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CASE NO.:

Special Leave Petition (civil) 2421 of 1993

PETITIONER:

CENTRAL BANK OF INDIA

RESPONDENT:

RAVINDRA AND ORS.

DATE OF JUDGMENT: 18/10/2001

BENCH:

DR. A.S. ANAND CJ & K.T. THOMAS & R.C. LAHOTI & N. SANTOSH HEGDE & S.N.

VARIAVA

JUDGMENT:

JUDGMENT

2001 ( 4 ) Suppl. SCR 323

Special Leave Petition (C) No. 2421 of 1993.

WITH

C.A. Nos. 3964, 3967/92, S.L.P. (C) No. 3954/94, S.L.P.(C) No. 9082, SLP

(C) No. 9088/95, S.L.P. (C) No. 4562/98, C.A. No. 4716/94 and C.A. No. 2496

of 1993.

The Judgment of the Court was delivered by

R.C. LAHOTI, J. What is the meaning to be assigned to the phrases "the

principal sum adjudged" and "such principal sum" as occurring in Section 34

of the Code of Civil Procedure, 1908 [as amended by the Code of Civil

Procedure (Amendment) Act (66 of 1956) w.e.f. 1.1.1957], a question of

frequent recurrence and having far reaching implications in suits for

recovery of money, specially those filed by banking institutions against

their borrowers, has been referred by a three-Judge Bench of this court to

the Constitution Bench.

It will be useful to reproduce the order of reference dated 7th May, 1996

(since reported as [1996] 5 SCC 279) so as to highlight the nature and

scope of controversy arising for decision before the Constitution Bench:

"ORDER

After hearing learned Attorney General and amicus curiae Shri A. Subba Rao.

Ranjit Kumar and K.M.K. Nair on (the interpretation of the provisions of

Section 34 CPC on "the principal sum adjudged" the matter is required to be

considered by a Constitution Bench. The learned Attorney General has drawn

our attention to the judgments of this Court in Corpn. Bank \. D.S. Gowda

and Bank of Baroda v. Jagannath Pigment & Chem., wherein he sought to draw

the deduction that the principal sum adjudged and the principal sum

mentioned later would be the same. He seeks to take support from the word

"such' in support of his contention. Preceding Amendment Act 66 of 1956,

the words were "aggregate sum so adjudged" and after amendment, were

substituted with the words "the principal sum adjudged", from the date of

the suit to the date of the decree, in addition to any interest adjudged on

such "principal sum" for any period prior to the institution of the suit

(with further interest on such date as the court deems reasonable on the

"principal sum")*. The distinction, therefore, was not drawn to the

attention of this Court in the aforesaid two judgments in particular the

later one. As a fact no argument in this behalf appears to have been

canvassed. Interpretation of the liability of the borrower to pay interest

on the principal sum to include interest that became merged with the

principal sum adjudged or principal sum as lent, is required to be

authoritatively laid down by a Bench of five Judges.

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The Registry is directed to place the matter before the Hon'ble the Chief

Justice for constituting the Constitution Bench.

*[Sic., should have been - with further interest at such rate not exceeding

six per cent per annum, as the Court deems reasonable on such 'principal

sum', in our opinion]

Section 34(1) of C.P.C. and 1956 Amendment

Sub-Section (1) of Section 34 abovesaid, as it stood prior to the 1956

amendment, and as it stands amended, are reproduced in juxta position here-

under :

Prior to amendment

As amended by Act No. 66 of 1956

34. (1) Where and in so far a;; a decree is for the payment of money, the

Court may, in the decree, order interest at such rate as the Court deems

reasonable to be paid on the principal sum adjudged, from the date of the

suit to the date of the decree, in addition to any interest adjudged on

such principal sum for any period prior to the institution of the suit,

(with further interest at such rate as the Court deems reasonable on the

aggregate sum so adjudged.] from the date of the decree to the date of

payment, or to such earlier date as the Court thinks fit.

(1) Where and in so far as a decree is for the payment of money, the Court

may, in the decree, order interest at such rate as the Court deems

reasonable to be paid on the principal sum adjudged, from the date of the

suit to the date of the decree, in addition to any interest adjudged on

such principal sum for any period prior to the institution of the suit,

(with further interest at such rate not exceeding six per cent, per annum,

as the Court deems reasonable on such principal sum,) from the date of the

decree to the date of payment, or to such earlier date as the Court thinks

fit.

(2) Where such a decree is silent with respect to the payment of further

interest on such aggregate sum as aforesaid from the date of the decree to

the date of payment or other earlier date, the Court shall be deemed to

have refused such interest, and a separate suit therefor shall not lie.

xxx xxx xxx xxx

xxx

(2) Where such a decree is silent with respect to the payment of further

interest on such principal sum from the date of the decree to the date of

payment or other earlier date, the Court shall be deemed to have refused

such interest, and a separate suit therefor shall not lie.

(Underlining by us)

[Portions affected by amendment placed in bracket]

By the 1956 amendment, in Section 34, for the words "with further interest

at such rate as the Court deems reasonable op the aggregate sum so

adjudged", the words "with further interest at such rate not exceeding six

percent, per annum as the Court deems reasonable on such principal sum"

have been substituted in sub-section (1). In sub-section (2) the words "on

such aggregate sum as aforesaid " have been deleted and the words "on such

principal sum" have been substituted. The phrases "on the principal sum

adjudged" and "such principal sum", as occurring in the opening part of

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subsection (1) of Section 34, have not been touched by the amendment.

The report of the Joint Committee to which the Bill was referred stated,

inter alia, as under :

"11. Clause 2. - Section 34 of the Code empowers a Court to award further

interest from the date of the decree upto the date of payment on the s

aggregate sum' which comprises principal sum with interest accrued thereon.

The Committee are of the opinion that interest should not be awarded on

interest but only on the principal sum. Suitable amendment has accordingly

been incorporated in this clause."

