Debt recovery agents vs litigation financing: Evaluating their effectiveness in India
In the complex world of financial services, debt recovery is a crucial challenge for banks and institutions. Two main solutions have emerged: Debt Recovery Agents (DRAs) and Litigation Financing. While DRAs have been less effective due to aggressive tactics and legal concerns, a promising alternative called Litigation Financing or Third-Party Funding (TPF) has emerged. TPF involves third-party funders supporting litigation costs in exchange for a share of the proceeds in successful cases. The lacking regulation in DRA gives push to TPF as it allows claimants to access the justice and peruse for their own claims even with limited financial sources, writes Kundan Shahi, Founder, LegalPay.
What are Debt Recovery Agents ?
When we look at the Indian scenario debt recovery agents are being traditional solutions for the financial institution to recover their bad loans. These agents are responsible for interacting directly with defaulters and attempting to recover outstanding debts. The Reserve Bank of India (RBI) oversees the regulation of DRAs under the SARFAESI Act. When a loan becomes a Non-Performing Asset (NPA), the borrower receives a notice demanding repayment within 60 days and if the borrower fails to pay the credit within the required period, The creditor can take action without any involvement of Judicial authorities and which includes selling of the loan to an Asset reconstruction company at the discounted rate[1].
- Challenges with Debt Recovery Approach
In the recent session of Lok Sabha, Finance Minister Nirmala Sitharaman acknowledged the growing complaints about the illegal methods used by DRAs to recover loans.[2] This aggressive and intrusive methods used by Debt Recovery Agents have resulted in numerous complaints and legal problems. The RBI has issued guidelines to curb their excesses but this is uncontrolled
- A Struggle to Achieve Satisfactory Results
But still after this aggression in traditional approach recovery rate in DRAs has been unsatisfactory, with a success rate of only 2 out of 10 cases. This places a significant financial burden on the creditor to recover the debts.[3] And Indian system continues to struggle with a high volume of NPAs. To address this, the government has established Debt Recovery Tribunals under the RDB Act, 1993,[4] with the aim of expeditious adjudication and debt recovery. However with this tribunal setup the litigation cost involved would be draining for the creditors.
This traditional approach of using DRAs for debt recovery in India has been plagued by issues, including aggressive methods, low success rates, and legal challenges. While the government has established Debt Recovery Tribunals to expedite the process, the costs remain a concern. Alternative solutions like Litigation Financing, which provides financial support to claimants during legal disputes, are gaining traction and may offer a more effective and equitable approach to debt recovery.
Litigation Financing a wave of Evolution
Also known as Third party funding relatively a new concept in India where the awareness is still lacking. This innovative approach involves a third-party funder providing the financial support for the cost of litigation. In return, the funder receives a share of the proceeds if the case is successful. One notable feature of some TPF providers, is the “NO WIN NO FEE” model, meaning they only collect a fee if the case is won.
India’s Lag in Embracing Litigation Financing
This mechanism has been gaining popularity globally and India is no exception when we look at the developed countries like the USA and the UK have already adopted this model as early as the 2000s,[5]making it an established practice in their legal systems. While TPF gains recognition and acceptance in India it will level up the playing field for claimants who might otherwise lack the financial resources to pursue their legal claims.
let us Imagine a small company that purchased expensive machinery from a larger corporation for their business operations. A dispute arises regarding the purchase agreement, and the larger corporation refuses to refund the money already paid by the smaller company. Instead, they offer a low settlement amount. Due to limited credit resources the smaller company feels compelled to accept the inadequate settlement offer.
However, if the smaller company had access to litigation financing arrangements, the larger corporation would know that the dispute could be taken to court. This knowledge would lead to fairer and more equitable settlement terms in favour of the smaller company.
This Third Party funding holds promise for enabling greater access to justice and empowering claimants to seek rightful compensation without the burden of upfront legal costs. As awareness about TPF grows and its benefits become more evident, it is expected to gain traction in the Indian legal landscape, providing a valuable avenue for claimants seeking a fair resolution of their legal disputes.[6]
What is the legal status of third-party funding ?
