Company's 'Fraud' Classification Doesn't Automatically Attract Penal Consequences For Directors: Bombay High Court

The Bombay High Court has held that directors would not face penal consequences under the Reserve Bank of India's 2024 Fraud Master Circular merely because their company has been declared "fraud."

The directors themselves must be declared “fraud” after following the procedure prescribed under the Circular.

“Merely by declaring the 5th Respondent Company as “fraud” and the Petitioners not being declared as “fraudsters” by the 1st Respondent Bank would not visit upon them the penal consequences set out in Clause 4.4 of the Fraud Master Circular of 2024,” a division bench of Justice B.P. Colabawalla and Justice Somasekhar Sundaresan ruled.

The case involved three directors of a company undergoing the Corporate Insolvency Resolution Process under the Insolvency and Bankruptcy Code, 2016. An Interim Resolution Professional had been appointed, and the company's board stood suspended.

The directors had challenged Axis Bank's declaration of the company as "fraud." They argued that the declaration could expose them to penal consequences under the Master Directions on Fraud Risk Management in Commercial Banks (including Regional Rural Banks) and All India Financial Institutions dated July 15, 2024. Their grievance particularly concerned Clause 4.4 of the Fraud Master Circular.

The court had earlier directed Axis Bank not to act in furtherance of its October 23, 2024 order declaring the company “fraud”.

After that order, the bank retracted the Fraud Monitoring Return filed with the RBI, although the court noted that it was not required to do so.

The court was also informed that the names of the directors and the company were no longer reflected in the Central Fraud Registry. It consequently found the directors' apprehension of penal consequences “wholly unfounded”.

The bench held that such consequences would arise only if the directors themselves were declared “fraud” by Axis Bank. Merely declaring the company as “fraud” would not attract the penal consequences under Clause 4.4 against directors who had not themselves been declared "fraud." The RBI had also taken the same position.

The ruling was confined to the penal consequences under the Fraud Master Circular. It did not affect criminal proceedings already initiated by Axis Bank against the company and the directors.

“Naturally, those criminal proceedings will be decided on their own merits and in accordance with law uninfluenced by any observations made in this order,” the bench observed.

Axis Bank remains free to initiate proceedings under the Fraud Master Circular to declare the directors “fraud”. It must, however, strictly follow the procedure prescribed under the Circular, the bench clarified.

The bench also made clear that it had not set aside the company's fraud declaration. Axis Bank can still report the company's account as “fraud” in the Central Fraud Registry after following the necessary procedure.

At the same time, the directors' names cannot be reflected in the Central Fraud Registry or with any other agency as “fraud”. This can happen only after the prescribed procedure is followed and they are ultimately declared “fraud”.

The petition was accordingly disposed of. There was no order as to costs.

For Petitioners: Advocate Rohaan Cama

For Respondents: Advocates Rashmin Khandekar, Lalit Munshi, Devanshi Sanghvi, Satyajit Kairnar, Suraj Gupte, AGP, Prasad Shenoy, Parag Sharma, Aditi Phatak and Juhi Bhayani