Dishonour of any post dated cheque issued as an advance payment by any purchaser cannot be considered in discharge of legally enforceable debt or any other liability and thus would not amount to an offence, the Supreme Court has ruled
In the world of lending, banks/ financial institutions insisting on taking post-dated cheques (PDCs) from borrowers as a security has been a common norm. These PDCs have been astras (weapons) in the hands of the financial institution used for arm-twisting the borrowers and also acting as a deterrent to ensure that borrowers do not default. Wherever the borrower would explicitly or implicitly give indications of not having the ability to pay, the lender would present these PDCs to the bank; and once these PDCs bounce, the legal team of the lender would jump to action to initiate a case against the borrower under section 138 of the Negotiable Instruments Act, 1881 (NI Act).
It is one of the most common legal actions being undertaken by lenders against borrowers and as we are all aware section 138 of the NI Act is the most dreaded section with regard to dishonour of cheque, which could lead you to some months of imprisonment to the drawer of the cheque. The text of the section is mentioned below for your ready reference:
Dishonour of cheque for insufficiency, etc., of funds in the account
138. Dishonour of cheque for insufficiency, etc., of funds in the account. Where any cheque drawn by a person on an account maintained by him with a banker for payment of any amount of money to another person from out of that account for the discharge, in whole or in part, of any debt or other liability, is returned by the bank unpaid either because of the amount of money standing to the credit of that account is insufficient to honour the cheque or that it exceeds the amount arranged to be paid from that account by an agreement made with that bank, 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 term which may extend to one year, or with fine which may extend to twice the amount of the cheque, or with both:
Provided that nothing contained in this section shall apply unless-
(138.a) the cheque has been, presented to the bank within a period of six months from the date on which it is drawn or within the period of its validity, whichever is earlier;
(138.b) the payee or the holder in due course. of the cheque as the case may be, makes a demand for the payment of the said amount of money by giving a notice, in writing, to the drawer of the cheque, within fifteen days of the receipt of information by him from the bank regarding the return of the cheque as unpaid; and
(138.c) the drawer of such cheque fails to make the payment of the said amount of money to the payee or, as the case may be, to the holder in due course of the cheque, within fifteen days of the receipt of the said notice.
Explanation.-For the purposes of this section, "debt or other liability" means a legally enforceable debt or other liability. (emphasis ours at relevant places)
So there are two things. which are most critical to fall under the section apart from the basic conditions as stated in the section above. One, that the PDC needs to be a cheque at the time of presentation and second the cheque should be for discharging debt or liability, which is a legally enforceable debt or liability. That is to say, to institute a suit under Section 138 of the Act, there should be a legally enforceable debt or other liability subsisting on the date of drawal of the cheque.
The matter whether PDCs are cheque at the time of presentation to the bank has been a contentious issue for long now. In a Supreme Court ruling of Anil Sawhney vs Gulshan Rai, the Court held that a post dated cheque is composed of two elements. At the time the post- dated cheque is drawn, it is in the nature of a bill of exchange and they assume the character of a cheque from the date appearing on the cheque. The extract of the ruling explains the fact:
A "Bill of Exchange" is a negotiable instrument in writing containing an instruction to a third party to pay a stated sum of money at a designated future date or on demand. A "cheque" on the other hand is a bill of exchange drawn on a bank by the holder of an account payable on demand. Thus a "cheque" under Section 6 of the Act is also a bill of exchange but it is drawn on a banker and is payable on demand. It is thus obvious that a bill of exchange even through drawn on a banker, if it is not payable on demand, it is not a cheque. A "post- dated cheque" is only a bill of exchange when it is written or drawn, it becomes a "cheque" when it is payable on demand. The post-dated cheque is not payable till the date which is shown on the face of the said document. It will only become cheque on the date shown on it and prior to that it remains a bill of exchange under Section 5 of the Act. As a bill of exchange a post-dated cheque remains negotiable but it will not become a "cheque" till the date when it becomes "payable on demand".
The Apex Court further stated that
“An offence to be made out under the substantive provisions of Section 138 of the Act it is mandatory that the cheque is presented to the bank within a period of six months from the date on which it is drawn or within the period of its validity, whichever is earlier.... When a post-dated cheque is written or drawn it is only a bill of exchange and as such the provisions of Section 138(a) are not applicable to the said instrument.
One of the main ingredients of the offence under Section 138 of the Act is the return of the cheque by the bank unpaid….A post-dated cheque cannot be presented before the bank and as such the question of its return would not arise. It is only when the post-dated cheque becomes a "cheque", with effect from the date shown on the face of the said cheque, the provisions of Section 138 come into play.”
The ruling above made the fact clear that if a PDC was withdrawn or cancelled before the date on which it was to be presented to the bank then such cancellation of PDC would tantamount to cancellation of a Bill of exchange and not of a cheque per se.
The recent ruling of the Supreme Court in the matter of Indus Airways Pvt Ltd & Ors. vs Magnum Aviation Pvt Ltd & Anr. brought out clarity on conditions for attracting 138 action clearly stating that dishonour of any post dated cheque issued as an advance payment by any purchaser cannot be considered in discharge of legally enforceable debt or any other liability and thus would not amount to an offence under Section 138 of the Negotiable Instruments Act, 1881.
A brief insight into the relevant facts and the judgement of the above stated case would make one clear on the captioned perspective.
Facts of the Case:
Indus Airways Pvt Ltd & Ors. (hereinafter referred to as the ‘purchaser’) placed two purchase orders on 19 February 2007 and 26 February 2007 with Magnum Aviation Pvt Ltd (hereinafter referred to as the ‘supplier’) for supply of certain aircraft parts. Two post dated cheques were issued by the purchaser in this regard. The date on the face of such two post dated cheques been 15 March 2007 and 20 March 2007. It is important to note that such post dated cheques were issued as an advance payment to the supplier as the terms of the contract stated to facilitate the supplier procure the parts from abroad. Subsequently on presentation of these cheques to the bank, they were dishonoured on the ground that the purchaser had stopped payment for the same. A cancellation letter was received by the supplier on 22 March 2007 cancelling the order and requesting the return of the cheques.
The Supreme Court quashed several conflicting views of the subordinate courts on the captioned subject. The important crux in this case as highlighted in the judgement was that one of the conditions of the contract entered into between the parties contended that the purchaser needed to make an advance payment to the supplier to enable him to purchase the aircraft parts from abroad. The fact that purchaser cancelled the purchase order and that the purchase order was not carried to its logical conclusion clearly meant that the cheque did not represent a debt or liability. The Apex Court placed reliance on the ruling in the matter of Swastik Coaters Pvt Ltd vs Deepak Brothers and others (1997 Cri LJ 1942 (AP)), whereby the Andhra Pradesh High Court held that
“……..Explanation to Section 138 of the Negotiable Instruments Act clearly makes it clear that the cheque shall be relateable to an enforceable liability or debt and as on the date of the issuing of the cheque there was no existing liability in the sense that the title in the property had not passed on to the accused since the goods were not delivered. ……..”
The ruling will have a far reaching consequence as there are thousands of cheque bouncing cases pending in the country.
Typically in non-recourse factoring transactions since the factors have exposure on the obligors, factors commonly use section 138 route as a recovery tactic. Particularly so, the ruling may come as a respite to several borrowers/ obligors in factoring cases these days, where the factors use PDCs as a means to arm-twist the obligors and initiate section 138 action against them disregarding the fact that the debt may not be a valid and enforceable debt at all.
(Nidhi Bothra is executive vice president, while Debolina Banerjee is an associate at Vinod Kothari & Company)