The Rajasthan High Court has clarified that Reserve Bank of India circulars prohibiting prepayment charges apply exclusively to individual borrowers for non-business purposes, affirming banks’ right to enforce contractual terms in commercial lending. This judgment reinforces the primacy of agreed sanction conditions over broad regulatory exemptions.
Background & Facts
The Dispute
The petitioner, A.U. Small Finance Bank Limited, extended an overdraft facility to the respondent-firm, M/s Amberwala, for agricultural enterprise purposes in January 2019. Subsequent to the COVID-19 pandemic, the firm repaid the entire loan amount ahead of schedule in October 2021. The bank levied prepayment charges amounting to Rs. 12,70,890 as stipulated in the sanction letter, which included a 5% charge if repaid within 12 months and 3% thereafter.
Procedural History
- January 2019: Loan facility sanctioned under terms permitting prepayment charges
- October 2021: Respondent repaid loan and deposited charges under protest via email
- December 2022: Respondent filed claim petition under Section 22(C)(1) of the Legal Services Authorities Act, 1987 before the Permanent Lok Adalat, Bikaner
- January 2024: Permanent Lok Adalat ordered refund of charges, citing pandemic hardship and payment under protest
- February 2024: Bank filed writ petition challenging the award
Relief Sought
The petitioner sought quashing of the Permanent Lok Adalat’s award and rejection of the respondent’s claim, arguing that the circulars cited by the Adalat did not apply to business loans and that the sanction letter’s terms were binding.
The Legal Issue
The central question was whether RBI circulars prohibiting prepayment charges on floating rate term loans extend to loans availed for business purposes, and whether a borrower’s payment under protest nullifies a clearly disclosed contractual obligation.
Arguments Presented
For the Petitioner
The bank contended that the RBI circulars dated 05.06.2012, 07.05.2014, and 02.08.2019 explicitly exempt business loans from the prohibition on prepayment charges. The sanction letter, signed by the respondent, clearly stipulated prepayment penalties at 5% or 3%, and the borrower had voluntarily accepted these terms. The bank further argued that payment under protest does not invalidate contractual obligations, especially when the bank did not consent to the protest.
For the Respondent
The respondent argued that the pandemic created exceptional hardship, compelling early repayment to prevent further losses. They relied on the email dated 22.10.2021 indicating payment under protest and contended that the Permanent Lok Adalat rightly considered equitable circumstances. They also suggested that the circulars, while framed for individual borrowers, should be interpreted broadly to protect borrowers in distress.
The Court's Analysis
The Court undertook a textual analysis of the three RBI circulars, emphasizing their explicit language. The 2012 circular applied to "home loans on floating interest rates," the 2014 circular extended the exemption to "all floating rate term loans sanctioned to individual borrowers," and the 2019 circular clarified that the exemption applies to "any floating rate term loan sanctioned, for purposes other than business, to individual borrowers with or without co-obligant(s)."
"The removal of foreclosure charges/prepayment penalty on home loans will lead to reduction in the discrimination between existing and new borrowers..."
The Court held that the phrase "for purposes other than business" in the 2019 circular was unambiguous and excluded commercial lending. The Court further noted that the sanction letter’s terms were not hidden or unconscionable; they were disclosed in writing and signed by the respondent. The Court rejected the argument that payment under protest created a legal right to refund, stating: "Payment under protest does not give a right to the respondent to seek refund of the same on the count that it did not agree to imposition of such foreclosure/pre-payment charges."
The Court emphasized that contractual autonomy in commercial lending is protected under the principle of pacta sunt servanda. The Permanent Lok Adalat erred in substituting its equitable assessment for the clear terms of the sanction letter and misapplying regulatory exemptions meant for retail borrowers.
The Verdict
The petitioner won. The Court held that RBI circulars prohibiting prepayment charges do not apply to business loans, and contractual terms in sanction letters are binding even if repayment is accelerated due to hardship. The Permanent Lok Adalat’s award was quashed, and the bank’s charges were upheld.
What This Means For Similar Cases
Prepayment Charges Are Valid in Business Loans
- Practitioners must advise clients that RBI’s prepayment exemptions apply only to individual borrowers for non-business purposes
- Banks may enforce prepayment penalties in commercial loans if clearly disclosed in sanction letters
- Consumer forums and Lok Adalats cannot override contractual terms based on hardship alone
Payment Under Protest Does Not Invalidate Contractual Obligations
- Depositing charges under protest does not create a legal ground for refund
- Banks are not obligated to accept payments marked as "under protest" - acceptance constitutes performance of contract
- Legal challenges must focus on unconscionability or fraud, not mere disagreement with terms
Sanction Letters Are Binding Legal Instruments
- All terms in sanction letters, including prepayment clauses, are part of the binding loan agreement
- Borrowers must review and understand all conditions before signing
- Courts will uphold written terms absent evidence of coercion, misrepresentation, or statutory violation
