Legum Baccalaureus (LLB) -PAPER-III:Law of Banking and Negotiable Instruments 5th Semester Syllabus Short Notes
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PAPER-III
SYLLABUS
SHORT NOTES
UNIT-I:
HISTORY OF THE BANKING REGULATION ACT
The
history of the Banking Regulation Act, 1949 is essential to
understanding the legal framework governing banking in India. The Act was
introduced to regulate banking companies, ensure public confidence, and
establish effective banking controls. Here’s an overview of its background and
evolution:
1.
Pre-Independence
Period and the Need for Regulation
Early
Banking in India:
Banking in India began in the late 18th century, with early establishments like
the Bank of Hindostan (1770) and later, the establishment of the Presidency
Banks, including the Bank of Calcutta (1806), which later became the State Bank
of India.
Lack
of Regulatory Framework:
Until the early 20th century, there was no specific regulatory framework
governing banks, resulting in various issues like insolvency and bank failures.
For instance, the failure of the Punjab National Bank in 1897 highlighted the
need for stronger regulation.
Indian
Companies Act, 1913:
Banks were initially regulated under the Indian Companies Act, 1913. However,
this was insufficient, as it did not address banking-specific issues like
liquidity, credit control, and deposit protection.
2.
Establishment
of the Reserve Bank of India (RBI) - 1935
The
formation of the Reserve Bank of India in 1935 was a significant step in
regulating the banking sector, which allowed for more centralized control over
monetary policy and currency regulation.
However,
the RBI’s powers were limited, especially in regulating banking companies, and
the need for a dedicated banking regulation law became evident.
3.
Banking
Companies Act, 1949
Enactment
of the Banking Companies Act:
Initially known as the Banking Companies Act, 1949, it came into force on March
16, 1949. This Act was India’s first attempt to introduce comprehensive
regulation of banking companies.
Objective
of the Act: The
primary aim was to protect depositors' interests, provide effective supervision
of banking companies, and ensure the overall stability of the banking system.
Amendments
and Renaming: In
1966, the Act was renamed the Banking Regulation Act, 1949, and extended to
include cooperative banks, bringing them under the regulatory purview of the
RBI.
4.
Key
Provisions and Amendments
Bank
Nationalization (1969 & 1980):
The nationalization of banks in 1969 and 1980 resulted in significant changes,
as public sector banks came under direct control, enabling the government to
implement policies for economic growth.
Banking
Regulation (Amendment) Act, 2017:
This amendment gave the RBI more power to address non-performing assets (NPAs)
by authorizing it to direct banks in resolving stressed assets, making it
crucial in the battle against bad loans.
2020
Amendments: The
Act was amended again in 2020 to bring cooperative banks under the same
regulatory framework as commercial banks, to protect depositors and improve
governance standards.
SALIENT FEATURES
The
Banking Regulation Act, 1949 has several salient features that set the
foundation for the regulation and functioning of banking institutions in India.
Here’s an overview of the Act’s essential features, reflecting its role in
protecting depositors, maintaining banking stability, and facilitating
effective control by the Reserve Bank of India (RBI):
1.
Control
Over Licensing (Section 22)
-
The
Act mandates that all banking companies must obtain a license from the RBI to
operate. The RBI has the discretion to grant or deny a banking license based on
certain criteria, such as the bank's financial soundness and its capability to
serve the public interest.
-
This
ensures that only financially stable and well-managed banks operate in India,
which safeguards public funds.
2.
Minimum
Capital and Reserve Requirements (Sections 11 & 18)
-
The
Act specifies minimum paid-up capital and reserve requirements for banks. These
financial thresholds help ensure that banks maintain sufficient resources to
meet depositor demands and obligations.
-
Banks
are also required to keep a certain percentage of their demand and time
liabilities as cash reserves with the RBI, ensuring liquidity and financial
health.
3.
Regulation
of Management (Section 35B)
-
The
Act grants the RBI the authority to regulate and oversee the management of
banks. This includes approving the appointment, reappointment, or removal of
directors and chief executives.
-
The
RBI’s oversight helps ensure that competent and responsible individuals are in
leadership positions in banks, protecting the interests of depositors.
4.
Restrictions
on Business Operations (Section 6)
-
Banks
are restricted to activities that are directly related to banking. The Act
defines "banking" as accepting deposits from the public for lending
or investing those funds.
