Why parate is so hot these days

The Parate is not that draconian as most of the people see it. Firstly it applies only for loans of which the capital is Rs. 5 million or above. In practice, no bank will exercise the Parate Right until a borrower fails to repay 7/8 instalments or more. The bank as much as possible negotiates with the borrower and carefully listens to the reasons of the borrower’s failure. Banks will in the first instance endeavour to understand whether the default is due to the own negligence of the borrower or due to something beyond his control. Even in the case of own negligence the bank will warn the borrower and try to correct him, leaving aside the Parate. When the default is beyond the control of the borrower, banks give them sound concessions based on case by case

Once the parate is abolished as proposed, the borrowers who are repaying satisfactorily will also, without thinking twice, refrain from repaying their loans

By an Ex-Banker

As reported by Daily FT on 25 June, at an awareness conference organised by the Ceylon Federation of MSMEs on ‘Business debt and finance management’, Justice Minister Dr. Wijeyadasa Rajapakshe had proposed two solutions to balance the relationship between banks and industries. One was to abolish the parate law and the other was to provide opportunities for distressed customers to restructure their credit lines.

Abolishing the parate right given to banks has come again to the platform after a couple of months. What is this parate right which is given only to the banks by our legislation? 

Parate right is the “effect” and not the “cause”. Addressing the Effect without addressing the Cause will never solve the issue. Effect means that things happen because something prompted them to happen. A Cause means why something happens. Therefore abolishing the parate right which is the Effect of something will never solve the issue unless the Cause, why it happened is solved. If not it will definitely aggregate more issues. 

“Parate” is a Dutch term of which the meaning is “Immediate”. This came to our banking jargon as a result of enacting the Recovery of Loans by Banks (Special Provisions) Act No. 4 of 1990, based on the findings of the Debt Recovery Committee of 1983, chaired by D. Wimalaratne, a retired Supreme Court Judge.

This Act provides among others, one of the speediest statutory remedies available to banks against defaulting borrowers. That is Parate Execution, a right given to a bank, whenever, default is made due on a loan, the Board of Directors of that bank may by resolution in writing authorise a person to sell by public auction any property mortgaged to the said bank without going through the tedious court procedure to recover the loan secured by that property. This was specifically introduced by the legislature to quicken the process of the recovery of ‘debts’ by banks under a special procedure. It’s also known as Parate Law, Parate Execution and Parate Right in different forums.

However as per Section 5(a) of the Recovery of Loans by Banks (Amendment) (Special Provisions) Act No. 01 of 2011, the parate right cannot be exercised for loans and advances below Rs. 5 million. When calculating the amount of the loan as per this requirement, accrued interest and penal interest if any should be excluded. Therefore it is clear that this parate execution is applicable only for defaulted loans of which the capital is Rs. 5 million or more.

Cause that prompted the parate

Let me now focus on the Cause that prompted the Parate.

In a layman’s interpretation, bankers are businessmen who purchase ‘Money’ which is called deposits at a cost from savers and then sell that money to the borrowers as credits at a cost. 

In a common market, when a commodity is purchased, the buyer’s obligation is over or the transaction is fully settled or completed once the commodity is accepted by the buyer and agreed price is paid to the seller. On the other hand, when a commodity is sold, the seller’s obligation is also over no sooner than the commodity is delivered to the buyer, accepting the agreed price from the buyer. No more implied or expressed obligation generally exists. 

The obligation of a banker who buys money from a seller or depositor will not end though the buyer or banker pays the agreed price for the money purchased or the agreed rate of interest to the seller. The obligation exists until the money so purchased is fully repaid to the respective seller or depositor whenever he demands it. 

On the other hand, the money sold to a buyer or to a borrower as credit also should be recovered fully on time as agreed and just by collecting the price offered by the buyer will not cease the obligation of the banker. 

If the banker does not recover the money so lent “on time” he would not be able to repay the money to the depositor when he demands. These are two moral and legal duties and obligations of the banker.  

If banks fail to recover the money lent “on time” the credit cycle of the bank is devastated. Then the banks are compelled to mobilise the deposits aggressively at a higher price in order to keep the credit cycle active. Simple scenario is that if you pay a higher price for deposits you need to price your credits also at a higher price. In a competitive market, practically this cannot be implemented with ease. 

