Banking Law LL.B.

4th Semester

Question-1.The History and Evolution of Banking System in India

The evolution of the banking industry has played an indispensable role in the development of the
Indian economy. With every phase, the industry has adapted and diversified itself to make
customers' financial lives easier and smoother while sustaining itself in the global economy. 

The banking industry dates back to the ancient world circa 1000 BC and has undergone many
innovations to reach its current position in the global economy. What started as a simple barter
system and gift economy has metamorphosed into a technology-driven and internet-based
globalised banking system. The industry's progress in every aspect can also be seen in the Indian
banking system. The changes in banking over time can be looked at in the following phases.

Phase 1: Pre- and early post-Independence 

Banking in India started in the 1700s. However, in the early days, the primary goal was to establish
new banks and make the banking sector a relevant presence in Indian society. The pre-independence
phase saw about 600 banks working together to make the nation's economy more robust by bringing
in some considerable developments.

Bank of Bombay is considered to be the first bank in India, set up in 1720, while Bank of Hindustan,
which is seen as one of India's first modern banks, was founded in Calcutta in 1770 only to shut
operations in 1832. Few banks established in the mid-1800s merged and called themselves Imperial
Bank of India. The collective eventually came to be known as State Bank of India. This period also
saw the formation of several private banks, some of which are still operating today. Apart from the
establishment of the banking system, the emergence of commercial banks and the merger of banks
can be seen as significant developments of this era.

Phase 2: Nationalisation to Liberalisation

In this post-independence phase, the banking industry in India went through a significant
transformation as 14 commercial banks were nationalised in 1969. The move was meant to build
customer confidence amongst those sceptical about private ownership of banks. Additionally,
nationalisation opened up plans to establish more branches and expand the banking sector in India.
Later in 1980, six more banks were nationalised. The following financial institutions were established
to add more purpose to the banking system and address more specific segments: 

 NABARD to aid agricultural activities

 EXIM to develop exports and imports

 National Housing Board to fund housing projects

 SIDBI to finance small-scale Indian industries

Set up as special purpose vehicles to drive the mentioned industry to sector, these banks added a
new angle to how banks were used as a part of national policies.
Meanwhile, Mumbai got its first automated teller machine (ATM) in 1987. Since then, ATMs have
steadily increased, offering customers the convenience to withdraw money anytime. Today, ATMs
provide various other facilities like account balance checks, bill payments, cash deposits, etc. 

Post -Liberalisation Era (1991 – till date)

Since 1991, the Indian banking industry has gone through some radical changes. For starters, the
government allowed private investors to invest in India. After liberalisation, the RBI approved 10 such
private banks. IDFC FIRST Bank received its license in 2013-14. 

There were other remarkable changes seen during this phase. The Indian government approved
foreign investment, paving the way for international banks to open their branches in India. Small
finance banks received permission to open branches throughout the country, and payment banks
also came into existence. With these changes, important developments in technology have emerged
and continue to evolve the banking industry. 

Emerging Trends in India's Banking Sector

The use of core banking can be seen as a stepping stone to modern technological developments in
banking. Thanks to these developments, customers no longer need to visit their home branches for
basic banking tasks. They can transact core banking facilities from the nearest bank branch instead.

With the emergence of technology, things have now gone online, allowing customers to access banks
24X7, at their convenience and from almost anywhere. Digital and mobile banking support this
concept by letting customers access various banking products, services and facilities from mobile
devices. For banks, it means having to provide minimal human intervention, and for customers, it
means being able to stay on top of their finances from anywhere.

Of course, the internet also plays a vital role by providing knowledge about financial products and
services. For instance, today, an IDFC FIRST Bank customer does not have to stand in a long queue to
get their accounts settled, passbook updated or send money to someone. These can all be done by
tapping a few buttons. Even applying for loans has become more accessible with online loan facilities
without compromising a customer's financial and personal data. 

To get a clearer picture of the impact of nationalisation on the banking industry and the general
population, let’s understand why the government decided to nationalise banks:

 To Energise Priority Sectors: Banks were collapsing at a fast rate – 361 banks failed between
1947 and 1955, which converts to about 40 banks a year! Customers lost their deposit with
no chance of recovering them.

 A Neglected Agricultural Sector: Banks favoured large industries and businesses and
neglected the rural sector. Nationalisation came with a pledge to support the agricultural
sector.

 Expansion of Branches: Nationalisation facilitated the opening of new branches to ensure

maximum coverage of banks throughout the country.

 Mobilisation of Savings: Nationalising the banks would allow people more access to banks
and encourage them to save, injecting additional revenue into a cash-strapped economy.
  Economic and Political Factors: The two wars in 1962 and 1965 had put a tremendous
burden on the economy. The nationalisation of Indian banks would give the economy a boost
through increased deposits.

The Positive Effects of Nationalisation

The nationalisation of Indian banks was one of the most significant events in the evolution of banks
in India. Today, India has 19 nationalised banks.

Advantages of Nationalization :-
Increased Savings: There was a sharp increase in savings with the opening of new branches. As
national income rose in the 1970s, gross domestic savings almost doubled.

Improved Efficiency: The efficiency of banks improved with additional accountability. It also increased
public confidence.

Empowering SSIs: Small scale industries (SSIs) received a boost resulting in a proportionate
improvement in the economy.

Financial Inclusion: The overall statistics of the banking sector and the Indian economy showed a
marked improvement. It reflected on parameters like the share of bank deposits to GDP, gross
savings rate, the share of advances to DGP, and gross investment rate from 1969 to 1991.

Better Outreach: Banks were now no longer only restricted to metropolitan areas. Branches were
opened in the remotest corners of the country.

A Surge in Public Deposits: The increased reach of banks helped small industries, agriculture, and the
export sector grow. This growth was accompanied by a proportionate increase in public deposits.

Elevating the Green Revolution: The Green Revolution, one of the biggest priority items on the
government’s agenda, received a boost thanks to the support that the newly-nationalised banks
provided to the agricultural sector.

Disadvantages of Nationalisation:-
To provide an unbiased view on the subject, here are a few downsides of nationalisation:

1. Socio-Economic Challenges: The banks couldn’t provide sufficient support to eradicate

poverty or provide adequate financing to the grassroots levels of society. This was
particularly obvious in rural India.

2. Competition From Private Banks: Despite government support and increased impetus
through a rise in deposits, public sector banks were never able to surpass private banks in
performance.

3. Failure to Achieve Financial Inclusion: Although financial inclusion was the major objective of
nationalising banks, it was not adequately enabled. It was only achieved to a limited extent
after the launch of a government campaign called Jan Dhan Yojana.

II.Priority Sector Lending(PSL)

Priority Sector refers to those sectors of the economy which may not get timely and adequate credit.
Priority Sector Lending is an important role given by the Reserve Bank of India (RBI) to the banks for
providing a specified portion of the bank lending to few specific sectors. The sectors may be
agriculture and allied activities, micro and small enterprises, poor people for housing, students for
education and other low income groups and weaker sections. This is essentially meant for an all
round development of the economy as opposed to focusing only on the financial sector. As per the
RBI circular released in 2016, there are eight broad categories of the Priority Sector Lending.

 They are: (1) Agriculture (2) Micro, Small and Medium Enterprises (3) Export Credit (4)
Education (5) Housing (6) Social Infrastructure (7) Renewable Energy (8) Others.

 The others category includes personal loans to weaker section, loans to distressed persons,
loans to state sponsored organisations for SC/ST.

Role of RBI in revamping PSL

 The current banking and economic situation demands a fresh round of thinking
regarding priority sector lending (PSL) guidelines.

 Reserve Bank of India (RBI) initiated two significant steps.

 First, it revamped PSL norms by including some new sectors such as social infrastructure,

renewable energy and medium enterprises among others.

 Second was the introduction of the scheme of priority sector lending certificates (PSLC) to
facilitate the achievement of PSL targets by banks.

 This is to incentivise banks having surplus in their priority sector lending to sell this surplus to
peers that are falling short.

 The total volume traded at the end of September 2016 was about Rs 140 billion.

Growth of PSL
 Trends indicate that barring renewable energy and to some extent trade, credit to new
sectors has not shown any significant expansionary trend.

 During April-December 2016, RBI data indicates that the incremental credit growth to

priority sector expanded at a very slow pace of 0.8 per cent.

 In FY16, public sector banks (PSB) priority sector loans had registered a strong growth of 13.4
per cent, compared to the overall PSBs’ credit growth of 2.1 per cent (renewable energy and
trade contributed most).

 On an average, the new sectors have contributed around two per cent to the priority sector
lending growth.

 Despite this, in the last five years, PSBs have been unable to achieve the PSL targets.

 But private sector banks achieved their PSL target in the last three rows in a row.

 However, this may not be an appropriate comparison, as PSB PSL loan portfolio is three times
higher than their private sector banks’ counterparts.
  Further, the Nabard balance sheet for FY16 shows a total of Rs 1,89,420 crore in rural
infrastructure development fund (RIDF) and other funds being deposited by banks because
of shortfall in their PSL targets over the years.

 The amounts deposited in RIDF and other such funds are also counted
towards PSL achievement.

 However, if these amounts are excluded, the banking system will indeed have an overall
shortfall in PSL.

Role of RIDF
 RIDF came into existence in FY 1996, with the primary purpose of encouraging commercial
banks to meet their PSL targets through interest rate policy instrument.

 That is, lower interest on investment under RIDF as compared to net returns on priority
sector advances.

 Currently, the interest rate levied on RIDF varies from two per cent below bank rate to four
per cent below bank rate depending on the extent of shortfall in PSL targets.

 This directly impinges on the profitability of PSBs.

 In a scenario of stressed profitability, PSBs can hardly afford this hit, which has a direct
bearing on their profitability and retained earnings as also the need for the government to
infuse capital.

How should the PSL be tweaked?

 There should be some clear definitional changes in PSL at least with reference to the
quantitative caps.

 MSME lending is an integral part of the priority sector.  However, the definition of MSME is
very old dating back to 2006.

 Therefore, broadening the definition in line with the current economic conditions is required.

 There needs to be a serious re-look at the cap of Rs 5 crore per borrower for building social
infrastructure activities like schooling in Tier II and Tier VI centres.

 The cap of Rs 15 crore for borrowers related to public utilities under renewable energy must
be increased manifold to make it a meaningful proposition in accordance with the current
vision.

 Another area worth considering is expanding the definition of rural infrastructure to include
rural roads, power plants, bridges etc.

 We should also consider including food credit under PSL as such credit is primarily used for
procurement of food grains, ensuring food security, especially for weaker sections of society.

 Alignment of priority sector guidelines with the affordable housing definition will incentivise
banks to lend more to the affordable housing segment.

 It might be worthwhile to make an objective assessment of whether we should include

municipal bonds under PSL norms.
  As it will meaningfully facilitate rising of funds for the necessary improvement in social and
economic infrastructure of cities.

Question -2.Banking System in India

Banks and banking in India have been classified into various groups. In its activities, each group has
its own set of advantages and disadvantages. They have their own distinct target audience. Some
work exclusively in the rural sector, while others work in both rural and urban settings. The majority
of them only serve cities and major towns.

The banking industry is one of the most essential financial pillars of the financial sector, and it is
critical to the economy’s functioning. It is critical for a country’s economic development that its
trade, industrial, and farm funding needs are handled with greater commitment and responsibility.
As a result, a country’s progress is inextricably related to the development of banking. In today’s
economy, banks should be viewed as development leaders rather than money merchants. They play
a crucial role in deposit mobilization and credit disbursement to many sectors of the economy.

The Reserve Bank of India (RBI), commercial banks, cooperative banks, and development banks
comprise India’s banking system (development finance institutions). The core of India’s financial
system is these institutions, which serve as a meeting point for savers and investors. Banks play a
vital role in the development of poor countries by mobilizing resources and efficiently allocating
them.

The features of the Indian banking system:

1. Deals with Money

A bank’s main characteristic is that it handles all financial transactions. You can put your money in a
bank account, for example, to store it safely, and you will be interested in the money you save in the
account.

2. Provides Loans

Banks gain additional money by providing loans for a variety of products. The bank earns the
additional funds by lending money to the qualifying person at predetermined rates.

Banks now provide loans for a variety of purposes, including study loans, vehicle loans, housing
loans, personal loans, and so on.

3. Withdrawal and payment facilities

Customers can use a bank’s numerous payment and withdrawal services to receive their money
quickly and easily. Customers can use cheques and draughts to withdraw money, as well as ATMs
established by banks at various sites throughout the city.

4. Internet services

Modern banks now provide internet services, which is another element of a bank. The growth of the
internet and its integration into the banking industry has made it even easier for customers to do
numerous transactions. Through their apps, banks are providing online services. You can pay your
bills, buy groceries, and shop without having cash on you.

5. Business
Banking’s sole purpose is not to supply consumers with banking services. To make additional money,
all banks are involved in subsidiary enterprises. Their only responsibility is to deliver optimum
customer satisfaction and maximum interest rates in order to attract more clients to bank with them.
To make a profit, money is moved from one hand to the next.

Indian banking system meaning

A banking system is a collection of institutions that provides us with financial services. These
organizations are in charge of running a payment system, making loans, accepting deposits, and
assisting with investments.

The importance of banking system in India

 Insufficient capital formation makes economic development difficult in a country.

Commercial banks are encouraging individuals to save their money and mobilize it for
beneficial uses at this time.

 Credit creation boosts output, boosting economic growth and, in turn, creating a large
number of job prospects.

 Commercial banks promote balanced regional development in India by providing the

required financial infrastructure and money to backward areas.

 By providing timely loans to agricultural farmers, commercial banks aid in the promotion of
the primary sector.

 They offer advanced loans to consumers for the purchase of assets such as residences,
consumer goods, and furniture, among other things, and they encourage individuals to
pursue a higher level of living.

 The banking sector plays a significant part in the Indian economy, as commercial banks
support the Indian government in achieving each aim of the country’s planned economic
development.

 For both internal and external trade, commercial banks offer the necessary financial backing
and infrastructure.

Question-3 Formation and Registration of Banking Company in India

Capital requirements

Statutory requirements

Section 11 of The Banking Regulation Act prescribes the minimum capital requirement for every
banking company and no banking company is allowed to carry on its banking business unless the
statutory requirements as discussed below are maintained. The act has classified the capital
requirements on the basis of the place where the company is incorporated. 

