Co-operative Bank Conversion Mid-Recovery: Forum, Composite Notice & Cost of Delay

When a Co-operative Bank Changes Its Registration Midway Through Recovery – The forum, the composite notice and the cost of delay

Summary: A State co-operative bank’s conversion into a multi-State co-operative bank during recovery can materially affect the forum, limitation and enforceability of proceedings against borrowers and guarantors. The article examines whether pre-conversion members automatically become members under the Multi-State Co-operative Societies Act, 2002; whether claims against sureties fall within Section 84; and how the six-year limitation under Section 85 interacts with acknowledgments made only by the principal borrower. It also analyses whether a composite SARFAESI demand notice adequately identifies borrower-wise liabilities and secured assets, and whether prolonged delay after possession can reduce a guarantor’s liability under Sections 139 and 141 of the Contract Act where security loses value. Parallel SARFAESI and arbitration proceedings may be permissible, but multiple references arising from one composite secured transaction require transparent appropriation and consolidated accounts to prevent duplication. Conditional attachment before award must satisfy the statutory requirement of intent to defeat or delay execution, while indiscriminate freezes involving non-parties may exceed arbitral authority. The article further highlights objections concerning the Central Registrar’s appointment power, delegation, tribunal constitution and the distinction between the place and seat of arbitration. It concludes with a practical defence sequence: challenge constitution and membership promptly, raise limitation early, contest attachment within the appeal deadline, demand complete account and valuation records, and obtain independent evidence of security value and sale consideration.

Brief

A co-operative bank registered under a State Act lends to three proprietary concerns of one family under three separate accounts, all secured by a single registered mortgage and cross-guaranteed by the same set of persons. The accounts turn bad. The bank issues its demand notices under the SARFAESI Act, takes possession, and then does very little for several years. Somewhere in the middle of all this, the bank converts itself into a multi-State co-operative bank. Years later it launches not one but three arbitrations under Section 84 of the Multi-State Co-operative Societies Act, 2002, obtains ex parte attachment orders in each, and claims interest several times the surviving principal.

Every step of that sequence is common. Very little of it has been examined together. This article looks at what the conversion does to the forum and to limitation, whether a claim against a surety is arbitrable under the Central Act at all, whether one demand notice can carry three loan accounts under three heads, and what a secured creditor’s long silence after taking possession costs it when the guarantors are finally sued.

Introduction

Recovery by co-operative banks in Gujarat has always run on two tracks. For the money claim, the bank goes to the Board of Nominees under Section 96 of the Gujarat Co-operative Societies Act, 1961, in what practitioners still call a lavad. For the security, it uses the SARFAESI Act, 2002, whose application to co-operative banks was finally put beyond doubt by the Constitution Bench in Pandurang Ganpati Chaugule v. Vishwasrao Patil Murgud Sahakari Bank Ltd., (2020) 9 SCC 215.

In recent years a third track has opened. A number of district and urban co-operative banks in the State have converted themselves into multi-State co-operative banks under Section 22 of the Multi-State Co-operative Societies Act, 2002. The moment they do, they stop using the Board of Nominees and begin filing references under Section 84 of the Central Act, before an arbitrator appointed under Section 84(4). Because Section 84(5) attracts the Arbitration and Conciliation Act, 1996, and Section 2(4) of that Act independently applies Part I to every statutory arbitration, the entire machinery of interim measures, jurisdictional pleas and setting aside comes with it.

The result is that a single default can now attract three statutes at once, and a borrower who defaulted while dealing with a State society may find himself before a tribunal constituted under a Central Act to which he never became a party in any conscious sense. What follows are the points that arise in that situation and that, in my experience, are rarely argued.

The law as it stands

Section 84(1) of the Central Act permits reference to arbitration of a dispute touching the constitution, management or business of a multi-State co-operative society arising, so far as is relevant here, between such a society and “a member, past member or person claiming through a member, past member or deceased member”. Section 84(2)(a) deems a claim by the society “for any debt or demand due to it from a member” to be such a dispute. Section 84(4) provides that where a dispute has been referred, it “shall be settled or decided by the arbitrator to be appointed by the Central Registrar”. Section 85 prescribes limitation, and Section 96 permits conditional attachment before award.