Bank credits are essential to the economy of a country since the bank credits play an energetic role as an input to produce goods and services.

This means the lending function (granting and on time recovery of loans) of a bank plays a vital role in the development of a country’s economy.

Now it is clear that every cent that the bank grants as credits or loans need to be fully recovered on time with the agreed interest, since the bank grants this money from the money that the bank had borrowed, though it is called deposits.

This warns the bank to ensure when it grants loans that should be granted only to the borrowers who can repay the loan either from existing income or the income generated after utilising the borrowed money, on time as agreed.

Banks endeavour to grant credits only to borrowers who have repayment capacity

Therefore the bank always endeavours to grant credits only to those borrowers who have the repayment capacity. The repayment capacity is a forecast done by the banker based on the past and present performance and the future financial viability of the borrower. This forecast may go wrong due to various reasons and sometime may be beyond the control of both the banker and the borrower. Therefore what the bank does is after evaluating the repayment capacity and if it is sound, in order to minimise the default risk, bank will ask the prospective borrower to provide some assets as collateral to secure the credit granted, with the expectation of disposing the assets so given as collateral, in case of default and to recover the money lent. 

In the past, prior to the introduction of the Parate Right, banks had to file legal action in the courts of the respective jurisdictions to obtain an order to sell the assets offered as security in order to recover the defaulted loans. But what happened was when a case was filed, to get a judgement, banks had to wait years and years, time more than 10 or 15 years. Even now this delay has not been rectified. No doubt that debt recovery is an area where delays in the law and legal process have become acute.

Therefore banks had to face liquidity issues preferably to meet the demand of the depositors who made the deposits and to grant new credits. In case the bank fails to honour the demand made by a single depositor, that message blows-out among the other depositors who too will queue up in front of the banks demanding the banks to repay their deposits. Then the subject bank will definitely collapse unless it is bailed out. This may lead to systemic effect and the entire banking and financial stability of the country would be in a dilemma. 

On the other hand, once the Parate is abolished as proposed, the borrowers who are repaying satisfactorily will also, without thinking twice, refrain from repaying their loans. This is a threat to the bank for its survival and to discharge its moral and legal duties.

This is what exactly happened to the Northern Rock Bank in England, nearly two decades ago and the British Government had to bailout this bank.

Taking into consideration these liquidity issues encountered by banks, in 1983 the above said Debt Recovery Committee was appointed by the then Government and the Committee came out with this speediest recovery process known as Parate, as a solution to the issue, knowing well the delay in court process cannot be rectified quickly. 

That is the “Cause” of Parate that came into being as a speediest recovery tool. Therefore to get a remedy, the cause has to be rectified without destroying the effect.

The loans to be recovered are not recovered in a timely manner, it increases the Non-Performing Loans or NPL (defaulted loans) portfolio of the bank which directly reduces the quality of assets of the banks. The loans granted to borrowers are assets to the bank and if it is defaulted it becomes a liability to the bank. Besides, banks need to make provision for NPL as per the prevailing rules and directions. Ultimately it leads to long term liquidity issues preventing banks from meeting their long term liabilities of which more than 85% are deposits made by savers. This expresses the seriousness of the issue though it seems to be an attractive picture.

Parate is not that draconian

The Parate is not that draconian as most of the people see it. Firstly it applies only for loans of which the capital is Rs. 5 million or above. In practice, no bank will exercise the Parate Right until a borrower fails to repay 7/8 instalments or more. The bank as much as possible negotiates with the borrower and carefully listens to the reasons of the borrower’s failure. Banks will in the first instance endeavour to understand whether the default is due to the own negligence of the borrower or due to something beyond his control. Even in the case of own negligence the bank will warn the borrower and try to correct him, leaving aside the Parate. When the default is beyond the control of the borrower, banks give them sound concessions based on case by case. 