-
It
prohibits banks from engaging in unrelated businesses, such as trading or
manufacturing, thus preventing potential risks associated with non-banking
activities.
5.
Statutory
Liquidity Ratio (SLR) Requirements (Section 24)
-
The
Act mandates that banks maintain a specified percentage of their net demand and
time liabilities in the form of liquid assets, such as cash, gold, or
government securities.
-
This
statutory liquidity requirement ensures that banks maintain a reserve to handle
withdrawals, thereby enhancing financial stability.
6.
Regulation
on Interest Rates (Section 21)
-
The
RBI has the power to control interest rates on deposits and advances. This
regulation allows the central bank to influence the economy by adjusting the
lending and borrowing rates across the banking sector.
-
Controlling
interest rates is crucial for maintaining economic stability, especially in
times of inflation or deflation.
7.
Provisions
for Amalgamation and Reconstruction of Banks (Sections 45 & 45Y)
-
The
Act provides guidelines for the merger, amalgamation, and reconstruction of
banking companies. This includes RBI’s approval and guidelines for mergers
between banks, ensuring that such decisions are in the public interest and do
not harm depositors.
-
These
provisions have been especially relevant in recent years with several bank
mergers aimed at strengthening the banking sector.
8.
Powers
of Inspection and Audit (Section 35)
-
The
Act empowers the RBI to inspect banks and examine their books and accounts,
ensuring adherence to regulatory standards.
-
This
oversight enables the RBI to assess a bank's financial health, uncovering any
potential risks or irregularities and enabling timely corrective action.
9.
Control
over the Opening and Closing of Branches (Section 23)
-
Banks
are required to obtain RBI approval for opening new branches or closing
existing ones. This regulation enables the RBI to maintain control over the
spread of banking services and ensure that essential banking services are
available across various regions.
-
It
also helps in avoiding over-expansion or under-utilization of resources within
the banking sector.
10.
Regulation
of Banking Company Assets (Section 13)
-
The
Act restricts the acquisition of shares in other companies by banking
institutions, limiting banks from making investments that could compromise
their stability.
-
This
ensures that banks are primarily focused on core banking activities, rather
than speculative ventures that might expose them to financial risk.
11.
Protection
to Depositors
-
The
Act includes several provisions to protect depositors, such as restrictions on
dividend payments if a bank’s financial condition is unstable and strict
capital adequacy norms.
-
By
prioritizing depositor safety, the Act reinforces public confidence in the
banking sector, which is essential for financial stability.
12.
Provision
for Penalties (Sections 46 to 49)
-
The
Act includes provisions for penalizing banks or their officials for violations
of regulatory requirements. These penalties ensure compliance and discipline
within the banking system.
-
Violations
may lead to fines or imprisonment, depending on the severity of the offense,
thereby deterring misconduct and malpractice.
13.
Provisions
for Cooperative Banks
-
In
1966, the Act was amended to bring cooperative banks under the regulatory
purview of the RBI, ensuring uniformity in regulation between commercial banks
and cooperative banks.
-
This
amendment ensures that cooperative banks adhere to similar standards, enhancing
their reliability and stability.
14.
Amendments
to Address Non-Performing Assets (NPA) Issues
-
The
Banking Regulation (Amendment) Act, 2017, gave the RBI enhanced powers to
intervene in cases of non-performing assets (NPAs), enabling it to direct banks
in addressing stressed assets.
-
This
feature is critical in addressing India’s NPA crisis and restoring the health
of banks facing high levels of bad debt.
Key
Case Law
Joseph
Kuruvilla Vellukunnel v. Reserve Bank of India (1962): In this case, the
Supreme Court upheld the RBI’s right to prevent a bank from continuing
operations if it was unable to meet its financial obligations, reinforcing
RBI’s role as a guardian of financial stability under the Act.
BANKING BUSINESS AND ITS IMPORTANCE IN
MODERN TIMES
Banking
plays a crucial role in the financial infrastructure of any economy. As
financial intermediaries, banks facilitate money flow between savers and
borrowers, providing necessary support for economic growth, investment, and
stability. Here are the key ways banking contributes to modern society:
1.
Capital
Formation: Banks
gather savings from individuals and businesses, which are then channelled into
productive investments. This process of capital formation supports business
expansion, infrastructure projects, and overall economic development.
2.
