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Judgment
Kanakaraj, J.—All these writ petitions are directed against certain notifications issued by the Reserve Bank of India on July 6, 1996 [See
[1997] 88 Comp Cas (St.) 159]. These notifications are in the nature of amendments to the Non-Banking Financial Companies (Reserve Bank)
Directions, 1977 [See [1997] 47 Comp Cas (St.). 138]. The petitioners in all the cases are nidhi companies notified u/s 620A of the Companies
Act.
I will set out the facts in W.P. No. 10063 of 1996 and then the facts in Writ Petition No. 10427 of 1996 because these two writ petitions will to
a large extent cover the facts of all the cases and the points raised in all the cases. The petitioner in W.P. No. 10063 of 1996 is said to be in
existence for the last 117 years. It is pointed out that the need to notify such nidhi companies u/s 620A of the Companies Act arose because of the
peculiar nature of such companies which had taken roots mainly in the southern parts of India. Even the report of the committee, which
recommended the notification u/s 620A of the Companies Act, recognises the objects of such nidhi companies to inculcate in their members the
habits of thrift and compulsory savings. The members normally comprised the poor and the middle class people. The companies have a fixed
capital, consisting of shares of value of Re. 1 each. The shares are not offered to the public, but allotted to those who desire to take advantage of
the benefits offered by the company for depositing or borrowing money. These companies have transactions only with the members and not with
the public. Loans are granted to members on the security of their recurring deposits or of jewels or house property, repayable with a moderate rate
of interest during a period of four to seven years, in equal monthly instalments. Having analysed the peculiar working of the nidhi companies and the
difficulties experienced by them by the application of certain provisions of the Companies Act, the Government of India thought that the notified
nidhi companies could be exempted from the application of some of the provisions of the Companies Act or to apply some with such exceptions,
modifications or adaptations, as may be necessary. The notifications issued from time to time have prohibited the nidhi companies from carrying on
business in chit fund, hire purchases or any business in shares and debentures. Every nidhi should have at least 1,000 members and they cannot
permit the opening of new current accounts or the issuing of any new shares to any group of business.
According to the petitioner, the Reserve Bank of India Act, 1934, did not intend to control the activities of the nidhi company, because of its
peculiar nature. In other words, the nidhi companies were to be under the control and monitorship of the Central Government only and not with the
Reserve Bank of India. In the early 1960''s, the corporate sector went for mobilisation of resources from the public in a major way by issue of
advertisements either by themselves or through brokers or in combination in a big way. Raising finance by way of deposits became attractive. A
mushroom growth of companies sprang to encash on the enthusiasm shown by the unwary public to subscribe for such deposits. It, therefore,
became necessary for the Reserve Bank of India to assume powers to regulate acceptance of deposits by non-banking institutions through an
amendment of the Reserve Bank of India Act, 1934. By such an amendment, Chapter IIIB was introduced with effect from February 1, 1964,
empowering the Reserve Bank of India to regulate the acceptance of deposits by non-banking institutions. There are broadly three classes of
companies that invite deposits from the general public :
(i) Banking companies;
(ii) Non-banking financial companies;
(iii) Those who accept deposits for financing their own business such as to manufacture or trade known as non-banking non-financial companies.
By virtue of the powers vested in sub-clause (1) of section 58A, the Central Government in consultation with the Reserve Bank of India have
framed the Companies (Acceptance of Deposits) Rules, 1975. The law relating to the acceptance of deposits by non-banking financial companies
is contained in the Non-Banking Financial Companies (Reserve Bank) Directions, 1977, dated June 20, 1977.
According to the petitioner, the said Directions hereinafter called the 1977 N.B.F.C. Directions, no doubt refer to mutual benefit financial
companies, including the companies notified u/s 620A of the Companies Act. The petitioners would, however, have it that the nidhi companies
were not meant to be covered by the 1977 Directions because such companies were directly under the control of the Central Government. The
petitioner, therefore, says that the mutual benefit financial companies referred to in the 1977 Directions would refer to companies other than the
nidhi or mutual benefit societies notified u/s 620A of the Companies Act.
Alternatively, the petitioner contends that even if nidhi companies are governed by the 1977 Directions and consequently, by the impugned
notifications, a proper reading of the Directions would go to show that the nidhi companies are exempted. It is then pointed out that the impugned
notification, dated July 6, 1996, restricting the payments of brokerage, incentive to any person making a deposit and the prohibition on the issue of
advertisements plus the restrictions on the rates of interest is totally contrary to the scheme of the control envisaged by the Government of India u/s
620A of the Companies Act. It is also argued that these restrictions are totally in violation of the fundamental rights guaranteed under the
Constitution of India and are in violation of articles 14 and 19 of the Constitution of India.
I will refer to the grounds raised by the petitioner at a later stage.
In Writ Petition No. 10427 of 1996, the petitioner-company was incorporated under the Indian Companies Act, 1913, and has a membership
of about 40,000. It is offering interest to its members who make deposits at the rate of 18 to 21 per cent. per annum. It is also lending monies
through its members at the rate of 22 to 24 per cent. per annum towards interest. They also contend that the petitioner nidhi company notified u/s
620A of the Companies Act are governed only by the Companies Act. It is contended that the definition of the word ""financial institution"" u/s 45-I
of the Reserve Bank of India Act would not apply to the nidhi companies. A distinction is sought to be made between a non-banking institution and
a non-banking financial institution. Unless an institution carries on its business within the meaning of section 45-I of the Reserve Bank of India Act,
1934, it cannot be considered to be a non-banking financial institution. The nidhi companies are outside the scope of the definition ""financial
institution"". The contention of the petitioner is that the Directions issued in the year 1966 [See [1967] 37 Comp Cas (St.) 31.] would apply only to
such mutual benefit fund financial companies which finance monies for any activity other than its own. It is admitted that the 1977 Directions [See
[1977] 47 Comp Cas (St.) 138] were issued in supersession of the 1966 Directions. The petitioner repeats that the 1977 Directions would apply
only to those companies which finance an activity other than their own and would not include companies like the petitioner-company which
finances their own activity.
The petitioner in this case also contends that even the 1977 Directions do not apply to the mutual benefit financial companies by virtue of
paragraphs 3(iv) and 4(iii) of the said Directions. In other words, the 1977 Directions apply to mutual benefit financial companies only to a limited
extent and never supply to nidhi companies.
