Banks must follow MSME Revival Framework before classifying loans as Non-Performing Assets under Sections 21 and 35A

The SC held that banks are obligated to follow the Framework for Revival and Rehabilitation of MSMEs contained in the May 29, 2015 notification before classifying MSME loan accounts as Non-Performing Assets. The RBI's directions under Banking Regulation Act Sections 21 and 35A carry statutory force and are mandatory. While banks must follow the restructuring process, MSMEs are equally required to be vigilant and provide authenticated documents to demonstrate eligibility for framework benefits. The HC's finding that banks are not obliged to adopt restructuring processes was erroneous and set aside.

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Issues Involved:
1. Whether the Banks/NBFCs are obliged to adopt the restructuring process as per the Notification dated 29th May, 2015, without any application by the MSMEs.
2. Whether the classification of MSME loan accounts as Non-Performing Assets (NPAs) without following the said Notification is valid.
3. Whether the Instructions/Directions issued by the Central Government and the Reserve Bank of India (RBI) regarding the Framework for Revival and Rehabilitation of MSMEs have statutory force and are mandatory.

Issue-Wise Detailed Analysis:

1. Obligation of Banks/NBFCs to Adopt Restructuring Process:
The appellants, who are MSMEs, challenged the High Court's decision which held that Banks/NBFCs are not obliged to adopt the restructuring process as per the Notification dated 29th May, 2015, without an application by the MSMEs. The High Court's decision was based on the premise that the restructuring process is not mandatory unless initiated by the MSMEs themselves.

2. Classification of MSME Loan Accounts as NPAs:
The appellants contended that the respondents (Banks/NBFCs) could not classify their loan accounts as NPAs without following the procedure laid down in the Notification dated 29th May, 2015. This Notification, issued by the Ministry of MSME, mandates the identification of incipient stress in the account and the exploration of various options to resolve the stress before classifying the accounts as NPAs. The appellants argued that non-observance of these mandatory instructions rendered the subsequent actions under the SARFAESI Act illegal and void ab initio.

3. Statutory Force and Mandatoriness of Instructions/Directions:
The Supreme Court examined whether the Notification and subsequent Instructions/Directions issued by the Central Government and the RBI have statutory force and are mandatory. The court noted that the MSMED Act aims to facilitate the promotion, development, and enhancement of MSMEs' competitiveness. Section 9 of the MSMED Act empowers the Central Government to issue necessary instructions, while Sections 21 and 35A of the Banking Regulation Act empower the RBI to issue binding directions to banking companies.

The court observed that the Notification dated 29th May, 2015, and the subsequent RBI Directions, which include the "Framework for Revival and Rehabilitation of MSMEs," are binding on all Scheduled Commercial Banks. These directives must be followed before classifying MSME loan accounts as NPAs. The court emphasized that the entire exercise under the Framework is to be carried out before the accounts turn into NPAs.

The court further clarified that while the SARFAESI Act allows the enforcement of security interests, the process can only be initiated after the borrower's account is classified as an NPA. The Framework for Revival and Rehabilitation of MSMEs must be followed prior to this classification. The court held that the Instructions/Directions issued under the MSMED Act and the Banking Regulation Act have statutory force and are mandatory for all banking companies.

Conclusion:
The Supreme Court set aside the High Court's order, holding that the Banks/NBFCs are obliged to adopt the restructuring process as per the Notification dated 29th May, 2015. The Instructions/Directions issued by the Central Government and the RBI regarding the Framework for Revival and Rehabilitation of MSMEs are mandatory and have statutory force. The court allowed the appeals to the extent of setting aside the High Court's erroneous findings but did not remand the matters for fresh consideration due to the conclusion of proceedings under the SARFAESI Act. The appellants were granted the liberty to pursue any other legal remedies available to them.

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