Credit
and Economic Growth:
Banks provide credit to industries, agriculture, trade, and services, fuelling
economic activities and helping businesses grow. Access to credit is essential
for entrepreneurs and small businesses, which are vital for job creation.
3.
Payment
Services and Financial Transactions:
Banks offer payment systems, such as checks, electronic fund transfers, and
digital wallets, that simplify transactions. The secure and efficient handling
of payments contributes to commercial activity and consumer convenience.
4.
Wealth
Management and Financial Planning:
Modern banks also offer wealth management and investment services, including
mutual funds, fixed deposits, and retirement accounts. This assists individuals
in financial planning and building long-term wealth.
5.
Support
to Government and Public Welfare:
Banks contribute to public welfare by implementing government schemes, handling
tax payments, and issuing government bonds. They also play a critical role in
distributing subsidies and social welfare payments, like pensions, directly to
beneficiaries.
6.
Promoting
Financial Inclusion:
Through various initiatives, banks aim to provide services to unbanked and
underserved populations, especially in rural and remote areas. Financial
inclusion efforts, such as the Pradhan Mantri Jan Dhan Yojana (PMJDY) in India,
have allowed millions to access bank accounts, credit, and insurance.
In summary, banks not only support
economic growth and stability but also facilitate individual financial security
and social welfare, making them essential in today’s modern economy.
DIFFERENT KINDS OF BANKING
Banking
has evolved to meet the diverse needs of customers, giving rise to different
types of banking systems. Each type of banking has unique characteristics
suited to various sectors, customer preferences, and economic needs.
1.
Commercial
Banking:
Traditional banking services for the public, including deposit-taking, loans,
savings accounts, and payment processing, are provided by commercial banks.
They serve individuals, businesses, and corporations. Examples include HDFC
Bank, Citibank, and Bank of America.
2.
Investment
Banking:
Investment banks focus on helping corporations, governments, and other entities
with raising capital, mergers and acquisitions, underwriting, and trading of
securities. They play a crucial role in capital markets. Examples include
Goldman Sachs, JP Morgan, and Morgan Stanley.
3.
Retail
Banking: Retail
banking is a service provided to individual consumers rather than businesses.
Services include savings and checking accounts, mortgages, personal loans, and
credit cards. Retail banking makes banking services accessible to the general
public.
4.
Corporate
Banking: This
division serves the financial needs of large businesses and corporations,
providing services like cash management, large-scale loans, and corporate
credit. Corporate banking is often a distinct arm of commercial banks.
5.
Private
Banking: Private
banking caters to high-net-worth individuals, offering personalized financial
and investment services. This typically includes wealth management, tax
planning, and estate management, where confidentiality and customized advice
are prioritized.
6.
Cooperative
Banking:
Cooperative banks are customer-owned financial entities that provide services
primarily to small businesses and the rural population. These banks are based
on the cooperative model, where members are also owners.
7.
Development
Banking:
Development banks provide financial assistance to sectors crucial for national
growth, such as agriculture, industry, and infrastructure. They focus on
long-term development projects rather than short-term profitability. Examples
include NABARD (National Bank for Agriculture and Rural Development) in India
and the World Bank.
8.
Central
Banking: Central
banks regulate the country’s money supply, manage currency, and implement
monetary policy. They also provide financial stability, regulate commercial
banks, and act as lenders of last resort. The Reserve Bank of India (RBI), the
Federal Reserve in the U.S., and the European Central Bank (ECB) are examples.
IMPACT OF INFORMATION TECHNOLOGY ON
BANKING.
Information
technology has revolutionized the banking sector, making transactions faster,
safer, and more accessible. The integration of technology in banking has led to
significant transformations across multiple dimensions:
1.
Digital
Banking and Online Services:
Digital banking has made financial transactions possible from anywhere, at any
time. Customers can access their accounts, transfer money, and pay bills
through online and mobile banking. It reduces dependency on physical branches,
increasing convenience for customers.
2.
Mobile
Banking and Payment Apps:
The rise of smartphones has facilitated the use of mobile banking apps and
digital wallets like Google Pay, Apple Pay, and Paytm. These apps simplify
payments and are increasingly popular due to their ease of use, accessibility,
and security features.
3.
Automated
Teller Machines (ATMs):
ATMs have enabled customers to withdraw cash, check account balances, and
perform other transactions 24/7 without visiting a bank branch. The technology
has made cash access more convenient and widespread.