Section Place of Incorporation Capital Required

11(2) Banking Company  If business is in the city of Bombay or Calcutta:  amount of its paid up
Incorporated Outside capital shall not be below twenty lakhs rupees.
 India (Foreign Banking  If no business in the city of Bombay or Calcutta: amount of its paid up
Company) capital shall not be below fifteen lakhs rupees.

1. If it has place of business in more than one state: five lakhs rupee and

if such a place is Bombay or Calcutta  then ten lakh rupees.

2. If it has place of business in more than one state none of which is

Banking Company is
11(3)
Incorporated in India
situated in Bombay or Calcutta: One Lakh rupees in respect of the
principal place of business + Ten Thousand rupees for each place
where its business is situated in same district, + Twenty five
thousand rupees of each place of business situated elsewhere in the
state other than in the district. 

3. If it has a place of business in one state, one or more of which is

situated in Bombay or Calcutta: Five lakh rupees + twenty five
thousand rupees for each place outside Bombay and Calcutta. 

Points to be noted:

1. Provided further that no banking company incorporated in India shall be required to have a
paid-up capital requirement exceeding ten lakh rupees. 

2. The amount stated above needs to be deposited and keep deposited with the Reserve Bank
of India, either in cash or in any form is unencumbered approved security.

3. These are just the statutory requirements of capital and reserves. But in actuality, the
Reserve Bank of India prescribes the guidelines for licensing of a new banking business in
India. The capital requirements for the formation of a new banking company is required to
be maintained according to the guidelines of the RBI.

Capital requirements according to the guidelines issued by the Reserve Bank of India

The minimum paid-up voting equity capital for a bank shall be 500 Crore Rupees for universal banks
and 200 Crore Rupees for small finance banks. And any addition to this capital will be based upon
the plan presented by the promoters of the bank to the RBI.

However recently, in November 2020, a panel led by P.K. Mohanty has recommended RBI to increase
the minimum initial capital requirements for licensing of a new banking firm to 1000 Crore
Rupees for universal bank and 300 Crore Rupees for Small finance banks.

Regulations of paid-up capital, subscribed capital and authorized capital and voting rights of
shareholders

Statutory requirements

According to Section 12 of the Banking Regulation Act, 1949, no banking company is allowed to carry
on its business unless it satisfies the following conditions:

1. Its subscribed capital is not less than one-half of its authorized capital;

2. Its paid-up capital is not less than one-half of the subscribed capital;

3. The capital of the company consists of ordinary shares only or of ordinary shares or equity
shares;
 4. No person holding shares in a banking company shall have voting rights of above 10% of total
voting rights of all the shareholders;

5. Every managing executive of the bank needs to disclose, to the RBI, the extent and the
amount of his shareholding in the firm.

RBI’s Guidelines

As per the guidelines issued by the RBI the promoters of a banking company operating its business
for over 15 years can raise their share cap to 15%. And according to a recent recommendation of The
PK Mohanty Committee the RBI may increase this limit of 15% to 26%.

Management of the banking companies

As per the provisions of the Companies Act, 1956 the management of a company is done through
the scheme of Board of Directors, on a parallel line the Banking Regulation Act, 1949 u/s 10-A has
also provided for similar model of management for a Banking Company. So according to Section 10-
A of the Act the constitution of the Board of Directors and prescribes the eligibility of the people who
can be appointed as the Directors.

So according to Section 10-A every company is required to constitute a Board of Directors, and while
constituting the BOD the following points need to be considered:

1. 51% of the members of the BOD should have special knowledge or practical experience in
the field of accounts, banking, finance, law, agriculture and rural development, Co-operation,
small scale industry or any other field as prescribed by the Reserve Bank of India. 

2. None of the members of the BOD shall have a substantial interest in the company and must
not be connected to the company as a manager, agent, employee, etc (this provision does
not applies to a company registered under Section 25 of the Companies Act).

3. The members should not be a member of any trading, commercial or industrial concerns. 

4. No director shall hold the office (except chairman or whole-time director) shall hold the
office for a period exceeding 8 years.

5. On failure of compliance with the above provisions the Reserve Bank of India is empowered
to appointment any suitable person for such a job. 

Further Section 10 of the Act prohibits for employment of certain person which includes:

1. Person adjudicated as insolvent;

2. Who have compounded with his creditors;

3. Convicted for some criminal act involving moral turpitude;

4. Person whose remuneration is taken in form of commission or profit on shares;

5. Person who is a director of its subsidiary company;

6. Person who is the director of a company registered u/s 25 of the Companies Act.

Licensing of banking companies

Section 22 of the Act provides that no banking company is permitted to carry on the banking
business in India unless it holds a license issued on behalf of the Reserve Bank. Such a license is
issued only when the RBI is satisfied that all the conditions are satisfied. Since the banking is the
backbone of the Indian Economy, so for the smooth conduct of the banking business in India is it
important that no unscrupulous element is added to this banking industry. So the licensing system
makes sure that no undesirable element is taking part in the Indian banking system.

Procedure: Every company desiring to start a banking company shall before commencing the banking
business in India, shall apply in writing to the Reserve Bank of India.

Condition: Section 22(3) states that the Reserve Bank is required to be satisfied with the following
conditions before granting license:

1. That the company will be in a stance to pay its present and future depositors;

2. That the affairs of the company are not conducted in a manner which is detrimental to the
banking business;

3. That the management structure of the company is not prejudice to public interest;

4. That the company has adequate capital as prescribed under the statute and prescribed by
RBI;

5. That the public interest will be served if the license is granted;

6. That adequate facilities are available in the proposed business area of the firm.

Cancellation of License: Section 22(4) states the situations where the RBI is entitled to cancel a
banking business:

1. If the company ceases to carry on the business of banking;

2. If the company fails to comply with the conditions mentioned under the Act.

Opening of new branches or transfer of existing place of business

As per the provisions of Section 23 of the Act, no banking company is allowed to open a new place of
business without obtaining prior permission of the RBI, and neither the banks can transfer their
existing place of business without prior permission of the RBI

Reserve funds

As per the provisions of Section 17 of the Act, every bank is required to transfer, each year, an
amount equivalent to 20% of its profit for that year to the Reserve Funds

Cash reserve

As per the provisions of Section 18 of the Act, every banking company needs to maintain, at all time,
an amount in cast with the RBI which is equivalent to 3% of its demand and time liabilities. Any
decision taken by the reserve bank in this regards shall be final and cannot be appealed. 

Maintainance of assets in India

As per the provisions of Section 24 of the Act, every banking company is required to maintain assets
in India which are equivalent to 20% of its demand and time liabilities. The act also prescribes the
asset in which such an amount is to be maintained, those assets are: gold, unencumbered securities,
or approved securities.
Ever since the independence, banking had been the backbone of the Indian Economy. The growth
prospective of our nation is based on its well-built banking system. And in recent times, the Indian
Banking Industry has witnessed continued growth in demand and this substantially increasing market
size of the Banking Industry clearly indicates its growth potential, and thus forming a Banking
Company can be absolutely lucrative. But unlike the unregulated markets, the formation of a Banking
Company entails the awareness of a variety of legal issues. And thus, accordingly, the present article
discusses and explains the various matters relating to the formation of a Banking Company in India.

The Banking Industry as it stands today is just limited to just 34 Banking Companies, out of which 12
are public sector banks and the remaining 22 are private sector banks. Statistically, the banking
industry in India yields 7.7% of the nation’s GDP and has a market size of around 105 Trillion Rupees.
Despite all these facts, 20% of the Indian population doesn’t have a bank account, and this fact
clearly indicates the growth potential of the banking industry in India.

In India, we have a Federal form of government and thus we have a division of power between
centre and the states. Banking is included in the Union List (Entry 45) so it is under the exclusive
control of the Central Government, which is empowered to control the banking business in India.
And hence the law governing the banking industry in India is uniform throughout the country.

Meaning of the word bank and banking company

The definition of the words Banking and Banking Company is been provided under Section
5(b) and Section 5(c) of the Banking Regulation Act, 1949 (herein referred to as the Act) respectively. 

Section 5(b) of the Act provides for the feature of Banking. These features are:

1. Accepting deposits from the general public, 

2. Lending or further investing the money received from such deposits, 

3. The money is repayable on demand, and

4. The money deposited can be withdrawn by cheque, draft, order or otherwise. 

Section 5(c) of the Act defines banking company as a company which transacts the business of
banking. The explanation to the section makes it clear that any company which accepts deposits
merely for the purpose of financing its business will not be treated as a banking company. This
explanation had been added because Section 58-A of the Companies Act also empowers the
company to accept deposits from public. 

Business of banking

As discussed above, a banking company is one which transacts into the business of banking, and so it
becomes important for us to discern as to what constitutes the business of banking in India.
So, section 6 of the Act provides for the activities that constitutes the business of banking. 

1. Borrowing, raising or taking up of money;

2. Advancing of money;

3. Making, accepting, discounting of bill of exchange, pro notes, bill of lading, railway receipts,
etc;

4. Acting as an agent of the government to carry the work of clearing and forwarding of goods;
 5. Contracting, negotiation, and issuing public and private loans;

6. Insuring, guaranteeing, underwriting, participating of shares, stocks, debentures, of any

company;

7. Managing, selling, realizing any property which comes into possession of company;

8. Undertaking and executing trusts;

9. Administration of estates;

10. Selling, managing, exchanging, leasing, mortgaging or dealing of any part of company’s
property, etc;

11. Other tasks incidental to the above-mentioned functions;

12. Any other function as notified by the central government. 

Registration of a company under the provisions of the Companies Act

The first and the foremost requirement for the formation of a banking company in India is that the
applicant needs to be a ‘Company’ formed under the provisions of The Companies Act, 1956. Any
person who wishes to start a banking business in India needs to set up a separate legal entity distinct
from is owner. The procedure for the formation of a company is given under Section 7 of the Act.
Every company needs to register itself with the registrar of the company, by filing an application and
submitting the relevant documents like MoA and AoA. If the registrar is satisfied with all documents,
then he will issue a certificate of registration under Section 7(1). 

Major documents required for the formation of a company are:

1. Memorandum of Association (MoA): Framing of the MoA is the first step towards the
formation of a company. It is the most important document of a company often known as
the Constitution of the Company. As per Section 4 of the MoA is five parts in a MoA which
can be found in Table A to Table E in Schedule 1 of the Act. It contains various clauses like the
name clause, capital clause, liability clause, object clause etc. This document mainly deals
with the external matters of a company. It must be noted that the MoA of every company is
available as a public document on the portal of the Ministry of Corporate Affairs

2. Article of Association (AoA): The next most important document in addition to MoA is the
AoA. This document deals with the internal matters of a company and is commonly known as
the by-laws of a company. Section 5 of the act deals with the provisions relating to AoA, it
states that the AoA of a company shall consist of details relating to the Regulation and
management of a company and all the other matters which are considered necessary for its
functioning. The AoA of a company, as similar to MoA contains five parts which can be found
in Table F to Table J in Schedule 1.

Question-4 Deposit Insurance Corporation

Deposit insurance, as we know it today, was introduced in India in 1962. India was the second
country in the world to introduce such a scheme - the first being the United States in 1933. Banking
crises and bank failures in the 19th as well as the early 20th Century (1913-14) had, from time to
time, underscored the need for depositor protection in India. After the setting up of the Reserve
Bank of India, the issue came to the fore in 1938 when the Travancore National and Quilon Bank, the
largest bank in the Travancore region, failed. As a result, interim measures relating to banking
legislation and reform were instituted in the early 1940s. The banking crisis in Bengal between 1946
and 1948, once again revived the issue of deposit insurance. It was, however, felt that the measures
be held in abeyance till the Banking Companies Act, 1949 came into force and comprehensive
arrangements were made for the supervision and inspection of banks by the Reserve Bank.

It was in 1960 that the failure of Laxmi Bank and the subsequent failure of the Palai Central Bank
catalyzed the introduction of deposit insurance in India. The Deposit Insurance Corporation (DIC) Bill
was introduced in the Parliament on August 21, 1961 and received the assent of the President on
December 7, 1961. The Deposit Insurance Corporation commenced functioning on January 1, 1962 .

The Deposit Insurance Scheme was initially extended to functioning commercial banks. Deposit
insurance was seen as a measure of protection to depositors, particularly small depositors, from the
risk of loss of their savings arising from bank failures. The purpose was to avoid panic and to promote
greater stability and growth of the banking system - what in today’s argot are termed financial
stability concerns. In the 1960s, it was also felt that an additional the purpose of the scheme was to
increase the confidence of the depositors in the banking system and facilitate the mobilisation of
deposits to catalyst growth and development.

When the DIC commenced operations in the early 1960s, 287 banks registered with it as insured
banks. By the end of 1967, this number was reduced to 100, largely as a result of the Reserve Bank of
India’s policy of the reconstruction and amalgamation of small and financially weak banks so as to
make the banking sector more viable. In 1968, the Deposit Insurance Corporation Act was amended
to extend deposit insurance to 'eligible co-operative banks'. The process of extention to cooperative
banks, however took a while it was necessary for state governments to amend their cooperative
laws. The amended laws would enable the Reserve Bank to order the Registrar of Co-operative
Societies of a State to wind up a co-operative bank or to supersede its Committee of Management
and to require the Registrar not to take any action for winding up, amalgamation or reconstruction of
a co-operative bank without prior sanction in writing from the Reserve Bank of India. Enfolding the
cooperative banks had implications for the DIC - in 1968 there were over 1000 cooperative banks as
against the 83 commercial banks that were in its fold. As a result, the DIC had to expand its
operations very considerably.

The 1960s and 1970s were a period of institution building. 1971 witnessed the establishment of
another institution, the Credit Guarantee Corporation of India Ltd. (CGCI). While Deposit Insurance
had been introduced in India out of concerns to protect depositors, ensure financial stability, instill
confidence in the banking system and help mobilise deposits, the establishment of the Credit
Guarantee Corporation was essentially in the realm of affirmative action to ensure that the credit
needs of the hitherto neglected sectors and weaker sections were met. The essential concern was to
persuade banks to make available credit to not so creditworthy clients.