In December, 1995, a notification [See [1996] 85 Comp Cas (St.) 2.] was issued u/s 637A of the Companies Act to regulate nidhi
companies. The securities on which loans could be extended were clearly prescribed. It only shows that the nidhi companies were always
monitored by the notifications issued by the Central Government and not by the Reserve Bank of India. The petitioner herein also attacks the
impugned notification, dated July 6, 1996, as being without jurisdiction and unconstitutional.
Before adverting to the common grounds of attack, it will be more convenient to refer to the counter-affidavit of respondents Nos. 1 and 2.
The counter-affidavit narrates the regulatory measures taken by the Reserve Bank of India from time to time, keeping in mind the interest of the
general public. By the Banking Regulation Act, 1949, the entire banking operations were brought under the surveillance of the Reserve Bank of
India. Thereafter, the non-banking companies started accepting deposits from the public in a big way. Such unfettered augmentation of deposits
from the general public outside the banking system, not only created unhealthy situations for the depositors, but also created problems in the
assessment and implementation of the monetary and credit system of the country by the concerned authorities. It was only with a view to meet this
challenge, that Chapter IIIB was introduced in the Reserve Bank of India Act, 1934. Thus, the acceptance of deposits by financial companies
were brought under the regulatory control of the Reserve Bank of India. Since the prize chits or benefit schemes were out of the control, separate
directions were issued in that behalf also. Reference is then made to sections 58A and 58B of the Companies Act and the introduction of the
Companies (Acceptance of Deposits) Rules, 1975. In the year 1977, a consolidated revised directions were issued to cover all the non-banking
financial companies. The impugned notification is nothing but an amendment to the 1977 Directions, restraining the nidhi companies from offering
excessive rates of interest and prohibiting payment of brokerage and issuance of advertisements.
It is interesting to note that by way of completion of the regulatory measures, the non-corporate sector comprising individuals, partnership firms
and associations were also brought under the regulatory measures by introducing Chapter III-C in the Reserve Bank of India Act.
According to the respondents, the scope of content of the power of the Reserve Bank of India, as disclosed in sections 45-I, 45J, 45K, 45L
of the Reserve Bank of India Act can never be disputed and do not exclude the nidhi companies, as contended by the petitioners. The counter-
affidavit then proceeds to describe the nidhi companies and explains the rationale behind the impugned notification. There is reference to a study
undertaken by the Reserve Bank of India with reference to the nidhi companies and the non-banking financial companies, which had self-styled
themselves as nidhi companies. I will refer to the result of the said study at a later stage. According to the respondents, the nidhi companies fall
squarely within the definition of ""financial institutions"" u/s 45-I(c) of the Reserve Bank of India Act, 1934. The counter-affidavit also points out that
under paragraph 2(k) of the 1977 Directions, ""mutual benefit financial company"" is defined as a company notified u/s 620A of the Companies Act.
However, paragraph 4 of the said Directions granted exemption to such companies from paragraphs 5, 7, 10, 10A, 11, 12, 13A and 16 of the
Directions. The remaining provisions of the 1977 Directions did apply to nidhi companies. After the report of the study team, the Reserve Bank of
India has thought it fit to remove some of the exemptions granted under paragraph 4 of the 1977 Directions and have, therefore, placed some
restrictions on the nidhi companies also with relation to their rates of interest, payments of brokerage and advertisements. Certain clarifications
have also been issued on August 24, 1996, after the filing of the writ petitions, permitting the nidhi companies to fix their own rates of interest on
deposits selectively on a case to case basis. The said relief is available to the nidhi companies, which have positive net owned funds in the ratio of 1
: 20 and as certified by their chartered accountants. Therefore, these nidhi companies which are founded on sound principles of finance could not
have any complaint. The restrictions have been imposed purely in the interest of the general public and not in violation of the fundamental rights,
guaranteed under the Constitution of India.
On the above pleadings, Mr. C.A. Sundaram, learned senior counsel for the petitioner in W.P. No. 10063 of 1996, and R. Krishnamoorthy,
learned senior counsel for the petitioner in W.P. No. 10427 of 1996, have projected their respective cases in their characteristic manner and the
following common legal points arise for consideration :
(1) The nidhi companies notified u/s 620A of the Companies Act are outside the ambit of the 1977 Directions;
(2) The nidhi companies like those of the petitioners are not mutual financial institutions;
(3) The impugned notification relating to the ceiling on rates of interest is arbitrary and in violation of article 14 of the Constitution of India;
(4) The restriction on payment of commission, brokerage, etc., is also unreasonable and in violation of articles 14 and 19(1)(g) of the Constitution
of India; and
(5) The restriction of the publication of advertisements is in violation of articles 14 and 19(1)(a) of the Constitution of India.
I will first refer to the various provisions of law, which require consideration as well as the impugned notification issued after the filing of the writ
petitions. Section 620A of the Companies Act is the first legal provision, under which all the petitioners seek umbrage. Section 620A of the
Companies Act reads as follows :
620A. Power to modify Act in its application to nidhis, etc. - (1) In this section, ''nidhi'' or ''mutual benefit society'' means a company which the
Central Government may, by notification in the Official Gazette, declare to be a nidhi or mutual benefit society, as the case may be.
(2) The Central Government may, by notification in the Official Gazette, direct that any of the provisions of this Act specified in the notification -
(a) shall not apply to any nidhi or mutual benefit society, or
(b) shall apply to any nidhi or mutual benefit society with such exceptions, modifications and adaptations, as may be specified in the notification.
(3) A copy of every notification issued under sub-section (1) shall be laid as soon as may be after it is issued, before each House of Parliament.