4.
Core
Banking Solutions (CBS):
CBS is a networked branch system that enables customers to access banking
services from any branch of the bank, thanks to centralized data storage and
processing. This system increases efficiency and enhances customer convenience.
5.
Artificial
Intelligence and Machine Learning:
AI and ML are increasingly used in banking for fraud detection, personalized
customer service, and risk assessment. For example, chatbots assist customers
in real-time, while algorithms assess creditworthiness, reducing the time and
cost involved in credit assessment.
6.
Blockchain
and Cryptocurrencies:
Blockchain technology has impacted the banking industry by offering secure and
transparent transactions. Cryptocurrencies like Bitcoin and Ethereum are
creating alternative financial systems, while central banks explore Central
Bank Digital Currencies (CBDCs) to leverage the benefits of blockchain.
7.
Cybersecurity
Advancements: With
the rise in digital transactions, banks have invested heavily in cybersecurity
to protect customer data and financial assets. Technologies like encryption,
biometrics, and multi-factor authentication help secure digital banking
channels.
8.
RegTech
and Compliance Management:
Regulatory Technology (RegTech) helps banks comply with regulations efficiently
by automating processes, such as Anti-Money Laundering (AML) and Know Your
Customer (KYC) requirements. This reduces operational costs and ensures
compliance.
UNIT-II:
RELATIONSHIP BETWEEN BANKER AND CUSTOMER
A
customer is a person who has an account with the bank or who has made an
initial deposit, establishing a banker-customer relationship. A single
transaction may also establish a temporary relationship.
The
relationship between a banker and a customer is complex and multi-dimensional,
grounded in both contractual obligations and specific legal responsibilities.
It changes based on the type of banking service being utilized and can vary
widely depending on whether the customer is depositing money, seeking advice,
or securing a loan. Here are the main types of relationships between a banker
and a customer:
1. Debtor and Creditor Relationship
2. Fiduciary Relationship
3. Trustee and Beneficiary
Relationship
4. Principal and Agent Relationship
5. Bailor and Bailee Relationship
6. Guarantor Relationship
DEBTOR AND CREDITOR RELATIONSHIP
When a
customer deposits money in a bank, the bank becomes the debtor, and the
customer becomes the creditor. The deposited money is repayable on demand or
according to the agreed terms.
Key
Characteristics:
-
The
bank does not hold the customer’s money in a fiduciary capacity; it is entitled
to use it for its own purposes.
-
The
bank is obligated to repay the money when the customer demands, subject to
terms and conditions.
Example: If you deposit $1,000 in your
savings account, the bank becomes your debtor for $1,000, and you are the
creditor.
Case
Law: Joachimson v.
Swiss Bank Corporation (1921)—The court held that the debtor-creditor
relationship between a banker and customer implies an obligation for the bank
to honor the customer’s withdrawal instructions within reasonable limits.
FIDUCIARY RELATIONSHIP
A
fiduciary relationship arises when the banker holds a duty of trust and good
faith, acting in the customer’s best interests. This is common in situations
where the bank provides investment advice, portfolio management, or acts as a
trustee.
Key
Characteristics:
-
The
bank must prioritize the customer’s interests and act with due care.
-
Confidentiality
and trust are crucial elements in fiduciary relationships.
Example: If a customer entrusts the bank
with handling an investment portfolio, the bank is obligated to act in the
customer’s best interest.
Case
Law: Turner v.
Royal Bank of Scotland (1999)—This case established that banks must maintain
confidentiality and act in a fiduciary capacity when entrusted with sensitive
customer information.
TRUSTEE AND BENEFICIARY
This
relationship exists when the bank acts as a trustee for the customer, managing
assets or funds held in trust for specific purposes. The customer, in this
case, is the beneficiary.
Key
Characteristics:
-
The
bank holds assets on behalf of the customer, and it has a fiduciary duty to
manage the assets as per the trust’s terms.
-
The
bank cannot use these assets for its purposes.
Example: In case of a will or an
inheritance, the bank may act as a trustee, managing the assets for the
beneficiaries designated by the deceased.
Case
Law: Standard
Chartered Bank v. Walker (1982)—The court ruled that when a bank holds a
customer’s property as a trustee, it must adhere strictly to the terms and
instructions laid out in the trust agreement.
