Introduction
The Indian financial sector has witnessed significant transformations in debt recovery mechanisms over the past two decades. The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act) stands as a landmark legislation that revolutionized the approach to non-performing asset (NPA) recovery by empowering financial institutions to enforce security interests without court intervention. While initially designed primarily for banks, the SARFAESI Act applicability to NBFCs has been a gradual and carefully calibrated process, reflecting the evolving role of NBFCs in India’s financial ecosystem.
Bottom Line Up Front: The SARFAESI Act’s extension to NBFCs represents a critical policy shift that has enabled these institutions to compete on equal footing with banks in debt recovery. The progressive reduction of eligibility thresholds from INR 1 crore to INR 20 lakhs for debt amounts, coupled with asset size requirements dropping from INR 500 crores to INR 100 crores, has democratized access to powerful enforcement mechanisms for a broader spectrum of NBFCs.
Historical Context and Legislative Evolution
Genesis of the SARFAESI Act
The SARFAESI Act was enacted in 2002 as a response to the mounting crisis of NPAs in the Indian banking sector. In the early 2000s, India’s banking sector was dealing with slow a pace of recovery of defaulting loans and escalated levels of nonperforming assets of banks and financial institutions. To address this crisis, the SARFAESI Act, 2002 (Act) was introduced as per the suggestions made by Committees. The Act was formulated to provide banks and financial institutions with effective tools for asset reconstruction and enforcement of security interests without lengthy court procedures.
Initial Exclusion of NBFCs
Despite NBFCs playing an increasingly significant role in India’s financial architecture, they were initially excluded from the purview of the SARFAESI Act. By increasing the availability of financial services, fostering entrepreneurship, and diversifying the industry, NBFCs have been augmenting the banking system. In accordance with the Economic Survey of 2010–11, NBFCs in India made up 11.2% of the financial system’s holdings, and yet, earlier NBFCs (Non-Banking Financial Companies) were kept out of the ambit of the SARFAESI Act,2002.
The exclusion was particularly significant given the substantial contribution of NBFCs to the financial system. This regulatory gap meant that while banks could leverage the expedited recovery mechanisms under SARFAESI, NBFCs had to rely on traditional civil litigation, arbitration, and self-help remedies, which were often time-consuming and cost-prohibitive.
Regulatory Framework and Definitional Clarity
Definition of NBFCs under the RBI Act, 1934
The regulatory foundation for NBFCs is established under the Reserve Bank of India Act, 1934. A Non-Banking Financial Company (NBFC) is a company registered under the Companies Act, 2013 (or under the Companies Act, 1956) and also registered under Section 45- IA of the Reserve Bank of India Act, 1934 and which provide banking services (without legally being a bank as they do not possess Banking License) or other specified services. [1].
The comprehensive definition encompasses entities engaged in loans and advances, acquisition of securities, leasing, hire-purchase, and related financial activities, while excluding institutions primarily engaged in agriculture, industrial activities, or trading in goods other than securities.
Statutory Framework under SARFAESI Act
Section 2(1)(m)(iv) of the SARFAESI Act serves as the enabling provision for including NBFCs within the Act’s purview. Section 2(m)(iv) of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act) empowers the Central Government to issue a notification, specifying any non-banking financial company (NBFC) as a “financial institution” for the purpose of the SARFAESI Act. The result of the notification is that once a NBFC is notified as a “financial institution”, the said NBFC, subject to fulfilling other conditions, becomes eligible to take action for recovery of debts under the SARFAESI Act. [2].
Progressive Policy Announcements and Implementation
Budget Announcement 2015-16
The policy shift began with the Union Budget 2015-16, when the then Finance Minister Arun Jaitley announced the government’s intention to extend SARFAESI benefits to NBFCs. Later, the late former Finance Minister Arun Jaitley announced in the 2015-16 Budget that certain NBFCs would be allowed to use SARFAESI to recover defaulted loans. This announcement was based on research conducted collaboratively by business chamber Assocham and consultancy firm Resurgent India, which highlighted the necessity of bringing NBFCs under the SARFAESI framework.
Initial Implementation: The 2016 Notification
The first concrete step towards implementation came through a notification dated August 5, 2016, which brought 196 specifically identified NBFCs under the SARFAESI Act’s purview. The notification dated August 5, 2016, issued by Ministry of Finance, in the exercise of its powers under SARFAESI Act, 2002 (Further amended by SARFAESI Act, 2016) has notified 196 NBFC under the definition of Financial Institutions as per the aforesaid Act. [3].
