Supreme Court uses “creative interpretation” to strike down RBI Circular

Supreme Court uses “creative interpretation” to strike down RBI Circular

The Supreme Court yesterday struck down the Reserve Bank of India’s February 12 Circular (RBI Circular) in totality.

The Court found this Circular to be ultra vires Section 35AA of the Banking Regulation Act, 1949 (BR Act), which is one of the enabling provisions for issuance of the Circular.

Writ petitions challenging the Circular were filed before several High Courts in 2018; they were later clubbed together and transferred to the Supreme Court.

The only conclusive ruling on this issue before was one by the Allahabad High Court, which refused to stay the operation of the RBI Circular. The challenges to the Circular have been triggered by lobby groups of the Power Sector arguing their peculiar situation which warranted special treatment by the RBI. The main argument was that the reason for their inability to pay the debts was on account of factors beyond their control.

The Challenge

There were two primary challenges before the Supreme Court:

1. Sections 35AA and 35AB of the BR Act were introduced in May 2017 by the means of an Ordinance. While Section 35AA permitted RBI to issue directions for initiation of insolvency in respect of a default, Section 35AB permitted RBI to issue directions for resolution of stressed assets in general. The powers under Section 35AA could only be exercised by the RBI on authorization from the Central Government.

Accordingly, the Ministry of Finance, on May 5, 2017, authorised the RBI to issue directions to initiate the insolvency resolution process in respect of a default.

2. The Circular was challenged as being ultra vires Section 35AA of the BR Act. The Circular, inter alia,  required that all debts with aggregate exposure of more than Rs. 2000 crore be given 180 days to resolve their accounts, failing which at the expiry of 180 days, banks will have 15 days to move the National Company Law Tribunal (NCLT) under the Insolvency and Bankruptcy Code (IBC), making it a total of 195 days.

The Circular also withdrew all existing restructuring schemes of the RBI. The main challenge, however, was made to the power given to RBI to push companies into the Corporate Insolvency Resolution Process (CIRP).


Senior Advocate Abhishek Manu Singhvi, appearing for the Power Sector, argued in favour of special treatment. He also argued that the RBI Circular was violative of Article 14 of the Constitution. He submitted that given it is a highly regulated sector, and that the cause of default was in fact lapses on the part of the government, such companies cannot be painted with the same brush as other sectors. He further argued that it was only the private sector which faced this brutality and not the public sector, where the stressed assets amount to nil.

One of the other arguments against the Circular was that Section 35A (which was introduced in 1956) cannot be the source of this power, since it was introduced at a time when the IBC did not exist.

He further relied on the Ministry of Finance notification, the language of Section 35AA, and the statement of object and reasons, to argue that each case has to be specifically dealt with, and that a one-size-fits-all approach cannot be adopted.

Senior Advocates Mukul Rohatgi, Sajan Poovayya, KV Viswanathan, Neeraj Kishan Kaul, Navaniti Prasad Singh, PS Narasimha, Arvind Datar, and Gopal Jain also supported Singhvi’s arguments.

What the Court held

1. The Court held that ‘short of throwing mantras at manifest arbitrariness‘, none of the petitions were able to show how Section 35AA and 35AB are manifestly arbitrary. The Court also noted various provisions of the BR Act to rule that there is sufficient legislative guidance for the RBI to exercise powers delegated to it. Both Sections 35AA and 35AB were found to be valid.

2. Insofar as the power under Section 35AA is concerned, the Court ruled that statutes should be deemed to be ‘always speaking. Each provision need not be interpreted in the context of the time at which it was enacted and needs to be interpreted in light of the prevalent environment, unless a contrary intention appears. Content may change, but the concept remains the same.

3. The Court found that Section 35AA sets the boundaries within which the RBI is to act, for making directions in relation to insolvency proceedings. The Court then drew a comparison with other provisions of law that enumerate the powers of the RBI vis-à-vis the Central Government. There are provisions in the BR Act which expressly require the RBI to act at the behest of the Centre, and there are provisions which give it operational independence.

However, Section 35AA is one which requires express authorization from the Central Government. Thus, the Court found two essential elements for action under Section 35AA: (i) Central Government authorization (ii) Action in case of ‘specific defaults’ only.

Interestingly, the Court observed that prior to the introduction of Section 35AA, the RBI’s power to make such directions were broader. Whereas, upon the introduction of Section 35AA, a specific process has been carved out for insolvency-related matters. Now that a specific process is in place, it will supersede the general powers.

While observing the language contained in Section 35AA, the Statement of Objects and Reasons that introduced it, the Press Note that was published when Section 35AA was introduced, and the MoF notification, the Court conclusively held that the RBI can act with respect to ‘specific cases’ only under the Section 35AA power.


The Court has not exactly clarified how the RBI needs to deal with ‘specific cases’. Arguably (as was also argued before the Court), the criteria provided under the Circular (debts with aggregate exposure of Rs. 2000 crore and above) does carve out a list of ‘specific cases’.

If the same logic is to be applied to the June 13 RBI notification (which gave birth to the dirty dozen cases),  it would be ultra vires Section 35AA too. The vires of the RBI-12 notification has, however, been upheld by the Allahabad High Court and six of those twelve cases have already seen a final outcome. This would, indeed, create a messy situation for the remaining cases if even one of the remaining six moved Court with the same logic.

Secondly, by holding the Circular to be ultra vires, the legal position that existed prior to the Circular has been restored, as if the Circular were never in place. This means all debt restructuring schemes are restored and banks can continue to endlessly negotiate with promoters.

The problem here, however, is for the cases that are already under CIRP as a result of this Circular. While the Power Sector companies may have bought time at the NCLT due to ongoing proceedings, there were many other companies (not from the power sector) which are now probably under IBC. This means proceedings against such companies are effectively terminated.

Thirdly, this ruling is a departure from the judicial stance taken so far with respect to adjudicating on the validity of instruments issued by financial sector regulators. Typically, the courts rule in favour of the instrument by using the same rational upheld in Swiss Ribbons, that is of `judicial hands-off qua economic legislation’.   However, this time the Court has struck down the instrument holding that the Circular was not compatible with BR Act. This heightened scrutiny is, however, more of a welcome development and less of a concern.

Ultimately, while the Supreme Court has shied away from expressly favouring the power sector, it has used “creative interpretation” to do so.

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