Companies Act Case Law K K Baskaran Vs State rep by its Secretary Tamil Nadu

 Companies Act Case Law

K K Baskaran Vs State rep by its Secretary Tamil Nadu & Ors

IN THE SUPREME COURT OF INDIA
CIVIL APPELLATE JURISDICTION

 

CIVIL APPEAL NO. 2341 of 2011

[ Arising out of S.L.P.(Civil) No. 7285/2011 ]

[ CC No. 18900/2010 ]
K.K. Baskaran .. Appellant
-versus-
State rep. by its Secretary, Tamil Nadu & Ors. .. Respondents

J U D G M E N T

1. Delay condoned. Leave granted.
2. Heard learned counsel for the appellant.
3. Financial swindling and duping of gullible investors/depositors is not
unique to India. It has been referred to in Charles Dicken’s novel `Little
Dorrit’, in which Mr. Merdle sets up a Ponzi scheme resulting in loss of the
savings of thousands of depositors including the Dorrits and Arthur
Clennam. In recent times there have been many such scandals e.g. the get-
rich-quick scheme of the scamster Bernard Madoff in which the estimated
losses of investors were estimated to be 21 billion dollars.
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4. The present case illustrates what has been going on in India for quite
some time. Non-banking financial companies have duped thousands of
innocent and gullible depositors of their hard earned money by promising
high rates of interest on these deposits, and then done the moonlight flit,
often disappearing into another State or even foreign countries leaving the
depositors as well as the State police high and dry.
5. This appeal has been filed against the impugned judgment and order
of the Full Bench of the Madras dated 02.03.2007 in writ petition No.
26108/2005.
6. By means of the aforesaid writ petition, the petitioner and others
challenged the constitutional validity of the Tamil Nadu Protection of
Interests of Depositors (in Financial Establishments) Act, 1997 (for short the
Tamil Nadu Act). By the impugned judgment the Full Bench of the Madras
High Court has held the aforesaid Act to be constitutional. Hence, this
appeal.
7. Learned counsel for the appellant has relied on the Full Bench
decision of the Bombay High Court in Vijay C. Punjal vs. State of
Maharashtra (2005) 4 CTC 705 by which a similar Act of Maharashtra ,
being the Maharashtra Protection of Interests of Depositors (in Financial
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Establishments) Act, 1999 was held to be unconstitutional. We are of the
opinion that the impugned judgment of the Full Bench of the Madras High
Court is correct, while the judgment of the Full Bench of the Bombay High
Court in Vijay’s case (supra) is not correct.
8. The main submission of the learned counsel for the appellant in
challenging the Tamil Nadu Act, which was also the main submission in
challenging the Maharashtra Act, 1999, was that the said Act is beyond the
legislative competence of the State Legislature as it falls within entries 43,
44 and 45 of List I of the Seventh Schedule to the Constitution. It was also
submitted that the impugned Act is liable to be struck down as the field of
legislation is already occupied by legislation of Parliament being the
Reserve Bank of India Act, 1934, Banking Regulation Act, 1949, the Indian
Companies Act, 1956 and the Criminal Law Amendment Ordinance, 1944
as made applicable by Criminal Law (Tamil Nadu Amendment) Act, 1977.
It was also contended that the Tamil Nadu Act was arbitrary, unreasonable
and violative of Articles 14, 19(1)(g) and 21 of the Constitution.
9. We are of the opinion that none of these submissions have any merit.
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10. A perusal of the Statement of Objects as well as the relevant
provisions of the Tamil Nadu Act shows that its object was to ameliorate the
situation of thousands of depositors from the clutches of financial
establishments who had duped the investor public by offering high rates of
interest on deposits and committed deliberate fraud in repayment of the
principal and interest after maturity of such deposits. The Act provides for
measures for attachment of the properties of the financial establishments as
well as mala fide transferees and to bring these properties for sale for
realization of the dues payable to the depositors speedily.
11. As per the statistics of July 2002, about Rs. 1945 crores were
collected from over 19 lakhs of depositors. These depositors were either
poor or middle class persons, retired government servants and pensioners
and their dependants, senior citizens or economically backward sections of
society etc. The deposits were either siphoned off or diverted mala fide by
these fraudulent financial establishments. The commission and omission of
these financial establishments was well-organized, and constitute an
organized systematic white color crime which jeopardizes the safety and
interest of the public.
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12. As noted in the impugned judgment, the Tamil Nadu Act was not
focused on the transaction of banking or acceptance of deposits, but it is
designed to protect the public from fraudulent financial establishments who
defraud the public by offering lucrative returns on deposits and then
disappear with the depositors’ money or refuse to return the same with
interst. In our opinion, the impugned Tamil Nadu Act is in pith and
substance relatable to Entries 1, 30 and 32 of the State List (List II) of The
Seventh Schedule.
13. The Statement of Objects And Reasons of the Tamil Nadu Act states :
“There is mushroom growth of Financial Establishments