The initial criteria were stringent:
- NBFCs required a valid Certificate of Registration under Section 45-I of the RBI Act, 1934
- Minimum net assets of INR 500 crores as per the latest audited balance sheet
- Debt amount and security value threshold of not less than INR 1 crore
The 2020 Watershed Moment: Broadening Access
Notification SO 856(E) dated February 24, 2020
The most significant development came with the Ministry of Finance notification dated February 24, 2020, which substantially relaxed the eligibility criteria. Acting in furtherance of the abovementioned, on February 24, 2020, the Central government issued a Notification vide S.O. 856(E) thereby relaxing the eligibility criteria for NBFCs for taking action for enforcement of security interest under the SARFAESI Act. By way of the Notification, a NBFC having assets worth INR 100 Crore and above would be entitled for enforcement of security interest under the SARFAESI Act in cases where the secured debt is at least INR 50 lakhs [4].
This notification marked a paradigmatic shift by:
- Reducing the asset size requirement from INR 500 crores to INR 100 crores
- Lowering the debt threshold from INR 1 crore to INR 50 lakhs
- Adopting a criteria-based approach rather than entity-specific notifications
The 2021 Refinement: Further Threshold Reduction
Recognizing the need for broader accessibility, the government issued another notification on February 12, 2021, further reducing the debt threshold. S.O. 652(E).—In exercise of the powers conferred by sub-clause (iv) of clause (m) of subsection (1) of section 2 of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (54 of 2002), the Central Government hereby makes the following amendment in the notification of the Government of India, Ministry of Finance (Department of Financial Services), number S.O. 856 (E), dated the 24th February, 2020, substituting “rupees fifty lakh and above” with “rupees twenty lakh and above” [5].
Current Legal Framework and Eligibility Criteria
Asset Size Requirements
Under the current framework, NBFCs that have assets of at least Rs. 100 crores are qualified under the SARFAESI Act to enact security interests on debts totaling at least Rs. Twenty-five lakhs lacs and above [6]. This represents a significant democratization of access, enabling a much larger universe of NBFCs to utilize SARFAESI mechanisms.
Mandatory Security Interest Registration
A critical prerequisite for SARFAESI enforcement is compliance with Section 26D of the Act. Notwithstanding anything contained in any other law for the time being in force, from the date of commencement of the provisions of this Chapter, no secured creditor shall be entitled to exercise the rights of enforcement of securities under Chapter III unless the security interest created in its favour by the borrower has been registered with the Central Registry. [7].
This mandatory registration requirement was introduced through the Enforcement of Security Interest and Recovery of Debts Laws and Miscellaneous Provisions (Amendment) Act, 2016, and became effective from January 24, 2020. section 26D was inserted vide The Enforcement of Security Interest and Recovery of Debts Laws and Miscellaneous Provisions (Amendment) Act, 2016. Hence, prior to section 26D coming into force, there was no motivation for the secured creditors to file security interest with CERSAI. Now, a secured creditor intending to enforce security interest under SARFAESI Act needs to register the same with CERSAI. [8].
Judicial Interpretation and Case Law Developments
The Assignment of Debt Doctrine
Courts have grappled with complex questions regarding the enforceability of SARFAESI provisions when debts are assigned from NBFCs to banks. The Bombay High Court in Poorti Rent a Car and Logistics Pvt. Ltd. & Ors. vs. Kotak Mahindra Bank Ltd. & Ors. established important precedents. The Bombay High Court has held that a Bank, being a “secured creditor” within the meaning of section 2(zd) of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (SARFAESI Act), is entitled to initiate proceedings against a debtor under Section 13 thereof, notwithstanding the fact that the assignor of debt portfolio was not a “financial institution” at the material time. [9].
Retrospective Application
The Supreme Court’s decision in M. D. Frozen Foods Exports Pvt. Ltd. and others vs. Hero Fincorp Ltd. clarified that SARFAESI provisions could be applied retrospectively to loan agreements executed before the Act’s enactment, provided the debt remained alive when the Act came into force [10].
HFC vs. NBFC Distinction
A significant judicial development emerged from the Madhya Pradesh High Court’s ruling in Virendra Rathore v. Tehsildar Distt. Mandsaur, which distinguished Housing Finance Companies (HFCs) from general NBFCs. The court held that HFCs are governed by the specific notifications made under the NHB Act and not the generic notifications, applying the principle of ‘generalia specialibus non derogant’ (general provisions never derogate from special ones) [11].
