CAIIB BRBL Module B Unit 6 : Law Relating To Securities And Modes Of Charge – II

25/10/2023

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CAIIB Paper 4 BRBL Module B Unit 6 : Law Relating To Securities And Modes Of Charge – II (New Syllabus)

IIBF has released the New Syllabus Exam Pattern for CAIIB Exam 2023. Following the format of the current exam, CAIIB 2023 will have now four papers. The CAIIB Paper 4 (BANKING REGULATIONS AND BUSINESS LAWS) includes an important topic called “Law Relating To Securities And Modes Of Charge – II”. Every candidate who are appearing for the CAIIB Certification Examination 2023 must understand each unit included in the syllabus.

In this article, we are going to cover all the necessary details of CAIIB Paper 4 (BRBL) Module B (IMPORTANT ACTS/LAWS & LEGAL ASPECTS OF BANKING OPERATIONS – PART A) Unit 6 : Law Relating To Securities And Modes Of Charge – II, Aspirants must go through this article to better understand the topic, Law Relating To Securities And Modes Of Charge – II and practice using our Online Mock Test Series to strengthen their knowledge of Law Relating To Securities And Modes Of Charge – II. Unit 6 : Law Relating To Securities And Modes Of Charge – II

Appropriation

The Indian Contract Act, 1872 lays down the rules for appropriation which is applicable to a creditor who receives payment from a debtor
Appropriation is the application of a particular payment, received from a debtor, for the purpose of repayment of a particular debt.
Section 59 of Indian Contract Act states that right of appropriation is vested in the hands of debtor. He can appropriate payment by an express intimation.
Sec 60 of Indian Contract Act states that In case the customer has deposited amount in bank without giving any specific direction, the bank can exercise its right of appropriation and apply it in payment of any loan account.
Sec 61: Where neither party makes any appropriation, the payment shall be applied in discharge of debts, in order of time. If the debts are of equal standing, the payment shall be applied in discharge of each proportionately.

Assignment

The term ‘Assignment’ means the process by which a person called the assignor prefers to transfer rights or benefits to another person called the assignee.
In terms of Section 130 of the Transfer of Property Act: The transfer of an actionable claim, whether with or without consideration, shall be effected only by the execution of an instrument in writing signed by the transferor or his duly authorized agent, shall be complete and effectual upon the execution of such instrument.
In banking practice, a borrower may assign the book debt, money due from Government department, and life insurance policies as security for an advance.
The assignee can only have rights equal to that of the assignor and cannot have better rights.

Pledge

Pledge means bailment of goods for purpose of providing security for payment of debt or performance of promise’ (as per the Section 172 of Contract Act 1872).

Three requirements are to be satisfied for a valid pledge:

There must be bailment of goods (bailment means delivery of goods)
The bailment must be, by or on behalf of the debtor and
The bailment, must be for the purpose of providing security for the payment of a debt or performance of promise.

The person, whose goods are bailed is called the Pawnor, the person who takes the goods as security is called the Pawnee.

Delivery may be physical, when goods are physically transferred or symbolic as in the case of handing over the key to the godown, where the goods are stored so as to be out of the control of the pawnor.
Pledge can be created only in the case of existing goods which are in the possession of the pawnor himself.
Possession of goods is the most important characteristic of pledge and therefore, pledge is lost when possession of the goods is lost. However, the pawnee may release the goods after obtaining a letter of trust from the pawnor.

Rights of Pawnee

Rights of retainer
Right to claim extraordinary expenses
No right to retain in respect of the other debts
Pawnee’s right where Pawnor makes default in payment
He may sue the pawnor upon the debt or promise
He may retain the pawned goods as collateral security
He may sell it after giving the pawnor reasonable notice of the sale.

Duties of Pawnor:

He must disclose to the pawnee any material faults or extra-ordinary risks in the goods to which the pawnee may be exposed.
The pawnor must reimburse the pawnee for any expenses incurred for the preservation of the goods.
In the case of forced sale, if the amount realised is less than the debt due from the pawnor, he is liable to make good the balance.
When the goods are pledged, there is the implied condition that the pawnor has title to the goods pledged. However, in practice the banker obtains the pawnor’s signature to a document known as an agreement of pledge.

Advantages of Pledge

The goods are in the custody of the pawnee and, therefore, it is easy to sell in case of default.
Because of close supervision, it will not be possible for the pawnor to manipulate the stocks.
Even if the goods are unfortunately lost due to any reason, the banker can recover the amount under the insurance policy.
The formalities connected with the pledge are simpler than in the case of mortgage.

Hypothecation

The term came to be defined in the SARFAESI Act, 2002. As per Sec. 2 of the Act, ‘Hypothecation’ means a charge in or upon any moveable property, existing or future, created by a borrower in favor of a secured creditor, without delivery of possession of the moveable property to such creditor, as a security for financial assistance and includes floating charge and crystallization of such charge into fixed charge on moveable property.
Where the borrower is a company registered under the Companies Act, the charge by way of hypothecation must be registered within a period of 30 days of its creation.

Drawbacks of Hypothecation

The fundamental difficulty about this charge is that goods remain in the possession of the borrower and therefore the creditor’s control over such goods is almost negligible
The borrower may realise stocks hypothecated and pay to other creditors. He may even sell marketable stocks and keep only obsolete and slow moving stocks for the banker to realise.
The borrower may hypothecate the same stock with more than one banker or having previously hypothecated, the goods may subsequently be pledged to another creditor.
The realisation of the assets in case of default of payment is a difficult, prolonged and costly affair. The banker may find only obsolete and slow-moving items.
According to Section 332 of the Companies Act, 2013 any floating charge on the undertaking or property of the company created within a period of twelve months preceding the commencement of the winding up, becomes invalid under certain circumstances.

Note: While lending against hypothecation of goods, bankers obtain a letter of hypothecation which serves as the hypothecation agreement and contains several clauses to protect the banker’s interest under all contingencies.

Banker’s Lien

Lien is the right of the banker to retain possession of the goods and securities owned by the debtor until the debt due from the latter is paid.
The banker’s lien is an implied pledge. A banker acquires the right to sell the goods which came into his possession in the ordinary course of banking business, in case the debt is not paid.
Section 171 of the Indian Contract Act, 1872, gives to the banker an absolute right of general lien on all goods and securities received by the banker.

In order for the right of lien to be exercised-

The property must come into the hands of the Bank in normal course of banking business
It should not have been entrusted for a particular purpose inconsistent with the lien.
The possession with the Bank must be lawful.
There should be no agreement inconsistent with the lien

Set-off

In the case of a banker, the right of set-off enables him to adjust a debit balance in a customer’s accounts, with any balance outstanding to his credit in the books of the bank.

Salient Features

Both debts must be for certain sums. A debt-accruing due cannot be set-off against the debt already due.
The banker cannot set-off the credit balance in the account of guarantor till the liability of the guarantor is determined.
The credit balance in the current account cannot be set-off against a contingent liability of a bill discounted but not yet due.
A banker cannot set-off a debt due to him upon a loan account repayable on demand or at a specified date against a credit balance in the current account until the demand is made or due date arrives.
The parties must be mutually indebted in the same right.
When the right set-off is available to the bank, lien right cannot apply. These two different rights cannot be exercised simultaneously at the same time.

The right of set-off available to a banker under different situations can be understood better after going through the following chart.