The controversy and contending pleas:

There is batch of matters before us wherein the same common question of law

is arising'for decision. Inasmuch we propose (also as has been agreed to by

all the learned counsel appearing for the parties) to decide only the

question of law posed for decision and leave the individual cases to be

decided by appropriate Bench consistently with the law laid down by the

Constitution Bench, we are relieved of the need of noticing facts of

individual cases. Suffice it, for our purpose, to notice in very brief, by

way of illustration, the facts of S.L.P. (C) No. 2421 of 1993 - Central

Bank of India v. Ravindra and Ors. to demonstrate the nature of

controversy. The petitioner bank sanctioned a loan to the respondent no. 1

on (he guarantee of respondents nos. 2 and 3. On 21.6.1979, the respondent

no.l executed a demand promissory note for Rs. 1,37,720 and also executed

term agreement of hypothecation of the vehicle. The loan carried interest

at the rate of 11% per annum with quarterly rests as on 31st March, 30th

June, 30th September and 31st December every year. The total outstanding,

inclusive of the interest charged as per agreement, was Rs. 1,51,825 on the

date of the suit for the recovery whereof the suit was filed by the

petitioner bank. Relief was also prayed for the grant of interest pendente

lite and future interest till realisation. The trial court passed a decree

for Rs. 1,51,825 with future interest at the rate of 8% per annum from the

date of the suit till realisation affording the respondents facility of

payment of the decretal amount in 6 quarterly instalments with exigibility

clause. An appeal preferred by the bank before the High Court was partly

allowed modifying the decree of the trial court by awarding interest at the

rate of 11% per annum and setting aside the facility of payment by

instalments. However, the High Court directed the interest at the rate of

11% per annum to be payable only on Rs. 99,000, which was stated to be the

principal sum, from the date of the suit till realisation though the decree

for Rs. 1,51,825, the amount due and payable on the date of the suit, was

maintained. The petitioner bank is aggrieved by the decree of the High

Court to the extent to which future interest at the rate of 11% per annum

has not been allowed on the entire sum of Rs. 1,51,825.

We have heard Shri Harish N. Salve, learned Solicitor General appearing for

Union of India, Shri Rakesh Dwivedi, Sr. Advocate appearing for State Bank

of India and Shri K.N. Bhat, Sr. Advocate who has intervened on behalf of

the Indian Banks Association as also other learned counsel appearing for

several banks. We have also heard Shri Ranjit Kumar, Senior Advocate, the

learned amicus appointed to assist the Court who highlighted the legal

position and judicial opinion clarifying by and large the fallacy - as per

his submission - in the stand taken by the banks. Other learned counsel

appearing for other borrowers were also heard.

The learned Solicitor General submitted that the expression "the princi-pal

sum adjudged" used in Section 34 may have two meanings : (i) the amounts

actually disbursed to the borrower, or (ii) the amount due from the

borrower on the date of the suit which amount would include the amount of

interest due and payable on the date of the institution of the suit in the

Court. He made two submissions. First is the wider submission, as he named

it, that whatever is the amount due and payable by the defendant on the

date of the institution of the suit becomes "the principal sum adjudged' on

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which the judgment-debtor can be directed to pay interest pendente lite and

for future. The learned Solicitor General however did not seriously press

and pursue this wider submission and gave it up soon after projecting the

same before the Court. However, he insistently pressed and pursued the

second one, i.e. the narrower submission that "the principal sum adjudged'

would include all sums as are due under the contract between the parties

and have stood capitalised with the amount actually disbursed to the

borrower. The amalgam - an intimate mixture - would be adjudged as the

principal sum and would not permit any attempt at unscrambling. Developing

the narrower argument further, the learned Solicitor General submitted that

the contract between the parties or an established bank practice (in the

case of banking transactions) may provide for the interest on periodical

rests being compounded and capitalised with the principal, in which event,

the amount debited in the account of the borrower shall shed its character

as interest and become the principal on being capitalised and therefore

shall have to be adjudged as "the principal sum' on the date of the suit.

The contract or established banking practice shall govern the relationship

between the parties and bind the Court. The Court will not reopen the

account so as to separate from the amalgam - the interest charged and the

sums actually advanced, and repaint the interest with the colour which had

stood shed off unless mandate of law overrides the contract or practice and

enables or compels the Court to do so. Any view to the contrary, if

accepted, would be destructive of banking system which is functioning on a

practice recognised for over a century over the world, submitted the

learned Solicitor General.

The learned Solicitor General further submitted that the position of law

remains the same in so far as the meaning of 'the principal sum adjudged'

occurring in the first part of Section 34(1) is concerned and the principal

sum so adjudged shall be the amount on which the Court shall award interest

pendente lite, i.e., from the date of the suit to the date of the decree as

also the future interest. In other words, submitted the learned Solicitor

General, the Court shall adjudge the principal sum as it stands just

anterior to the date of the suit consistently with the contract or banking

practice binding the parties and once that is done 'the principal sum

adjudged' shall be 'such principal sum' for the purpose of interest

pendente lite as also future interest. So far as the 'interest adjudged' in

addition to 'the principal sum adjudged' for any period prior to the

institution of the suit is concerned, the learned Solicitor General

submitted, that there may be cases where interest prior to the date of the

suit and included in the amount claimed by the plaintiff against the

defendant on the date of the suit may consist of (i) such interest as has

stood capitalised and hence become part of the principal sum, and (ii) such

interest as has not been capitalised or was incapable of being capitalised,

and the later would be 'interest adjudged' in addition to the principal sum

adjudged (which would be inclusive of interest capitalised) on the date of

the institution of the suit. There may be cases where the total amount

debited to the account of the debtor as interest has stood capitalised in

its entirety in which case there may not be any sum of interest left and

available to be treated as interest, other than the principal sum for the

pre-suit period. The correct way of reading the opening part of Section 34

would be - "the principal sum adjudged.................. in addition to

interest, if any, adjudged on such principal sum". 'Any interest adjudged

on such principal sum' mean and should be read as 'interest if any,

adjudged on such principal sum'. The learned Solicitor General went on to

submit that the 1956 amendment does not have any bearing on the meaning of

words 'the principal sum adjudged' which remains the same pre and post

1956. The 1956 amendment, which has substituted the words "on such

principal sum" for the words 'on the aggregate sum so adjudged' has only

this effect that prior to the amendment future interest was capable of

being awarded on the aggregate of three components taken together, i.e. (1)

