Debt Recovery for MSMEs: Examining Emerging Dynamics through DRT Framework

The lending ecosystem in India is a major force behind the economic growth and development, as it facilitates access to capital for both individuals and businesses. The Debt Recovery Tribunal (DRT) is established to settle debt recovery disputes, including those of Micro, Small, and Medium Enterprises (MSMEs). The Tribunal plays a critical role in the debt recovery mechanism for banks and financial institutions, which significantly impacts MSMEs both as borrowers and creditors.

DRT and Debt Recovery Mechanism

The primary mandate of DRTs is to facilitate the speedy recovery of debts owed to banks and financial institutions. It is established under the Recovery of Debts and Bankruptcy (RDB) Act, 1993, as a quasi-judicial body providing an alternative to lengthy civil court proceedings. For MSMEs, often suffering from limited capital and delayed payments, the role of DRT is crucial in ensuring timely debt recovery. The DRTs’ functioning has dual dynamics for MSMEs under the Recovery of Debts and Bankruptcy (RDB) Act, 1993, and the SARFAESI Act, 2002, both as borrowers and creditors.

DRT’s role in Recovering Debts from MSMEs

The DRT acts as a first point of legal recourse for the lender, if the MSME, as a borrower, has defaulted on a loan above the pecuniary limit taken from a bank or financial institution. The following are the functions of DRT in cases where MSME is a borrower:

• Expedited debt recovery process for lenders: The establishment of DRT is intended to circumvent the slow process of civil courts. This enables the banks or financial institutions to recover Non-Performing Assets (NPAs) faster. This enhanced efficiency can lead to a lower risk premium on loans, benefiting credit flow to the sector ultimately.
• Stringent Recovery Measures: The powers and functions of DRT and the simultaneous operation of the SARFAESI Act would mean the defaulting MSMEs face a quicker and often more stringent recovery process, including attachment of assets and sale.
• Balancing act: The system under DRT and the mechanism, though designed for recovery considering the economic downturns or genuine business distress, is essential for balancing aggressive recovery with the need for MSME revival. There is an ongoing legal and policy discussion on the same, and the Reserve Bank of India (RBI) has issued guidelines for the Revival and Rehabilitation of MSMEs, which the banks must consider before taking coercive action.

Changing Dynamics for Debt Recovery by MSMEs

The major challenge that MSMEs face is delayed payments for goods and services supplied to the buyers, including larger companies. Due to delayed payments form clients, defaulters, or unforeseen circumstances, MSMEs often face cash flow disruptions, impeding their ability to meet operational expenses, investments, or even to sustain day-to-day operations. While DRT is a legal mechanism primarily for banks, the changing dynamics for MSMEs in debt recovery centres around an alternative statutory mechanism. It is as follows:

• MSMED Act, 2006: The Micro, Small and Medium Enterprises Development (MSMED)Act, 2006, is the primary legislation for MSMEs to recover dues. It mandates payment to registered MSME suppliers must be made within 45 days. If the payments are delayed, the act attracts a high penal compound interest, three times the bank rate as notified by the RBI.
• MSE Facilitation Council (MSEFC): The MSMED Act provides for the establishment of the Micro and Small Enterprises Facilitation Council (MSEFC), functioning as a quasi-judicial body for conciliation and arbitration in delayed payment disputes. Importantly, the MSMED Act has an overriding effect on other laws for these specific disputes.
• Pre-Dispute clause: The Act requires the buyer to deposit 75% of the awarded amount with the court before an appeal against the MSEFC’s order. This provision strengthens the MSME’s position and ensures quick liquidity.
• Alternative remedy: The MSMED Act provides the parties with an opportunity to submit the matter to arbitration and initiate arbitration proceedings if the MSEFC fails to resolve the dispute through conciliation. This provision allows the MSMEs to settle their disputes, providing an alternative remedy.

Reforms in the DRT process

Recent changes have focused on providing a modernised and streamlined DRT process, applying to all cases, including those involving MSMEs:

• Mandatory E-Filing: The government has mandated electronic filing (e-filing) of all pleadings before the DRTs and the Debt Recovery Appellate Tribunals (DRATs) to enhance efficiency, transparency, and reduce turnaround time.
• Digital Hearing: To address problems of case backlogs and to provide an expedited judicial process, initiatives like hybrid hearings and video-conferencing are being promoted.
• Revised Regulations: The adoption of revised DRT regulations and the introduction of a better monitoring mechanism are aimed at improving the performance and efficiency of the tribunals.

In conclusion, the dynamics of debt recovery for MSMEs is characterised by a powerful, at times harsh, system as DRT or SARFAESI, for the recovery of bank loans, and a special mechanism under the MSMED Act with MSEFC, for the recovery of their delayed payments. The recent changes and focus on digitization and procedural efficiency in DRTs intend to improve overall judicial enforcement of debt. However, the MSMEs face challenges such as limited benches, pendency of cases even after such efforts. Nevertheless, for MSMEs, navigating this evolving regime is crucial while India strengthens the credit framework with a more efficient and MSME sensitive legal system, sustaining entrepreneurial growth.

• Sanjay Sethiya is the Founding Partner at Law Square, Advocates & Solicitors.
• Kandukuri Lakshmi Priya is an intern at Law Square and a 4th year student, Alliance University, Bangalore.