not covered by the Reserve Bank of India Act, 1934

(Central Act II of 1934) in the State in the recent past

with the sole object of grabbing money received as

deposits from the public, mostly middle class and poor,

on the promise of unprecedented high rates of interest

and without any obligation to refund the deposits to the

investors on maturity. Many of these Financial

Establishments have defaulted to return the deposits on

maturity to the public running to crores of rupees and

thereby inviting the public resentment, which created law

and order problems in the State. The Government has,

therefore, decided to undertake suitable legislation , in

the public interest, in order to regulate the activities of

such Financial Establishments, other than those covered

by the Reserve Bank of India Act, 1934 (Central Act II of

1934).
2. The Bill seeks to give effect to the above decision.”
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14. A reading of the Statement of Objects and Reasons of the Tamil Nadu
Act would go to show that it does not concentrate on incorporation,
regulation or winding up of banking corporations but, on the other hand, is
basically concerned with returning money of the gullible depositors who had
been defrauded. The words found in the Statement of Objects and Reasons,
viz., “in the public interest, in order to regulate the activities of such
Financial Establishments” would mean that the Tamil Nadu Act has been
enacted to protect the interests of depositors.
15. An amendment was brought to the Tamil Nadu Act by the Protection
of Interests of Depositors (In Financial Establishments) Amendment Act,
2003, Tamil Nadu Act 30 of 2003, the object being:
“The Tamil Nadu Protection of Interest of Depositors (in

financial establishments) Act, 1977 (Tamil Nadu Act 44

of 1997) was enacted by the Government of Tamil Nadu

to protect the interest of the depositors who have lost

their hard earned money with the financial institutions.

At present, there is no provision in the said Act for

attaching the properties of the persons who borrowed

money from the financial establishments and for the sale

of attached property in public action and for the equitable

distribution of the sale proceeds to the depositors. In

order to overcome the shortcomings and to make the said

Tamil Nadu Act 44 of 1997 more effective, the

Government have decided to amend the said Act so as to-
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(1) bring a company registered under the Companies

Act, 1956 (Central Act 1 of 1956) and non-

banking financial company within the purview of

the Act;
(2) make the non-payment of interest and failure to

render service for which deposit has been made, as

offences under the Act;
(3) attach the properties of the person who has

borrowed money from the financial establishments

and failed to return the money;
(4) appoint more than one competent authority under

the Act;
(5) constitute Special Courts for different areas and

for different cases and to appoint Special Public

Prosecutors for each of the Special Courts;
(6) specify the time limit within which the Special

Court shall pass the final order;
(7) compound the offences punishable under the Act;

and
(8) to sell the attached properties in public auction and

to distribute the sale proceeds among the

depositors.
2. The Bill seeks to give effect to the above decision.”
16. By section 2 of the Tamil Nadu Act 30 of 2003, the definitions of
“deposit” and “financial establishments” were amended as follows:
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(1)…….
(2) ” deposit means the deposit of money either in one

lump sum or by installments made with financial

establishments for a fixed period, for interest or for return

in any kind or for any service;
(3)”financial establishment” means an individual, an

association of individuals, a firm or a company registered

under the Companies Act, 1956 (Central Act 1 of 1956)