the principal sum (so adjudged), (2) pre-suit interest (so adjudged), and

(3) decretal costs. By virtue of 1956 amendment:, the amount of interest

adjudged as interest on the date of the suit and decretal costs cannot be

ordered to carry future interest, but the amount adjudged as principal sum

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though inclusive of interest which has stood capitalised and has partaken

character of principal by virtue of contract or banking practice, is

capable of bearing future interest because it will be 'the principal sum

adjudged'.

Shri Ranjit Kumar, Senior Advocate, the learned amicus as also the other

learned counsel appearing For the debtors have submitted that if the

submission made by the learned Solicitor General is accepted it would

defeat the legislative intent behind the amendment as it would mean the

Court awarding interest on interest. It was submitted that without regard

to the fact that the interest for the pre-suit period has stood capitalised

by force of contract or banking practice between the parties, and has

assumed the colour and character of principal sum, the contract or banking

practice ceases to be applicable once the suit is filed and the matter has

entered the domain of Court under Section 34 of the CPC. where after

nothing prevents the Court from unscrambling the amalgam so as to sieve out

the principal from interest and confine the award of interest pendente lite

post decree to principal sum only.

Capitalisation of interest debited on periodical rests - does it convert

interest into 'the principal sum'? - a survey of judicial opinion:

A host of authorities were cited at the Bar, throwing light on the issue at

hand. It will be useful to have a survey thereof.

We would begin with the statement of law in Reddie v. Williamson, [1863] 1

Macph (Ct. of Sess.) 228, as we find that the law propounded therein has

been referred to in a number of decisions rendered by the Court of Appeals,

House of Lords, this Court and several High Courts. Lord Cowan said:

"This account, from its origin, is kept in the usual mode of stating such

accounts. It is balanced at the close of each year, and the periodical

interest on advances accruing in the course of the year is placed to the

debit side of the account, and to the extent of its amount the balance

carried to the debit at the commencement of next year is increased. That

amount is dealt with as a principal sum, on which interest is calculated, -

the bank thereby securing, as they were entitled to do, interest on the

accumulated amount each year, or, as it is generally stated, but not quite

correctly, compound interest. The true view is, that the periodical

interest at the end of each year is a debt to be then paid, and which must

be held to have been paid when placed to the debit of the account as an

additional advance by the bank for the convenience of the obligants." (at

p. 238)

Lord Justice Clerk said :

"The parties must of course have had in view that this account-current

would be kept in the way, in which bankers always keep such accounts,

balancing the account at the end of the year; and, in the event of the

interest accruing during the past year not being otherwise paid or provided

for, placing the amount of such interest as the last item to the debit of

the account, and accumulating such interest along with the principal sum

due on the account, and bringing down the balance thus ascertained,

consisting partly of principal, and partly of interest, to the new accounr.

for the ensuing year, and placing the accumulated balance as the first

article of debit in that new account. Where an account is kept in this way

consistently throughout its whole course, the interest thus accumulated

with principal, at the end of each year not only becomes principal, but

never thereafter ceases to be dealt with as principal. " (at p. 236)

'The privilege of a banker to balance the account at the end of the year,

and accumulate the interest with the principal, is founded on this plain

ground of equity, that the interest ought then to be paid, and, because it

is not paid, the debtor becomes thenceforth debtor in the amount, as a

principal sum itself bearing interest. This principle of equity must be

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consistently carried out in keeping an account on the bank's books, in

which other parties are interested as obligants, besides the party

operating on the account; and, if it be, then the moment that interest is

thus converted into principal, the amount of it must be reckoned as part of

the drafts on the credit, or beyond the credit, for which the party

operating on the account will be liable as principal in any event,

............." (at p.237)

In Yourell & Anr. v. Hibernian Bank Ltd., [1918] AC 372, interest was

charged from day to day with half yearly rests, so that the interest was

capitalised every hall7 year in accordance with the terms of the deed which

also contained ceiling on the principal sum which could be recoverable on

the security. Lord Atkinson observed in his speech that whenever on

balancing the mortgagor's current account with the bank a debit balance was

found against him, that balance, by force of the covenant, became part of

the principal money secured by the mortgage, subject however, to the

covenant limit. Lord Wrenbury opined that the interest upon the overdraft

was capitalised half yearly and as against the bank the capitalised

interest must be regarded as principal and hence the debit balance of the

overdraft banking account was principal. In Commissioners of Inland Revenue

v. Sir H.C. Holder, Bt., &Anr., [1931] 2 KB 81, the bank debited half

yearly interest to the borrower's bank account on the amount owing from

time to time. It was held that the interest due each half year which, upon

the failure of the company to pay it, was, according to the regular

practice of bankers, added to the capital sum advanced, was thereby

capitalised and could not thereafter be treated as interest. Lord Hanworth

MR noted in his speech that the plan of capitalising interest at the end of

each half year was adopted by bankers in order to enable them in effect to

secure what is usually termed compound interest, which could not have

otherwise been claimed by reason of the usury laws. Later his Lordship

noted that under consideration was not the terms of a particular deed

entered into between the parties but a practice which has been adopted by

bankers for over a century, and which has had certain qualities attributed

to it. Lord Romer concurring with Lord Hanworth opined that having regard

to the method in which, with the concurrence of the company, the account

was kept by the bank, the company must be deemed to have paid each half

year the accruing interest by means of an advance made for this purpose by

the bank to the company.