Section 22 governs conversion. On registration of the amended bye-laws by the Central Registrar the society “shall, as from the date of registration of amendment, become a multi-State co-operative society”, and the State Registrar must then order that it “had, as from the date of registration by the Central Registrar, ceased to be a society under the law relating to co-operative societies in force in that State”.

On the SARFAESI side, Section 13(2) requires the secured creditor to give the borrower notice in writing to discharge his liabilities within sixty days, Section 13(3) requires the notice to give details of the amount payable and of the secured assets intended to be enforced, and Section 13(3A) gives the borrower a right of representation and obliges the creditor to communicate reasons for non-acceptance within fifteen days. Rules 8 and 9 of the Security Interest (Enforcement) Rules, 2002 govern possession and sale. Rule 8(3) requires the property taken possession of to be kept in custody of a person “who shall take as much care of the property in his custody as an owner of ordinary prudence would, under similar circumstances, take of such property”. Rule 8(4) requires the authorised officer to “take steps for preservation and protection of secured assets and insure them, if necessary, till they are sold or otherwise disposed of”. Rule 8(5) requires a valuation from an approved valuer before the reserve price is fixed. In the case of movables, the proviso to Rule 4(3) permits the authorised officer to sell at once where the property “is subject to speedy or natural decay, or the expense of keeping such property in custody is likely to exceed its value”.

Finally, Sections 19(1A) and 19(1B) of the Recovery of Debts and Bankruptcy Act, 1993, inserted by Act 1 of 2013, preserve for a multi-State co-operative bank the option of proceeding under the Central Act instead of before the Debts Recovery Tribunal.

The present position

Conversion does not carry the members across

The most useful, and least noticed, feature of Section 22 is what it does not say. It converts the society. It says nothing at all about the members.

That silence was noticed by the Gujarat High Court in Chinmay Premalkumar Gandhi v. Adarsh Multi State Co-operative Bank Ltd., 2014 (3) GLR 1935. The Court was dealing with a merger, and observed at paragraph 26 that Section 84 “does not provide for reference of dispute to arbitration between the member of the State co-operative society and the multi-State co-operative society”, that there is “no provision pointed out for treating the member of State co-operative society as member of multi-State co-operative society”, and that a reference under Section 84 at the instance of the multi-State society against a member of the State society “may not be competent”. The Court added that any such reference is in any event subject to the time limit in Section 85.

Above case arose from mergers, and a bank that has converted will say the distinction matters, because on conversion the same juristic entity continues and nobody had to become a member of anything new. The answer to that is threefold, and it is worth setting out because it does not appear to have been argued anywhere.

First, Section 22 contains no deeming provision as to membership, and the courts cannot supply one. Second, and more tellingly, Section 22(5)(c) requires an affirmative declaration by the State Registrar that the society ceased to be a society under the State law from a specified date. The statute therefore contemplates a legal discontinuity, not a seamless continuation, and a dispute that arose before that date arose between a member and a State society. Third, Parliament knew how to save accrued rights when it wanted to: Section 17(4) of the very same Central Act provides, for amalgamation and division, that the step “shall not in any manner whatsoever affect any right or obligation… or render defective any legal proceedings”. No equivalent appears in Section 22. Where the legislature has expressly saved rights in one situation and not in the adjoining one, the omission is deliberate.

There is a practical dimension too. Membership under Section 3(n) must be “in accordance with this Act, the rules and the bye-laws”. On conversion the bye-laws are amended and registered afresh. A bank whose only proof of membership is a board resolution passed years earlier under the bye-laws of a State society has not discharged that burden, and should be called upon to produce the member’s application form, the share certificate and the register of members maintained after conversion.

Is a claim against a surety arbitrable under the Central Act at all?

This is a point of construction that deserves more attention than it gets.

Section 96(1) of the Gujarat Act and Section 91(1) of the Maharashtra Act each expressly extend the dispute machinery to “a surety of a member, past member or deceased member, whether such surety or person is or is not a member of the society”. The Multi-State Co-operative Societies Act, 2002 contains no such clause. Its only mention of a surety is in Section 84(2)(b), which deems arbitrable a claim by a surety against the principal debtor — the exact converse of a bank suing its guarantors.