Practical Implications and Operational Framework
Enhanced Recovery Mechanisms
The inclusion of NBFCs under SARFAESI has provided these institutions with three primary recovery mechanisms:
- Securitization: NBFCs can now transfer financial assets to Asset Reconstruction Companies (ARCs) or other institutions through securitization transactions
- Asset Reconstruction: Debt restructuring and asset management capabilities similar to banks
- Security Interest Enforcement: Direct enforcement of security interests without court intervention
Procedural Requirements and Timeline Compliance
NBFCs must adhere to strict procedural timelines under SARFAESI, which mirror those under the Insolvency and Bankruptcy Code, 2016. Classification of an account as a Non-Performing Asset (90 days), issuing a demand notice and reply and rejoinder thereto (75 days), possession and sale of asset (at least 30 days) and thereafter disposal of a challenge to the action (60 days to 120 days) may almost end up taking as much time as resolution of a corporate debtor under the IBC. [12].
Limitations and Jurisdictional Challenges
Despite gaining SARFAESI enforcement powers, NBFCs face certain limitations. While rights have been conferred to a larger pool of NBFCs to enforce their security interest under the SARFAESI Act, these NBFCs have not been given any powers to file suits for recovery before the Debts Recovery Tribunal under the Recovery of Debts and Bankruptcy Act, 1993. This creates a jurisdictional gap where NBFCs can enforce security interests but cannot directly approach Debt Recovery Tribunals for adjudication [13].
Regulatory Distinctions and Specialized Notifications
HFC-Specific Provisions
The regulatory framework recognizes the distinct nature of Housing Finance Companies through separate notifications. The basic intent of the Central Government in taking out two different sets of notifications for the purposes of SARFAESI proceedings: one specifically for HFI/HFCs under the NHB Act, and the other for NBFCs under the RBI Act, means that they are to be treated differently. [14].
Arbitration and SARFAESI Interface
The Bombay High Court in Tata Motors Finance Solutions Ltd. vs. Naushad Khan clarified the relationship between arbitration and SARFAESI proceedings. While arbitration is an adjudicatory process, the proceedings under the SARFAESI Act are enforcement proceedings. It is only after the adjudicatory process of arbitration in the present case leads to determination and crystallization of the debt due to the petitioner, that the petitioner would be able to resort to the enforcement process under the SARFAESI Act. [15].
Economic Impact and Policy Rationale
Financial Sector Stability
The extension of SARFAESI to NBFCs serves multiple policy objectives. Additionally, this is anticipated to enhance their capacity to collect smaller debts and enhance the financial stability of NBFCs with low-value, underperforming assets. Due to the reduced qualifying threshold, NBFCs, or Non-Banking Financial Corporations, are now responsible for enforcing security interests on smaller loans. This development is particularly significant given NBFCs’ role in financial inclusion and credit delivery to underserved segments.
Market Risk Mitigation
The availability of SARFAESI mechanisms provides NBFCs with enhanced risk management tools. This lessens the market risk that these non-banking financial enterprises must deal with and provides a significant boost to assist them to decrease expenses and expedite the repayment of defaulting loans without the delays required in taking the matter to court.
Contemporary Challenges and Systemic Concerns
Debt Recovery Tribunal Capacity
The expansion of SARFAESI to a broader NBFC universe raises concerns about the capacity of Debt Recovery Tribunals. At the same time, this would lead to an increase in litigation before the Debts Recovery Tribunals, which are already stressed due to the tremendous workload and because of which there is pendency of proceedings. This highlights the need for judicial infrastructure enhancement to support the expanded enforcement framework [19].
Regulatory Compliance Burden
The mandatory CERSAI registration requirement under Section 26D creates additional compliance obligations for NBFCs. As per rule 5 of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest (Central Registry) Rules, 2011 (‘CERSAI Rules’), the registration has to be done within 30 days from the date of transaction. This requirement necessitates robust internal systems and processes to ensure timely compliance.
Future Outlook and Policy Considerations
Potential for Further Liberalization
The progressive reduction of thresholds suggests a policy trajectory toward greater democratization of SARFAESI benefits. The government may consider further reductions in both asset size requirements and debt thresholds to accommodate smaller NBFCs and promote financial inclusion objectives.
Technology Integration
The implementation of SARFAESI by NBFCs will likely drive technology adoption in debt recovery processes, including digital auction platforms, automated compliance systems, and integrated case management solutions.
Regulatory Harmonization
Future policy developments may focus on harmonizing the treatment of different categories of financial institutions under SARFAESI while preserving appropriate risk-based distinctions.
Conclusion
The extension of SARFAESI Act benefits to NBFCs represents a landmark achievement in India’s financial sector evolution. The SARFAESI Act’s implementation on NBFCs provides a significantly required opportunity for such companies to compete on an equal footing with banking institutions of credit recovery from the financial debtors. The progressive reduction of eligibility thresholds has democratized access to powerful debt recovery mechanisms, enabling a broader spectrum of NBFCs to enhance their recovery capabilities and financial stability.