Holder & Anr. \. Inland Revenue Commissioner, [1932] All E.R. 265 and Paton

(Fenton's Trustee) v. Inland Revenue Commissioners, [1938] All E.R. 786,

are cases under the Income Tax Law. In Holder's case it was held that in

view of the bank's practice of adding the interest each half-year to the

amount advanced, the interest was in effect paid each half year to the bank

by means of advances made for the purpose by the bank to the customer and

for this reason no part payment (later) made by the tax payer was payment

of interest and hence the tax payer was not entitled to the relief claimed.

In Paton's case each half year interest at an agreed rate, and without

deduction tax, was placed to the debit of the account of the borrower and

the aggregate amount was then treated as principal for the following half

year. Question arose, whether the interest in question which was

capitalised could be said to have been in fact paid by the borrower so as

to attract applicability to him of certain beneficial provision of the

Income Tax Act, 1918? Lord Atkin opined - "The simple fact is that the

amount of interest accruing during the half year is ascertained at the end

of the half-year, and is added to the account as a debt in precisely the

same position as the other debit items, whether for money lent, the price

of securities bought, commission, or other source of debt. It takes its

position as part of the whole debt due to the bank, and, as part of the

whole debt, is in the next half-year chargeable with interest." His

Lordship approved the view of Rusell, J. of Court of Appeal taking the view

that because of a provision contained in the deed between the parties which

enables the interest to be capitalised, the interest is not capitalised

because it is in fact paid, but because it has in fact not been paid. Lord

Macmillan opined - "It may well be that, in a question between a bank and

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its customer, and equally between a bank and its customer's cautioner, the

interest accruing annually may, by the sanctioned method of accounting,

cease to be interest when it is accumulated with the principal, so that the

bank can thereafter no longer sue for the interest as

interest............It is manifest, however, that it is only by a legal

fiction that the interest in such cases as the present can be said to have

been paid. After, as before, the striking of the balance, the same sum

remains due, no longer, it may be, as interest, but still due as part of

the principal debt. In construing the extent of the cautioner's liability

under the case credit bond, the court would appear to have been well-

founded in their view that the bank's own method of accounting, assented to

by the principal debtor, and recognised as ordinary practice, precluded any

claim for past interest as interest prior to the last balance. The caution

was liable for whatever was drawn upon the cash credit account up to \034400,

and the unpaid interest was debited in account just like the ordinary

drafts upon it, and became part of the principal debtor's capital

indebtedness for which the cautioner was liable up to \034400, with interest

subsequent to the last balance."

In National Bank of Greece S.A. v. Pinios Shipping Co. No. 1 & Anr., [1990]

1 AC 637, House of Lords upheld the entitlement of the bank to the

principal sum due to it, with interest thereon, as agreed, until payment or

judgment in the usual way, and that the agreement included the term,

implied by the usage of bankers, that the bank was entitled to capitalise

interest which in the case before their Lordships was (by concession) at

quarterly rests and that such entitlement continued until judgment or

payment. In the Court of Appeal, Lloyd LJ, who wrote the pending order, was

of the opinion that an implied agreement to pay compound interest with

quarterly rest based on the banking practice exists during the currency of

the banker-customer relationship but once the banker-customer relationship

ceases the bank cannot charge compound interest atd only simple interest

would be payable. His Lordship traced the history of banking practice as

borne out by judicial precedents, and held :

"(i) There is no right to compound interest save by agreement, express or

implied, or custom binding on the parties; (ii) there was no express

agreement to pay compound interest in the present case; (iii) an agreement

to pay compound interest may be implied by virtue of acquiescence (Lord

Ciancarly v. Latouche), but (iv) such an agreement is not normally implied

except as to "mercantile accounts current for mutual transactions"

(Deutsche Bank v. Banque des Marchands de Moscou, 4 L.D.B. 293, 296, per

Greer L.J.; (v) it is open to question whether the agreement between the

bank and Pinios dated 8 February, 1977 was an account current for mutual

transactions; but, even if it was, it ceased to be such an account when the

bank closed the account and demanded repayment on 13 November 1978; (vi)

the bank never pleaded or proved a custom entitling it to continue to

charge compound interest after the account had been closed, or, a fortiori,

after it had issued proceedings for the recovery of debt."

The bank appealed to the House of Lords. The House of Lords allowed the

appeal and preferred by the bank and modified the judgment of the Court of

Appeal by holding that no reason can be seen why that relationship should

not be continued until repayment of the debt, or judgment, whichever first

occurred, with the effect that, so long as the contractual interest was

payable, the bank continued to be entitled to capitalise it. The House of

Lords did not agree with the Court of Appeal that the relationship of

banker and customer stood terminated by the bank's demand for payment.

In Billamal v. Ahad Shah, AIR (1918) PC 249, the Privy Council recognised

the justification for adding on the accumulated interest under an earlier

transaction in the fresh transaction and observed as under :

"A borrower who obtains a loan secured by a promissory note on quite

reasonable terms, by neglecting to pay the note on maturity, further

neglecting to pay the accruing interest for the several years following and

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then giving a renewal note for the original debt plus the capitalised

interest, could produce a result which might at first sight appear

oppressive, and yet there would be nothing harsh or unconscionable in the

creditor's demand, since the added interest only accumulated while

heforebore to enforce the payment of the sums from time to time due to

him."