Parliament legislated in 2002 with both State statutes on the table. The omission is not an oversight to be repaired by construction; it is a casus omissus. The liability of a guarantor arises from his contract of guarantee, not from the membership relation, and on a strict reading a claim by a multi-State society against him falls outside Section 84 altogether.

Even if that argument is not accepted in its widest form, the narrower one is well established. In Deepti Prakash Ghate v. NKGSB Co-op. Bank Ltd., 2023 LiveLaw (Bom) 25, decided on 7 January 2023, the Bombay High Court set aside an award against a guarantor of a multi-State co-operative bank because she was not a member. The Court held that under Section 3(n) a person can be treated as a member only if that person has applied for membership through the prescribed procedure, and that Section 84(2) “does not dilute any requirement of Section 84(1)… which pertains to disputes that can be referred to arbitration and the parties to such disputes”. The same view had earlier been taken in Prakash Vrundavan Thakkar v. Nagpur Nagrik Sahakari Bank Ltd. and in Suresh Prabhu v. Bombay Mercantile Co-op. Bank Ltd.

The practical consequence is that a guarantor who was inducted into membership after he signed his guarantee — which happens more often than one would expect, because banks enrol guarantors as an afterthought — has a serious answer on jurisdiction.

Limitation under Section 85, and the co-surety’s protection

Section 85(1)(b) prescribes six years from the date on which the act or omission with reference to which the dispute arose took place. Sub-section (1) opens with a non-obstante clause overriding the Limitation Act, 1963, and the Limitation Act is attracted by sub-section (2) only to disputes other than those in sub-section (1). On a plain reading, therefore, a six-year period under clause (b) runs from the act or omission and is not capable of being restarted by acknowledgment or part-payment at all. That reading is not free from difficulty, but it has not been tested, and it is worth taking.

Whether or not it is accepted, two further points arise that are of real practical value.

The first is Section 20(2) of the Limitation Act, which provides that nothing in Sections 18 and 19 renders one of several joint contractors chargeable “by reason only of a written acknowledgment signed by, or of a payment made by, or by the agent of, any other or others of them”. Banks routinely plead a balance confirmation or a letter of undertaking signed by the principal borrower alone as the event that saves the claim. It does not save it against the guarantors. Where the only other cause of action pleaded is the execution of the documents, the claim against the guarantors may be time-barred even where it is alive against the borrower.

The second is that money realised by a secured creditor through auction, or by appropriating a fixed deposit it holds, is not a part-payment under Section 19. That section requires payment “by the person liable to pay the debt or by his agent duly authorised”, together with an acknowledgment of the payment in the handwriting of or signed by the payer. A compulsory realisation by the creditor is an act of the creditor, not of the debtor, and cannot restart limitation.

Finally, Section 85(3) permits the arbitrator to admit a dispute after the period has expired, but only if the applicant satisfies him that there was sufficient cause. That requires an application and a pleading of sufficient cause. A bank that has simply filed late, without either, cannot be allowed to make up the deficiency in argument.

One demand notice for three loan accounts

Here is a point that arises constantly in family-group lending and, so far as I can find, has never been squarely addressed.

A bank sanctions three facilities to three proprietary concerns of one family on the same day, under one board resolution, secured by one registered mortgage expressed to secure the aggregate, and cross-guaranteed by the same persons. When the accounts turn, the bank issues what looks like a single demand notice addressed to everybody, setting out three account numbers under three heads with three figures, and then — critically — proceeds on the footing that the whole aggregate is charged on each secured asset.

There are at least four things wrong with that.

Section 13(2) requires the secured creditor to require “the borrower” to discharge “his liabilities” within sixty days. The obligation is borrower-specific. A proprietary concern has no existence apart from its proprietor, so there are three borrowers here, each entitled to be told what he owes and each entitled to his own sixty days. Aggregating them is not a matter of convenience; it changes what each recipient is being asked to pay.

