The Ordinance prohibits lenders from demanding collateral for loans and requires microfinance institutions and similar lenders to release any securities already taken from borrowers.
Karnataka: The Karnataka High Court has reserved its verdict on a petition challenging the constitutional validity of the Karnataka Micro Loan and Small Loan (Prevention of Coercive Actions) Ordinance, 2025.
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The Ordinance, which became effective last month, aims to protect economically weaker and poor people from aggressive and coercive loan recovery practices.
Justice M Nagaprasanna briefly heard the matter and noted that the main concern is whether the Ordinance applies only to micro-finance institutions (MFIs) or to all types of lenders, including those dealing with borrowers who have agreements with MFIs.
Karnataka’s Advocate General (AG) Shashi Kiran Shetty argued that the Ordinance is designed to safeguard vulnerable borrowers taking microfinance loans. He mentioned that the petitioner association might not be directly affected by the Ordinance. However, the High Court acknowledged the petitioner’s concern that the Ordinance could potentially impact their loan recovery process.
Justice Nagaprasanna asked, “You should be clear in what you want. You are wanting only to protect only the microfinance (borrowers)…Then why do you add ‘money lending agencies, organisations, lenders, under an agreement, orally or in writing?”
In response, AG Shetty explained that micro-financing can occur in various ways.
He further clarified, “The State did not specifically define what a ‘microfinance’ loan is, since the Reserve Bank of India has already defined this term as ‘a collateral-free loan granted to a household with an annual income of up to Rs.3 lakh.'”
He added that the Ordinance was introduced after several suicides occurred due to financial distress among vulnerable borrowers.
“These are poor people who take money and they are tortured to the hilt…This is made for the purpose of a poor man not to get tortured…They (petitioner association) are here only because of ambiguity in the definition,” the judge remarked.
The Ordinance prohibits lenders from demanding collateral for loans and requires microfinance institutions and similar lenders to release any securities already taken from borrowers.
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One significant provision discharges ‘vulnerable’ borrowers from repaying loans that were given before the Ordinance took effect, especially if these loans were from unregistered or unlicensed micro-finance institutions or lenders.
The Karnataka Hire Purchase Association, which represents motor vehicle and asset financiers, argued that the Ordinance fails to clearly distinguish between predatory creditors and legitimate lenders. They emphasized that their business helps in asset creation and promotes economic growth and financial inclusion.
Senior Advocate Udaya Holla, representing the Association, stated,
“The definition of terms such as ‘borrower’ or ‘lender’ to whom the Ordinance is applicable is without any application of mind.”
The petition pointed out that the term “vulnerable” is defined without specifying income criteria, which could result in misuse.
The plea added,
“(Section 6 of the ordinance) effectively eliminates any legal claim that unregistered lenders may have on outstanding loans provided to vulnerable borrowers before the enactment of the Ordinance. While ostensibly aimed at alleviating financial distress, it places an undue burden on lenders who have advanced credit in good faith under existing legal frameworks. The blanket waiver could set a precedent that disrupts the financial ecosystem by discouraging legitimate lending to low-income groups, thereby reducing access to credit for those who need it most.”
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The Association argued that the Ordinance could impact financiers’ freedom of trade and their property rights. The plea urged the Court to either declare the Ordinance unconstitutional or clarify that motor vehicle and asset financing businesses are excluded from its scope.
The plea was filed through Advocate Sanjay H Sethiya.
[ Case Title: Karnataka Hire Purchase Association v. State of Karnataka and ors].