S.R.M.S. Chethambaram Chettier v. Loo Thon Poo, AIR (1940) Privy Council

60, was a dispute between money lenders and borrowers arising for the State

of Johore. Interest was charged @ 24% and was then capitalised and made

payable by monthly instalments. Question arose whether the interest so

charged was excessive and unfair. Their Lordships held that where a loan

has been incurred for interest and this interest is added to the amount

agreed to be due when a new transaction is agreed between the parties which

includes that payment of interest as an acknowledged debt this is not in

principle open to any sound objection. Their Lordships referred to the

decision of the Court of Appeal in Lyle v. Chappel, [1932] 1 KB 691, speech

of Lord Atkin in Paton v. Inland Revenue Commissioners, [1938] AC 341,

decision of Channel, J, in Carrington Ltd. v. Smith, [1906] 1 KB 79, and

the decision by the Court of Appeal in Reading Trust v. Spero, [1930] 1 KB

492, and held that a willing and intelligent borrower had agreed to the

interest charged is one of the circumstances to be taken into account

though not conclusive. Their Lordships upheld the charge of 15% interest

payable on the sums from time to time acknowledge to be owing by the

borrowers to the lenders and thus allowing interest on interest. However,

interest charged @ 24% on the loan and charges which were amply secured by

charges on rubber estate which had been well looked after and kept in good

order was held unreasonable, excessive and unfair. The fact remains that

Their Lordships approved charging of interest @ 15% and capitalisation of

the same by means of acknowledgment to that effect by the borrowers and

also upheld permissibility of further 15% interest being charged on the sum

so capitalised.

It was pointed out in Lyle v. Chappel, (Supra, at p., 706) that it ought

not to make any difference to the validity of a transaction by way of a

renewal of a loan, whether the parties go through the form of payment by

the borrower of the whole amount due and a re-landing of the same amount by

the money lender, or the transaction is carried out without any such

payment by treating the amount of principal and interest still due as a

debt acknowledged by the borrower together with an undertaking by the

borrower to pay the amount of the agreed debt.

Jafar Husain v. Bishambhar Nath, AIR 1937 Allahabad 442, was a case of

recovery due on a mortgage and considered by reference to Order 34, Rule 11

of the Code of Civil Procedure. The words 'on the principal amount found or

declared due on the mortgage' came up for the consideration of Division

Bench. It was contended for the borrower that in calculating the amount due

to the mortgagee up to the date fixed for redemption, interest from the

date of the decree till the date fixed for redemption should be calculated

on the principal sum secured by the deed and not on the total amount due on

the date of the decree on account of principal as well as compound

interest. The mortgage deed provided for interest being calculated six

monthly and that if it was not paid then it would become a part of the

principal. The Division Bench held that the words 'on the principal amount

found or declared due' refer not only to the principal sum secured by the

mortgage deed but also to the amount due on account of interest which has

become a part of principal in accordance with the terms of the deed on the

date when the preliminary decree is prepared. The Division Bench pointed

out that reliance by the borrower on a ruling of the Oudh Chief Court in

Chotey Lai v. Mohammad Ahmad Ali Khan, AIR (1933) Oudh 128, which appeared

to be taking a view to the contrary was not good law inasmuch as a

different view was taken by the same Court in Rajendra Bahadur Singh v.

Raghubir Singh, AIR (1034) Oudh 473. In Padianiappa Mudaliar and Ors. \.

Narayana Ayyar and Ors., AIR (1943) Madras 157, the mode of dealing adopted

by the parties was what is usually followed between banker and customer.

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The effect of the system is to capitalise the interest at the end of each

year and treat it is a fresh advance by the bank. The Division Bench noted

that according to the usage prevailing between bankers and customers, it is

an implied term of their dealing that the banker is to be treated as having

made an advance to the customer at the end of each year or half year, as

the case may be, of a sum equivalent in amount to the interest accruing

during that period, so as to enable the customer to discharge the interest,

increasing the principal of his debt by a corresponding amount. It was

urged that the periodical settlement of accounts evidenced by the

borrower's letter of acknowledgment were renewals and only the sums

advanced as principal were repayable notwithstanding its capitalisation of

interest from time to time the interest being still treated as interest and

wiped out. The Division Bench speaking through Patanjali Sastri, J. (as his

Lordship then was) noted that if the effect of the mode of dealing adopted

between banker and customer is according to the long standing usage

governing their relations, to treat the interest accruing in any year as

discharged by a borrowing of an equivalent sum from the bank in precisely

the same way as if the customer had given the bank a cheque upon the

account for the amount in question with which the bank extinguished the

interest and then placed the amount of the cheque to the debit of the

account as an ordinary draft." it is difficult to see how the operation of

this principle is affected by anything contained in the explanation to be

found in the relevant provision of Madras Agriculturists' Relief Act, 1938

which merely provides that in cases of renewal of the debt, the sums

advanced as principal shall alone be treated as the principal sum repayable

by the agriculturists; for, the interest of the previous year is, under the

rule, discharged, and the corresponding increase in the indebtedness of the

customer is treated as a principal sum advanced by the bank.

Two decisions by Kerala High Court may now be noticed. Palai Central Bank

Ltd. v. C. Ramaswami Nadar, AIR 1959 Kerala 194, is a Division Bench

decision which noticed a line of Full Bench decisions of the Travancore

High Court taking the view that when the agreement between the parties to a

litigation sanctioned arrears of interest remaining unpaid for any

specified period being treated as principal, the principal amount sued for

within the meaning of the concerned provision would be the amount claimed

in the plaint as principal on that basis. It was held that the terms

'principal' used in Section 31 of Travancore Civil Procedure Code (8 of

1100) is not restricted in its meaning to the original sum lent and that an

agreement to treat arrears of interest, at fixed periods, as principal,

which is to carry interest, is valid. It was further held that the word

'principal amount' are not restricted to the original sum lent but are

comprehensive to include arrears of interest, on which interest is agreed

to be paid. Trandamma and Ors. v. Kuriakore Patherichal lype, AIR (1962)

Kerala 235, is Full Bench decision which, though did not notice the

Division Bench decision in Palai Central Bank Limited (supra), laid down

the same law. An overdraft agreement entered into by the defendants with

the plaintiff bank provided that the interest at 7 1/2% as agreed upon will

be calculated quarterly, four times every year, and added to the principal.