In 1978, the DIC and the CGCI were merged to form the Deposit Insurance and Credit Guarantee
Corporation (DICGC). Consequently, the title of Deposit Insurance Act, 1961 was changed to the
Deposit Insurance and Credit Guarantee Corporation Act, 1961. The merger was with a view to
integrating the functions of deposit insurance and credit guarantee prompted in no small measure by
the financial needs of the erstwhile CGCI.

After the merger, the focus of the DICGC had shifted onto credit guarantees. This owed in part to the
fact that most large banks were nationalised. With the financial sector reforms undertaken in the
1990s, credit guarantees have been gradually phased out and the focus of the Corporation is veering
back to its core function of Deposit Insurance with the objective of averting panics, reducing systemic
risk, and ensuring financial stability.

Question-5.Reserve Bank of India and Its powers and Functions

Powers and Functions of the Reserve Bank

Today there is a central bank for each and every country in the world. The Reserve Bank of India is
the Central Bank of our country. It was established under the Reserve Bank of India Act, 1934 and
started functioning from April 1, 1935. It was nationalized with effect from January 1, 1949. It
performs variety of functions, both traditional and promotional. Organisation of the Reserve Bank of
India The affairs of the Reserve Bank of India are managed by the Central Board of Directors. The
Central Board of Directors consists of:

1. A Governor and not more than four Deputy – Governors appointed by the Central
Government under Section 8(1) (a) of the Reserve Bank of India Act, 1934.

2. Four Directors nominated by the Central Government, one from each of the four Local
Boards in terms of Section 8(1) (b).

3. Ten Directors nominated by the Central Government under Section 8(1)(c), and

4. One Government official nominated by the Central; Government under Section 8(1) (d).

The Reserve Bank of India has Local Boards with Headquarters at Bombay (Mumbai), Calcutta
(Kolkata), Madras (Chennai) and New Delhi. Local Boards consist of five members and these
members are appointed by the Central Government as far as possible to represent territorial and
economic interest, the interest of co-operatives and indigenous banks.

The Chairman of the Central Board of Directors of the Reserve Bank of India is called the Chief
Executive Authority of the Bank and he is known as the Governor. The Governor has the powers of
general Superintendence and direction of the affairs and business of the bank and he is authorized to
exercise all powers, which may be exercised or done by the bank. In the absence of the Governor, the
Deputy Governor nominated by him in this behalf exercises his powers.

Objectives of RBI

The Reserve Bank of India was established in order to fulfil the following objectives –

1. To maintain stability in the internal and external value of Indian rupee.

2. To establish co-ordination between money and credit in the country.

3. To act as banker to the government.

4. To regulate banking system in the country.

5. To control and regulate credit and foreign exchange.

6. To arrange agricultural finance.

7. To establish monetary relation with foreign countries.

 8. To collect and publish statistical data relating to money, credit and banking business.

Functions of Reserve Bank of India

There are types of functions of Reserve Bank of India.

Functions as Central Bank

Note-Issue

The sole power of issuing the bank-notes is vested with the Reserve Bank of India in our country.
Except one rupee note, which is issued by the Government of India, all the other notes up to 2000
rupee denomination, are issued by Reserve Bank of India, under Section 24 of the Reserve Bank of
India Act.

Reserve Bank as Government Bank

As per Section 20 and 21 of the Reserve Bank of India Act, the Reserve Bank of India  functions as the
Government’s Banker and takes up the following functions:

1. Remitting money to foreign Countries on Government order: As a government banking the

Reserve banker, the Reserve Bank of India manages to transfer the amounts to the overseas
on the orders of the government.

2. Transferring of Government Funds : On behalf of government the Reserve Bank of India also
effects the transfer of the various funds.

3. Providing for Foreign exchange for Government : The Reserve Bank of India also provides
for the foreign exchange to the government for the state activities.

4. Accepting and making payments for Government : The Reserve Bank of India receives all
the payments on behalf of the government. It has not to pay any interest on the government
deposits.

5. Arranging the public loans for Government: The Reserve Bank of India manages and
provides the short term public loans for Central Government.

6. Advances to the state government: In case of emergent needs, the Reserve Bank of India
also provides for short terms loans in the state government.

7. Acting as Government’s Financial Advisor: In connection with vario0us national and

international problems, the Reserve Bank of India extends as consultation to the Central and
State Government.

Reserve Bank of Banker’s Bank

The Reserve Bank of India has been granted some very special rights and privileges in order to
establish a sound banking system in our country. Right from the setting up of the banks up to their
winding up, all the functions are performed with the consent of Reserve Bank of India. The following
are some such important functions as are performed by the Reserve Bank of India.

1. Obtaining licences regarding setting up: Every bank set up in India, has to obtain licence
from Reserve Bank of India. Before granting of the licence, Reserve Bank of India investigates
about the financial stability of the applying bank, whether its incorporation has been in the
interest of the depositors or not.
 2. Management and direction: The Reserve Bank of India has power to intervene sufficiently in
the management and control of the banks. If any director of some bank does something
undue, he maybe removed from his office by the Reserve Bank of India.

3. Granting permission for branch expansion and shifting: Without the permission of Reserve
Bank of India, neither any bank could open its new branch nor could transfer its branches
from one place to the other.

4. Carrying on Inspection: In order to strengthen the Indian banking system, Reserve Bank of
India is empowered to inspect any bank. Inspection can be taken up anytime without any
prior information.

5. Checking up of final accounts: In our country every bank is required to prepare its annual
accounts for each year, as closing on 31st March, and three copies of its care to be submitted
to the Reserve Bank of India.

6. Keeping liquidity Reserve: Every bank is required to keep in deposit some percentage as part
of its deposits with the Reserve Bank of India. On such deposits, the Reserve Bank of India
doesn’t give any interest.

7. Working as final grantor of loans: As banker’s bank, the Reserve Bank of India extends the
financial help from time-to-time to scheduled banks in case of need. Besides giving direct
loans or against the mortgage of the approved securities, it also makes full deduction of the
bank’s bills.

8. Working clearing house to banks: For clearing the mutual payments and dues, Reserve Bank
of India acts as the clearing house of the banks. After the setting-up of the Reserve Bank of
India, every year the number of clearing houses is increasing in the country.

9. Credit Control: In order to mobilize properly the monetary system of the country, Reserve
Bank of India acts as a central bank for the credit control. For controlling credit by the
Reserve Bank of India, several different devices are used.

Foreign exchange system

On account of the increasing significance of the foreign currency for economic development and to
check up all the unwanted acts in this sphere, Reserve Bank of India as opened with it, a credit
control department.

Compilation and publication of data

Reserve Bank of India also arranges to collect facts and figures pertaining in the Indian economy and
publish them for the use and benefit of various classes of Indian masses.

Providing agricultural credit

The Reserve Bank of India has separately set up an agricultural credit department for the purpose of
conducting research pertaining to agricultural problem, bringing co-ordination among of agricultural
credit, and extending consultations regarding agriculture.

Providing for training of banking employees

In order to increase the efficiency in the working of the banking employees and to provide better
services to the customers, the Reserve Bank of India also provides for the training of the employees
of the Indian banks.

Functions as ordinary Bank

1. Purchase, sale and re-discounting of agricultural bills: The Reserve Bank of India also works
as purchaser, seller and re-discounter for the agricultural bills maturing within a maximum of
15 months period, as drawn up within India. It is the work of an ordinary bank.

2. Purchase, sale and re-discounting of commercial bills: Apart from the agricultural bills, the
Reserve Bank of India also acts for the purchase, sale or re-discounting of the commercial
bills maturing within a maximum period of 90 days.

3. Accepting securities without interest : The securities without interest, are also accepted by
the Reserve Bank of India from the private institutions, banks and central and state
governments.

4. Acquiring the loans: The Reserve Bank of India also procure loan from any scheduled bank of
the country or from any central bank of some other country, in case of need, for a maximum
period of 90 days.

5. Granting loans to the central and state government: The Reserve Bank of India also grants
loans to the central and state governments, in case of need, on the security of investment,
promissory notes, bills of exchange and valuable metals, bullion etc. Such loans are usually
granted for routine activities, for a maximum period of 90 days.

Powers of RBI

Election of New Directors

Section. 12A: The Reserve bank may, by order, require any banking company to call a general
meeting of the shareholders of the company within such time, not less than 2 months from the Date
of the order, as may be specified in the order or within such further time as the Reserve bank may
allow in this behalf, to elect, in accordance with the voting rights permissible under this Act, fresh
directors.

Cash Reserve

Section. 18: Under Section 42 of the Reserve Bank of India Act, every scheduled bank has to maintain
a sum equal to at least 3% of its time and demand liabilities in India as cash reserve with the RBI. The
Reserve bank has the power to increase the percentage up to 20% by a notification in the
government Gazette.

Licensing of Banking companies

Section. 22: Prior to granting license to a banking company, the Reserve bank may require to be
satisfied by an inspection of the books of the banking company or all or any of the following
conditions should be fulfilled, namely:

1. What the company is or will be in a position to pay its present or future depositors in full as
they become due
 2. That the affairs of the company are not being, or are not likely to be conducted in a manner
detrimental to the interest of the depositors.

3. In the case of a company incorporated outside India that the carrying on of banking business
by such company in India will be in the public interest and that the government or law of the
country in which it is incorporated does not discriminate in any way against banking
companies registered in India.

Cancellation of the License: The license of any banking company may be cancelled by the Reserve
Bank due to the following reasons:

1. If the company ceases to carry on banking business in India; or

2. If any of the conditions imposed by the Reserve bank are not fulfilled.

Any banking company aggrieved by the decision of the Reserve bank cancelling a license may, within
thirty days from the date on which such decision is communicated to it, appeal to the central
government.

Opening of New and Transfer of Existing place of Business

Section. 23: Without obtaining prior approval of the Reserve Bank:

1. No banking company shall open a new place of business in India or change otherwise than
within the same city, town or village, the location of an existing place of business situated in
India.

2. No banking company incorporated in India shall open a new place of business outside India
or change, otherwise than within the same city, town or village in any country or area
outside India, location of an existing place of business situated in that country or area.

The permission of the Reserve bank is not necessary where a banking company opens a temporary
place of business for a period not exceeding one month, within a city, town or village within which
the company has already a place of business, for the purpose of affording the banking facilities to the
public on the occasion of an exhibition, a conference or a mela or any other like occasion.

Power to call for information relating to the business of any banking company

Section. 27(2): Sec. 28 gives power to the Reserve Bank to publish such information if it considers it
proper to do so in the public interest.

The Reserve bank can at any time a banking company to furnish within the specified time, with such
statements and information relating to business of the banking company as the Reserve bank may
consider necessary.

Power of Inspection

Section. 35: The Reserve Bank may at any time, and shall at the direction of the central government
inspect a banking company and its books and accounts to find out whether or not the affairs of the
banking company are conducted in the interest of the depositors. The central government may after
giving reasonable notice to the banking company, publish the report submitted by the Reserve Bank
of such portion thereof as may appear necessary

Power to give Directions

Section. 34: The Reserve Bank may from time to time issue directions to banking companies
generally or to any banking company particularly. The Reserve Bank shall do so when it deems it
necessary to issue such directions :

1. in the public interest; or

2. to secure the proper management of any banking company generally.

3. to prevent the affairs of any banking company being conducted in a manner detrimental to
the interest of the depositors or in a manner prejudicial to the interests of the banking
company;

Reserve Bank's approval necessary for the amendment of provisions relating to appointment of
managing directors

Section. 35B: The appointment or reappointment of a managing or a whole time director, manager
or chief executive officer, by whatever name called, shall not have any effect unless it is made with
the previous approval of the Reserve Bank.

Power of Reserve Bank to appoint additional directors

Section. 36AB: The Reserve Bank, if considers necessary for the protection of the interest of
depositors, from time to time may appoint additional directors but the number should not exceed
five or one third of the maximum strength fixed for the Board by the articles whichever is less.
Additional directors shall hold office at the pleasure of the Reserve bank not exceeding three years at
a time.

Power of Reserve Bank to remove managerial and other persons from office

Section. 36AA: For preventing the affairs of the banking company, the Reserve bank may remove any
director, chief executive officer by writing an order the order shall contain reasons for his removal
and the date from which it is effective. Reasonable opportunity should also be given to such a person
for explaining his position before such order is actually passed against him. Such person, within 30
days, can appeal to central government.

Question-6. E-Banking System in India

Electronic Banking is more commonly referred to as internet banking or simply net banking. It is an
electronic payment system supported by a website that offers an array of products and services of
any bank that is possible to work electronically, like payments, transfers, deposits and more.

Meaning of E-Banking

E-Banking services are available on all 7 days all round the hours of the day. It is a convenient way to
access account information and allied services related to the account from the comfort of
your home and a stable internet connection. These services are made to be secure against cyber
attacks too. These net banking portals can only be availed through User IDs and passwords, by
generating OTPs and captchas while logging in. Internet banking has reduced the stress on banking
institutions as well as its customers. A customer may not need to go to the bank each time they want
a different query addressed; in fact, the accessibility of chatbots and support services on the site
make understanding and executing processes on the site easier for both the user and the provider. A
customer can access their account information, avail loans and keep check on the balance, make
payments and transfer funds with security and ease. Nowadays, when an account is opened with a
bank, online banking services are automatically offered. Opening an account with a bank is also
possible online. Online banking also keeps and provides a track on all the transactions and activity
done during an active session. E-Banking is secure and quick to access and process. Non-financial
information such as bank news, checking statements, filling and submitting applications and more is
possible with only a click of a button.

Highlights of E-Banking

In the current day, there is little difference between net banking and e-Banking and the terms are
often used interchangeably. However, internet banking is only one of the many services of e-Banking,
while e-Banking encompasses all the services, financial and non-financial, are provided. The regular
don’ts apply to e-Banking, even more so since the information handled here is very sensitive. It’s best
not to use e-Banking services on a public Wi-Fi, or even public computers.

Mobile and Internet banking

Internet banking and E-banking are almost synonymous, except the latter is a broader term
encompassing the former. Any transaction – financial or non-financial – that you make over through
a web page (generally the bank's website) or a web application constitutes internet banking.

