ issued on May 29, 2015 under Section 9 of the MSMED Act, revised by the Reserve Bank of India (RBI) in March 2016 in exercise of the powers conferred by Section 21 and 35(A) of the Banking Regulation Act.

The court held that the May 2015 notification has “statutory force binding to all Scheduled commercial banks, licensed to operate in India by the RBI”.

“The entire exercise as contained in the ‘Framework for Revival and Rehabilitation of MSMEs’ is required to be carried out by the banking companies before the accounts of MSMEs turn into non-performing asset (NPA),” the court held.

However, the Bench directed that it would also be incumbent on the part of the MSMEs concerned to produce authenticated and verifiable documents/material for substantiating its claim of being MSME before its account is classified as NPA.

“If that is not done, and once the account is classified as NPA, the banks i.e. secured creditors would be entitled to take the recourse to Chapter III of The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI) Act for the enforcement of the security interest,” the two-judge Bench ordered.

The appellant MSMEs had challenged a Bombay High Court decision of January 11, which dismissed their writ petitions. The High Court had held that banks and Non-Banking Financial Companies (NBFCs) were not obliged to adopt the restructuring process as contemplated in the May 2015 notification without any specific applications for the purpose from MSMEs.

Mr. Nedumpara had argued that the banks could not have classified the loan accounts of the MSMEs as NPA without following the procedure laid down in the May 2015 notification.

“It was incumbent on the part of the banks/ NBFCs to identify incipient stress in the account… and to explore various options to resolve the stress in the account as contemplated in the May 2015 notification,” Mr. Nedumpara had argued.