It is not in dispute that all the writ petitioners have been notified under the said section. Sections 58A and 58B may also be referred to because
they relate to deposits which may be invited or accepted by a company either from the public or from its members. The next provision of law
which has relevance is the notification issued u/s 637A of the Companies Act. A notification was issued on December 4, 1995 [See [1996] 85
Comp Cas (St.) 2.], which has elaborately placed restrictions on such nidhi companies notified u/s 620A of the Companies Act. It is not necessary
to go through the entire regulations, dated December 4, 1995, except to say that the nidhi companies have been prevented from carrying on
business in chit fund, hire purchase, etc. There is a direction to maintain membership at not less than 1,000 members at any time. The argument of
the petitioners is that they are governed and monitored only by the Central Government u/s 620A and other provisions of the Companies Act. In
other words, the regulations issued by the Reserve Bank of India do not come anywhere near the activities of the nidhi companies. It is now
worthwhile to refer to the Reserve Bank of India Act, 1934. We have already seen that Chapter III-B was introduced with effect from 1963. It
will be worthwhile to notice that Chapter III-A relates to banking companies, whereas Chapter III-B relates to non-banking institutions, receiving
deposits as well as the financial institutions. Chapter III-C relates to the acceptance of deposits by unincorporated bodies. It is thus clear that the
Reserve Bank of India has been taking steps now and then to protect the interest of the general public in the matter of making deposits blindly
without examining the risks involved in making such deposits purely because of the high rate of interest offered by such corporate and
unincorporated bodies.
In the above background, we can now examine the provisions of Chapter III-B, with which we are concerned in all these writ petitions.
Section 45-I is the definition clause and we are only concerned with the definition of the words ""financial institution"". Clause (c) of section 45-I of
the Reserve Bank of India Act, 1934 defines ""financial institution"" :
(c) ''financial institution'' means any non-banking institution which carries on as its business or part of its business any of the following activities,
namely :- ...
Section 45J of the Reserve Bank of India Act, 1934, enables the bank to regulate or prohibit issue of prospectus or advertisement, soliciting
deposits of money.
Section 45K of the Reserve Bank of India Act, 1934, enables the bank to collect information from non-banking institutions as to deposits and
to give directions.
Section 45L of the Reserve Bank of India Act, 1934, enables the bank to call for information from financial institutions and to give directions.
Section 45-Q of the Reserve Bank of India Act, 1934, is a very important provision, which reads as follows :
45-Q. Chapter Ill-B to override other laws. - The provisions of this Chapter shall have effect notwithstanding anything inconsistent therewith
contained in any other law for the time being in force or any instrument having effect by virtue of any such law...
The crucial Directions issued by the Reserve Bank of India which is the subject-matter of dispute between the parties is the Non-Banking
Financial Companies (Reserve Bank) Directions, 1977, issued under the powers conferred by sections 45J, 45K and 45L of the Reserve Bank of
India Act. On June 20, 1977, those Directions were issued in supersession of the earlier Directions issued on October 29, 1966. I have already
referred to these directions as the 1977 Directions. Paragraph 2 of the said Directions relates to the definition of the various words used in the
Directions. We are concerned only with paragraph 2(k) of the Non-Banking Financial Companies (Reserve Bank) Directions, 1977, which defines
the mutual benefit financial company in the following manner :
(k) ''mutual benefit financial company'' means any company which is a financial institution and which is notified by the Central Government u/s
620A of the Companies Act, 1956 (1 of 1956).
The argument of the petitioners to escape from the above definition clause is to place reliance on the word ''financial institution'' and contend
that a nidhi company is not a ''financial institution. While on the 1977 Directions, it is necessary to refer to paragraph 3 which exempts certain kinds
of deposits from paragraphs 4 to 12 and 16 of the Directions. Paragraph 4 says that a mutual benefit financial company shall not accept or renew
any deposit except from its shareholders. Sub-paragraph (3) of paragraph 4 exempts a mutual benefit financial company from paragraphs 5, 7, 10,
10A, 11, 12, 13A and 16 of the Directions. It will thus be seen that most of the paragraphs have been exempted from its application to a mutual
benefit financial company. The impugned notification, dated July 6, 1996, has amended the 1977 Directions by introducing sub-paragraphs (1A)
and (1B), after sub-paragraph (1) in paragraph 4 of the Directions. The sub-paragraphs introduced are as follows (see [1997] 88 Comp Cas (St.)
159) :
(1A) Notwithstanding anything contained in paragraph 10A(b) of the Directions, no mutual benefit financial company shall pay any brokerage,
commission, incentive or any other benefit by whatever name called to any person for deposits collected by it.
(1B) Notwithstanding anything contained in paragraph 16 of the Directions, no mutual benefit financial company shall issue advertisement in any
form and in any media like billboards, hoardings, newspapers, magazines, television, etc., for inviting or causing to invite deposits from its
shareholders.
Further, in sub-paragraph (3) of paragraph 4, the exemption granted to a mutual benefit financial company is modified by stating that only
paragraphs 5, 7, 10, 11, 12 and 13A of the Directions are exempted. In other words, after the impugned notification, paragraphs 10A and 16 of
the Directions are made applicable to the mutual benefit financial companies. Further, in the communication of the Reserve Bank of India
addressed to all the mutual benefit financial companies, it was made clear that the nidhi companies are also covered by the 1977 Directions and the
impugned notification. It is worthwhile to notice the letter of the Reserve Bank of India, dated July 6, 1996, which reads as follows :
You are aware that NBFCs, popularly known as nidhis, have been exempted from most of the provisions of the Non-Banking Financial
Companies (Reserve Bank) Directions, 1977 (NBFC Directions), relating to rate of interest payable on their deposits, period of deposit,
maintenance of liquid assets and information to be furnished in advertisements inviting deposits. Of late, it has come to our notice that certain
NBFCs have been offering very high rates of interest on their deposits and aggressively issuing advertisements for soliciting deposits. They also pay
brokerage on the deposit collected by them from their members.
The Reserve Bank has reviewed the deposit acceptance activities of the NBFCs and it has been decided as under.
To complete the narration, it is necessary to refer to the press release, dated August 24, 1996, issued after the filing of these writ petitions. In
and by this press release, the mutual benefit financial companies including the nidhi companies are granted freedom to fix their own rate of interest
on the deposits selectively on a case to case basis. The exemption from the interest rate ceiling will be allowed to such companies, which have
complied with the following conditions :
(i) The nidhi company has complied with the directions contained in the Government of India, Department of Company Affairs Notification No.
G.S.R. 773(E), dated December 4, 1995 [See [1996] 85 Comp Cas (St.) 2.].
(ii) The net owned fund of the nidhi company is positive as on March 31, 1996.