You can experience banking at your fingertips with IDFC FIRST Bank's internet banking services,
which facilitate easy transfers, quick bill payments and access to loan details. On the other hand,
mobile banking happens through your mobile phone via a bank's mobile banking app.

Credit and debit cards

Credit and debit cards are a form of E-banking, too! Debit cards can help us easily withdraw cash
from ATMs and POS (Point of Scale) machines. On the other hand, credit cards allow customers to
borrow funds up to a pre-approved limit and help them avail a range of offers.

ATMs

ATM was the first E-banking service provided by banks when they started going digital. An ATM
makes the process of withdrawing and depositing money convenient.

Electronic Data Interchange (EDI)

EDI is a technology that is restricted to business transactions. It is used to improve operational

efficiency and reduce transaction costs across a supply chain consisting of manufacturers, suppliers,
logistics providers, retailers, and wholesalers, etc. EDI has succeeded in making transactions across
businesses paperless and seamless.

Electronic Fund Transfer (EFT)

An EFT is used to electronically transfer money from one bank account to another. Some examples of
EFT are National Electronic Funds Transfer (NEFT), Immediate Payment Service (IMPS) and Real-Time
Gross Settlement (RTGS). Hence, E-banking comprises a range of different mediums of transacting
online.
Question -7Legal Relationship Between Bank and Customer
There are numerous kinds of relationship between the bank and the customer. The relationship
between a banker and a customer depends on the type of transaction; products or services offered
by bank to its customers. The legal relationship between a bank and its customer differs in several
important respects from the relationships between most other service providers. In order to answer
the question, the essay will begin by describing and analysing the legal relationship between a bank
and its customer. After that, it will goes on to compare that between other service providers and
their customer.

The general legal relationship between bank and its customer

The general legal relationship of bank and customer is contractual relationship, started from the date
of opening an account. [1] When customer deposits money into his bank account, the bank becomes
a debtor of the customer. [2] No new contract is created every time there is a new deposit as the
account is continuing in nature. [3] The banker is not, in the general case, the custodian of money.
The money paid into a bank account becomes the property of the bank and bank has a right to use
the money as it likes. The bank is not bound to inform the depositor the manner of utilization of
funds deposited by him. Bank does not give any security to the debtor (depositor). The bank has
borrowed money but does not pay money on its own, as banker is to repay the money upon
payment being demanded. [4] Thus, bank’s position is quite different from normal debtors. On the
other hand, when the bank lends money to his customer, the relationship between the bank and
customer is reversed. Then the bank takes the position as a creditor of the customer and the
customer becomes a debtor of the bank. Borrower executes documents and offer security to the
bank before utilizing the credit facility. Therefore, the general relationship between bank and its
customer is that of a debtor and a creditor.

On the other hand, the relationship between the customer and the banker can be that of principal
and agent. Agent can be defined as a person employed to do any act for another or to represent
another in dealings with third persons. The person for whom such act is done or who is so
represented is called “the principal”. In acting on instructions to make periodical payment or transfer
money from customer’s account to others, to collect cheques or bills, the bank acted as agent of its
customer. Prima facie every agent for reward is bound to exercise reasonable skill and care in
carrying out the instructions of his principal. The standard of care expected is one of an ordinary and
prudent banker and not that of a detective.

Building society vs. Bank

Building societies, like bank, are deposit-taking institution. Generally speaking, the relationship
between building society and its customer is that of a debtor and a creditor. This is the similarity
between bank and building society. But specifically building societies are differs from banks as
building societies are owned by their customers, this simply means that those who have a savings
account, or mortgage, are members and have certain rights to vote and receive information, as well
as to attend and speak at meetings. Each member has one vote, regardless of how much money they
have invested or borrowed or how many accounts they may have. Each building society has a board
of directors who run the society and who are responsible for setting its strategy. In contrast, banks
are normally companies listed on the stock market and are therefore owned by, and run for, their
shareholders.

Investment Company  vs. Bank

The relationship between the investment company and its customer is fiduciary in character. As such,
an investment adviser stands in a special relationship of trust and confidence with its clients. As a
fiduciary, an investment adviser has an affirmative duty of care, loyalty, honesty, and good faith to act
in the best interests of its clients. The parameters of an investment adviser’s fiduciary duty depend
on the scope of the advisory relationship and generally include the duties to make reasonable basis
investment advice, to seek best execution for client securities transactions where the adviser directs
such transactions and to make full and fair disclosure to clients of all material facts about the
advisory relationship, particularly regarding conflicts of interest.

As a result, the legal rights and duties of an investment manager also differ from that of bank. An
investment company will owe to his client both a common law duty of care in tort and fiduciary
duties. Generally, a bank does not have a duty to advise its customer on the suitability of a
transaction; nor does it has a duty to protect the customer from imprudent transactions. [6] The
relationship between a bank and its customer is not fiduciary in character. [7] As noted by Lord
Justice Dunn, “Banks are not charitable institution”. [8] Moreover, bank is not under an implied duty
to bring to the attention of the customer a new type of banking facility which may reasonably be
capable of being applied to or being utilised by customer in the known circumstances of its business
and banking requirements. [9]

Nonetheless, it must be borne in mind that the limits of a banker’s business cannot be defined as a
matter of law. [10] If a banker undertakes to advice, he must exercise reasonable care and skill in
giving the advice. [11] Furthermore, under the Hedley Byrne principle, a bank which assumes
responsibility towards a customer for advising on investments or on the commercial merits of a
proposed transaction owes a duty of care even if the advice is gratuitous. [12] Prior to the case of
Hedley Byrne v Heller, [13] the court in Woods v Martins Bank Ltd [14] held that it is possible for a
bank to owe fiduciary duties to its customer. This is largely because the bank agreed to a request
from a customer to manage his financial affairs. Indeed, the bank manager knew the customer relied
on his advice and there were conflicts of interest because the advice was to invest in a company that
was also in debt to the bank.

However, it has been argued that Salmon J was forced to rely on the fiduciary principle to impose
liability on the bank since there was no remedy in tort for a negligent misstatement at that
time. [15] Thus, it is very unlike the court will resort to the device of a fiduciary relationship if it
happens again. [16]

Insurance Company vs. Bank

Similarly, insurance company are different from bank because there is a “special relationship”
between the insurance company and the policyholder. The special relationship consists of a
combination of elements such as the fiduciary duties insurance companies owe to its policyholders
and the duty of good faith and fair dealing inherent in every insurance policy between an insurance
company and its policyholder. Among an insurer’s fiduciary responsibilities is the duty of
disclosure. [17]

Insurance companies’ duty of disclosure requires that they provide certain information to their
prospective and current policyholders, such as the scope and limitations of the insurance coverage
being agreed to, the consequences of various events, the responsibilities of the insurance company
and all other terms of the insurance policy. When an insurance company failed to meet its duty of
disclosure, it is considered an act of bad faith that gives actionable cause to the policyholder to seek
relief for any resulting losses. In contrast, the bank is only required to supply the customer with
relevant information such as APR calculation, copy of agreement, balance and etc. [18]

Trust Company vs. Bank

A trust company is a corporation organized to perform the fiduciary of trusts and agencies. The
“trust” name refers to the ability of the institution’s trust department to act as a trustee, who
administers financial assets on behalf of customer (settlor). The assets are typically held in the form
of a trust, a legal instrument that spells out the beneficiaries and what the money can be spent for. A
trustee’s power to dispose of the trust property or to arrange the property is subject to the wishes of
the customer (settlor). In contrast, the receipt of money on deposit account constitutes the banker a
debtor to the depositor [19] but not a trustee of the customer. [20] Therefore, the customer has no
right to inquire into, or question the use of, the money by the banker.  [21] A trust involves the
administration of assets on behalf of an individual whether he is living or dead. Therefore, the trust
arrangement will still be going on after the death of the customer (settlor). However, the relationship
between a bank and a customer ceases on the death, insolvency, lunacy of the customer.

However, the position is otherwise if the banker assumes the office of trustee [22] . Moreover, a
banker is affected by the existence of a trust where an account is opened by a customer acting in the
capacity of trustee15, or where the banker is on notice that a payment into or out of the account is
in breach of trust16, or where money is paid to a banker for a particular purpose in circumstances
such as to impress the payment with a trust17.

Duty of Confidentiality

One of the similarities between bank and other service providers is that the legal relationship
between them and their customers will give rise to a duty of confidentiality. They are disallowed to
disclose the information about their customer to third party even when the person is no longer their
customer. However, the decision of the Court of Appeal in Tournier v. National Provincial and Union
Bank of England enunciated four exceptional cases in which disclosure is justified:(1) Where
disclosure is under compulsion of law (2) Where there is a duty to the public to make the information
known (3) Where the interests of the bank require disclosure (4) Where the disclosure is made by
the express or implied consent of the customer. Other than that, banker and all other service
providers are under duty to disclose when it involves in cases of money laundering.  [23] Currently,
there are two statutes of primary importance in governing the duty of confidentiality: Data
Protection Act 1998 and the Human Right Act 1998. The Data Protection Act 1998 gives effect to
European Council Directive 95/46 on the protection of personal information. On the other hand,
Article 8 of the Human Rights Act 1998 enshrines the right to respect for private and family life.

Undue Influence

The relationship between banker and customer will not generally give rise to a presumption of undue
influence. In the ordinary course of banking commerce, a banker is allowed to explain the nature of a
proposed transaction without laying himself open to a charge of undue influence [24] . However,
comparing with other service providers, the relationship between investment advisors and investor,
insurance company and policy holder, trustee and beneficiary, all of them will give rise to a
presumption of undue influence. [25] This is because there is certain degree of trust and confidence
between them and their customers. It has been regarded as a norm.

.Bankers Right to Lien 

As per Merriam- Webster Dictionary, “Lien” is defined as “a charge/ penalty upon real or personal
property towards the satisfaction of some debt or duty derived by the use of law ”. In legal terms, lien
means rights of bailee to retain the goods & securities (held by bailee) owned by the bailor until the
total debt due to him is paid off. It allows the bailee/ creditor the right to retain the security and not
the right to sell it. In simple terms, a lien means the right to keep somebody’s property until a debt is
paid and not the right to sell it to someone else. A Bailee always has the right to lien against Bailor.
This article will provide a quick understanding of Lien and their types, various aspects of Banker’s
Right to Lien and the procedure adopted by Banks while set-off of a particular lien.

Types of Lien

A lien may be categorised into Particular/ Specific Lien and General Lien. 

Particular/Specific Lien:

This is a lien wherein a person, who has made expenses either by rendering any services in the form
of labour or skills on a particular item, has a right to retain such goods until the due remuneration is
paid to him against the rendered services. This is mentioned under Section 170 of the Indian
Contract Act, 1872.

For example, A gives his car to a mechanic for servicing against consideration of Rs. 4500. The
mechanic after rendering the due scope of service will be right to keep A’s car in his custody until he
is remunerated for his services.   

A bailee can exercise his right to a particular lien in scenarios, wherein:

1. There is an involvement of any labour or skills

2. There is a performance of services as per the agreed scope of services. 

3. The payment is due to be made by the bailor.

General Lien:

This is a lien wherein any goods bailed can be retained as security (in the absence of a contract) if
any amount is due to Bailee. Such rights are assigned and limited to the following category of
people.:

1. Bankers

2. Factors,

3. Wharfingers (owner of dockyards used for parking ships).

4. Attorneys of High Court 

5. Policy Brokers.

The general lien is discussed under SECTION 171 of the Indian Contract Act, 1872.

It is important to note that persons other than those mentioned above can have the right to a
general lien only in case any contract is explicitly made to the effect. 

The goods excluded are the documents related to litigation, Contracts, and legal documents. This
also includes lockers as the lockers are taken for the safe custody of ornaments and important
documents.
Right of Lien

Chettinad Mercantile Bank Ltd. v/s PL.A. Pichammai Achi AIR 1945

It was held that the right of a banker to keep possession of items delivered to him if and so long as
the customer to whom the things belonged or who acquires the power of disposing of them, when
so delivered, is indebted to the banker on the balance of the account between them, provided the
banker has obtained possession in such circumstances which do not imply that he has agreed to
eliminate this right. 

City Union Bank Ltd v/s Thangarajan (2003)

It was observed that the bank gets the right of a general lien w.r.t. all securities of a customer
including negotiable instruments and Fixed Deposits, but only to the extent to which that customer is
liable. In the event that the bank fails to return the balance amount to the customer, and the latter
suffers a loss thereby, the bank will be liable to pay associated damages to the customer. In the
above case, the Court has relied its decision on the principle which states that for invoking a lien by a
bank, there should exist interdependency between the bank and the customer. Detaining the
customer’s properties beyond the total liability is unauthorised and would attract damages as a
liability on banks.

Question-8 BANKING FRAUDS

There are many different types of bank fraud. Some of the most common types of fraud tend to be
check fraud, debit and credit card fraud, safe deposit box fraud, and ACH fraud, but there are many
additional types of bank fraud both within and beyond these basic categories. Here’s a closer look at
some of the more unusual types of bank fraud faced.

Accounting Fraud

Accounting fraud primarily affects business lending. Businesses who commit accounting fraud “cook
the books” so they look more profitable on paper than they really are. Based on these fraudulent
statements, banks grant loans to these businesses, but ultimately, because the businesses are
insolvent, they can’t repay the loans. Then, the banks get left with a loss. The classic example is the
Enron scandal.

Loan Fraud

Accounting fraud can lead to loan fraud, but this type of fraud isn’t just limited to businesses
presenting fraudulent information on their loan applications. When individuals present false
information in order to obtain a loan, that is also loan fraud. Similarly, if a thief steals someone’s
identity and applies for a loan in their name, that is another type of loan fraud. Additionally, if
someone has a line of credit and a scam artist draws funds from that line, that also falls into this
category.

Wire Transfer Fraud

Wire fraud includes all cases of fraud involving wire transfers or the internet. In some cases, the
scammers steal the username and password of a banking customer, and they wire money to
themselves. For instance, when an attacker stole the sign-in details from a company in Missouri, the
attacker was able to steal $440,000 in wire transfers
Often, however, with this type of fraud, the scam artist convinces the victim to wire money to them.
For instance, in the all-too-popular secret shopper scam, the scam artist convinces someone that
they’ve been hired to be a secret shopper for a wire transfer company or a bank. The scam artist
directs the victim to wire some funds through that institution. The victim believes that if they do this,
they will be compensated for the funds they sent and for their work as a “secret shopper”. However,
after they wire the funds, the other party disappears, and the victim never gets their money back.