The Indian legal framework does not explicitly regulate Litigation Financing, The Privy Council’s historic decision in Ram Coomar v. Chunder Canto Mookerjee[7] set the tone by ruling that English common law and statutes related to maintenance and champerty were not applicable in India. The court also emphasized that agreements found extortionate, unconscionable, or lacking a genuine intention to assist a claim would be against public policy.
Subsequently, in Bar Council of India v. A.K. Balaji[8], a five-judge bench reiterated that there were no explicit restrictions on third parties, such as non-lawyers, funding litigation and being repaid after the case’s outcome. This observation has paved the way for Litigation Financing to potentially thrive in India.[9]
The Booming Landscape of Litigation Financing
With a flourishing landscape of Litigation Financing in India  the absence of explicit regulation and judicial support for third-party funding is still missing, where the third party funder creates opportunities for claimants to access justice and pursue their legal claims with much-needed financial support, even if they lack substantial resources. As Litigation Financing gains recognition and acceptance, TPF has started to offer a valuable means for claimants to level the playing field and have their day in court. By providing financial assistance to cover litigation expenses, this empowers claimants to seek rightful compensation without the burden of upfront costs.
Also Read: Non-availability of interim finance a big impediment in success of CIRP: IBBI chairperson
However, it is essential to note that while the framework for Litigation Financing is evolving, where TPF ensures that all agreements adhere to the highest ethical and legal standards. Caution is exercised to protect the interests of both the claimants and the funders, ensuring a fair and transparent process throughout.
Why a TPF a Better Choice ?
While Litigation Financing emerging as a superior choice over traditional Debt Recovery Agents (DRAs) due to several compelling reasons
- Legal and Ethical Practices: Litigation Financing ensures ethical and legal compliance, avoiding aggressive tactics seen in traditional Debt Recovery Agents (DRAs).
- Risk Mitigation: Creditors can transfer the risk of unsuccessful recovery to third-party funders, reducing their exposure to financial losses.
- Increased Access to Justice: Litigation Financing allows parties with limited resources to seek rightful compensation, democratizing access to justice.
- Potential for Higher Recovery Rates: Professional legal teams enhance the chances of achieving higher recovery rates compared to DRAs.
- Boost to the Economy: Litigation Financing alleviates NPAs, contributing to a healthier financial sector and positively impacting the Indian economy.
Future of legal financing ?
The Litigation Financing holds significant promise as a game-changer in debt recovery. However, the lack of explicit regulation poses challenges, requiring a robust framework to ensure responsible implementation. With proper regulation, it can revolutionize debt recovery in India, providing an ethical and efficient solution compared to DRAs. Embracing Litigation Financing aligns with principles of justice, fairness, and efficiency, levelling the playing field for claimants with limited resources and empowering them to seek rightful compensation. It’s time for India to embrace the future of debt recovery.
[1] How banks misuse SARFAESI Act provisions for loan recovery, https://knnindia.co.in/blog/blogdetails/how-banks-misuse-sarfaesi-act-provisions-for-loan-recovery
[2]Directed banks to “sensitively” deal with loan collections, says Nirmala Sitharaman in Lok Sabha, https://economictimes.indiatimes.com/industry/banking/finance/banking/directed-banks-to-sensitively-deal-with-loan-collections-says-nirmala-sitharaman-in-lok-sabha/articleshow/102082524.cms.
[3] SARFAESI ACT, 2002- Applicability, Objectives, Process, Documentation, https://cleartax.in/s/sarfaesi-act-2002
[4] Debts Recovery Tribunals and Debts Recovery Appellate Tribunals, https://financialservices.gov.in/about-debt-recoverytribunal#:~:text=The%20Debts%20Recovery%20Tribunals%20(DRTs,to%20Banks%20and%20Financial%20Institons.
[5] Evolution of the Third-Party Funder, https://www.lexology.com/library/detail.aspx?g=fcd6f277-5754-4fa0-958f-d1e1701c8730
[6] Third party Funding in India, Survey report 2021, Maharashtra National law university, https://mnlumumbai.edu.in/pdf/Third%20Party%20Funding%202022.pdf.
[7] 1876 SCC OnLine PC 19.
[8] AIR 1954 SC 557, 559, para 11.
[9] Bar Council of India v. A.K. Balaji, AIR 1954 SC 557, 559, para 11.