(iii) The nidhi company is and will be in a position to repay the amount of its liabilities including the interest payable to the depositors as and when
their claims arise.
(iv) The ratio of net owned fund to deposits of the nidhi company does not exceed 1 : 20, as on the date of the application.
(v) The compliance with the above requirements should be certified by the nidhi company''s statutory auditors being the members of the Institute of
Chartered Accountants of India.
The eligible NBFCs should approach the concerned Regional Office of the Department of Supervision (Financial Companies Wing) of RBI under
whose jurisdiction their registered offices are situated, with their application for exemption from the interest rate ceiling restriction furnishing relevant
information and documents evidencing the companies with the aforesaid conditions.
The above press release was the result of a number of requests from the chamber of nidhis, nidhi companies and individual depositors as well as by
other associations.
In the background, I will now take up the points urged by learned senior counsel :
Point No. 1. - Are the nidhi companies outside the jurisdiction of the 1977 Directions and consequently the impugned notification, dated July 6,
1996, without jurisdiction and unconstitutional ?
The argument is that even though paragraph 2(k) of the 1977 Directions, defines a mutual benefit financial company as a financial institution and
which is notified u/s 620A of the Companies Act, the nidhi companies, it is argued, do not satisfy the definition because they are not financial
institutions. For this purpose we can refer to section 45-I(c) of the Reserve Bank of India Act. I have already extracted the definition. According
to learned senior counsel for the petitioners, the nidhi companies are not financing any activity other than their own. Therefore, a nidhi company is
not a financial institution. Consequently, paragraph 2(k) of the Directions will not be extended to the nidhis. On the other hand, Mr. Habibulla
Basha, learned senior counsel for the respondent, argues that a nidhi company obviously finances its members who carry on activities other than
the activity of the nidhi company. In other words, the members of a nidhi company may be carrying on different activities like a trading activity or
any other activity for that matter. When the nidhi company advances loans to such members, they are certainly advancing loans to an activity other
than their own, meaning the activity of the nidhi company is only that of a financial company. In this connection, reference is made to the other
clauses of a financial institution as defined in clause (c) of section 45-I. It is argued that sub-clause (i) will relate only to a loan company as defined
in paragraph 2(j) of the 1977 Directions. It is rather difficult to accept the argument of the petitioners. This is because the definition in paragraph
2(k) of the 1977 Directions is very clear and the same relates to the mutual benefit financial companies notified u/s 620A of the Companies Act. It
has not been brought to my notice that there are any other mutual benefit financial companies notified under the said section 620A of the
Companies Act which are financial institutions. To satisfy paragraph 2(k), the company must be notified u/s 620A of the Act and must also be a
financial institution. Even on the basis of the argument of the petitioners, I am fully satisfied that the nidhi companies are, in fact, financial institutions
within the meaning of clause (c) of section 45-I of the Reserve Bank of India Act, 1934. This is because a nidhi company is certainly advancing
loans to its members all of whom are carrying on different activities, other than the activity of the nidhi company. I, therefore, hold that the
petitioners squarely fall within the definition of the word ""financial institution"" and consequently fall within paragraph 2(k) of the 1977 Directions.
I am fully supported in my view by the observations contained in the Guide to the Company Deposits Non-banking Companies Chit Funds
Commercial Paper and Credit Rating by K.V. Shanbhogue/K. Ganesan, fifth edition, 1996. The said authors, while considering the applicability of
the 1977 Directions, observe in paragraph 1406 as follows :
''Mutual benefit financial company'', means any company which is a financial institution and which is notified by the Central Government u/s 620A
of the Companies Act, 1956 (paragraph 2(1)(k)). Such companies are peculiar to South India, particularly Tamil Nadu. They are para-banking
institutions accepting deposits (savings, recurring and fixed deposits) and granting loans to their shareholders only. Under the Directions mutual
benefit financial companies are prohibited from accepting deposits from persons other than their shareholders.
It is further observed that to be a financial institution as such, it is sufficient if it carries on as its business or part of its business (i.e., not
necessarily as its principal business), any of the activities listed in sub-clauses (i) to (vi) of section 45-I(c) of the Reserve Bank of India Act, 1934.
Therefore, it is idle on the part of the petitioners to contend that they are not governed by the 1977 Directions.
Further, as argued by Mr. Habibulla Basha, learned senior counsel for the respondents, the nidhi companies have all along complied with
paragraphs 4, 6, 8 and 13 of the 1977 Directions. In fact, there is no averment to the contrary in any of the affidavits filed by the petitioners. Now
that the 1977 Directions have been amended by making paragraphs 10A and 16 applicable to mutual benefit financial companies, the petitioners
cannot feel aggrieved because it is the duty of the Reserve Bank of India to monitor all the non-banking financial companies, including the nidhi
companies. All that can be said in favour of the nidhi companies is that the 1977 Directions were not made applicable to them except paragraphs 1
to 4, 6, 8, 9, 10B and 11 and 13 to 15 of the Directions. In my opinion, looking from any angle, the petitioners cannot escape the applicability of
the 1977 Directions and consequently, the impugned notifications.
Mr. C.A. Sundaram, however, made an alternative argument that a nidhi company is not at all a mutual benefit financial company. For this
purpose, he relied on the judgment of the Supreme Court in Commissioner of Income Tax,Madras Vs. Kumbakonam Mutual Benefit Fund Ltd., .
I have carefully looked into the said decision, bearing in mind the arguments of Mr. Habibullah Basha, learned senior counsel for the respondents.
In that case, Kumbakonam Mutual Benefit Fund Limited, a nidhi company, notified u/s 620A of the Companies Act, was receiving interest on the
loans advanced by it to its own members and the said interest constituted its main source of income. From the said interest received by the nidhi
company, the company not only paid interest on recurring and other deposits, but also the other outgoings and expenses of management. The
balance of the income was divided among the members pro rata, according to their shareholdings, after making provision for reserves, etc. It has
to be noticed that the shareholders who are thus entitled to participate in the profits need not have either taken loans or have made recurring or
other deposits. Both the Income Tax Officer and the Appellate Tribunal had held that the assessee (nidhi company) was a banking concern and
that, therefore, the income was assessable. The following question was referred to this court, ""whether there were materials for the Tribunal to hold
that the assessee is a banking concern assessable u/s 10 for all the assessment years and not exempt ?"" This court answered the said question in
the negative. But the Supreme Court reversed the judgment of this court and answered the said question in the affirmative. In doing so, the
Supreme Court considered whether the cardinal requirement, namely, that all the contributors to the common fund are entitled to participate in the
surplus and all the participators in the surplus are contributors to the common fund was present in the case. In other words, the apex court had to
consider whether there was complete identity between the contributors and the participators. They have adopted the views of Rowlatt J. in
Thomas v. Richard Evans and Company [1926] II TC 790 and held that if profits are distributed to shareholders as share-holders, the principle of
mutuality is not satisfied. Therefore, Mr. C.A. Sundaram, learned senior counsel, argues that there is no mutuality in the case of the petitioner
companies.