PRINCIPAL AND AGENT
When
the bank performs certain actions on behalf of the customer (such as collecting
checks, paying bills, or making investments), the relationship is that of
principal and agent. The customer is the principal, and the bank acts as the
agent.
Key
Characteristics:
-
The
bank must follow the customer’s instructions within legal limits.
-
The
bank is accountable for carrying out transactions in the best interest of the
customer.
Example: If a customer authorizes the bank
to collect payments on a bill, the bank acts as the customer’s agent.
Case
Law: India
Overseas Bank v. Industrial Chain Concern (1990)—In this case, the court
highlighted that banks acting as agents must act within the scope of their
authority and fulfill their obligations to the principal (the customer).
BAIL AND BAILEE
This
relationship occurs when a customer deposits valuables (such as documents,
jewelry, or securities) in a bank’s safe deposit locker. Here, the customer is
the bailor, and the bank is the bailee.
Key
Characteristics:
-
The
bank is obligated to take reasonable care of the items deposited but does not
guarantee against all losses.
-
The
bank is responsible for protecting the items but not for the contents unless
specified in the agreement.
Example: If a customer stores their jewelry
in a bank’s safe deposit box, the bank has a duty to ensure the locker’s safety
but not the exact contents.
Case
Law: Shanti Devi
v. State Bank of India (1985)—The court ruled that banks must exercise
reasonable care in maintaining safe deposit lockers but are not liable for the
contents if lost due to unforeseen events unless there was negligence.
GUARANTOR.
When
a bank guarantees a customer’s obligations, such as loan repayment, it takes on
the role of a guarantor. This relationship often involves a third party, where
the bank guarantees repayment to another creditor on behalf of the customer.
Key
Characteristics:
-
The
bank may provide a guarantee to support a customer’s loan or payment
obligations.
-
In
case of default, the bank might have to fulfill the financial obligation as per
the guarantee terms.
Example: If a company takes out a loan from
another financial institution and the bank provides a guarantee for the loan,
it acts as the guarantor.
Case
Law: Bank of
Maharashtra v. M/s Pandurang Keshav Gorwardkar (2013)—In this case, the Supreme
Court reinforced that banks, when acting as guarantors, are bound by the terms
of the guarantee agreement.
UNIT-III:
CHEQUES
A
cheque is a negotiable instrument that instructs a bank to pay a specific sum
from the drawer’s account to a specified person or bearer. It is drawn on a
bank and payable on demand, and can be transferred by endorsement as defined
under Section 6 of the Negotiable Instruments Act, 1881.
CROSSED CHEQUES
A
crossed cheque has two parallel lines drawn across it, indicating that it can
only be deposited into a bank account, not cashed directly. General crossing
involves two lines, while special crossing includes the bank’s name, making it
more secure (Section 123).
ACCOUNT PAYEE
An
account payee cheque is a crossed cheque with "Account Payee" written
between the lines, ensuring that only the specified payee can deposit it into
their account. This designation prevents third-party encashment.
BANKER'S DRAFTS
A
banker’s draft is a secure payment instrument issued by a bank, guaranteeing
payment to a specified person. As a prepaid instrument, it avoids dishonour due
to insufficient funds, and is commonly used for secure transactions (Section
85).
DIVIDEND WARRANTS, ETC.
A
dividend warrant is a payment document issued by companies to shareholders,
representing the distribution of profit. Similar to a cheque, it serves as
proof of dividend payment but is issued under company law practices rather than
by banks.
NEGOTIABLE INSTRUMENTS AND DEEMED
NEGOTIABLE INSTRUMENTS
A
negotiable instrument is a document that guarantees payment of a specified
amount and is transferable by endorsement or delivery. Common types include
cheques, bills of exchange, and promissory notes. Deemed negotiable instruments
acquire negotiability by usage, such as dividend warrants (Section 13).
SALIENT FEATURES OF THE NEGOTIABLE
INSTRUMENTS ACT
The
Negotiable Instruments Act, 1881, provides a legal framework for handling
various negotiable instruments, such as cheques, promissory notes, and bills of
exchange. The Act is structured to ensure smooth, secure, and legally
enforceable transactions involving these instruments. Here are the main
features:
1.
Definition
and Types of Negotiable Instruments
-
Section
4 defines a promissory note as a written promise by one party to pay a specific
sum to another.
