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** My note –
this so perfectly explains what is wrong with selling packages of loans – it should have never been allowed in US banking and financial systems. The fact is this judgment by a court in India conveys the basic common sense found in reality – all that the loan sales do is to shift balance sheets without any real transfer of tangible property.

Although the writer of this article may not agree with the court, if we had just not allowed loans to be sold – how much of the trillions of dollars in bailout money for our banks, Wall Street and other financial institutions would not have been required? They didn’t actually make money – they just stole money from us with a sleight of hand.
(my comment.)

– cricketdiane, 02-11-09, USA

http://www.business-standard.com/india/news/body-blow-to-banking-industry/00/20/348403/

Body blow to banking industry
Somasekhar Sundaresan / New Delhi February 09, 2009, 0:07 IST

Buying and selling of loan portfolios has been declared illegal by a division bench of the Gujarat High Court.
Hearing an appeal on questions relating to stamp duty and registration decided by the company court in Gujarat, the division bench opined that banks cannot be in the business of buying and selling loan assets.

In a nutshell, the division bench has ruled that assignment of loans by one bank to another is illegal. The court has ruled that such activity is not part of “banking activity” contemplated in the Banking Regulation Act, 1949 (the “Act”).Interestingly, the Official Liquidator in Gujarat had canvassed the same view viz. that assignment of Non-Performing Assets (NPAs) by one bank to another would be bad in law.

A portfolio of 56 loans aggregating to principal indebtedness of Rs 52.45 crore and outstanding interest of several hundred crores held by ICICI Bank had been sold to Kotak Bank for a price of Rs 12 crore. Ironically, the issue had been raised before the company court and dropped by that court after the Reserve Bank of India (RBI), which had been joined as a party in that court, had filed two detailed affidavits setting out its guidelines on buying and selling loan assets.

The court interpreted the definition of “banking” in the Act as the activity of accepting deposits of money from the public for purposes of lending. The court has extensively interpreted the scheme of the Act to opine that none of the descriptions of banking and incidental activity would justify the activity of buying and selling NPAs.

As regards the RBI policy on purchase of NPAs, the court has noted that under the Act, banking policy may be specified by the RBI periodically in the interest of the banking system, monetary stability or sound economic growth. The court has ruled that the RBI could never have permitted trading in debts as part of “banking policy” because trading in debts is not “banking”. Besides, according to the court, permitting trading in debts would not meet the other criteria.

In the words of the court, such activity cannot be a policy for sound economic growth because it only means “clearing the debris from one balance sheet and dumping the same in another balance sheet”. Assignment of a portfolio of NPAs “is nothing else but a form of window-dressing as understood in commercial parlance”. Consequently, the court has effectively held that the RBI’s guidelines on buying and selling of NPAs could never be regarded as “banking policy” envisaged in the Act.

The court has strong views on the subject. The very concept of trading in debts is “abhorrent to the concept of banking in any form” the court has said. “The entire activity is based on a speculative form of transaction….. That can never be a permissible mode of activity as part of, or in addition to, or incidental to, or conducive to the promotion or advancement of the business of the banking company,” it said.

The court has also ruled that buying and selling of loans is not the same as buying and selling of property under the general Indian law on transfer of property. Since the court believes that a purchase of a loan from another bank and its recovery is not banking business, a bank is not free to undertake such activity. Therefore the ability of a bank to sell property can only be the ability to sell assets over which it has security to recover a loan that it has advanced on its own – not purchased from another bank.

The judgement is best described by quoting verbatim: “The contention that when NPAs are removed from the books of the assignor banks such assignor banks would reflect a better balance-sheet is a myopic or ostrich like attitude…. the other side of the same transaction would reflect a poor balance-sheet in so far as the assignee banks are concerned, may be at a lesser figure, because the assignee banks pay a nominal amount for a basket of large outstandings….. The activity therefore, cannot be termed to be either in the interest of bank or in the interest of the customer or in the interest of banking industry in general.”

Finally, the court has laid down the law that for a loan to be bought, consent of the borrower would be required. “A person approaches a bank for loan after bearing in mind the terms offered by a particular bank for a particular loan….but, if the customer initially preferred the assignor bank….the factors which weighed with the customer for preferring the assignor bank…. cannot be said to be not relevant by forcing the customer to then transact with the assignee bank.”

When a court interprets law, it lays down the law even for parties not resolving a controversy before it. This opinion of the Gujarat High Court has far-reaching implications for the Indian banking industry and the RBI. While the Supreme Court may eventually set it aside (it could even agree with the Gujarat High Court), in the interim, the legality of loan purchases is under cloud.

***

** My note –
this so perfectly explains what is wrong with selling packages of loans – it should have never been allowed in US banking and financial systems. The fact is this judgment by a court in India conveys the basic common sense found in reality – all that the loan sales do is to shift balance sheets without any real transfer of tangible property.
(my comment.)