I have elaborately set out the facts in Commissioner of Income Tax,Madras Vs. Kumbakonam Mutual Benefit Fund Ltd., with a view to
understand the argument of Mr. C.A. Sundaram. I am unable to see how the said judgment helps the petitioners. The following observation of the
Supreme Court towards the concluding portion of the judgment would make the position clear (at page 249) :
It seems to us that it is difficult to hold that Styles'' case applies to the facts of the case. A shareholder in the assessee-company is entitled to
participate in the profits without contributing to the funds of the company by taking loans. He is entitled to receive his dividend as long as he holds a
share. He has not to fulfil any other condition. His position is in no way different from a shareholder in a banking company, limited by shares.
Indeed, the position of the assessee is no different from an ordinary bank except that it lends money to and receives deposits from its shareholders.
This does not by itself make its income any the less income from business within section 10 of the Indian Income Tax Act.
Further, the said judgment was rendered totally in different circumstances. In the case before us, for the applicability of paragraph 2(k) of the
1977 Directions, what is required is that a nidhi company must be a notified company u/s 620A of the Companies Act and also a financial
institution. I have held already that the petitioners are financial institutions. It is not in dispute that they are notified u/s 620A of the Companies Act.
Therefore, paragraph 2(k) of the 1977 Directions squarely applies to the petitioners.
There is one last attempt made by Mr. C.A. Sundaram, learned senior counsel, for the petitioners citing a decision of the Supreme Court in
M/s. Rohit Pulp and Paper Mills Ltd. Vs. Collector of Central Excise, Baroda, , in which the Supreme Court was concerned with the question
whether art paper and chromo paper manufactured from unconventional raw materials are entitled to concessional rates prescribed by a particular
notification. The said two types of paper fall under the category ""printing and writing paper"". They also fall under the description ""coated paper
used in the notification. The apex court held that the only reasonable way of interpreting the notification was by understanding the words ""coated
paper"" in a narrower sense consistent with the other expressions used therein. Thus, they held that only ""coated paper"" used for industrial purposes
and not coated varieties of printing and writing paper came within the purview of the notification. In doing so, they applied the principle of noscitur
a sociis. That expression simply means that ""the meaning of a word is to be judged by the company it keeps"".
Argues Mr. C.A. Sundaram, learned senior counsel, for the petitioners that in the context of the word ""financial company"" being used in the
company of several other named financial companies, the sine qua non for the applicability of the 1977 Directions is the requirement of finance as
business and not anything as business. Therefore, he argues that applying the said principles of noscitur a sociis, the nidhi companies cannot be
equated to the other financial companies mentioned in the 1977 Directions. I am totally unable to agree with this argument. First of all it is difficult
to accept the proposition that a nidhi company is not engaged in the business of finance. I have already held that it is a financial institution. I have
also referred to the fact that the nidhi companies advance loans to their members who are all engaged in different kinds of trade. The attempt of the
petitioners to invoke the above principle, does not, in my opinion, advance their case. Consequently, this argument also fails.
Mr. R. Krishnamoorthi, the learned senior advocate appearing for the petitioner, in Writ Petition No. 10427 of 1996 has adopted the
arguments of Mr. C.A. Sundaram, in so far as the applicability of the 1977 Directions are concerned. I do not propose to refer to the arguments
once again in this judgment because I have already rejected the arguments of Mr. C.A. Sundaram. Mr. R. Krishnamoorthi, however, elaborates on
the other aspects of the case as to how the restrictions are in violation of articles 14 and 19 of the Constitution of India.
Points Nos. 3 and 4 :
The ceiling on rate of interest and whether the restriction on brokerage violates articles 14 and 19(1)(g) of the Constitution of India. - It is pointed
out that in the 1977 Directions, paragraphs 10A and 16 were not applicable to mutual benefit financial companies. Paragraph 10A relates to the
ceiling on the rate of interest and brokerage, while paragraph 16 relates to the restrictions on advertisements. In and by the impugned notifications,
paragraphs 10A and 16 are made applicable to mutual benefit financial companies, including nidhi companies. According to Mr. R.
Krishnamoorthy, the learned senior advocate, there was a well recognised difference between nidhi companies or mutual benefit financial
companies and other non-banking financial companies. That was precisely the reason why paragraphs 10A and 16 were made inapplicable to
mutual benefit financial companies. By the present notification, the respondents are seeking to treat unequals as equals. Therefore, the impugned
notifications are hit by article 14 of the Constitution of India. Reference is made to Jalan Trading Co. (Private Ltd.) Vs. Mill Mazdoor Union, ,
Muktinarain Jha and Others Vs. State of Bihar, and Laxmi Khandsari and Others Vs. State of U.P. and Others, . The argument is that the interests
of the investors are fully secured by the existing regulations and notifications issued u/s 637A of the Companies Act. There are no materials for
imposing the present restrictions, and, therefore, the observations of the Supreme Court in Dr. K. R. Lakshmanan Vs. State of Tamil Nadu and
another, , would directly come into play. In the last mentioned decision, the Tamil Nadu Gaming Act and Madras Race Club (Acquisition and
Transfer of Undertaking) Act, 1986, were held to be violative of article 14 of the Constitution of India. One of the main reasons given was that
there were no materials on record to show that an enquiry or investigation was held by the State Government into the affairs of the club. In Jalan
Trading Co. (Private Ltd.) Vs. Mill Mazdoor Union, , emphasis was laid on the restrictions having a reasonable nexus to the objects sought to be
achieved. But it has got to be remembered that in the very same decision, the apex court has observed as follows :
If the classification is not patently arbitrary, the court will not rule it discriminatory merely because it involves hardship or inequality of burden.