Phishing Fraud

Phishing is when a scam artist uses email, text, phone calls, or other methods to try to obtain a
victim’s banking details. This type of fraud often overlaps with other types of fraud. For instance,
fraudsters often use phishing emails to get bank account details from their victims so they can
commit ACH or wire transfer fraud.

Rogue Traders

If you run an investment bank, you likely have traders on staff, and in this situation, you need to
ensure that you protect yourself from rogue traders. These are traders who engage in unauthorized
trades and manipulate the system to make it look as if their trading activities are generating more
money for the bank than they really are.

Demand Draft Fraud

Like rogue trading, demand draft fraud happens internally. One of the bankers simply generates a
demand draft payable at another branch or even at another bank. Then, they leverage what they
know about the system to avoid detection, they cash the demand draft, and they keep the funds.

Bill Discounting Fraud

Although this type of bank fraud is relatively rare, you should still understand the risk. Generally,
with bill discounting fraud, the fraudster opens a business account at the bank. Then, the “business
owner” convinces the bank to start collecting bills from the business’s clients. The so-called clients
are part of the scam, so they always pay the bills. After a while, the financial institution gets lulled
into a false sense of security about this customer. Eventually, the customer asks the bank to credit
the bills in advance. When the bank does that, the fraudster takes all the money and runs, and the
bank never gets those funds back.

ATM Fraud

ATM fraud includes everything from reprogramming the machine to installing a skimmer to steal card
details. However, it can also include making fraudulent deposits by depositing empty envelopes — an
envelope-free ATM is usually the easiest way to avoid that.

Money Laundering

Money laundering is when criminals deposit fraudulently obtained sums of cash into a bank. They
typically try to make the funds look as though they have come from a legitimate source. For instance,
if someone is selling drugs, they may try to pretend that the cash is from a business, and they may
deposit the funds in that business’s account. Legally, you are obligated to report cases of suspected
money laundering, and failure to do so, can put your financial institution into a precarious position.

With so many types of bank fraud and new ones constantly on the horizon, you need fraud
protection you can trust. To learn how SQN Banking Systems can help, contact us today.
Question-9 NATURE AND TYPES OF ACCOUNTS
Financial Accounting is based on ‘Principle of Duality’ which states that each business transaction
recorded in books of accounts has a two fold effect. In other words, each transaction involves at least
two accounts when recorded in the books of accounts. For instance, Kapoor Pvt Ltd purchases 1,000
units of raw material worth Rs 1 Lakh for its business. In this transaction, Kapoor Pvt Ltd receives raw
material in return of cash worth Rs 1 Lakh. In other words, raw material is what comes into the
business and cash worth Rs 1 Lakh goes out of the business.

Thus, such a transaction impacts the stock of raw material, thereby increasing the same by 1,000
units. On the other hand, it also impacts cash available with the business, reducing it by Rs 1 Lakh.

This is ‘Double Entry System’ of Accounting that is typically followed when preparing books of
accounts of a business. It is based on the ‘Dual Accounting Concept’ as per which every business
transaction has an equal and opposite effect in minimum two different accounts

Meaning of an Account:-

Account is nothing but an outline of the transactions undertaken by the business in respect of
persons, their representatives and things.

For instance, when a business enters into transactions with suppliers or customers, both suppliers
and customers act as separate accounts.

Similarly, business purchasing tangible items like plant, machinery, land, building etc treats each of
the tangibles as individual accounts. Such accounts are related to things.

Thus, whenever a business undertakes transactions, it must identify the accounts involved and then
apply the requisite accounting standards and golden accounting rules to record such transactions.

Further, an account is usually represented in a T-Format. Thus, a T Account has two sides to it. The
left side is known as the debit side whereas the right side of an account is labeled as the credit side.

Types of Accounts

Accounts are classified into following categories:

 Personal Account

 Natural Personal Account

 Artificial Personal Account

 Representative Personal Account

 Real Account

 Tangible Real Account

 Intangible Real Account

 Nominal Account

1. Personal Account
As the name suggests, Personal Accounts are the ones that are related with individuals, companies,
firms, group of associations etc. These persons could include natural persons, artificial persons or
representative persons.

Type of Personal Accounts

a. Natural Persons

These accounts relate to natural persons such as Veer’s A/c, Ayan’s A/c, Karen’s A/c etc.

b. Artificial Accounts

These accounts relate to companies and institutions such as Kapoor Pvt Ltd A/c, Booker’s Club A/c
etc. Thus, companies and institutions are the entities that exist in the eyes of law.

c. Representative Accounts

Accounts that are a representative of some person are called as representative accounts. These
include Outstanding Interest A/c, Outstanding Wages A/c, Prepaid Expense A/c etc.

Golden Rule Related To The Personal Account

Debit the Receiver, Credit the Giver

Illustration

Karan purchased a machinery from M/s Sharma worth Rs 10,00,000 on credit. So, this transaction
involves two accounts: a Personal Account of M/s Sharma and Machinery Account. Thus, purchasing
a machinery worth Rs 10,00,000 on credit means that M/s Sharma is providing the Machinery to
Karan for his business. The Golden Rule of Personal Account says, “Debit the Receiver, Credit the
Giver”.

Since M/s Sharma is the Giver in this transaction, his Personal Account will be credited with Rs
10,00,000. Whereas, Machinery A/c would be debited with the same amount.

2. Real Account

Real Accounts are the ones that are related with properties, assets or possessions. These properties
can be both physically existing as well as non physical in nature. Thus, Real Accounts can be of two
types: Tangible Real Accounts and Intangible Real accounts.

a. Tangible Real Accounts

Tangible Real Accounts are accounts which have physical existence. In other words, such assets can
be seen, felt or touched. For example Machinery A/c, Vehicle A/c, Building A/c etc.

a. Intangible Real Accounts

These are the assets or possessions that do not have physical existence but can be measured in
terms of money. This means that such assets have some value attached to them.

For example, trademarks, patents, goodwill, copyrights etc.

Golden Rule Related To The Personal Account

Debit What Comes In, Credit What Goes Out

Illustration

Karan purchased a vehicle for his business worth Rs 5,00,000 in cash. So, this transaction involves
two real accounts: Vehicle Account and Cash Account.

Thus, purchasing a Vehicle worth Rs 5,00,000 in cash means Vehicle is coming into the business.
Whereas, Cash is going out of the business. The Golden Rule of Real Account says, “Debit What
Comes in, Credit What Goes Out”.

Both Vehicle and Cash being Real Accounts, therefore, Vehicle A/c will be debited with Rs 5,00,000.
Whereas, Cash A/c will be credited with the same amount.

3. Nominal Account

Nominal Accounts relate to income, expenses, losses or gains. These include Wages A/c, Salary A/c,
Rent A/c etc.

Golden Rule Related To The Personal Account

Debit All Expenses and Losses, Credit All Incomes and Gains

Illustration

Karan paid wages worth Rs 1,00,000 in cash. So, this transaction involves two accounts: Nominal
Account of Wages and Real Account of Cash.

Thus, paying wages worth Rs 1,00,000 in cash means wages are an expense to the business. And
Cash is paid towards such an expense. Now Golden Rules pertaining to two accounts would apply in
such a case. The Golden Rule of Nominal Account says, “Debit All Expenses and Losses, Credit All
Incomes and Gains”. Whereas, Golden Rule of Real Account says, “Debit What Comes In, Credit What
Goes Out”.

Thus, Wages A/c will be debited with Rs 1,00,000. Whereas, Cash A/c will be credited with the same
amount.

Thus, this transaction will be recorded in the respective accounts as follows:

Let’s consider the transactions taken in the above examples and apply these rules to see the dual
accounts involved in every transaction.

Question-10 MEANING, ESSENTIAL ASPECTS AND TYPES OF NEGOTIABLE INSTRUMENTS

The Negotiable Instrument Act was promulgated in the year 1881 which was introduced to ease the
growth of banking and commercial transactions. The basic purpose was to legalize the system of
negotiable instruments. The Act was enforced during British rule and to date, most of the provisions
still remain unchanged. The Ministry of Finance is the nodal organization that regulates the system
related to negotiable instruments. The process of transfers from one person to another in dealings of
monetary value in terms of legal documents is the negotiable instrument. The legal definition of
negotiable is that something can be transferable from one party to another party by delivery so that
the title shall pass with or without the endorsement to the transferee. After getting a better clarity of
the concept, the other important aspects and the Act have been discussed in the content. 
Objective of the Act

Before delving deeper into the “Negotiable Instrument Act”, let us see some of the basic concepts
that would be required for a better understanding of the statute. Negotiable Instruments play an
important role in financial transactions. A negotiable instrument is a signed written document. The
purpose of this document is to transfer the specific amount of money to the assigned person. 

The instrument bears the promise to pay the sum of money at an assigned future date or on-demand
as the case may be. One of the common examples that we can see in our day-to-day life is a draft
that is the specific amount of money payable by the payer or the personal check. There are no
certain set of fixed conditions to consider a document as the negotiable instrument; however, for an
instrument to be negotiable, it must be signed with a mark or signature, by the maker of the
instrument that is the one who issues drafts. The person who promises the amount of money is
known as the drawer of funds and the person receiving it is known as the drawee of funds.

Characteristics

Some of the essential characteristics provide a distinctive identity. These are:

 Movable- The negotiable instrument is a convenient method of transferring money that is

easily and portable. There are no hectic and lengthy procedures as simple steps are needed
for transferring the ownership of the instrument by simple delivery or by a valid
endorsement. 

 Written- The negotiable instrument transactions should be in the written form. The
documentation works can be handwritten notes, printed, or typed. 

 Definite time- The period for the order of payment must be certain. If the date is not
specified then also it must be within a reasonable time. If the payment order depends upon
convenience and choice then it cannot be considered as a negotiable instrument. 

 Specified persons- Like the time,the payee must also be certain or determined. There can be
more than one drawee in the negotiable instruments and the person may include artificial
persons like company, any separate legal entity, or the authorized persons.

Purpose of the Negotiable Instrument Act

 The Act aims to create the legal provisions for the negotiable instruments system that is
currently in operation throughout the country. The regulatory laws would systematically
organize the system and the Act would define a decisive authority to decide any issues
relating to negotiable instruments. 

 The Act defines every subject related to the negotiable instruments for better clarity and
understanding. For example, who is the drawer, drawee, acceptor, etc are mentioned in the
various sections. 

 The Act provides the penal provisions for effective implementation of the negotiable
instruments process among the parties. If any party breaches its obligation or there is
nonfulfillment of the said duty then they may be charged with offenses leading to
imprisonment. 

 The Act protects the right of the parties when they discharge their obligations diligently. 
  The Act mentions different conditions about the transaction systems and laid down its
specific provisions. 

 The Act eliminates all kinds of discrepancies or hurdles that may arise between the parties.
In case of any dispute, the parties would have to undergo the established provisions, and
such would legally resolve the matter. 

 The Act regulates the different negotiable instruments like promissory notes, Bills of
Exchanges, and cheques.   

Types of Negotiable Instrument 

Most of the negotiable instruments transactions can be categorized into three parts. However, there
are no explicit statements that it is limited or it must be specified into only three parts. The railway
receipts or the delivery orders are also common examples of negotiable instruments.

 Promissory notes-This transaction generally takes place between the debtor and the creditor.
The debtor creates the instrument promising the amount of money on a specified date. 

 Bills of Exchange- This is just the opposite of the promissory notes as this is an order from
the creditor to the debtor. Here, the creditor makes the instrument that instructs the debtor
to pay the payee a certain amount of money. The bill is created by the creditor.

 Cheque- This is just one of the forms of bill of exchange. In this case, the drawee is a bank
and such cheques are payable on demand. The bank is instructed by the debtor to pay a
certain amount of money to the assigned payee. 

Negotiable Instruments are written contracts whose benefit could be passed on from its original
holder to a new holder. In other words, negotiable instruments are documents which promise
payment to the assignee (the person whom it is assigned to/given to) or a specified person. These
instruments are transferable signed documents which promises to pay the bearer/holder the sum of
money when demanded or at any time in the future.

As mentioned above, these instruments are transferable. The final holder takes the funds
and can use them as per his requirements. That means, once an instrument is transferred, holder of
such instrument obtains a full legal title to such instrument.

Promissory notes
A promissory note refers to a written promise to its holder by an entity or an individual to pay a
certain sum of money by a pre-decided date. In other words, Promissory notes show the amount
which someone owes to you or you owe to someone together with the interest rate and also the
date of payment.For example, A purchases from B INR 10,000 worth of goods. In case A is not able to
pay for the purchases in cash, or doesn’t want to do so, he could give B a promissory note. It is A’s
promise to pay B either on a specified date or on demand.

In another possibility, A might have a promissory note which is issued by C. He could endorse this
note and give it to B and clear of his dues this way. However, the seller isn’t bound to accept the
promissory note. The reputation of a buyer is of great importance to a seller in deciding whether to
accept the promissory note or not

Bill of exchange
Bills of exchange refer to a legally binding, written document which instructs a party to pay a
predetermined sum of money to the second(another) party. Some of the bills might state that money
is due on a specified date in the future, or they might state that the payment is due on demand. A bill
of exchange is used in transactions pertaining to goods as well as services. It is signed by a party who
owes money (called the payer) and given to a party entitled to receive money (called the payee or
seller), and thus, this could be used for fulfilling the contract for payment. However, a seller could
also endorse a bill of exchange and give it to someone else, thus passing such payment to some
other party. It is to be noted that when the bill of exchange is issued by the financial institutions, it’s
usually referred to as a bank draft. And if it is issued by an individual, it is usually referred to as a
trade draft.

A bill of exchange primarily acts as a promissory note in the international trade; the exporter
or seller, in the transaction addresses a bill of exchange to an importer or buyer. A third party, usually
the banks, is a party to several bills of exchange acting as a guarantee for these payments. It helps in
reducing any risk which is part and parcel of any transaction.

Cheques
A cheque refers to an instrument in writing which contains an unconditional order, addressed to a
banker and is signed by a person who has deposited his money with the banker. This order, requires
the banker to pay a certain sum of money on demand only to to the bearer of cheque (person
holding the cheque) or to any other person who is specifically to be paid as per instructions given.