On the balance shown as due on 31.12.1952 in the account maintained by the

Bank in pursuance of such agreement, the suit was filed for recovery of the

amount due on 31.12.1952 as principal with future interest till the date of

the suit. It was held that the effect of the agreement was to wipe off all

interest outstanding at the end of each quarter by means of further

advances from the bank of similar amounts which are debited to the account

of the debtor. It was further held that the interest that thus accumulated

with principal at the end of each quarter became principal and never

thereafter ceased to be dealt with as principal. The amount due on

31.12.1952 in the account was treated as the principal amount outstanding

on 1.11.1953. However, in passing the Full Bench noted that the position

may have been different if under a local debt relief law it was

subsequently provided that the principal would mean the amount originally

advanced together with sum, if any subsequently advanced, notwithstanding

any stipulation to treat any interest as principal.

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In K. Appa Rao v. V.L Varadaraj & Ors. AIR (1981) Madras 94, the Division

Bench, speaking through Nainar Sundram, J., pointed out that the charging

of compound interest by itself is not per se usurious except in the case of

an agriculturist protected by the Usurious Loans Act, 1981 as amended in

its application in Madras. However, the Division Bench, by reference to an

earlier decision of that High Court, pointed out that for the purpose of

determining whether interest would be excessive or not the risk incurred by

the creditor by advancing the loan (whether it was secured or not and if

secured to what extent) and if compound interest is charged, the periods at

which it is calculated and the total advantage which may be reasonably

excepted to have accrued from the transaction, are important factors.

In Syndicate Bank v. M/s. West Bengal Cements Limited and Ors., AIR (1989)

Delhi 107, Y.K. Sabharwal, J. (as his Lordship then was) rejected the

contention of learned counsel for the borrower that the interest can never

become principal and the words 'principal sum' in Section 34, Code of Civil

Procedure should be given the ordinary meaning as given in the

dictionaries, and termed as misconceived the argument that the interest

under section 34 could be awarded only on the original sum advanced as the

argument ran counter to the normal banking practice, and which, if

accepted, would act as a premium for those not paying the amount of

interest when it is due at the cost of those making payment of interest

when it is due. It was held that the bank was entitled to the sum claimed

as due from and payable by the defendants as the principal sum with future

interest on such amount from the date of suit to the date of realisation.

Reliance was placed on Division Bench decision of Madras High Court in

Sigappiachi v. M.A.P.A. Palaniappa Chettiar, AIR (1972) Madras 463, holding

that the 'principal sum adjudged' (within the meaning of Section 34 of the

Code of Civil Procedure) is the amount found due as on the date of the

suit.

Division Bench decision in Kalyanpur Cold Storage, Kalyanpur and Ors. v.

Sohanlal Bajpai (deceased by LRs.) and Anr., AIR (1990) Allahabad 218, and

Single Bench decision in Indian Bank v. M/s. Kamalalaya Cloth Store and

Anr., AIR (1991) Orissa 44, have taken the view, though they do not contain

any elaborate reasoning, that under Section 34 of the Code of Civil

Procedure the expression 'principal sum adjudged' is to be distinguished

from principal sum advanced. The Orissa High Court has followed the Delhi

deci-sion above said. It was a case of commercial loan. The amount of

interest quarterly added to the amount of loan was held entitled as

principal amount on the date of the suit for the purpose of future

interest.

In State Bank of India v. Advar Singh Saih and Ors., AIR (1986) Punjab &

Haryana 381, while rejecting the borrower's application under Order 6, Rule

5 of the Code of Civil Procedure seeking direction to the bank to point out

separately by breaking up its claim so as to show the amount of the

principal and the interest separately, it was held that the principal

amount found due not only means the principal amount but also the amount

due as interest which has become part of the principal.

In Nedungadi Bank Ltd. v. M/s. Aswathi Starch and Glucose (P) Ltd.,

Anamangad & Ors., AIR (1996) Kerala 112, K.G. Balakrishnan, J. (as his

Lordship then was), speaking for the Division Bench, held that the

expression "principal sum adjudged" used in Section 34 indicates that it is

not the original principal amount but it could be an amount so adjudged as

principal. If, as per the contract between the parties, interest also is to

be treated as principal, the amount so adjudged is to be taken as principal

for granting future interest.

In State Bank of India v. Smt. Neela Ashok Naik & Anr., AIR (2000) Bombay

151, Y.K. Sabharwal, C.J. (as his Lordship then was) speaking for the

Division Bench, dealing with Section 34 of the Civil Procedure Code, held

that legal position clearly was; that the principal sum adjudged' can

include in it interest as well, depending upon the contract between the

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parties. The contract for payment of interest with quarterly rests resulted

into the interest being capitalised so as to make sum total of the

principal advanced plus interest accrued thereon "principal sum adjudged"

on the date of the suit, the expres-sion as employed under Section 34.

In Shew Kissen Battar v. The Commissioner of Income Tax, Calcutta, [1973] 4

SCC 115, this Court has observed that on failure of the borrower to pay in

accordance with the terms of the contract he is liable to pay compound

interest. In other words, if he fails to pay interest in accordance with

the contract, he is liable to pay interest on interest. To put it

differently, when the interest payable is not paid, the same becomes a part

of the principal and thereafter interest has to be paid not only on the

original principal but also on that part of the interest which had become a

part of the principal.

In Corporation Bank v. D. S. Gowda & Anr., [1994] 5 SCC 213 a batch of

appeals against three decisions of Karnataka High Court [reported as D.S.

Gowda v. Corporation Bank, AIR (1983) Karnataka 143, H.P. Krishna Reddy v.

Canara Bank, AIR (1985) Karnataka 228 and Bank of India v. Kamam Ranga Rao

and Ors., AIR (1986) Karnataka 242] were disposed of and while doing so two

decisions of Andhra Pradesh High Court, namely, K.C. Venkateswarlu v.