With a view to secure a particular object a scheme may be selected by the Legislature, the wisdom whereof may be open to debate; it may even
be demonstrated that the scheme is not the best in the circumstances and the choice of the Legislature may be shown to be erroneous, but unless
the enactment fails to satisfy the dual test of intelligible classification and rationality of the relation with the object of the law, it will not be subject to
judicial interference under article 14. Invalidity of legislation is not established by merely finding fault with the scheme adopted by the Legislature to
achieve the purpose it has in view. Equal treatment of unequal objects, transactions or persons is not liable to be struck down as discriminatory
unless there is simultaneously absence of a rational relation to the object intended to be achieved by the law. The plea of invalidity of section 10 on
the ground that it infringes article 14 of the Constitution must, therefore, fail.
In Pathumma and Others Vs. State of Kerala and Others, , as many as seven guidelines have been prescribed to determine the reasonableness
of a restriction.
According to Mr. R. Krishnamoorthi, learned senior counsel, the second and fifth guidelines mentioned therein have been violated. The second
guideline relates to the excessive nature of the restriction and the fifth guideline relates to the proximate nexus or a reasonable connection between
the restriction imposed and the object sought to be achieved. Here again, I do not accept the argument, because the Reserve Bank of India has
been witnessing the mobilisation of resources from the public in a major way by issue of advertisements either by themselves or through brokers.
Raising finance by way of deposits became attractive because no security need be given and no approval from any authorities was needed. The
Reserve Bank of India has also noticed the mushrooming of companies, some of which had the object of cheating the unwary public by offering
unworkable rates of interest and incentives. The Reserve Bank of India in the role of the central bank of the country, entrusted with the task of
controlling and regulating the credit of the country, could not sit idle when the corporate sector and the unincorporated bodies were going on
raising finance through public deposits in an unbridled manner. The role of the Reserve Bank of India has been emphatically recognised by the apex
court in Peerless General Finance and Investment Co. Limited and Another Vs. Reserve Bank of India, . The following passages illustrate the point
:
A combined reading of the above provisions unmistakably goes to show that the Reserve Bank of India, if it considers it necessary in the public
interest so to do can specify the conditions subject to which any prospectus or advertisement soliciting deposits of money from the public may be
issued. It can also give directions to non-banking institutions in respect of any matters relating to or connected with the receipt of deposits,
including the rates of interest payable on such deposits, and the periods for which deposits may be received. This latter power flows from
subsection (3) of section 45K of the Act. The bank under this provision can give directions in respect of any matters relating to or connected with
the receipts of deposits. In our view, a very wide power is given to the Reserve Bank of India to issue directions in respect of any matters relating
to or connected with the receipt of deposits.
Again, the apex court observed as follows (see Peerless General Finance and Investment Co. Limited and Another Vs. Reserve Bank of India,
:
Before examining the scope and effect of the impugned paragraphs 6 and 12 of the Directions of 1987, it is also important to note that the
Reserve Bank of India which is a bankers'' bank is a creature of statute. It has a large contingent of expert advisers relating to matters affecting the
economy of the entire country and nobody can doubt the bona fides of the Reserve Bank in issuing the impugned Directions of 1987. The Reserve
Bank plays an important role in the economy and financial affairs of India and one of its important functions is to regulate the banking system in the
country. It is the duty of the Reserve Bank to safeguard the economy and financial stability of the country.
Finally, the apex court gives a caution to the courts in the following words (at page 96 of 75 Comp Cas and page 1051 of AIR 1992 SC) :
Courts are not to interfere with economic policy which is the function of experts. It is not the function of the courts to sit in judgment over matters
of economic policy and it must necessarily be left to the expert bodies. In such matters even experts can seriously and doubtlessly differ. The
courts cannot be expected to decide them without even the aid of experts.
As rightly pointed out by Mr. Habibulla Basha, learned senior counsel appearing for the respondents, the Reserve Bank of India is embarking
upon several measures to control the mushrooming of finance companies offering high rates of interest. It is no doubt true that the nidhi companies
are slightly different from the other mutual benefit finance companies. That does not mean that they can go uncontrolled. The counter-affidavit sets
out the elaborate study undertaken before imposing the restrictions. It may be that as on date some of the nidhi companies are in a sound state of
finance. But it is for the Reserve Bank of India to see the future and to take appropriate remedial measures in advance. It is not as if the
unincorporated bodies could be left scot-free to do anything as they like. The Reserve Bank of India has to act swiftly to place sufficient
restrictions on such unincorporated bodies which are referred to in Chapter III of the Reserve Bank of India Act, 1934. The fact that the Reserve
Bank of India is alive to the representations of the public is seen from the notification issued on August 24, 1996, watering down the impugned
notification. Much criticism has been made as to the manner in which the study team had undertaken the job. In my opinion, following the
observations of the Supreme Court in Peerless General Finance and Investment Co. Limited and Another Vs. Reserve Bank of India, , it would be
improper to dwell on the manner in which the study was undertaken.
I have already indicated the systematic manner in which the Reserve Bank of India has been imposing restrictions on banking companies, non-
banking companies, chit funds and several other financial companies and, lastly, the unincorporated bodies. No discrimination can be attributed to
the manner in which the Reserve Bank of India has been imposing the restrictions. Their only object is to see that the credit of the country is
controlled and regulated, and no motives could be attributed to the Reserve Bank of India. No doubt, the unincorporated bodies are not yet fully
controlled. But, as rightly pointed out by Mr. Habibullah Basha, the last word has not yet been spoken. Therefore, on this ground, the petitioners
cannot escape the restrictions which according to me are quite reasonable especially after the clarifications have been issued on August 24, 1996.