Cheques could be a good way of paying different kinds of bills. Although the usage of
cheques is declining over the years due to online banking. Individuals still use cheques for paying for
loans, college fees, car EMIs, etc. Cheques are also a good way of keeping track of all the transactions
on paper. On the other side, cheques are comparatively a slow method of payment and might take
some time to be processed.

The Negotiable Instruments (Amendment) Bill, 2017

The Negotiable Instruments (Amendment) Bill, 2017 has been introduced in the Lok Sabha earlier
this year on Jan 2nd, 2018. The bill seeks for amending the existing Act. The bill defines the
promissory note, bill of exchange, and cheques. The bill also specifies the penalties for dishonor of
cheques and various other violations related to negotiable instruments.

As per a recent circular, up to INR 10,000 along with interest at the rate of 6%-9% would have
to be paid by an individual for cheques being dishonored. The Bill also inserts a provision for allowing
the court to order for an interim compensation to people whose cheques have bounced due to a
dishonouring party (individuals/entities at fault). Such interim compensation won’t exceed 20
percent of the total cheque value.

The Act was mainly formulated to create legislation regarding cheques, bills of exchanges, and
promissory notes. The statute was passed to deal with the particular form of contract and to lay
down special provisions. Since the negotiable instruments have been widely used in commercial and
banking transactions over a long period of time as one of the best suited for transferring money.
Some of the obsolete legislation has defeated the purpose of negotiable instruments. 

The need for such amendments was to reduce the cases of dishonoring cheques by introducing penal
provisions by the stringent implementation of laws
QUESTION-11.HOLDER AND HOLDER IN DUE COURSE
MEANING OF HOLDER A holder is a person who legally obtains the negotiable instrument, with his
name entitled on it, to receive the payment from the parties liable. According to section 8 of the
Negotiable Instruments Act, 1881, a holder is a party who is entitled in his own name and has legally
obtained the possession of the negotiable instrument, i.e. bill, note or cheque, from a party who
transferred it, by delivery or endorsement, to recover the amount from the parties liable to meet it.
The party transferring the negotiable instrument must be legally competent. It does not include the
person who finds the lost instrument payable to the carrier and the one who is in wrongful
possession of the negotiable instrument. SECTION 8 IN THE NEGOTIABLE INSTRUMENTS ACT, 1881
"Holder": The "holder" of a promissory note, bill of exchange or cheque means any person entitled in
his own name to the possession thereof and to receive or recover the amount due thereon from the
parties thereto. Where the note, bill or cheque is lost or destroyed, its holder is the person so
entitled at the time of such loss or destruction.

MEANING OF HOLDER IN DUE COURSE

Holder in Due Course is defined as a person who acquires the negotiable instrument in good faith for
consideration before it becomes due for payment and without any idea of a defective title of the
party who transfers the instrument to him. A person who acquires the negotiable instrument
bonafide for some consideration, whose payment is still due, is called holder in due course. Section 9
of the Negotiable Instrument act, 1881, A holder in due course is a holder itself, who accepts a
negotiable instrument in a value-for-value exchange without doubting its legitimacy so ultimately in a
good faith. Now the person who took it for value in good faith now becomes a real owner of the
instrument and is known as "holder in due consideration". Every holder in due course is a holder but
every holder in due course is not a holder. SECTION 9 IN THE NEGOTIABLE INSTRUMENTS ACT, 1881
"Holder in due course": "Holder in due course" means any person who for consideration became the
possessor of a promissory note, bill of exchange or cheque if payable to bearer, or the payee or
indorsee thereof, if 1[payable to order], before the amount mentioned in it became payable, and
without having sufficient cause to believe that any defect existed in the title of the person from
whom he derived his title.

DIFFERENCE BETWEEN HOLDER AND HOLDER IN DUE COURSE BASIS OF COMPARISON HOLDER

HOLDER IN DUE COURSE Meaning A holder is a party who is entitled in his own name and has legally
received the negotiable instrument, i.e., bill, note or cheque from a party who is liable to transfer it
to recover the amount by delivery or endorsement. A holder in due is a person who get the
possession of the negotiable instrument in a good faith before it becomes due for the payment and
he has no idea of the defective title of the person who transfers the instrument to him. Section
Section 8 of negotiable instrument act,1881 Section 9 of negotiable instrument act,1881
Consideration In this consideration is not necessary. In this consideration us necessary. Right to sue
Holder does not have the right to sue all prior parties. Holder-in-due course can sue all the prior
parties. Good faith In this instrument may or may not be in good faith. In this the instrument must be
in good faith. Maturity A person can become a holder before or after the maturity of the negotiable
instrument. A person can become a holder in due course only before the maturity of the negotiable
instrument. SECTION 9 OF NEGOTIABLE INSTRUMENT ACT, 1881 Holder in due course – means any
person who for consideration became the possessor of a Promissory Note, Bill of Exchange of
Cheque, if payable to bearer, or the payee or endorsee thereof ,if payable to order, before the
amount mentioned in it become payable without having sufficient cause to believe that any defect
existed in the title of the person from whom he derived the title of the instrument. A person claiming
to be "Holder in due course "must prove that; That, for consideration he became the possessor of a
negotiable instrument when it is payable to bearer or the payee or the endorsee thereof when it is
payable to order; That he became the holder of the instrument before the amount mentioned in it
became payable; That he became the holder of the instrument, without having sufficient cause to
believe that any defect existed in the title of the person from whom he derived his title. IT MEANS
THAT- it means that a Holder in due Course is a person who acquired Negotiable Instrument by
paying consideration , before the amount mentioned in the instrument become payable. Tile of the
instrument in the hand of Holder In Due Course is free from any defect, it means that title in his hand
is beyond doubt or he has acquired instrument by believing that the title in hand of transferee is not
defective.  

A person who has received a negotiable instrument in good faith and without notice that it
is overdue, that there is any prior claim, or that there is a defect in the title of the person who
negotiated it. Holder in due course means any person who for consideration becomes the possessor
of a negotiable instrument if payable to bearer, or the payee or indorsee thereof if payable to order,
before the amount mentioned in it became payable, and without sufficient cause to believe that any
defect existed in the title of the person from whom he derived his title (Sec. 9).

SOME IMPORTANT DECIDED CASES like in India Saree Museum Vs. P Kapurchand 1991(1)
(BC)344, 1989 Indlaw KAR 67 the Karnataka High Court held that it is not only the endorsee who
becomes a holder in due course but also a person who gets possession of the negotiable instruments
for consideration, which means that he need not be an endorsee to be a holder in dure course. Once
it is established to the satisfaction of the court that the cheques were issued for discharge of the
debt of the company , the bank who had given this debt to the company would be considered as
"Holder in due course". The "Holder in due course" of a cheque means any person entitled to receive
or recover the amount due from the parties thereto.

THE RIGHTS OF HOLDER IN DUE COURSE UNDER THE NEGOTIABLE INSTRUMENTS ACT

Following are the rights of a Holder in due course under negotiable instruments act: –

Section 20: The holder is due course gets a good title even though the instruments were
originally stamped but was an inchoate instrument. The person who has signed and delivered an
inchoate instrument cannot plead as against the holder in due course that the instrument has not
been filled in accordance with the authority given by him. However, a holder who himself completes
the instrument is not a holder in due course.

Section 36: Every prior party to the instruments is liable to a holder in due course until the
instrument is duly satisfied.

Section 42: Acceptor cannot plead against a holder in due course that the bill is drawn in a
fictitious name. In Bank of England vs. Vagliano Bros (1891 – Ac 107) it was held that the acceptor
should consider whether the bill was genuine or false before signing his acceptance in it.

Sections 46 and Section 47: The liable parties cannot deny liability to a holder who
negotiates a bill of exchange or promissory note on the ground that the delivery of the instrument
was subject to the conditions or had a specific purpose.

Section 53: He gets a good title to the instrument even though the title of the transferor or
any price party to the instrument is defective. He can recover the full amount unless he was a party
to fraud; or if the instrument is negotiated by means of a forged endorsement.
 Section 58: The holder in due course has a superior title to the transferor of the instrument.
In cases where the transferor's title was defective, the holder would get a good title in due course.
However, if the title is forged, the holder does not get the title in due course because there is no
defect in the title, but no title. Even if the negotiable instrument is made without consideration, if it
gets into the hands of the holder in due course, he can recover the amount on it from any of the
prior parties thereto.

Section 118: Every holder is deemed to be a holder in due course. Holder in due course can
file a suit in his own name against the parties liable to pay. He is deemed prima facie to be holder in
due course. The burden of proof is on the other party to show that the person is not the holder in
due course.

Section 120: The validity of the instrument as originally made or dawn cannot be denied by
the maker of drawer of a negotiable instrument or by acceptor of a bill of exchange for honour of the
drawer .

Section 121: The maker of a promissory note, bill of exchange or a cheque shall not deny the
validity of the promissory note, bill of exchange or the capacity of the recipient on the date of the bill
of exchange, note, or cheque to endorse (countersign) the same. Therefore, a holder is entitled to
recover the amount mentioned in the instrument in due course even though the payee has no
capacity to indorse the instrument.

Section 122: Endorser is not permitted as against the holder in due course to deny the
signature or capacity to contract of any prior party to the instrument.

QUESTION-12 MODES AND DISCHARGE FROM LIABILITY UNDER N.I. ACT 1881
There are three ways from which parties are discharge from liability:

1.By Cancellation;

2.By Release; or

3.By Payment

Section 82 of the Negotiable Instrument Act, 1881 says that the maker, acceptor or endorser of a
negotiable instrument is discharged from liability thereon by cancellation, release or payment.

There are also other modes of discharge of liability that co-exist as prescribed under various sections
of the Act.

The parties to the negotiable instrument may be discharged in the following ways:

1.Discharge by Cancellation:

Section 82(a) of the Negotiable Instrument Act, 1881 says that when the name of the party on the
Instrument is cancel from the instrument by holder or his agent with an intension to discharge him,
such party and all subsequent parties, who have a right of recourse against the party whose name is
cancelled, are discharged from liability to the holder.

2.Discharge by Release:
Section 82(b) of the Negotiable Instrument Act, 1881 says that where the holder of a negotiable
instrument releases any party to the instrument by any method other than cancellation, the party so
released is discharged from liability.

The party so released and all parties subsequent to him who have a right of action against the party
so released are discharged from liability. Thus, the effect of release is the same as that of cancelling a
party’s name.

3.Discharge by Payment:

Section 82(c) of the Negotiable Instrument Act, 1881 talks about the discharge by payment. Section
78 states that “When payment on an instrument is made in due course, both the instrument and the
parties to it are discharged subject to the provision of Sec. 82 (c).

The payment with respect to the instrument may be made by any party to the instrument provided it
is made on account of the party liable to pay.

4.Section 83 of the Negotiable Instrument Act, 1881 says that if the holder of a bill of exchange
allows the drawee more than forty eight hours i.e. these forty eight hours are except Public Holidays,
these are given to drawee to consider whether he will accept the same, if he will accept all previous
parties not consenting to such allowance are thereby discharged from liability to such holder.

5.Section 86 of the Negotiable Instrument Act, 1881 says that if the holder of a bill agrees to a
qualified acceptance all prior parties whose consent is not obtained to such an acceptance are
discharged from liability. Acceptance of a bill is deemed to be qualified and unconditional.

6.Section 84 of the Negotiable instrument Act, 1881 says that if a holder does not present a cheque
within reasonable time after its issue, and the bank fails causing damage to the drawer, the drawer is
discharged as against the holder to the extent of the actual damage suffered by him.

7.The general principle is that “present right and liability united in the same person cancel each
other.” So by considering this principle Section 90 of the Negotiable Instrument Act, 1881 if a bill of
exchange which has been negotiated is, at or after maturity, held by the acceptor in his own right, all
rights of action thereon are extinguished.

8.According to section 87 of the Negotiable Instrument Act, 1881 provides that if a material
alteration is made by an endorsee, the endorser will be discharged from his liability even in respect
of the consideration thereof.”

If the holder of a negotiable instrument makes a material alteration of instrument he loses    his right
of action against those parties who would otherwise have been liable towards him.

QUESTION-13 MATERIAL ALTERATION & PRESNTMENT OF NEGOTIABLE INSTRUMENT

Meaning of Material Alteration

A pertinent question arises as to what is material alteration The term material alteration is not
defined either in the Indian Contract Act, 1872 or in the Negotiable Instruments Act, 1881 even
though documents relating to these acts suffer frequent alterations.  The term material alteration
does not appear to have received any exact definition from legislature in any enactment in India.  It
would, therefore, be appropriate to look at the works of legal authorities and the judgments of the
courts to find out as to how the term has been understood/interpreted.
Their Lordships of the Privy Council in the case of Nathu Lal v. Gomti Kuar  cited the following
paragraph from the Halsbury's Laws of England, which explains the term material alteration very
succinctly:

"A material alteration is one which varies the rights, liabilities, or legal position of the parties
ascertained by the deed in its original state or otherwise varies the legal effect of the instrument as
originally expressed, or reduces to certainty some provision which was originally unascertained and
as such void, or may otherwise prejudice the party bound by the deed as originally executed,"

The Supreme Court of India in Loonkaran Sethia v. Ivan E. John looked at the above definition with
approval.

From the above definition, the following elements emerge, the presence of which would make a
variation in an instrument as material alteration:

 A material alteration varies the apparent nature of relationship of the parties as it alters
rights, liabilities or legal position vis-a-vis what was originally stated in the document.

 It may also otherwise change the legal character and effect of the document.

It may also affect the legal remedies available to the parties.

 Impact of changes could be that the document becomes void.

 Consequence of material alteration could be that it may prejudice the party vis- a-vis his
interests as determined originally.

 Material alteration may also remove the unambiguity of the original document and may
make it, through alteration, more certain.