The judicial interpretation of SARFAESI provisions in the context of NBFCs has generally been supportive of the legislative intent to strengthen the recovery ecosystem. However, challenges remain in terms of judicial infrastructure capacity and the need for clear regulatory guidance on emerging issues such as debt assignment and cross-border enforcement.
As NBFCs continue to play an increasingly vital role in India’s financial architecture, the effective implementation of SARFAESI provisions will be crucial for maintaining sector stability and promoting efficient capital allocation. The framework established through these notifications provides a solid foundation for NBFCs to compete effectively with banks while maintaining appropriate regulatory safeguards.
Key Takeaway: The SARFAESI Act’s extension to NBFCs through progressive threshold reductions has transformed the debt recovery landscape, providing these institutions with powerful enforcement tools while maintaining prudential safeguards. This development strengthens the overall financial sector’s resilience and promotes more efficient debt resolution mechanisms across the institutional spectrum.
References
[1] NBFC Takeover. (2024). Section 45-IC Reserve fund | RBI Norms of 45IC in India. Available at: https://nbfctakeover.com/rbi-norms-of-45ic/
[2] HSA Legal. (2020). Relaxation to NBFCs for taking action under the SARFAESI Act: Bane or Boon? Available at: https://hsalegal.com/article/relaxation-to-nbfcs-for-taking-action-under-the-sarfaesi-act-bane-or-boon/
[3] Enterslice. (2020). Applicability of SARFAESI Act for NBFCs. Available at: https://enterslice.com/learning/applicability-of-sarfaesi-act-for-nbfc/
[4] AZB Partners. (2020). SARFAESI Notification Widens Applicability for NBFCs. Available at: https://www.azbpartners.com/bank/sarfaesi-notification-widens-applicability-for-nbfcs/
[5] IBC Laws. (2021). Notification No. – S.O. 652(E) dated 12.02.2021 – SARFAESI Act 2002. Available at: https://ibclaw.in/notification-no-s-o-652e-dated-12-02-2021-rdb-act-1993/
[6] Ministry of Finance, Government of India. (2021). Notification S.O. 652(E) dated February 12, 2021.
[7] IBC Laws. (2024). Section 26D of SARFAESI Act, 2002: Right of enforcement of securities. Available at: https://ibclaw.in/section-26d-right-of-enforcement-of-securities/
[8] Vinod Kothari Consultants. (2022). CERSAI beyond SARFAESI – The multi-faceted effects of security interest registration. Available at: https://vinodkothari.com/2022/12/cersai-beyond-sarfaesi-the-multi-faceted-effects-of-security-interest-registration/
[9] LiveLaw. (2022). Bank Entitled To Proceed U/S 13 SARFAESI Act Notwithstanding That Debt Portfolio Was Assigned To It By NBFC: Bombay High Court. Available at: https://www.livelaw.in/news-updates/bombay-high-court-section-13-sarfaesi-act-debt-portfolio-assigned-to-bank-by-nbfc-194723
[10] Supreme Court of India. M. D. Frozen Foods Exports Pvt. Ltd. and others vs. Hero Fincorp Ltd.
[11] Argus Partners. (2024). Pecuniary threshold applicable on NBFCs under SARFAESI Act not applicable to HFCs. Available at: https://www.argus-p.com/updates/updates/pecuniary-threshold-applicable-on-nbfcs-under-sarfaesi-act-not-applicable-to-hfcs/
[12] HSA Legal. (2020). Relaxation to NBFCs for taking action under the SARFAESI Act: Bane or Boon?
[13] Ibid.
[14] Vinod Kothari Consultants. (2024). Recovery of debt by HFCs and initiation of SARFAESI action in case of a decided civil suit: Two significant rulings by High Courts. Available at: https://vinodkothari.com/2024/05/recovery-of-debt-by-hfcs-and-initiation-of-sarfaesi-action-in-case-of-a-decided-civil-suit-two-significant-rulings-by-high-courts/
[15] IBC Laws. Tata Motors Finance Solutions Ltd. Vs. Naushad Khan c/o. Nazbul Hoda Khan – Bombay High Court. Available at: https://ibclaw.in/tata-motors-finance-solutions-ltd-vs-naushad-khan-c-o-nazbul-hoda-khan-bombay-high-court/
PDF Links to Full Judgments
- https://bhattandjoshiassociates.s3.ap-south-1.amazonaws.com/judgements/A2002-54.pdf
- https://bhattandjoshiassociates.s3.ap-south-1.amazonaws.com/judgements/notification-no-s-o-652e-dated-12-02-2021-rdb-act-1993.pdf
- https://bhattandjoshiassociates.s3.ap-south-1.amazonaws.com/judgements/Tata_Motors_Finance_Solutions_Ltd_vs_Naushad_Khan_on_9_May_2024.PDF