The next argument of the petitioners is that they are advancing loans only on prescribed security and that there is no danger of the nidhi
companies getting into an unsound financial position. Secondly, it is pointed out that they pay interest on deposits only in the range of 18 per cent.
to 21 per cent. per annum, whereas their lending rate ranges from 22 to 24 per cent. per annum. Therefore, it is contended that there is absolutely
no basis for the apprehension of the Reserve Bank of India that a ceiling has got to be fixed on the rate of interest in respect of the nidhi
companies. According to the petitioners, the Reserve Bank of India has only the unincorporated bodies in mind while imposing the present
restrictions. I cannot impute such lack of knowledge on the part of the Reserve bank of India. I have already referred to the study undertaken by
the Reserve Bank of India before imposing the restrictions. It has been pointed out that out of the 15 notified nidhi companies as many as three
nidhi companies were having negative net owned fund. The ratio of net owned fund to deposits varied between 1 : 21 and 1 : 144 and in one case,
the ratio stood as high 1 : 276. In the case of one nidhi company in the northern region, interest was being offered on deposits at such a high rate as
40 per cent. per annum. It may be one of the extreme cases, but even then, when a study is undertaken, the Reserve Bank of India has certainly
the necessary criteria and materials on the basis of which they had decided to impose certain restrictions. The foresight of the Reserve Bank of
India in apprehending an approaching disease cannot be easily ignored or underestimated.
It has been contended by the petitioners that the clarification issued on August 24, 1996, is absolutely useless because none of the nidhi
companies can show a net owned fund sufficient enough to claim the ratio of 1 : 20. According to the petitioners, it is impossible of performance
and incapable of compliance. Therefore, it is argued that the entire notification is arbitrary. The above difficulty as experienced by the nidhi
companies cannot be cited as ground for nullifying the impugned notifications. One has to keep in mind the observations of the Supreme Court in
Jalan Trading Co. (Private Ltd.) Vs. Mill Mazdoor Union, . Equally unacceptable is the argument of learned senior counsel for the petitioners that it
is open to the respondents to take necessary action against the defaulting nidhi companies and not to impose restrictions on all the nidhi companies
because of one or two defaulting members. I have already adverted to the fact that the respondents have already undertaken a study and the
restrictions have been imposed only on the basis of such a study. It is not open to the court to hold that the study itself is defective and that,
therefore, the consequences of the study in the shape of the impugned notification has got to be struck down. One has to remember that in such
financial activities the Reserve Bank of India has to innovate and implement new schemes or regulations and where necessary they do not hesitate
to amend or modify the regulations or schemes. It is always on a trial and error basis.
In this connection, ""net owned funds"" has been defined in the 1977 Directions as follows :
For the purpose of this paragraph ''net owned fund'' shall mean the aggregate of the paid-up capital and free reserves as appearing in the latest
audited balance-sheet of the company as reduced by the amount of accumulated balance of loss, deferred revenue expenditure and other intangible
assets, if any, as disclosed in the said balance-sheet.
It is thus seen that even in the year 1977 in respect of non-banking financial companies other than the mutual benefit financial company, certain
restrictions were imposed with reference to the ""net owned fund"". The clarification issued on August 24, 1996, relaxing the ceiling on interest in
respect of nidhi companies having ""net owned funds"" in relation to deposits in the ratio of 1 : 20, is not, therefore, a new innovation but the usual
mode adopted by the Reserve Bank of India for subserving the cause of investors.
No hard and fast rule and no ideal formula can straightaway be achieved. Therefore, the courts have to be slow in interfering with such
restrictions, one has to wait and see whether such restrictions will also be imposed on the unincorporated bodies, who are going scot free, as on
date.
There is one other ground on which the petitioners have to fail in their attempt to invalidate the impugned notification, as being violative of
articles 14 and 19 of the Constitution of India. I have already referred to section 45J of the Act, enabling the Reserve Bank of India to regulate or
prohibit the issue of prospectus or advertisements, soliciting deposits of money, and section 45L of the Act, enabling the Reserve Bank of India to
call for information from financial institutions and to give directions. These provisions of law have not been challenged in any of the writ petitions.
Nor have the petitioners challenged the 1977 Directions. While so, the attempt of the petitioners to challenge the impugned notification withdrawing
the exemption granted in respect of certain paragraphs of the 1977 Directions, loses its force because these paragraphs have now been made
applicable on the basis of a study undertaken by the respondents. In this connection, one has to keep in mind the strong language in which the
Supreme Court of India upheld the validity of similar Directions issued in the year 1978 in respect of prize chits and money circulation schemes.
The observations of Khalid J. in Reserve Bank of India v. Peerless General Finance and Investment Co. Ltd. [1987] 61 Comp Cas 663 : AIR
1987 SC 1023, is apposite (at page 697 of 61 Comp Cas) :
I share my brother''s concern about the mushroom growth of financial companies all over the country. Such companies have proliferated. The
victims of the schemes, that are attractively put forward in public media, are mostly middle class and lower middle class people. Instances are
legion where such needy people have been reduced penniless because of the fraud played by such financial vultures. It is necessary for the
authorities to evolve fool-proof schemes to see that fraud is not allowed to be played upon persons who are not conversant with the practice of
such financial enterprises who pose themselves as benefactors of people.
I, therefore, hold that the restrictions placed on the rate of interest and the restrictions placed on payment of brokerage, commission, etc., are
reasonable and purely in the interest of the general public. It has to be remembered that the nidhi companies are having dealings only with their
members. Therefore, there is absolutely no need or necessity for payment of brokerage, commission or any other type of canvassing. One must
remember that there is no use of taking action after a catastrophe happens, as in the case of the unincorporated bodies. An action taken well in
advance purely with the interest of the investors and the general public in mind, cannot be nullified on mere apprehensions.
Point No. V. - Are the restrictions imposed on the issue of advertisements in any form in any media for inviting deposits, violative of articles 14
and 19(1)(a) of the Constitution of India ?
To start with, I have already referred to the fact that section 45J of the Act enables the Reserve Bank of India to regulate or prohibit the issue
of prospectus or advertisement soliciting deposits of money. This parent and enabling provision of law has not been challenged. Once it is held that
nidhi companies are governed by the 1977 Directions subject to the exemptions contained therein, the petitioners cannot challenge the power of
the Reserve Bank of India to issue directions u/s 45J of the Reserve Bank of India Act. The second major hurdle in the petitioners challenging the
above restrictions is that the petitioners have dealings only with its members. In more than one place they emphasise this aspect of the case for
seeking special protection. If that is so, where is the necessity for issuing advertisements in any media soliciting deposits ? In this connection, I am
tempted to refer to a passage in the counter-affidavits of respondents Nos. 1 and 2. It is as follows :
As regards para 5, although nidhis are prohibited from acceptance of deposits from the public, any person who wants to make deposits with the
nidhis can become member by paying just Re. 1, and, thereafter, make deposits with the nidhis. Hence, practically nidhis are accepting deposits
from the public.