Legal consequences of material alteration

Without defining the term material alteration, the Negotiable Instruments Act, 1881 has dealt with
the effect of material alteration in the negotiable instruments. Section 87 determines the
consequences of a material alteration as extracted below:

Section-87.  Effect of material alteration  --Any material alteration of a negotiable instrument renders
the same void as against any one who is party thereto at the time of making such alteration and
does not consent thereto, unless it was made in order to carry out the common intention of the
original parties.  Two other Sections of the Negotiable Instruments Act, 1881 which deal with
material alterations, are as under:

 Section-88. Acceptor or indorser bound notwithstanding previous alteration. -An acceptor or

endorser of a negotiable instrument is bound by his acceptance or indorsement notwithstanding any
previous alteration of the instrument.

89. Payment of instrument on which alteration is not apparent. Where a promissory note, bill of
exchange or cheque has been materially altered but does not appear to have been so altered, or
where a cheque is presented for payment which does not at the time of presentation appear to be
crossed or to have had a crossing which has been obliterated, payment thereof by a tenor thereof at
the time of payment and otherwise in due course, shall discharge such person or banker from all
liability thereon; and such payment shall not be questioned by reasons of the instrument having been
altered, or the cheque crossed.

(2) Where the cheque is an electronic image of and the truncated cheque shall be a material
alteration and it shall be the duty of the bank or the clearing house, as the case may be, to ensure
the exactness of the apparent tenor of electronic image  of the truncated cheque while truncating
and transmitting the image.

(3) Any bank or a clearing house which receives a transmitted electronic image of a truncated
cheque, shall verify from the party who transmitted the image to it, that the image so transmitted to
it and received by it, is exactly the same.

From the above definitions it can be seen that the basic concept as regards the effect of material
alteration in a negotiable instrument is that material alteration avoids the instrument and if done
unilaterally without the consent of the other party in a deceitful manner for ones own vested
interests is nothing but an offence. 

In this regard the following has been stated in Halsburys Law of England, The effect of making such
an alteration, without consent of the party bound, is exactly the same as that of canceling the
deed.  So the instrument becomes void and the party basing its claim upon it, cannot claim anything.
This result follows irrespective of the fact whether the party concerned was responsible for the
alteration or whether it was made by someone else without his consent or knowledge.

In the cases of Firm Sri Chand v. Lajja Ram  and  Jayantilal Lal Goel v. Zubeda Khanum, it is held that a
material alteration of the instrument discharges all parties who are liable on the instrument at the
time of alteration and who do not consent to such alteration.

In the case of Arumugam v. M.S Narasaich, it is held that if an alteration is made by erasure,
interlineations or otherwise in a material part of a deed after its execution by or with the consent of
any party thereto or person entitled thereunder, but without the consent of the party or person
liable thereunder, the deed is thereby void.

Thus the instrument stands invalidated as a result of material alteration as against the party
whose consent was not taken for alteration.  But what is the status of the document subjected to
material alteration as against the person who became a party subsequent to material alterations? 
This question was answered in the case of Ramachandran v. Dinesan. It is held in this case that ‘As
regards the effect of material alteration, the basic principle of law is such a change invalidates the
instrument against the person not consenting to the change. By alteration, the identity of the
instrument is destroyed. So, the effect of making a material alteration on a negotiable instrument
without the consent of the party bound under it is exactly the same as that cancelling the instrument.
The instrument is rendered void only as against any one who is a party thereto and not against
anyone becoming a party subsequent to the alteration. If a person indorses an altered instrument
without the knowledge of the alteration he may be liable to the endorsee. A person, who accepts an
altered instrument, cannot absolve his liability on the acceptance on account of the previous
alteration.

Whether the alteration was fraudulent or innocent also makes a difference.  In the case of Rajiv Bhai
Nathabhai Patel v. Ranchhod Ragunath Patel, it is held that where there has been a material
alteration in the instrument, the further questions for consideration of the court are whether the
alteration is fraudulent or innocent. Where the alteration is fraudulent, the courts will not allow the
plaint to be amended and the plaintiff to fall back on the original cause of action.  But where the
alteration, though material, is innocent and the plaint is based on the original cause of action as well
as on the document altered, the claim if properly proved can be allowed on the original cause of
action.  Or if the original plaint is not on the original cause of action, it is open to the plaintiff to apply
and the court to consider whether the plaintiff should be allowed to amend it.

It has been held in a no of cases that if alteration is made in a document when it was in the custody
of a party, that party is bound to suffer because a party who has the custody of an instrument made
for his benefit, is bound to preserve it in its original state. It has also been held that a material
alteration made with the consent of the other party would operate as a new agreement and as such
the consequences of material alteration made with the consent of the other party are different from
those when material alteration is made without such consent. 

Material alteration in negotiable instruments and its liability on banks

In order to ascertain the obligations of the banks in India vis-a-vis material alteration in a negotiable
instrument, best way could be to find out how the courts have determined such obligations.

In Brahma Shum Shere Jung Bahadur v. Chartered Bank of India, Australia & China ,the following
points have been laid down:-

 Banker is protected even though he has paid a materially altered cheque if (i) the alterations
were not apparent at the time of payment and (ii) he pays in due course, i.e. in good faith
and without negligence

  If there is anything to arouse his suspicion, he should make enquiries.

 Mere indication that the writer of the body of the cheque is different from the signatory, is
not sufficient to arouse suspicio

 Bankers obligation to pay cheques arises out of contract.  Under the contract, the banker
may have agreed to follow an overdraft to the customer and pay his cheques upto an agreed
limit.  Here, the bankers obligation to pay cheques is subject to the same rules as are
applicable to a deposit account.

In Tanjore Permanent Bank Ltd. v. S.R. Rangachari, the question that arose for decision was whether
T.P Bank was entitled to debit the account of Mr. Rangachari with the amount of two cheques which
were signed in blank by the said customer and which were subsequently filled in by the accountant
of the said banks.  The facts were that Mr. Rangachari had drawn the two cheques in favour of his
two clerks and the said cheques appeared to be discharged by the said clerks.   Mr. Rangachari, flatly
denied the veracity of the signatures and in the suit there was no evidence to rebutt. The trial court
held that it was a criminal act of forgery and misappropriation by the servant of the bank and no
protection could be available under Section 89 of the Negotiable Instrument Act, 1881.  When the
matter came in appeal, a different issue was framed as to whether under the peculiar circumstances,
the bank lawfully can debit the two enteries in Mr. Rangacharis account and secondly whether the
bank should bear the loss for any other person than considered by the trial court.  The High Court
held that the bank could not claim the amounts of the two debits from Shri Rangachari.   The High
Court Judges after looking at the cheques, were of the opinion that there are clear indications of
material alteration.  They also accepted the following statement of law in Bhashyam &
Adigas,  Negotiable Instruments Act, 10th edition:

The bank has also to see whether there are any alterations in the cheque and whether they have
been properly authenticated.  Therefore, where an alteration in a cheque is initialed not by all the
drawers but only by some of them, the bank will be paying the amount on the said cheque at its own
risk.  In this connection it is necessary to notice that under Section 89 protection is afforded to the
bank paying a cheque where the alteration is not apparent.

It is also observed that in the above case the High Court had also looked into some English
authorities and noted the observations by House of Lords in London Joint stock v. Macmillan and
Arthur   that a customer when he signs a cheque in blank and permits another person to fill it up, is
bound by the said instrument. However, this cannot absolve the bank of its responsibility in the case
of material alteration which is apparent on the Negotiable Instrument. A banker has no right to set
up the rule of estoppel against the constituent in a case where the negligence of the bank has
contributed to the loss. Court held that in this case inspite of the negligence on the part of the
customer, the real cause for material alteration was the fraudulent action of an officer of the bank.

Thus, from the above, three principles emerge relating to material alteration vis-a-vis a banks liability
which may be stated as under:

 Section 89 of the Negotiable Instrument Act, 1881, does not afford protection to the banker
if the alterations on the cheque are apparent and not authenticated by the drawer.

 If the customer hands over signed but otherwise blank cheques to the bank officials, his
negligence would not give right to the bank to claim protection against fraudulent or forged
material alteration committed by an employee of the bank.

 In the case of fraudulent material alteration in a cheque by a bank employee, the bank
cannot setup a defence that a customer should guard against fraud / forgery by an employee
of the bank.

Alterations though material but not vitiating

Whereas generally speaking material alteration avoids an instrument, alterations which are material
in nature may not always vitiate an instrument.  In following cases, though the alteration was held to
be material, but was held not to be vitiating the document.

(i) When the alteration is made before the bill or note is issued

When the alteration is made before the bill or note is issued, it does not vitiate the instrument.   Thus
where a note intended to be executed by father and son was signed by the son, but as the father did
not turn up, his nishani  was put in by the son, it was held that Section 87 did not apply, and that
there was no material alteration. Further, when an instrument is altered from a note to a bill before it
is negotiated or where in a joint and several note by three, after two have signed, the third before
signing inserted new words in the instrument or where the place of drawing was changed before the
instrument was available as a bill or where the bill or note was altered by the consent of all the
parties before delivering it over to the payee, it was held that alteration took place before the
instrument was available as such and so not void.

(ii) When made to correct mistakes or effectuate intention of the parties

When alteration is made merely to correct a mistake or to make it what it was originally intended to
be, it does not vitiate the contract, as, where a provision for interest was inserted in accordance with
the original intention.  Again, where an indorsement is inserted to rectify a mistake or where a bill
was dated by mistake 1832 instead of 1823, and subsequently the agent of the drawer corrected the
mistake, or again where a note by the defendant was altered by him after delivery to the plaintiff, by
the insertion of the words or order and it was proved that the alteration was in pursuance of the
original intention of the parties, it was held that the alteration did not vitiate the contract.

QUESTION-14 CROSSING OF CHEQUE & TYPES

In the country, a cheque is a part of the active financial system that makes it a crucial instrument to
send and get money without any physical transfer of cash. In simple words, a cheque is tagged as a
critical document that could be used by an individual, organization, or government for the
transaction of varied fund values.

Crossing of Cheque Meaning

A crossed cheque is primarily any cheque that is crossed with two parallel lines. The lines could be
drawn either across the whole cheque or with the top left-handed corner.

It simply means that the particular cheque could only be deposited straightway into a bank account
and would not be instantly cashed by a bank or by any credit institution. This ensures a level of
security for the payer since it needs the funds to be handled with a collecting bank.

Importance of Crossing of Cheque

 Crossing a cheque gives financial institution-specific instructions on how to handle cash.

 Crossed cheques are typically identifiable by drawing two parallel transverse lines vertically
across the cheque or at the top left-hand corner.

 Between the lines, two or more words such as 'and company' or 'not negotiable' may be
used. Simply drawing the lines without writing anything on them would not change the
meaning of the crossed check.

 Cheque writers can use crossed cheques to protect the amount transmitted from being
cashed by an unauthorized person or stolen.

 The nature of this format for crossed cheques may vary between countries in terms of its
format or assertions.

 Since Crossed Cheques can only be paid through a bank account, the transaction record of
the beneficiary can be tracked down afterwards for additional questions and clarifications.

Different types of Crossing of Cheques

Cross cheques concentrate on the instruction that is given by the drawer of the specific cheque to
the drawee bank. The instruction requires to pay the cheque at the counter of the bank, with a strict
direction to pay it to a person that gives it through a banker.

Crossing makes it feasible to trace the person to whom the amount of payment has been made.
There are different crossing tools to secure cheque payments, such as:

1) General Crossing

This type of cheque crossing needs two parallel transverse lines. There is no restriction to putting
these parallel lines on a particular area on the cheque, but they could be drawn anywhere. Usually -
it is advisable to put it on the top left of the cheque.

The usefulness of this crossing is that the cheque needs to be essentially paid to the bank.
2) Account Payee Crossing

 Account payee crossing is also known as a restrictive crossing. This kind of cheque has to comprise
the words account payee or account payee only. The cheque needs to be crossed either generally or
specially.

The importance of this type of crossing highlights that the cheque is not negotiable anymore.

3) Special Crossing

The special crossing cheque does not need the name of the banker. The effect of this kind of crossing
is that the cheque needs to be funded only to the banker that it has been crossed. It is a reminder to
all of the people that a special crossing would not be changed into a general crossing.

4) Not Negotiable Crossing

In this kind of cheque crossing variety - the paper document needs to have the words not negotiable.
Moreover, the cheque could be crossed specifically or generally. The cheque stays non-negotiable as
well as the title of the transfer would not be better than the title of the transferor.

Uncrossing the Cheque

 When you are now familiar with the cross cheque meaning - then clearly, there is no way the
payee could uncross the cheque. Furthermore - the cheque is known as non-transferable,
which means it can't be transported to a third party. The only action that is allowed is for the
payee to deposit the cheque in an account with their own name.

 Therefore - the payee could uncross the cheque by lettering - crossing cancelled across the
front side of the cheque. Such action is not recommended since it eliminates the protection
the payer initially had in place.

QUESTION-15 DISHONOUR OF CHEQUE UNDER N.I. ACT 1881

The term Negotiable means transfer by endorsement or delivery & therefore the
term Instrument means any legal instrument in writing, which is made in favour of a person. As a
result, Negotiable Instruments are written statements implying cash payment, either on demand or
within a specific timeframe, and bearing the drawer's/payer's name Negotiable instruments plays an
very important role in the today's business world. And some of the Instruments like, cheques, bank
drafts, bill of exchange etc. are easy way of trade & commerce transactions.

Specifically the utilization of cheque has given a new dimension to both business & company world.
Cheque being a bit of paper is straightforward to hold &move anywhere, thus people prefer it than
carrying currency &due to the wide acceptance of cheques worldwide, it's become important to
guard the credibility of this instrument & therefore the protection of hard-earned money also faith in
the cheque system. Tthe usage of cheques has been regulated in India through ,Negotiable
Instruments Act 1881.Under which dishonour of cheque is considered a punishable offence.

There are various negotiable instruments; like cheques, promissory notes, bills of exchange, bank
notes, etc. However, for day to day transactions, cheque is that the most generally used legal
document in businesses today & due to the Active usage people often get into some trouble & they
find queries like What to try to to if cheque gets bounced, the way to file cheque bounce case,
Jurisdiction of cheque bounce case, cheque case jurisdiction etc. So, during this paper i will be
dealing with some of the important information about Cheque bounce or Dishonor of cheque and
also about jurisdiction to file complaint or Jurisdiction for cheque bounce case.

