Fraud classification after SBI v Amit Iron: Procedural clarity, unresolved consequences

The RBI’s 2024 Master Directions do not provide any appellate mechanism against a Fraud Order. Therefore, challenges are likely to continue to be mounted through writ petitions under Article 226 of the Constitution of India.

Following Rajesh Agarwal and Amit Iron, one obvious ground for challenge remains: procedural non-compliance. Although a personal hearing is not required, borrowers are entitled to an adequate opportunity to respond and access the material relied upon by the bank. Failure to satisfy these requirements may expose the Fraud Order to challenge.

Beyond procedural fairness, several other grounds may also be available depending on the facts:

• Non-speaking orders: The 2024 Master Directions require a reasoned order. Fraud Orders that merely record conclusions without explaining the basis for fraud classification may be rendered vulnerable to challenge.
• Arbitrariness and irrelevant considerations: A Fraud Order may be challenged where it ignores relevant material, relies upon irrelevant considerations, or is so arbitrary or irrational that no reasonable person could have arrived at such a decision (the Wednesbury test of unreasonableness).³
• Defective show-cause notice: The RBI framework requires the show-cause notice to set out complete details of the transactions, actions, and events forming the basis of the proposed fraud classification. Notices lacking sufficient particulars may undermine the validity of the subsequent Fraud Order.
• Defects in the forensic audit process: Questions may also arise regarding the preparation, authentication and reliability of the forensic audit report that forms the foundation of the fraud classification.
• Non-compliance with board-approved policies: Banks are required to maintain board- approved fraud risk management policies incorporating safeguards consistent with RBI directions and principles of natural justice. Failure to adhere to such policies may provide an additional basis for challenge.

Substantive challenges to the underlying finding of fraud may be more difficult. The definition of fraud under the RBI framework is drafted broadly and includes a residual category covering fraudulent conduct not specifically enumerated elsewhere. As a result, courts may be reluctant to interfere with the merits of a fraud determination absent clear perversity, arbitrariness, or lack of evidentiary support.

Perhaps the most significant unresolved issue is what happens after a successful challenge to a Fraud Order. This question assumes particular significance where criminal proceedings may already have been initiated pursuant to the Fraud Order.

The setting aside of a Fraud Order on account of non-compliance with principles of natural justice or procedural safeguards does not automatically bring the criminal proceedings to an end. In CBI v Surendra Patwa,⁴ the Supreme Court clarified that where an FIR is registered on the basis of an administrative action, the subsequent setting aside of that administrative action does not, by itself, nullify the FIR or the criminal proceedings arising from it. This position is consistent with the Court’s clarification in Rajesh Agarwal that the principles of natural justice, including the right to a hearing, do not apply at the stage of registering a criminal offence.

Rajesh Agarwal also relied upon the Supreme Court’s judgment in Anju Chaudhary v State of U.P.⁵ to reiterate that the law does not require a party to be heard before an FIR is registered. Consequently, an FIR registered pursuant to a Fraud Order does not become invalid merely because the Fraud Order is subsequently found to be defective. Independent tenable grounds would need to be demonstrated for challenging the FIR.

Further, Surendra Patwa clarifies that the setting aside an administrative action for violation of the principles of natural justice does not preclude the authorities from recommencing the administrative process after curing the procedural defect. Accordingly, an account holder aggrieved by a Fraud Order must not rest solely on a challenge to its procedural validity. Any consequential criminal proceedings may need to be challenged on their own substantive grounds, while the possibility of fresh administrative action also remains.

Amit Iron represents an important attempt to balance procedural fairness with the RBI’s objective of ensuring prompt identification and reporting of banking fraud.

The Court declined to expand natural justice requirements to mandate a personal hearing, recognising that excessive procedural requirements could impede the effectiveness of the fraud reporting framework. At the same time, its insistence on disclosure of audit reports reinforces the principle that borrowers must have a meaningful opportunity to understand and respond to the allegations against them before serious consequences are imposed.

For banks, the message is clear: strict compliance with the procedural framework is likely to be the most effective safeguard against future challenges. For borrowers, however, the more difficult questions may arise after a Fraud Order is set aside. The ongoing effects of criminal proceedings and other collateral consequences remain an area where the law is still evolving.