-
Section
5 defines a bill of exchange as a document that orders one party to pay a
specific amount to another, usually after a certain period.
-
Section
6 defines a cheque as a bill of exchange drawn on a specified banker and
payable on demand.
-
Importance:
These definitions establish clear categories of negotiable instruments,
facilitating uniformity and consistency.
2.
Transferability
and Endorsement
-
Section
14 explains that negotiable instruments are freely transferable, meaning they
can be passed from one party to another through delivery or endorsement.
-
Endorsement:
By endorsing a cheque or note, the holder can transfer it to another person,
who then becomes the instrument’s holder.
-
Legal
Effect: This transferability ensures liquidity and easy circulation, as the
right to the instrument’s value passes along with possession.
3.
Holder
and Holder in Due Course
-
Section
8 defines a holder as the person entitled to the possession of a negotiable
instrument and can receive or recover its amount.
-
Section
9 introduces the concept of holder in due course, who obtains the instrument in
good faith and for value, without any prior knowledge of defects in title.
-
Protection:
The holder in due course is protected from prior defects in the instrument,
ensuring their right to receive payment.
4.
Liabilities
of Parties
-
The
Act specifies the liabilities of various parties involved in negotiable
instruments:
-
Drawer
(Section 30): The person who creates and signs the instrument (like a cheque or
bill of exchange) is liable if it is dishonored.
-
Drawee
(Section 31): If the drawee (usually the bank) dishonors the instrument, the
holder has the right to sue the drawer.
-
Endorser
(Section 35): The endorser is liable if the instrument is dishonored, assuming
no discharge by subsequent endorsement.
-
Legal
Importance: These provisions help in determining responsibility and offer
remedies for dishonor.
5.
Dishonor
of Instruments and Notice
-
Dishonor
by Non-Acceptance: As per Section 91, when a bill of exchange is presented for
acceptance and the drawee refuses to accept, it is considered dishonored.
-
Dishonor
by Non-Payment: According to Section 92, a negotiable instrument is dishonored
when the drawer fails to make payment on demand.
-
Notice
of Dishonor: Under Section 93, the holder must give notice to the parties
liable if the instrument is dishonored.
-
Significance:
This requirement provides parties with an opportunity to fulfill their
obligations or arrange for payment.
6.
Penalties
for Dishonour of Cheques
-
Section
138: This section imposes criminal liability on a person who issues a cheque
that is later dishonored due to insufficient funds or exceeds the agreement
with the bank.
-
Punishment:
Imprisonment up to two years or a fine that may extend to twice the cheque
amount.
-
Objective:
To prevent misuse of cheques, maintain trust in financial transactions, and
deter fraudulent activity.
7.
Crossing
of Cheques
-
Section
123: A cheque may be crossed by drawing two parallel lines across the top,
indicating it must be deposited into a bank account, not encashed directly.
-
Section
124: Special crossings specify a particular bank for added security.
-
Significance:
This feature ensures safer transactions by limiting payment directly to the
payee’s bank account.
8.
Payment
in Due Course
-
Section
10 defines payment in due course as a payment made in good faith and without
negligence.
-
Protection:
When a banker makes a payment in due course, they are discharged from
liability, provided the payment was made without fraud or misrepresentation.
-
Legal
Effect: This provision protects paying bankers when they act with due
diligence.
9.
Presumptions
in Favor of Negotiable Instruments
-
Section
118: The Act provides certain presumptions in favor of negotiable instruments,
such as:
-
The
instrument is considered to be drawn for consideration.
-
Every
holder is presumed to be a holder in due course.
-
Benefit:
These presumptions simplify legal proceedings and shift the burden of proof to
the opposing party in disputes.
THE NEGOTIABLE INSTRUMENTS (AMENDMENT)
ACT. 2018.
This
amendment addresses cheque dishonor issues, introducing penalties and interim
compensation. Courts can now award up to 20% interim compensation upon filing a
dishonor case, impose additional penalties up to double the cheque amount, and
require a 20% deposit of the fine for appeal against conviction. This amendment
enhances efficiency and reduces delays in dishonor cases.
UNIT-IV:
THE PAYING BANKER
A
paying banker is the bank that holds the customer’s account from which a cheque
is drawn. It is responsible for processing cheques presented for payment,
either by cash or transfer to another account.
Duties:
-
Ensures
that the cheque is properly drawn, signed, and meets all requirements.