Section 13(3) requires details of the amount payable and of the secured assets intended to be enforced. Where one mortgagor’s property is said to stand charged with the combined dues of three separate borrowers, the notice must identify the contractual source of that cross-collateralisation. If the mortgage deed and the guarantee bonds do not contain an express cross-charge, the notice overstates the encumbrance, and a notice that states the position incorrectly is not saved as a technicality. The Gujarat High Court so held in Bhavdipbhai Arunbhai Dave v. Kotak Mahindra Bank Ltd., Special Civil Application No. 16428 of 2021, decided on 20 January 2022, observing that it could not be said that there was a trivial and technical error in the demand notice, and granting interim protection. A Debts Recovery Appellate Tribunal has taken the same approach where a notice failed to disclose the rate of interest and the break-up of principal and interest.

Section 13(3A) is impaired. A borrower cannot make a meaningful representation about an amount that has been arrived at by adding to his own dues the dues of two other people.

And Section 13(8) is impaired, which is the most serious of the four. The right of redemption depends on the mortgagor knowing precisely what he must tender. A mortgagor told that his property is charged with an aggregate several times his own borrowing cannot exercise that right at all. Since the 2016 amendment the right is extinguished on publication of the auction notice — see Celir LLP v. Bafna Motors (Mumbai) Pvt. Ltd., (2024) 2 SCC 1 — so a defect that prevents its exercise in the window available is not curable later.

None of this means a bank may never issue a composite notice. It means that if it does, each borrower’s liability must be separately stated and separately demanded, each must get his own sixty days, and the cross-charge must be traceable to an express term. Otherwise the notice, and everything built on it, is open to challenge under Section 17.

The cost of delay after possession

The Enforcement Rules do not prescribe an outer limit within which a secured creditor must sell after taking possession, and that silence is often treated as a licence. It is nothing of the kind.

Rule 8(3) fixes a standard of care — that of an owner of ordinary prudence. Rule 8(4) imposes an affirmative and continuing duty to preserve, protect and insure the secured assets “till they are sold or otherwise disposed of”. For movables the proviso to Rule 4(3) goes further and expressly permits immediate sale where the property is subject to speedy or natural decay or where the cost of custody is likely to exceed its value. Industrial plant and machinery, left standing and unused, is the paradigm case. A creditor who takes possession of a manufacturing unit and then leaves it idle for years while interest accrues at a penal rate has not exercised ordinary prudence; it has done the opposite.

The consequence is not merely a complaint about maintainability of the SARFAESI action. It is a defence on the merits in the money claim, and it is available to the guarantors even where the SARFAESI measures themselves are not under challenge.

Section 141 of the Contract Act entitles a surety to the benefit of every security which the creditor holds against the principal debtor, and provides that if the creditor “loses, or, without the consent of the surety, parts with such security, the surety is discharged to the extent of the value of the security”. In State of Madhya Pradesh v. Kaluram, (1967) 1 SCR 266, the Supreme Court held that “security” in Section 141 is not used in any technical sense, and that where the creditor’s own inaction allowed the security to be lost, the surety stood discharged. In Amrit Lal Goverdhan Lalan v. State Bank of Travancore, AIR 1968 SC 1432, the surety’s liability was cut down from Rs. 40,933 to Rs. 5,243.58 on precisely this footing, and a contractual clause purporting to bypass Section 141 was held ineffective. State Bank of Saurashtra v. Chitranjan Rangnath Raja, (1980) 1 SCC 152, applied the same principle against a bank that had lost pledged goods. Section 139 operates alongside: an omission which impairs the surety’s eventual remedy against the principal debtor discharges him.

Put those together and the position is this. The Enforcement Rules supply the standard of care. The Contract Act supplies the remedy. A guarantor sued years later for a shortfall can say, and prove, that the shortfall was manufactured by the creditor’s own delay, and is entitled to be discharged at least to the extent of the value lost. The measure is the difference between what the security would have fetched had it been realised with reasonable diligence when the account turned, and what it actually fetched.

That is why a retrospective valuation as at the date of the non-performing asset classification is worth more to a guarantor than almost any legal argument.

Running SARFAESI and arbitration together, and the temptation to split

A bank may do both. Section 37 of the SARFAESI Act saves other laws, Transcore v. Union of India, (2008) 1 SCC 125, rejected the doctrine of election, and M.D. Frozen Foods Exports (P) Ltd. v. Hero Fincorp Ltd., (2017) 16 SCC 741, held that SARFAESI enforcement and arbitration may proceed in parallel, subject to credit being given for what is recovered. For multi-State co-operative banks, Sections 19(1A) and 19(1B) of the RDB Act settle the choice of forum, and the Bombay High Court has recently confirmed that a Section 84 arbitrator and SARFAESI can run alongside each other.