Syndicate Bank, AIR (1986) AP 290 and State Bank of India, Eluru, Re, AIR

(1986) AP291, where also noticed and dealt with D.S. Gowda's case was of a

commercial advance taken by the borrower for the purpose of constructing

residential flats on a building site allotted by Bangalore Develop-ment

Authority. Interest at the rate of 16.5% per annum, with quarterly rests,

was charged. Interest, penal interest and service charges were debited to

the account and capitalised. In the cases of H.P. Krishna Reddy, (supra)

and Kamam Ranga Rao (supra), loans were advanced for agricultural purposes.

Directions made by Reserve Bank of India were violated and the interest was

charged at rates far excess of the limits prescribed by the Reserve Bank,

also by compounding at quarterly rests, not permitted by Reserve Bank. One

of the questions having a bearing on the day to day transactions of

loan/advance entered into by the banks was: Whether the bank is entitled to

claim interest with periodical rests, e.g., a monthly rest, a quarterly

rest, a six-monthly rest, or a yearly rest, or compound interest in any

other manner, from a borrower who has obtained a loan or an advance for

agricultural/commercial purposes, as the case may be? During the course of

its judgment the Court observed (vide para 14) :-

"......charging of interest with periodical rests or compounding of

interest would be allowed if there is evidence of the customer having

acquiesced therein, provided the relation of banker and customer is

subsisting. However, if the relationship undergoes a change into that of

mortgagee and mortgagor by the taking of a mortgage, the charging of

interest would be governed in accordance with the terms of the mortgage.

The taking of a mortgage to secure the fluctuating balance of an overdrawn

account, being not inconsistent with the relationship of banker and

customer, would not displace an earlier right to charge compound interest.

Thus, the practice of bankers to debit the accrued interest to the

borrower's current account at regular periods is a recognised practice."

Their Lordships cited with approval the following passage from Halsbury's

Laws of England (4th Edition) (Vol. 3, at page 118, para 160) :-

"160. Interest. By the universal custom of bankers, a banker has the right

to charge simple interest at a reasonable rate on all overdrafts. An

unusual rate of interest, interest with periodical rests, or compound

interest can only be justified, in the absence of express agreement, where

the customer is shown or must be taken to have acquiesced in the account

being kept on that basis. Whether such acquiescence can be assumed from his

failure to protest at an interest entry in his statement of account is

doubtful.

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Acquiescence in such charges only justifies them so long as the relation of

banker and customer exists with respect to the advance. If the relation is

altered into that of mortgagee and mortgagor by the taking of a mortgage,

interest must be calculated according to the terms of the mortgage, or

according to the new relation.

The taking of a mortgage to secure a fluctuating balance of an overdrawn

account, is not, however, inconsistent with the relation of a banker and

customer, so as to displace a previously accrued right to charge compound

interest.

It is the practice of bankers to debit the accrued interest to the

borrower's current account at regular periods (usually half-yearly); where

the current account is overdrawn or becomes overdrawn as the result of the

debit the effect is to add the interest to the principal, in which case it

loses its quality of interest and becomes capital."

Their Lordships reversed the judgment of the Karnataka High Court which was

under appeal and approved and affirmed view of the same High Court in H.P.

Krishna Reddy v. Canara Bank, AIR (1985) Karnataka 228, and Bank of India

v. Kamam Ranga Rao, AIR (1986) Karnataka 242. Universal banking practice of

usually charging interest on periodical rests and com-pounding interest on

remaining unpaid was specifically dealt with and approved. The principle

relevant consideration which prevailed with the Court were : continuing

judicial upholding of such practice over a length of time and the Reserve

Bank of India by issuing circulars/directives from time to time and on

paying 'adequate attention' having accorded its approval to permissibility

of such practice but intervening in the interest of streamlining the same.

Bank of Baroda v. Jagannath Pigment & Chemicals & Ors., (Civil

Appeal No. 2785/1987) decided on September 21, 1994 [see [1996] 5 SCC, at

p. 280] is a short judgment delivered by three-Judge Bench of this Court

approving the two-Judge Bench decision of this Court in Corporation Bank

(supra). Therein the sum borrower by the debtor was Rs. 1,20,675.59p to

which compound interest was added and a suit to recover a sum of Rs.

l,66,759.29p. with interest was filed claiming that the interest charged

and added to the sum borrowed would be the principal sum adjudged on which

future interest could be granted under section 34 of the Civil Procedure

Code. This plea found favour with the Trial Judge. On appeal the High Court

modified the decree by directing that future interest should be calculated

on the sum borrowed viz. Rs. 1,20,675.59 and not the principal sum adjudged

i.e. Rs. 1,66,759.29. This Court set aside the appellate judgement of the

High Court and restored the decree passed by the Trial Judge.

In Renusagar Power Co. Ltd. v. General Electric Co., [1994] Supp. 1 SCC

644, pp. 89-93 a three-Judge Bench of this Court has noted the practice of

charging interest as prevalent in Australia, Canada and India and held that

compound interest can be awarded by Courts in India when justice so demands

and is not to be regarded as being against public policy. The Court noted

that it is a common knowledge that provision is made for the payment of

compound interest in contracts for loans advanced by banks and financial

institutions and such contracts are enforced by Courts.