-
Verifies
the availability of sufficient funds in the customer’s account.
-
Checks
for potential issues like a stop payment request, mismatched signature, or
post-dated cheques.
Right
to Refuse Payment:
A paying banker can refuse to honor a cheque if there are insufficient funds,
if there is a stop payment order, or if the cheque appears altered or
irregular.
Relevant
Section: Under
Section 31 of the Negotiable Instruments Act, a paying banker has a duty to
honor cheques if the funds are sufficient and there are no legal constraints.
STATUTORY PROTECTION TO BANKERS
Objective: To protect the paying banker from
potential liabilities when they act in good faith and with due diligence while
honoring a cheque.
Protection
under Section 85:
-
Section
85(1): Provides that if a cheque payable to order is paid in due course, the
banker is discharged from further liability.
-
Section
85(2): For crossed cheques, the banker is protected when paying to a bank
specified in the crossing, assuming no negligence or misconduct.
Example: If a paying banker pays a cheque
believing it to be genuine, and it later turns out to be forged, the banker is
protected from liability if the payment was made in due course.
COLLECTING BANKER
A
collecting banker is a bank that collects cheques deposited by its customer,
and presents them to the paying banker for clearance and credit to the
customer’s account.
Duties:
-
Verifies
the authenticity of cheques before sending them for clearance.
-
Acts
as an agent for the customer until the cheque is honored by the paying bank.
-
Exercises
due care and diligence to avoid accepting potentially fraudulent or altered
cheques.
Responsibility
as Agent: A
collecting banker functions as an agent of the customer during the collection
process and becomes liable if there is negligence in handling the instrument.
STATUTORY PROTECTION
Protects
the collecting banker from liability in cases where they act in good faith and
without negligence while handling cheques.
Protection
under Section 131:
-
Section
131 of the Negotiable Instruments Act provides immunity to a collecting banker
from liability if a cheque is found to be defective or fraudulent, provided it
was collected in good faith and without negligence.
-
Applies
to crossed cheques, as they are meant to be deposited into a bank account,
adding a layer of security.
Example: If a collecting banker accepts a
cheque that later turns out to be forged, they are protected from liability if
they exercised due care and collected it without negligence.
RIGHTS AND OBLIGATIONS OF PAYING AND
COLLECTING BANKERS
Paying
Banker’s Rights:
-
Right
to Charge Customer’s Account: The paying banker can debit the customer’s
account once a cheque is honored.
-
Right
to Refuse Payment: Can refuse a cheque if funds are insufficient, the cheque is
irregular, or if there are specific instructions from the customer, such as a
stop payment order.
-
Right
to Recover Payment: If a cheque is mistakenly paid, the paying banker has the
right to recover the amount from the recipient.
Paying
Banker’s Obligations:
-
Must
act in accordance with the customer’s mandate.
-
Has
to ensure that all cheque formalities are followed, including verifying
signatures and maintaining confidentiality.
-
Must
exercise reasonable care in identifying potential fraud or errors.
Collecting
Banker’s Rights:
-
Right
to Collect Cheques: The collecting banker has the right to act as an agent for
the customer and collect cheques on their behalf.
-
Right
to Recover Costs: If expenses arise in the process of collection, the banker
may recover them from the customer.
-
Right
to Refuse Collection: Can refuse to collect if there are doubts about the
cheque’s authenticity.
Collecting
Banker’s Obligations:
-
Must
exercise due diligence in examining cheques for potential alterations or fraud.
-
Should
act in good faith when collecting on behalf of the customer.
-
Must
ensure prompt collection to avoid delays that may inconvenience the customer.
UNIT-V:
BANKER'S LIEN AND SET OFF
Banker’s
Lien:
-
The
right of a banker to retain possession of a customer’s property (such as
securities, deposits, or valuable documents) until a debt owed by the customer
is fully paid.
-
General
Lien: Allows the bank to retain any property until all dues are cleared.
-
Legal
Basis: This right is based on the principle that if the customer fails to repay
the loan, the banker may retain or even sell the property with due process.
-
Example:
If a customer has an unpaid loan and securities with the bank, the bank can
withhold the securities until the loan is repaid.
Set-Off:
-
The
banker’s right to adjust a debt owed by a customer by setting off one account
balance against another.
-
This
can be applied, for instance, if a customer has a loan account and a deposit
account; the bank can use the deposit to offset the loan if necessary.
