-Neha Malu & Dayita Kanodia (finserv@vinodkothari.com)

Under the SARFAESI Act, only qualified buyers can invest in security receipts (SRs). The term “Qualified Buyer” has been defined under section 2(1)(u) of the SARFAESI Act, 2002, to mean a financial institution, insurance company, bank, state financial corporation, state industrial development corporation, trustee or an ARC or any asset management company making investment on behalf of a mutual fund, a foreign institutional investor registered with SEBI, or any category of non-institutional investors as may be specified by the RBI in consultation with SEBI from time to time, or any other body corporate as may be specified by SEBI. 

Earlier, in exercise of the power to notify a body corporate as a QIB (now, QB)¹ for the purpose of SARFAESI Act, SEBI, vide Notification dated March 31, 2008² notified NBFCs registered under section 45-IA of the RBI Act, 1934, provided the following conditions were fulfilled:

1. systemically important non-deposit taking non-banking financial companies (NBFCs) with asset size of one hundred crore rupees and above³; and
2. other non-deposit taking NBFCs which have asset size of fifty crore rupees and above and “Capital to Risk – weighted Assets Ratio” (CRAR) of 10% as applicable to non-deposit taking NBFCs as per the last audited balance sheet.

Definition of Qualified Buyers Amended

Now, vide gazette notification dated February 28, 2025⁴, the scope of qualified buyers under the SARFAESI Act has been expanded to explicitly include all NBFCs and HFCs regulated by the RBI. This amendment clarifies and broadens the range of participants who can acquire security receipts from ARCs, thereby enhancing liquidity in the distressed asset market. This notification supersedes the earlier March 31, 2008 notification (discussed above). 

However, the allowance for all NBFCs and HFCs to act as qualified buyers comes with the following conditions:

1. such non-banking financial companies including housing finance companies shall ensure that the defaulting promoters or their related parties do not directly or indirectly gain access to secured assets through security receipts; and 
2. such non-banking financial companies including housing finance companies shall comply with such other conditions as the Reserve Bank of India may specify from time to time

Analysis of the conditions specified in the 28th February notification

• The first condition provides that the NBFC or HFC participating as QB shall ensure that (1) the defaulting promoters or (2) their related parties do not, directly or indirectly, regain control over the secured assets through SRs.

The intent behind the condition quite evidently is to prevent defaulting promoters and their related parties from circumventing the resolution process and regaining control over the stressed assets through security receipts.

Now, the pertinent questions in relation to the above stated condition is (a) are as follows:

1. Who constitutes a “defaulting promoter” in the context of this condition, and does ineligibility extend indefinitely, or is there a specific timeline after which the promoter may become eligible?

Section 29A(c)⁵ of the IBC was introduced to prevent defaulting promoters from regaining control over their stressed companies through the resolution process. This aligns with the objective of the February 28, 2025, notification, which seeks to prevent defaulting promoters and their related parties from indirectly reacquiring secured assets via SRs.

Under section 29A(c) of the IBC, a promoter of a corporate debtor classified as an NPA for over a year is ineligible to participate in the resolution process unless the default is cured. The underlying principle is that those responsible for financial distress should not benefit from restructuring their own assets.

Further, as per the RBI Prudential Framework for Resolution of Stressed Assets, 2019, when changing control of a borrowing entity and reclassifying a credit facility as ‘standard,’ it must be established that the acquirer is not disqualified under section 29A of the IBC. Additionally, the ‘new promoter’ must not be linked – whether as a person, entity, subsidiary, or associate, domestically or overseas – to the existing promoter/promoter group.

Therefore, for interpreting the present condition, inference may be drawn from section 29A(c) of the IBC. 

As for the timeline for re-eligibility, section 29A(c) provides that a promoter may regain eligibility upon full repayment of all overdue amounts, including interest and charges, before submitting a resolution plan. In the author’s view, a similar approach may be considered for the present condition.

2. What constitutes “direct” and “indirect” control in the context of this restriction?

Since the condition ensured at the time of issuance of SRs is required to be fulfilled by the ARC vide para 23.1(ii) of the Master Direction – Reserve Bank of India (Asset Reconstruction Companies) Directions, 2024, it comes to an intriguing question as to how can the NBFC/ HFC grant access to the defaulting promoters. The SR investor is simply one of the investors. Any sale of the loans, if any, will have to be done by the ARC and not the SR holder.

Therefore, it appears that the intent of this requirement, possibly applicable when the NBFC/HFC becomes a major buyer of the SRs, is that it does not have any specific funding or other obligation from the defaulter/ defaulter’s promoters.

3. From where will the definition of “related party” be derived?

The term “related party” has been defined in several legal frameworks like Companies Act, 2013, SEBI LODR Regulations (in case of listed companies), Accounting Standards (AS-18, Ind AS 24, as may be applicable) and IBC. This raises the question of which definition should apply in the present context.

In this context, section 2(2) of the SARFAESI Act provides that-

Words and expressions used and not defined in this Act but defined in the Indian Contract Act, 1872 (9 of 1872) or the Transfer of Property Act, 1882 (4 of 1882) or the Companies Act, 1956 (1 of 1956) or the Securities and Exchange Board of India Act, 1992 (15 of 1992) shall have the same meanings respectively assigned to them in those Acts.

Given the above stated provision of the SARFAESI Act, it is reasonable to infer that the definition of “related party” may be derived from the Companies Act, 2013.

• The second condition mandates compliance with any additional requirements that RBI may prescribe from time to time. This provision grants the RBI flexibility to introduce further safeguards or operational guidelines as necessary, ensuring that the participation of NBFCs and HFCs remains in line with evolving regulatory and market considerations.

Conclusion

In essence, the February 28, 2025, amendment marks a significant step in expanding the pool of qualified buyers to include all NBFCs and HFCs regulated by the RBI, thereby enhancing liquidity and participation in the security receipt market. However, the accompanying conditions ensure that increased participation does not lead to the compromise of regulatory objectives. Thus, while the amendment strengthens the investor base and improves liquidity in SRs market, it also introduces necessary safeguards to prevent potential misuse by entities with prior exposure to defaulting borrowers.

Related Resources:

1. SARFAESI Act for NBFCs – Frequently Asked Questions
2. ARC rights to use SARFAESI for debts assigned by non-SARFAESI entities

1.  The SARFAESI Act originally used the term Qualified Institutional Buyer (QIB), which was subsequently amended in 2016 and replaced with Qualified Buyer (QB). ↩︎
2.  https://www.sebi.gov.in/acts/qibnotification.pdf ↩︎
3.  In 2015, the threshold for classification of an NBFC as systemically important was increased from Rs. 100 Cr to Rs. 500 Cr but there was no consequent notification to modify the earlier notification in line with the changes in the regulatory framework for NBFCs. Even under the Scale-Based Regulation (SBR) framework, while references to Systemically Important NBFCs were replaced, the absence of an updated notification led to the continued reliance on the earlier definition. Consequently, to maintain regulatory continuity and consistency in the treatment of NBFCs, NBFCs with an asset size of ₹500 crore or more should have qualified as QBs. ↩︎
4.  https://egazette.gov.in/%28S%28j1ssisiqkc1nzfdmqesgfw5u%29%29/ViewPDF.aspx ↩︎
5.  Read more about the ineligibility criteria u/s 29A in our earlier article titled “INELIGIBILITY CRITERIA U/S 29A OF IBC: A NET TOO WIDE?” available at: https://vinodkothari.com/wp-content/uploads/2019/06/Ineligibility-Criteria-under-sec.-29A-of-IBC.pdf ↩︎