carrying on the business of receiving deposits under any

scheme or arrangement or in any other manner but does

not include a corporation or a co-operative society owned

or controlled by any State Government or the Central

Government or a banking company as defined in Section

5 (c) of the Banking Regulation Act, 1949 (Central Act X

of 1949)”
17. Thus, by the Amendment Act 30 of 2003, the companies registered
under the Companies Act, 1956 and the non banking financial companies,
were also brought within the purview of the Act.
18. Learned counsel for the appellant relied on the Full Bench decision of
the Bombay High Court in Vijay C. Punjal’s case (supra) in support of his
contention that the Tamil Nadu Act, like the Maharasthra Act, was
unconstitutional being beyond the legislative competence of the State
Legislature. We do not agree.
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19. We have carefully perused the judgment of the Full Bench of the
Bombay High Court in Vijay’s case (supra) and we respectfully disagree
with the view taken by the Bombay High Court.
20. It may be noted that though there are some differences between the
Tamil Nadu Act and the Maharashtra Act, they are minor differences, and
hence the view we are taking herein will also apply in relation to the
Maharashtra Act.
21. The Bombay High Court has taken the view that the Maharashtra Act
transgressed into the field reserved for Parliament. We do not agree. It is
true that Section 58A of the Companies Act has been upheld by this Court in
Delhi Cloth Mills Ltd vs. Union of India (1983) 4 SCC 166 and the
provisions of Chapter IIIC of the Reserve Bank of India Act, 1934 was
upheld by this Court in T. Velayndhan Achari vs. Union of India (1993) 2
SCC 582. However, we are not in agreement with the Full Bench decision
of the Bombay High Court that the subject matter covered by the said Act
falls squarely within the subject matter of Section 58A and 58AA of the
Companies Act.
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22. We are of the opinion that the impugned Tamil Nadu Act enacted by
the State Legislature is not in pith and substance referable to the legislative
heads contained in List I of the Seventh Schedule to the Constitution though
there may be some overlapping. In our opinion, in pith and substance the
said Act comes under the entries in List II (the State List) of the Seventh
Schedule.
23. It often happens that a legislation overlaps both Lists I as well as List
II of the Seventh Schedule. In such circumstances, the doctrine of pith and
substance is applied. We are of the opinion that in pith and substance the
impugned State Act is referable to Entries 1, 30 and 31 of List II of the
Seventh Schedule and not Entries 43, 44 and 45 of List I of the Seventh
Schedule.
24. It is well-settled that incidental trenching in exercise of ancillary
powers into a forbidden legislative territory is permissible vide Constitution
Bench decision of this court in State of West Bengal etc. vs. Kesoram
Industries Ltd & Ors etc. (2004) 10 SCC 201 (vide paras 31(4), (5) and (6)
and 129 (5). Sharp and distinct lines of demarcation are not always possible
and it is often impossible to prevent a certain amount of overlapping vide
ITC Ltd. vs. State of Karnataka, 1985 (Supp) SCC 476 (para 17). We
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have to look at the legislation as a whole and there is a presumption that the
legislature does not exceed its constitutional limits.
25. The `financial companies’ in the present case had not obtained any
licence from the Reserve Bank of India. Hence they are not governed by the
Reserve Bank of India Act nor the Banking Regulation Act, 1949.
26. The doctrine of pith and substance means that an enactment which
substantially falls within the powers expressly conferred by the Constitution
upon a Legislature which enacted it cannot be held to be invalid merely
because it incidentally encroaches on matters assigned to another legislature.
The Court must consider what constitutes in pith and substance the true
subject matter of the legislation. If on such examination it is found that the
legislation is in substance one on a matter assigned to the legislature then it
must be held to be valid even though it incidentally trenches on matters
beyond its legislative competence vide Union of India vs. Shah
Goverdhan L. Kabra Teachers’ College (2002) 8 SCC 228 (vide para 7).
27. For applying the doctrine of pith and substance regard is to be had to
the enactment as a whole, its main objects and the scope and effect of its
provisions vide Bharat Hydro Power Corporation vs. State of Assam
(2004) 4 SCC 489 (vide para 15).
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28. For this purpose the language of the Entries in the Seventh Schedule
should be given the widest scope of which the meaning is fairly capable vide
State of West Bengal vs. Kesoram Industries Ltd (supra) (para 31(4),
Union of India vs. Shah Goverdhan Kabra Teachers College (supra)
(para 6), ITC Ltd. vs. State of Karnataka (supra) (para 17).
29. Learned counsel for the appellant submitted that the subject-matter of
the Tamil Nadu Act being banking, falls within the legislative competence
of Parliament under Entry 45 of List I. We do not agree. Admittedly, none
of the financial companies in question obtained any licence from the Reserve
Bank of India. Hence they are not governed by the Reserve Bank of India
Act or the Banking Regulation Act. The activities of these financial
companies do not, in our opinion, come within the meaning of the term
`banking’ as defined in the Banking Regulation Act, 1949 or the Reserve
Bank of India Act, 1934.
30. The Tamil Nadu Act was enacted to find out a solution for the
problem of the depositors who were deceived on a large scale by the
fraudulent activities of certain financial establishments. There was a
disastrous consequence both in the economic as well as social life of such
depositors who were exploited by false promise of high return of interest.
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These financial institutions/establishments did not come either under the
Reserve Bank of India Act or the Banking Regulation act, and hence they
escaped from public control.
31. By the impugned Act the State not only proposed to attach the
properties of such fraudulent establishments and the mala fide transferees,
but also provided for the sale of such properties and for distribution of the
sale proceeds amongst the innocent depositors. Hence, in our opinion, the
doctrine of occupied field or repugnancy, has no application in the present
case.
32. The object of the Tamil Nadu Act was to give a speedy remedy to the
innocent depositors who were vulnerable to the temptation of earning high
rates of interest and were victimized by the financial establishments
fraudulently.
33. As regards Section 58A of the Companies Act, this prescribes the
conditions under which the deposits may be invited or accepted by the
companies. On the other hand, the aim and object of the Tamil Nadu Act is
totally different.
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34. The Tamil Nadu Act was enacted to ameliorate the conditions of
thousands of depositors who had fallen into the clutches of fraudulent
financial establishments who had raised hopes of high rate of interest and
thus duped the depositors. Thus the Tamil Nadu Act is not focused on the
transaction of banking or the acceptance of deposit, but is focused on
remedying the situation of the depositors who were deceived by the
fraudulent financial establishments. The impugned Tamil Nadu Act was
intended to deal with neither the banks which do the business or banking and
are governed by the Reserve Bank of India Act and Banking Regulation Act,
nor the non-banking financial companies enacted under the Companies Act,
1956.
35. The Reserve Bank of India Act, the Banking Regulation Act and the
Companies Act do not occupy the field which the impugned Tamil Nadu Act
occupies, though the latter may incidentally trench upon the former. The
main object of the Tamil Nadu Act is to provide a solution to wipe out the
tears of several lakhs of depositors to realize their dues effectively and
speedily from the fraudulent financial establishments which duped them or
their vendees, without dragging them in a legal battle from pillar to post.
Hence, the decision of this Court in Delhi Cloth Mills (supra) has no
bearing on the constitutional validity of the Tamil Nadu Act.
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36. In the case of the Tamil Nadu Act, the attachment of properties is
intended to provide an effective and speedy remedy to the aggrieved
depositors for the realization of their dues. The offences dealt with in the
impugned Act are unique and have been enacted to deal with the economic
and social disorder in society, caused by the fraudulent activities of such
financial establishments.
37. Under Section 3 & 4 of the Tamil Nadu Act, certain properties can be
attached, and there is also provision for interim orders for attachment after
which a post decisional hearing is provided for. In our opinion this is valid
in view of the prevailing realities.
38. The Court should interpret the constitutional provisions against the
social setting of the country and not in the abstract. The Court must take
into consideration the economic realities and aspirations of the people and
must further the social interest which is the purpose of legislation, as held by
Justices Holmes, Brandeis and Frankfurter of the U.S. Supreme Court in a
series of decisions. Hence the Courts cannot function in a vacuum. It is for
this reason that Courts presume in favour of constitutionality of the statute
because there is always a presumption that the legislature understands and
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correctly appreciates the needs of its own people, vide Govt. of Andhra
Pradesh vs. P. Laxmi Devi (2008) 4 SCC 720.