-
Conditions:
Set-off is generally applied when accounts are in the same name and the bank
has informed the customer.
ADVANCES
Banks
provide advances (loans) to customers for various purposes like personal,
commercial, or industrial use.
Types
of Advances:
-
Cash
Credit: A flexible borrowing facility where customers can withdraw funds up to
a limit.
-
Overdraft:
A facility allowing customers to withdraw more than the balance in their
account.
-
Term
Loans: Loans with fixed repayment schedules, often for large expenses or
business needs.
Security:
Advances may be secured by collateral or security to reduce the risk to the
bank.
Legal
Implications: The bank has the right to recover the advance with interest,
either through legal recourse or as per the terms of the loan agreement.
PLEDGE
A
pledge occurs when a borrower transfers possession (not ownership) of goods or
securities to the bank as security for a loan.
Rights
of the Bank: The bank can sell the pledged goods if the borrower defaults, as
per Section 176 of the Indian Contract Act, 1872.
Example:
If a customer takes a loan against gold jewelry, the bank can sell the jewelry
in case of default, with prior notice.
LAND
Banks
may extend loans secured by land as collateral.
Mortgage:
In these cases, the bank usually creates a mortgage, meaning the bank has a
legal right over the land until the loan is repaid.
Legal
Protections: Land mortgages often require registration, and the bank can seek
foreclosure if the loan is not repaid.
STOCKS
Stock
refers to the ownership interest in a company, which can represent a claim on
part of the company’s assets and earnings.
SHARES
Shares
are the individual units of stock that signify a portion of ownership in a
company.
LIFE POLICIES
Banks
may offer loans against the surrender value of a life insurance policy.
Assignment:
The borrower assigns the life policy to the bank, which becomes the
policyholder until the loan is repaid.
Benefit:
The bank has a secure repayment option, as the policy’s maturity amount or
death benefit can cover the loan if necessary.
DOCUMENT OF TITLE TO GOODS
Documents
of title to goods, such as bills of lading or warehouse receipts, represent
ownership of goods and are used as security for bank loans.
Legal
Basis: The borrower can transfer rights to the bank by endorsement or delivery.
Bank’s
Right: In the event of a default, the bank has the right to sell the goods to
recover the loan amount.
BANK GUARANTEES
A
bank guarantee is a promise by the bank to pay a specified amount to a third
party if the borrower fails to meet their obligations.
Types:
Common types include financial guarantees (covering financial obligations) and
performance guarantees (covering non-financial obligations).
Legal
Obligation: The bank must honor the guarantee if triggered, though it has
recourse against the customer for recovery.
LETTERS OF CREDIT
A
letter of credit is a financial document issued by a bank guaranteeing payment
to a seller upon meeting certain conditions.
Importance:
Commonly used in international trade, it assures the seller of payment and
reduces the risk for both parties.
Bank’s
Obligation: The bank must make payment under the LC if the seller fulfills the
conditions, irrespective of the buyer’s financial position.
RECOVERY OF BANK LOANS AND POSITION UNDER
THE SARFAESI ACT, 2002
SARFAESI
Act: The Securitisation and Reconstruction of Financial Assets and Enforcement
of Security Interest Act, 2002, allows banks to recover loans by seizing and
auctioning collateral without court intervention.
Key
Features:
-
Banks
can take possession of secured assets if there is a default.
-
They
can auction these assets to recover dues.
-
The
borrower has limited legal recourse unless they can prove non-compliance with
SARFAESI guidelines.
Impact:
This act speeds up the recovery process, reducing banks’ non-performing assets
(NPAs).
JURISDICTION AND POWERS OF DEBT RECOVERY
TRIBUNAL.
The DRT is
a specialized tribunal with jurisdiction over cases involving loan recovery by
banks and financial institutions.
Powers:
-
DRTs can issue orders for loan recovery and take
possession of mortgaged properties.
-
They have the authority to adjudicate claims of ₹20
lakh or more.
Fast-Track
Mechanism: The DRT streamlines the process of debt recovery, reducing
dependency on regular courts, thereby expediting resolution.
------------------------------ XXX-----------------------------------
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P-III: Law of Banking and Negotiable Instruments
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Note: Some of the short notes are intended for a basic understanding of the subject topics. For a more in-depth understanding, please refer to the textbooks.
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