Borrower should be heard before classifying account as fraudulent; reasoned order should be given: Supreme Court

The Supreme Court on Monday held that a decision by a bank classifying a borrower's account as fraudulent must be a reasoned order and such an order should be passed only after giving the borrower an opportunity of hearing [State Bank of India and ors vs Rajesh Agarwal and ors]..A bench of Chief Justice of India (CJI) DY Chandrachud and Justice Hima Kohli upheld an order of the Telangana High Court in this regard. "Decision classifying borrower account as fraudulent must be with reasoned order. Rule of adi alteram partem has to be read into it and hearing is required before borrower accounts are barred," the Court held, reading out the operative part of the judgment.The Court said that debarring borrowers from accessing institutional finances causes severe impact on them and is akin to blacklisting which impacts credit score. "The principle of 'audi alteram partem' be read into the RBI Master Circular on Fraudulent accounts," the Court, therefore, ruled..The bench, however, said that no opportunity of being heard was required before registration of a First Information Report (FIR). An order of the Gujarat High Court which took a different view was set aside. The verdict came in a batch of appeals filed by banks and the Reserve Bank of India against a Telangana High Court order reading principles of natural justice (hearing the other side primarily) into the 2016 Reserve Bank of India (Frauds Classification and Reporting by Commercial Banks and Select FIs) Directions. .The top court at the outset stated that the the principles of natural justice are not mere legal formalities. "They constitute substantive obligations that need to be followed by decision-making and adjudicating authorities. The principles of natural justice act as a guarantee against arbitrary action, both in terms of procedure and substance, by judicial, quasi-judicial, and administrative authorities."Thus, borrowers must be served a notice, given an opportunity to explain the findings in the forensic audit report, and have represention before the account is classified as fraud under the Master Directions, the bench explained.On the necessity of a reasoned order, the top court explained that the same must 'comport with fairness' after due application of mind. "A reasoned order allows an aggrieved party to demonstrate that the reasons which persuaded the authority to pass an adverse order against the interests of the aggrieved party are extraneous or perverse; and ... the obligation to record reasons acts as a check on the arbitrary exercise of the powers. The reasons to be recorded need not be placed on the same pedestal as a judgment of a court.".The bench also arrived at the following conclusions:-Classification of an account as fraud not only results in reporting the crime to investigating agencies, but also has other penal and civil consequences against the borrowers.-Debarring the borrowers from accessing institutional finance under Clause 8.12.1 of the Master Directions on Frauds results in serious civil consequences for the borrower..Senior Advocates Abhishek Manu Singhvi, Ranjit Kumar, Dhruv Mehta, Arunabh Chowdhury, Navin Pahwa with advocate Suraj Prakash appeared for the respondent-borrowers.Solicitor General Tushar Mehta with Senior Advocate Gopal Jain and advocates Ramesh Babu MR and GN Reddy appeared for the appellant-banks.[Read judgment]