What a bank may not do, in my view, is treat one composite transaction as three when it comes to filing, while continuing to treat it as one when it comes to security and appropriation. Where three facilities are sanctioned together, secured by one mortgage, guaranteed by the same persons, enforced under one possession notice reciting a single aggregate charge, and the realisations are credited to what the bank itself calls “group loan accounts”, three separate arbitrations produce three awards over one set of assets. The same auction proceeds are then recited in each reference without disclosure of the apportionment, and the guarantors are exposed to double or treble execution against the same property.

The answer is an application for analogous hearing and, more importantly, for a single consolidated statement of account across all the facilities, disclosing how every rupee realised was split. Until that is on record, no principal figure in any of the references can be tested. In practice this is the highest-value order a defending party can obtain, and it should be sought at the first hearing rather than saved for evidence.

Attachment before award, and orders against strangers

Section 96 of the Central Act permits conditional attachment where the arbitrator is satisfied that a party to the reference, with intent to defeat or delay the execution of any decision that may be passed, is about to dispose of his property. Two things follow that are being overlooked in practice.

The threshold is intent, and it must be pleaded with particulars and found. A bare assertion that the opponents intend to siphon off the bank’s money is not a pleading of intent. In Raman Tech. & Process Engg. Co. v. Solanki Traders, (2008) 2 SCC 302, the Supreme Court held that the power of attachment before judgment is drastic and extraordinary, is not to be exercised mechanically or merely for the asking, and requires specific averments and prima facie proof; a mere apprehension that a decree may go unsatisfied is not enough. An ex parte order of this kind must also record its reasons — Shiv Kumar Chadha v. Municipal Corporation of Delhi, (1993) 3 SCC 161, and Morgan Stanley Mutual Fund v. Kartick Das, (1994) 4 SCC 225.

The second point concerns a practice that has become common: an order attaching, up to the claim amount, every bank account, demat account and mutual fund holding traceable to the opponents’ Permanent Account Numbers and Aadhaar numbers. Such an order operates against banks, depositories, brokers and mutual funds who are not parties to the reference. Section 17(1) of the Arbitration Act empowers a tribunal to order a party to take an interim measure; Section 17(2) makes the order enforceable as an order of the Court but confers no jurisdiction over strangers. Section 96 authorises attachment of the property of a party, not a command to third parties to search and freeze. And an open-ended direction to identify and freeze every financial asset of a group of individuals by reference to Aadhaar is a roving inquiry that engages the informational privacy recognised in K. S. Puttaswamy v. Union of India, (2017) 10 SCC 1, for which the Act supplies no authority of law.

Where such an order is passed by the tribunal under Section 17, an appeal lies under Section 37(2)(b). Because these are commercial disputes of specified value, the appeal goes to the Commercial Court and must be filed within sixty days of the order under Section 13(1A) of the Commercial Courts Act, 2015, as held in Government of Maharashtra v. Borse Brothers Engineers & Contractors (P) Ltd., (2021) 6 SCC 460, which also holds that delay is condoned by exception and not by rule. That deadline is easily missed while a party is busy applying to the tribunal to vacate.

A word on the appointment itself

Section 84(4) admits of a single appointing authority — the Central Registrar. In practice, orders of appointment are frequently made by the Registrar of Co-operative Societies of the State, and are often omnibus: one person appointed to decide all disputes between a named bank and “its defaulting members”, made months or years before any particular dispute is referred.

Both features are open to question. Delegation under Section 122 must be shown, not assumed. And the language of Section 84(4) — “where a dispute has been referred to arbitration under sub-section (1), the same shall be settled or decided by the arbitrator to be appointed” — indicates that the appointment follows the reference. A standing appointment made before the disputes exist is not an appointment for a referred dispute; it is the constitution of a permanent tribunal for one institution’s recovery docket. A party wishing to take the point should call for the reference, the order of appointment and the delegation notification at the threshold, because if the tribunal is not constituted as the section requires, its award is a nullity that can be set up at any stage — Kiran Singh v. Chaman Paswan, AIR 1954 SC 340.