The agreed repayment pattern may be changed to suit the present requirements of the borrower. They give various options and in most cases they go for restructuring the facility. If the requirement is so, the bank will even extend the repayment period. Sometimes they waive off the entire due penal interest. If all these attempts fail then only as a last resort, the bank will go for the Parate. This won’t happen overnight and in most cases the bank goes on this pre-auction process for more than a year or so. 

As the Minister proposed his other solution that is to “provide opportunities for distressed customers to restructure their credit lines” is there in the current recovery process and it needs to be strengthened to be more effective. 

If someone proposes to abolish this remedy, first of all the present court process and unusual delay in delivering the judgements should be expedited. Then the bank will go for court procedure to recover their defaulted loans. The only sound solution available is to introduce a mechanism to deliver the judgements with reasonable delay at least, though it is rather late, within a year or so.

During the last 5/6 decades, Sri Lanka had more than a dozen Justice Ministers who were directly accountable and responsible for expediting this court process. But no one had taken proper actions. Had that expediting mechanism been introduced by at least one of them, the jargon of Parate would not be there in the banking glossary. Sri Lanka has enacted several legislations on debt recovery and has taken steps in amending the legislation to suit the needs of the country from time to time. But the issue remains the same, since it has failed to address the main cause, the unusual delay in delivering the judgement. So bringing temporary solutions such as abolishing laws will not be a suitable answer for this acute issue. 

No doubt there are some shortcomings in this Parate process. Applying the Parate right on 3rd party properties and disposing the property just to cover the loan amount due, without considering the market price of the properties are a few to name. 

The other weakness of the Parate Right is the claimant or lender, one party to the issue becomes the judge ignoring the principles of natural justice and equal protection of the law. When a dispute arises between two parties, there should be a minimum of three parties, Plaintiff, Dependent and the Judge who is unbiased to come to a justifiable and acceptable solution. In the case of Parate too, three parties are involved but one party, the lender, acts both as Plaintiff and the Judge. This naturally strengthens the power of the claimant or mortgagee or lender since he acts as the Judge to defend his own case. This leads to questioning the ’unbiasedness’. This is no doubt a clear deviation from the Common Law of the country. In order to achieve a just and fair outcome, this shortcoming needs to be amended but abolishing the entire Parate law is debatable.

(Those who are interested to know more details of the above shortcomings, may refer to the cases namely, “Ramachandran and Another; Anandasiva and Another vs. Hatton National Bank 2006 [1] SLR 393; Hatton National Bank -Vs- Samathapala Jayawardhana and two others SC/CHC/Appeal 06/2006 (now reported as Hatton National Bank -Vs -Jayawardhana [2007] 1 SLR 18.); Yasasiri Kasturiarachchi -Vs- People’s Bank - Decided on 02.06.2021”).

On the other, one should not forget, in the past, when a Parate Resolution was forwarded for the approval of the Board, the Board Members raised various questions and in most cases the Board directed the Management to recover through negotiations without sanctioning the resolution because they were qualified and well aware of the subject in hand. But the present situation, as reported, is totally different. It is said that whatever is presented to the Board, they approve it due to lack of subject knowledge since most of the Board Members including Chairman (of state banks) are appointed by the subject Minister and almost all of them are close political confidants of the subject Minister. They are unqualified henchmen of the Minister and have no knowledge of the industry or banking but they have different agendas of their own. This weakness also needs to be rectified if a satisfactory solution is anticipated for the subject issue. 

However, it is evidenced as reported by CBSL in its Annual Report of 2001 that nearly 90% of the Parate Resolutions approved by banks are not proceeded with to the ultimate sale of the borrowers’ property. Because once the Parate Resolution is published in the newspapers/gazette, the borrowers who had been avoiding the bank, call on the bank and some sort of positive settlement is arrived at or the loan is restructured avoiding the sale of the mortgaged property by public auction. Even today, this is correct though no survey has been done. 

Therefore one should clearly understand that taking bold decisions in overlooking the technicalities to achieve the objective of this Parate Right, may definitely contribute to increasing the Non-Performing Assets of the banks, opening the Dark Path for collapse. On the other hand, introducing a mechanism to deliver the Judiciary verdicts on defaulted loans within six months, it definitely prevents the banks from exercising the Parate Right and that itself will automatically abolish the Parate Law.