Dishonor Of Cheque:

[1]According to Section 6. of the Negotiable Instruments Act, the check is defined as the bill of
exchange issued on a particular banker & expressed to be payable other than on demand. Includes
the electronic image of the truncated check & a check in the electronic form.

In the banking scenario, the honored cheque indicates the successful transaction of the amt. cited on
the check to the beneficiary concerned i.e. payee. Conversely, if the Bank refuses to dispense the
cheque sum to the beneficiary, it will be treated as a dishonored cheque so, it refers to a scenario
where the Bank refuses to dispense the check amount to the payee.
Reference to the term 'dishonor' made in Section 91& 92 of the Negotiable Instruments Act, 1881.

S. 91. Dishonor by non-acceptance- A bill of exchange is stated or deemed to be dishonoured ,only if

the drawee or one of the multiple drawees .not being the partners refuses to accept it , defaults on
an acceptance after being duly obliged to accept the bill, or when presentment is excused & bill isn't
accepted.so in other words it can be said that the bill can said to be or considered as dishonored If
the drawee is unable to contract or when the acceptance is qualified.

Section 92: Dishonor by Non-Payment

A bill or a cheque is said to be dishonored by non-acceptance only If maker of the'note' /the acceptor
of the bill/ the drawee of the cheque defaults on payment after duly required to pay the same.

Therefore, if at the presentation the banker does not pay, then there is dishonor and the bearer
immediately acquires the right of recourse against the drawer& against the other parts of the
cheque.

Section 138 Negotiable Instruments Act 1881:

The Negotiable Instruments (Amendment And Miscellaneous Provisions) Act, 2002, has made the
following changes to Section 138. of the Negotiable Instruments Act:

138. Cheque dishonour due to 'insufficient funds' in the account:

If a cheque drawn by a person on an account maintained by him with a banker is returned by the
bank unpaid for payment of any amount of money to another person from that account for the
discharge, in whole or in part, of any debt or other liability, Such person shall be deemed to have
committed an offence and shall, without prejudice to any other provision of this Act, be punished
with imprisonment for a period of not less than one year if the amount of money standing to the
credit of that account is insufficient to honour the cheque or if it exceeds the amt. arranged to be
paid from that account, by an agreement made with that particular bank.

Provided provided in this section, nothing in this section shall apply unless:

a. the cheque has been handed to the bank within six months of the date on which it was
drawn, or during the validity term of the cheque, whichever comes first;
 b. within thirty days after receiving information from the bank regarding the return of the
cheque as unpaid, the payee or holder of the cheque, as the case may be, makes a claim for
payment of the specified amount of money by giving a notice in writing to the drawer of the
cheque; and

c. within 'fifteen days' of receiving the said notice, the drawer of such cheque fails to make
payment of the said sum of money to the payee or to the holder, in due course.

Explanation: A legally enforceable debt or other liability is referred to as a debt or other liability in
this section.

Scope of S.138 of NI act , 1881( Negotiable Instruments Act,1881):

[2]Section 138 makes it as statutory offence dishonour cheques because there are insufficient funds
in a person's bank account with the banker, and the amount arranged to be paid from that account
by an agreement made with that bank is greater than the amount arranged to be paid from that
account by an agreement made with that bank as specified in the act.
However, there are a number of reasons for cheque dishonour, such as signature mismatch, payment
stopped by the drawer, account closed by the drawer, and so on.

Whenever a cheque for the discharge of any legally enforceable debt or other liability is dishonoured
by the bank for lack of funds and payment is not made by the drawer inspite of a legal notice of
demand, it shall be considered a criminal offence. The Act considers cheque dishonour to be a
criminal offence, but it is only enforcing a civil right in a summary manner.

Ingredients of offence:

The essential ingredients of sec138 are:

1. Drawing a check by a person on an account of any debt or other liability.

2. Presentation of the check to the bank within a period of six months from the date of its
drawing or within the period of its validity.

3. Return of the unpaid check by the drawee bank.

4. Written notice to the cheque drawer within 30 days of receipt of information relating to the
return of the cheque as unpaid in the form of an advance debit or return memo.

5. Non-payment by the drawer within fifteen days of receipt of the notice.

The High Court of Maharashtra held in Vishnu S/O Amthalal Patel v. State of Maharashtra & Anr.
[3]that the accused's cheque could not be regarded a legally enforceable debt or liability. The
evidence fell short of establishing that the applicant/accused owes a legally enforceable debt or
liability for which the cheque was given. As a result, the applicant/accused has met his or her burden
and refuted the presumption based on the aforementioned provisions of the Act.

Reasons for Dishonour Of Cheque:

a. Stop payment: In case of Electronics Trade and Technology Development Corporation India
Vs Indian Technologies and Engineers (Electronics) Pvt. Ltd.[4] It was held by hon'ble court
 that if the drawer issues a notice to the payee or holder in due course not to present the
cheque for payment, and the cheque is still presented and dishonoured on the drawer's
instructions, Section 138 ii applies. However, in another case, Modi Cement Ltd. vs Kuchil
Kumar Nandi,[5] the Supreme Court reversed its earlier findings and stated that section 138
would apply even if a cheque was dishonoured due to a "Stop Payment" instructions to the
bank.
 

b. Bank account closed:

The dishonour of a cheque on the grounds that the drawer of the cheque has closed the
account is a violation of S.138. Account Closed means that :
Despite the fact that the account was active at the time the cheque was issued, the account
has since been closed. It indicates that the drawer has no intention of paying.

Closing an account is one of the ways a drawer can make his account insufficient to honour a
cheque he has issued; thus, closing an account would not allow the accused to avoid his
liability under section 138 of the Act[6].' In N. A. Issac vs. Jeeman P. Abraham & Anrol[7], it
was held by hon'ble court that if a cheque is issued after an account has been closed, Section
138 will apply.

c. Refer to the dawer:

In the usual sense, "refer to drawer" refers to a bank statement, as in we are not paying, go
back to the drawer and ask why,or go back to the drawer and ask him to pay.The words
implies that' the cheque has been returned due to a lack of funds in the drawer's account, as
is 'customary in banking'. It's a polite approach for a bank to indicate that it won't be able to
honour the cheque due to a lack of funds.

In the case of M/s Electronic Trade & Technology Development Corporation Ltd. v. M/s
Indian Technologist & Engineer (Electronic) Pvt. Ltd.[9] it was held by the hon'ble court that
that if a cheque is returned with the endorsement "Refer to drawer" or "Instructions for
stoppage of payment" or exceeds the arrangement, it constitutes cheque dishonour.
 

d. Post dated cheque:

A post dated cheque is a bill of exchange, when it's written or drawn, it becomes a cheque
when it is payable on demand[10]. Because a post-dated cheque cannot be presented to the
bank, the issue of its return does not arise. S.138 of NI Act, comes into action, only when a
post-dated cheque becomes a cheque having effect from the date displayed on the face of
the said cheque.

Notice:

Before taking any action, a legal notice for check dishonour is required. This Act stipulates that, if a
cheque has been dishonoured, the drawer must be notified (by registered A.D.) within 30 days of
receipt of the memo from the drawee bank that the cheque has been dishonoured.

The following points should be included in the legal notice for cheque dishonour:
  The issued check was presented to the bank for payment;

 The check was then dishonoured for the reason stated by the drawee bank.

 Requesting payment of a sum written on a cheque within 15 days of receipt of notice.

The next action should be conducted after sending the legal notice for cheque dishonour.

Filing of complaint:

When the drawer of the cheque fails to make the payment within fifteen days after receiving the
notification, the cause of action for beginning proceedings is complete, according to Section 138 of
the Act and its proviso.Only from the moment the notice period expired would the offence be
considered committed. A section 138 complaint must be filed within one month of the occurrence of
the cause of action. The day on which the cause of action arises is excluded from the calculation of
the limitation period for filing a complaint under Section 138 of the Act.

Jurisdiction:
In K Bhaskaran v. Sankaran Raidhyan Balan[13], reported in (1999) 7 SCC 510, the Apex court held
that a crime under section 138 of the Act can only be committed by concatenating several acts.

1. The Cheque Drawing

2. The presentation of cheque to the bank

3. The drawee bank's unpaid cheque is returned to the sender.

4. giving written notice to the cheque drawer requesting payment of the cheque amount

5. The drawer's failure to make within 15 days of receipt the notice

All of these elements combine to form the crime of cheque dishonour.

According to the Court, under the principles of law governing the administration of substantive
criminal law, the complainant can choose any of the courts with jurisdiction over any of the local
areas within the territorial limits of which any of the five acts were committed. The court went on to
say that the court with jurisdiction over the payer's and payee's places of residence can have
territorial jurisdiction to investigate and try the complaint.

Dashrath Rupsingh Rathod v State of Maharashtra & Anr:

The Supreme Court's recent landmark decision has altered the essential criteria for initiating criminal
complaints for cheque dishonour under Section 138 of the Negotiable Instruments Act. Previously,
the holder of the cheque could file a case under Section 138 at his place of business or residence.

However, the Hon'ble Supreme Court has ruled that the complaint must be filed in the location
where the bank branch on which the cheque was drawn is located, and that the judgement will apply
retrospectively, that is, lakhs of cases pending in various Courts across the country will see an
interstate transfer of cheque bouncing cases.

Amendment:
A court trying a case involving cheque bouncing must order the drawer to pay interim compensation
to the claimant of not more than 20% of the cheque sum within 60 days of the trial court's order,
according to the Negotiable Instruments (Amendment) Act, 2018,[15] which came into effect on 1st
sept., 2018.

This interim fee can be levied in a summary trial or a summons case where the drawer pleads not
guilty to the lawsuit's accusations, or when a charge is framed in another case. In addition, the
Amendment permits the Appellate Court to order the claimant to deposit a minimum of 20% of the
fine/compensation imposed, in addition to temporary compensation, while hearing appeals against
the conviction.

Civil action:

Cognizance of Offences:

The Negotiable Instrument Act of 1881 section 142 that deals with the cognizance of offences.
In the case of Birendra Prasad Sah v. State of Bihar and Others,[17] the appellant served a legal
notice within 30 days of receipt the memo of dishonour. As a result, the proviso (b) to section 139's
requirement was met. The respondent claimed that he was not served with the legal notice. The
appellant specifically claimed in the complaint that despite numerous requests to the Postal
Department, no acknowledgement of notice was provided. As a result, the appellant had no choice
but to issue a second notice. The Court held that the first notice formed the cause of action for a
complaint under s.138 since it had to be issued within the time limit.

Essential conditions required for cognizance of offence:

The following conditions must be met before proceeding against the drawer of a dishonoured
cheque:

1. In due course, the payee or holder must file a written complaint.

2. Under clause (c) of the proviso to Section 138, the complaint must be filed within one month
of the day on which the cause of action arose.

3. The offence stated under Section 138 can only be tried in a court of Metropolitan Magistrate
or a Judicial Magistrate of First Class.

Compoundable offence:

Section 147: Compoundable offences

Every offence punishable under this Act is compoundable, notwithstanding anything in the Code of
Criminal Procedure, 1973, (2 of 1974.)

The provisions of the Code of Criminal Procedure, 1973, are not applicable to the compounding of
offences under the NI Act, as evidenced by the non obstante clause.

Prior to the introduction of Section 147 of the NI Act, the provisions of Section 320 of the CrPC were
used to compound the offence under the NI Act. The legislature felt it appropriate to allow
compounding without the permission of the court in the case of an offence under Section 138 of the
NI Act, because normally, cheque dishonour occurs from commercial transactions between private
parties. As a result, only Section 147 begins with a non obstante clause, taking it beyond the scope of
section 320 of the CrPC.
The following guidelines were issued by hon'ble Supreme court in case of Damodar S. Prabhu v.
Sayed Babalal on cheque bounce cases are:

1. That the summons be appropriately modified to make it apparent to the accused that he
may apply for compounding of the offences at the first or second hearing of the case, and
that if he does, compounding may be granted by the court without imposing any costs on
accused.
 

2. If the accused fails to make an application for compounding , compounding may be granted if
an application for compounding is made before the Magistrate at a later stage, is subject to
the condition that the accused pay 10% of the cheque amount to be deposited with the'
Legal Services Authority', or such other authority as the court deems appropriate.
 

3. Similarly, if the accused applies for compounding in a revision or appeal before the Sessions
Court or a High Court, the compounding may be granted on the condition that the accused
pay 15% of the cheque amount in costs. 

4. Finally, if a compounding application is filed with the Supreme Court, the figure rises to 20%
of the whole amount of the cheque.

Punishment: A person guilty of an offence u/s. 138 of the Negotiable Instrument Act of 1881 faces a
maximum sentence of two years in prison and a fine of double the amount of the cheque, or both.

Case laws:

The Delhi High Court considered whether a criminally compoundable offence under Section 138
might be handled by mediation in the matter of Dayawati v. Yogesh Kumar Gosain, 2017. The Court
held that the Legislature had not explicitly established a legislative clause permitting the criminal
court to transfer the plaintiff and convicted parties to alternative resolving disputes mechanisms.

Arbitration is permitted and recognised under the Code of Criminal Procedure (Cr.P.C), without
specifying or limiting the technique used to achieve it. As a result, there is no prohibition against
adopting alternative dispute resolution methods like as arbitration, mediation, or conciliation (as
defined in Section 89 of the Civil Procedure Code, 1908) to resolve disputes involving offences
covered by Section 320 of the Cr.P.C. It further stated that the proceedings under Section 138 of the
Act are different from other criminal cases, and similar to civil wrong with criminal overtones.

In the case of Dashrath Rupsingh Rathod versus State of Maharashtra and others, the hon'ble
Supreme Court held that the territorial jurisdiction for the dishonour of cheques is limited only to the
court whose local jurisdiction the offence was committed, which in this case is the court where the
cheque is dishonoured by the bank on which it is drawn. All other complaints (including those in
which the accused/respondent has not been properly served) will be returned to the complainant for
filing in the appropriate court, as determined by the Supreme Court, in accordance with an
exposition of the law.

The Court held in Apparel Export Promotion Council v. Collage Culture & Ors. that once the Trial
Court proceedings were revived, the appellant was required to follow the orders entered in those
proceedings unless they were stayed. The Court noted that the thirty-day period started on the date
the decision was delivered. The fact that the appellant had not physically collected the complaint did
not lengthen the time frame in which it had to re-file it.