Two related points should be noted so that time is not wasted. A challenge to such an arbitrator under Sections 12 and 13 of the Arbitration Act will not succeed: in Turnrest Resources Pvt. Ltd. v. Kalupur Commercial Co-operative Bank Ltd., 2024 SCC OnLine Guj 3577, the Gujarat High Court held at paragraph 9.1 that Section 12 applies where an arbitrator is appointed by agreement between the parties and not to a statutory appointment under Section 84(4). And where the arbitrator has recorded only a place of arbitration without determining a seat under Section 20(2), the court where the cause of action arose retains jurisdiction over applications under Sections 34 and 37 — the position taken in Century Dyeing on the authority of Indus Mobile Distribution (P) Ltd. v. Datawind Innovations (P) Ltd., (2017) 7 SCC 678, and BBR (India) (P) Ltd. v. S.P. Singla Constructions (P) Ltd., (2023) 1 SCC 693. A defending party should therefore be careful never to consent to minutes designating a seat elsewhere.

What is to be done

For a borrower or guarantor facing a Section 84 reference from a converted bank, the order of work matters more than the eloquence of any single argument.

Begin with the constitution of the tribunal. Call for the reference, the order of appointment and any delegation, and if the appointment is by the State Registrar or is an omnibus one, take the point under Section 16 of the Arbitration Act — which must be raised not later than the statement of defence, or it is lost. Alongside it, put the bank to strict proof of membership by production of the application form, the share certificate and the register of members maintained after conversion, and take the Chinmay Gandhi point that a dispute which arose while the bank was a State society is not referable under Section 84 at all.

Take limitation as a preliminary issue rather than saving it for the end. Read the bank’s own pleading of its cause of action closely; it is frequently the execution of the loan documents, which puts the claim well outside six years, and the acknowledgment relied upon is usually signed by the principal borrower alone and therefore does not touch the guarantors.

Deal with any attachment immediately and on two tracks — an application to the tribunal to vacate, and, in parallel, the sixty-day appeal under Section 37(2)(b), which should be prepared even if it is not eventually filed.

Then attack the account rather than the liability. Ask for certified ledgers of every facility in the group, for the apportionment of every realisation, for the valuation reports and reserve prices under Rule 8(5), and for the record of every failed auction. Where several references have been filed on one composite transaction, apply for analogous hearing and a single consolidated account. Commission a retrospective valuation of the plant and of each mortgaged property as at the date of the non-performing asset classification, because the difference between that figure and what the assets actually fetched is the measure of the discharge under Section 141.

And obtain what you can from public offices rather than from the bank. Certified copies of the mortgage deed and of the sale deeds, the index entries, the annual statement of rates for the relevant villages at the dates of sale, and the revenue records showing co-sharers and the agricultural character of the land, are all available independently and cannot be delayed or suppressed by the other side. Where the sale price is at or below the stamp-duty valuation, undervalue is close to proved without expert evidence.

A word, finally, for the lending side. Much of what is set out above is avoidable. Separate demand notices for separate borrowers cost nothing. A cross-charge clause, if intended, should be written into the mortgage and the guarantee rather than assumed at the enforcement stage. Possession should be followed by valuation and sale within months, not years, and Rule 8(4) means what it says about preservation and insurance. And where a bank converts its registration midway through a recovery, it ought to consider whether the cause of action it is enforcing accrued before or after that date, because the answer may determine the forum. A recovery that is quick, separately particularised and properly accounted for is very much harder to defend than one that is not.

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Disclaimer: The views are personal. Nothing in this article is to be read as advice in any particular matter. This article is intended as general information on the law and is not legal advice on any particular matter. Readers should verify the current position before acting on it.

Author Profile: Mihirkumar V. Patel is an independent Advocate practicing before the High Court of Gujarat, Debts Recovery Tribunal-1 and 2 at Ahmedabad, Debts Recovery Appellate Tribunal at Mumbai, and the City Civil Court at Ahmedabad. He specializes in Writ Petitions (Article 226), Direct and Indirect Tax Litigation, Commercial Litigation, Land disputes, RERA, Banking, SARFAESI Act, RDB Act, and Recovery Disputes.