 

 

39. We fail to see how there is any violation of Article 14, 19(1)(g) or 21
of the Constitution. The Act is a salutary measure to remedy a great social
evil. A systematic conspiracy was effected by certain fraudulent financial
establishments which not only committed fraud on the depositor, but also
siphoned off or diverted the depositor’s funds mala fide. We are of the
opinion that the act of the financers in exploiting the depositors is a
notorious abuse of faith of the depositors who innocently deposited their
money with the former for higher rate of interest. These depositors were
often given a small pass book as a token of acknowledgment of their deposit,
which they considered as a passport of their children for higher education or
wedding of their daughters or as a policy of medical insurance in the case of
most of the aged depositors, but in reality in all cases it was an unsecured
promise executed on a waste paper. The senior citizens above 80 years,
senior citizens between 60 and 80 years, widows, handicapped, driven out
by wards, retired government servants and pensioners, and persons living
below the poverty line constituted the bulk of the depositors. Without the
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aid of the impugned Act, it would have been impossible to recover their
deposits and interest thereon.
40. The conventional legal proceedings incurring huge expenses of court
fees, advocates’ fees, apart from other inconveniences involved and the long
delay in disposal of cases due to docket explosion in Courts, would not have
made it possible for the depositors to recover their money, leave alone the
interest thereon. Hence, in our opinion the impugned Act has rightly been
enacted to enable the depositors to recover their money speedily by taking
strong steps in this connection.
41. The State being the custodian of the welfare of the citizens as parens
patriae cannot be a silent spectator without finding a solution for this
malady. The financial swindlers, who are nothing but cheats and charlatans
having no social responsibility, but only a lust for easy money by making
false promise of attractive returns for the gullible investors, had to be dealt
with strongly.
42. The small amounts collected from a substantial number of individual
depositors culminated into huge amounts of money. These collections were
diverted in the name of third parties and finally one day the fraudulent
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financers closed their financial establishments leaving the innocent
depositors in the lurch.
43. Learned counsel for the appellant submitted that the appellant was
only a bona fide purchaser of some plots of land from one Arun Kumar and
Smt. Sulochana, and not from any financial establishment. We are not going
into this question as it can be raised in appropriate proceedings. In this case
we are only concerned with the constitutional validity of the Tamil Nadu
Act.
44. We are of the opinion that there is no merit in this petition. The
impugned Tamil Nadu Act is constitutionally valid. In fact, it is a salutary
measure which was long overdue to deal with these scamsters who have
been thriving like locusts in the country.
45. The Appeal is, therefore, dismissed. No costs.

 

 

………………………………..J.

(Markandey Katju)
……………………………….J.

(Gyan Sudha Misra)
New Delhi;

4th March, 2011

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