The present attempt of the petitioners to pet rid of all the restrictions on advertisements only proves the stand of the respondents that the
petitioners are in fact seeking deposits from the members of the public. At any rate, the apprehension of the Reserve Bank of India, that if the nidhi
companies are not controlled, in time, there is every likelihood of such nidhi companies being equated to the unincorporated bodies who are
soliciting deposits by offering attractive rates of interest and incentives. The Reserve Bank of India had sufficient materials for entertaining such an
apprehension on the basis of the study undertaken by them, as disclosed in the counter-affidavit.
With this background, I will now examine the attack as projected by Mr. R. Krishnamurthy, learned senior counsel, for the petitioners in W.P.
No. 10427 of 1996. The first case on the subject is Hamdard Dawakhana and Another, Kalipada Deb and Another, Lakshman Shripati Itpure @
Lakshman Shripati Impore and A.B. Choudhri and Another Vs. The Union of India (UOI) and Others, . The following observations of the apex
court succinctly bring out the ratio :
It cannot be said, therefore, that every advertisement is a matter dealing with freedom of speech nor can it be said that it is an expression of ideas.
In every case one has to see what is the nature of the advertisement and what activity falling under article 19(1) it seeks to further. The
advertisements in the instant case relate to commerce or trade and not to propagating of ideas; and advertising of prohibited drugs or commodities
of which the sale is not in the interest of the general public cannot be speech within the meaning of freedom of speech and would not fall within
article 19(1)(a). The main purpose and true intent and aim, object and scope of the Act is to prevent self-medication or self-treatment and for that
purpose advertisements commending certain drugs and medicines have been prohibited. Can it be said that this is an abridgement of the
petitioners'' right of free speech. In our opinion it is not.
No doubt, much water has flown after the judgment in Hamdard Dawakhana and Another, Kalipada Deb and Another, Lakshman Shripati
Itpure @ Lakshman Shripati Impore and A.B. Choudhri and Another Vs. The Union of India (UOI) and Others, . Even so, as rightly pointed out
by Mr. Habibulla Badha, learned senior counsel, the ratio as adumbrated by the apex court in the said case, has not been reversed. For instance,
in Tata Press Ltd. Vs. Mahanagar Telephone Nigam Limited and Others, , the Supreme Court was considering whether the Union of India and its
own telephone company have the exclusive right to print and circulate a buyer''s guide comprising of classification of advertisements given by
businessmen, traders, etc. In this case, the apex court considered all the earlier judgments and concluded (at page 154) :
The combined reading of Hamdard Dawakhana and Another, Kalipada Deb and Another, Lakshman Shripati Itpure @ Lakshman Shripati
Impore and A.B. Choudhri and Another Vs. The Union of India (UOI) and Others, and Indian Express'' case [1985] SCC (Tax) 121, leads us to
the conclusion that ''commercial speech'' cannot be denied the protection of article 19(1)(a) of the Constitution merely because the same are issued
by businessmen.
The apex court further observed (at page 156) :
Examined from another angle, the public at large has a right to receive the ''commercial speech''. Article 19(1)(a) not only guarantees freedom of
speech and expression, it also protects the rights of an individual to listen, read and receive the said speech. So far as the economic needs of a
citizen are concerned, their fulfilment has to be guided by the information disseminated through the advertisements. The protection of article 19(1)
(a) is available to the speaker as well as the recipient of the speech. The recipient of ''commercial speech'' may be having much deeper interest in
the advertisement than the businessman who is behind the publication. An advertisement giving information regarding a life saving drug may be of
much more importance to the general public than to the advertiser who may be having purely a trade consideration.
Therefore, the Supreme Court came to the conclusion that the right guaranteed under article 19(1)(a) can only be restrained under article 19(2)
of the Constitution of India. In that particular case, the Supreme Court came to the conclusion that the private party cannot publish any ""list of
telephone subscribers"" but can publish yellow pages comprising paid advertisements, etc., because the latter relates to propagating ideas or useful
information.
We are dealing in this case with a totally different situation. It is not necessary to emphasise once again the scope of the Reserve Bank of India
Act and its powers. The preamble to the Reserve Bank of India Act itself gives an indication. The monetary stability of the country and the credit
system of the country are in the hands of the Reserve Bank of India. The directions given by the Reserve Bank of India under the various
provisions of law already referred to are with the intention of regulating the credit system of the country to its advantage. Therefore, any restriction
imposed on the banking companies, non-banking financial companies, shall clearly fall within article 19(2) of the Constitution of India. I am,
therefore, of the opinion that the restrictions relating to the advertisements are not hit by either article 14 or article 19(1)(a) or article 19(1)(g) of
the Constitution of India. The fifth point above mentioned also fails.
On behalf of the petitioners in W.P. No. 10428 and 10429 of 1996, a reply affidavit has been filed emphasising the peculiar features of the
nidhi companies and the lack of materials for withdrawing of the applicability of certain paragraphs of the 1977 Directions. Reliance is also placed
on Narendra Kumar and Others Vs. The Union of India (UOI) and Others, , on the following passages :
In applying the test of reasonableness, the court has to consider the question in the background of the facts and circumstances under which the
order was made, taking into account the nature of the evil that was sought to be remedied by such law, the ratio of the harm caused to individual
citizens by the proposed remedy, and the beneficial effect reasonably expected to result to the general public. It will also be necessary to consider
in that connection whether the restraint caused by the law is more than was necessary in the interests of the general public.
In the instant case, I have no doubt in my mind that the impugned restrictions have been imposed after a careful study of the present trends in
the economy of the country and solely with a view to protect the investors.
None of the points raised by the petitioners have found favour with me and I have rejected all the points raised by the petitioners.
Consequently, all the writ petitions fail and they are accordingly dismissed. There will, however, be no order as to costs.
In view of the disposal of the main writ petitions, no separate or further orders are necessary in the connected writ miscellaneous petitions and
they are closed.