Shri Ranjit Kumar, the learned amicus brought to the notice of the Court a

few decisions taking the view that under Section 34 of the CPC principal

sum has to be read as consisting of the amounts actually advanced and hence

the Court must unscramble the amalgam and segregate such principal sum from

the amount of interest compounded and capitalised and confine award of

interest pendente lite and post-decree only to such principal sum. He

referred to Soli Pestonji Majoo & Ors. v. Gangadhar Khomka, [1969] 1 SCC

220; M.V. Mahalinga Aiyar v. Union Bank Ltd., Kumbakonam, AIR (1943) Madras

216; l.K. Merchants Ltd. v. Indra Prakash Karnani, AIR (1973) Calcutta 306;

D.S. Gowda v. M/s. Corporation Bank, AIR (1983) Karnataka 143; Union Bank

of India v. Gaurishankar Upadyay, AIR (1992) Bombay 482; Gujarat Agro Oil

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Enterprises Ltd. Ahmedabad v. Arvind H. Pathak, AIR (1993) Gujarat 47,

Indian Bank, rep. by the Zonal Manager, Hyderabad v. P. Venkata Satyavathi

& Ors., (1993) 1 Andhra Weekly Reports 607, Ramashree Chandrakar v. Dena

Bank & Anr., (1994) MPLJ 610 and Punjab National Bank v. Surinder Singh

Mandyal & Ors., AIR (1996) HP 1. Obviously he could not have multiplied the

authorities which are bound to be few being not in line with the weight of

the judicial authority which we have already dealt with. Having gone

through all the cited rulings we are of the opinion that no dent results in

the view we are taking.

Soli Pestonji Majoo & Ors. 's case decided by this Court was a case of

mortgage decided by reference to Order 34 of the C.P.C. wherein it was held

that till the period for redemption expired, the matter was in domain of

contract but after the period of redemption the matter passed to that of

judgment. Vide para 5, the Court has said that the special provision of

Order 34 would apply in preference to the general provisions in Section 34

in the case of mortgage. Clearly this Court has not laid down any principle

dealing with Section 34 of the C.P.C.. In M.V. Mahaling Aiyar's case

Division Bench of Madras High Court has not dealt with the principle of

capitalisation. The case has no rel-evance for the issue at hand. Full

Bench decision of Bombay High Court in Union Bank of India v. Gaurishankar

Upadyay proceeds on the assumption that the 'principal sum'can never

include interest whatever be the agreement between the parties and this

hypothesis is itself incorrect as we have dealt with. The Full bench

dissented from the view taken by a number of High Courts and chose to

follow a Division Bench decision of that very High Court in the case of

M/s. Jagannath Pigment & Chemicals v. Bank of Baroda, which has been

reversed by this Court (See - [1996] 5 SCC 279). D.S. Gowda's cast of

Karnataka High Court was also reversed by this Court. Himachal Pradesh,

Madhya Pradesh, Andhra Pradesh and Punjab High Court decisions cited by the

learned amicus, are based on Bombay High Court Full Bench view. In I.K.

Merchants Ltd. 's case, the learned single Judge of Calcutta High Court has

not approved interest being awarded on the sum adjudged as interest for the

pre-suit period (See, Para 3 L of the Report). To the same effect is the

Division Bench decision of Gujarat High Court in Gujarat Agro's case. These

two decisions have no relevance to the issue before us. Conclusion which

follows :

The English decisions and the decisions of this Court and almost all the

High Courts of the country have noticed and approved long established bank-

ing practice of charging interest at reasonable rates on periodical rests

and capitalising the same on remaining unpaid. Such a practice is prevalent

and also recognised in non-banking money lending transactions. Legislature

has stepped in from time to time to relieve the debtors from hardship

whenever it has found the practice of charging compound interest and its

capitalisation to be oppres-sive and hence needing to be curbed. The

practice is permissible, legal and judicially upheld excepting when

superseded by legislation. There is nothing wrong in the parties

voluntarily entering into transactions, evidenced by deeds incorporating

covenant or stipulation for payment of compound interest at reasonable

rates, and authorising the creditor to capitalise the interest on re-

maining unpaid so as to enable interest being charged at the agreed rate on

the interest component of the capitalised sum for the succeeding period.

Interest once capitalised, sheds its colour of being interest and becomes a

part of principal so as to bind the debtor/borrower.

Interest and its classes :

Black's Law Dictionary (7th Edition) defines 'interest' inter alia as the

compensation fixed by agreement or allowed by law for the used or detention

of money, or for the loss of money by one who is entitled to its use;

especially, the amount owed to a lender in return for the use of the

borrowed money. According to Stroud's Judicial Dictionary of Words and

Phrases (5th edition) interest means, inter alia, compensation paid by the

borrower to the lender for deprivation of the use of his money. In

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Secretary, Irrigation Department, Government of Orissa & Ors. v. G.C. Roy,

[1992] 1 SCC 508, the Constitution Bench opined that a person deprived of

the use of money to which he is legitimately entitled has a right to be

compensated for the deprivation, call it by any name. It may be called

interest, compensation or damages........this is

the principles of Section 34, Civil Procedure Code. In Dr. Shamlal Narula

v. C.I.T., Punjab, [1964] 7 SCR 668, this Court held that interest is paid

for the deprivation of the use of the money. The essence of interest in the

opinion of Lord Wright, in Riches v. Westminister Bank Ltd., [1947] 1 All

ER 469, 472, is that it is a payment which becomes due because the creditor

has not had his money at the due date. It may be regarded either as

representing the profit he might have made if he had had the use of the

money, or, conversely, the loss he suffered because he had not that use.

The general idea is that he is entitled to compensation for the

deprivation; the money due to creditor was not paid, or, in other words,

was withheld from him by the debtor after the time when payment should have

been made, in breach of his legal rights, and interest was a compensation

whether the compensation was liquidated under an agreement or statute. A

Division Bench of the High Court of Punjab speaking through Tek Chand, J.

in C.I.T., Punjab v. Dr. Shamlal Narula, AIR (1963) Punjab 411 thus

articulated the concept of interest - "the words "interest" and

"compensation" are sometimes used interchangeably and on other occasions

they have distinct connotation. "Interest" in general terms is the return

or compensation for the use or retention by one person of a sum of money

belonging to or owned to another. In its narrow sense,"interest" is

understood to mean the amount which one has contracted to pay for use of

borrowed money.......... In whenever category "interest" in a particular

case may be put, it is a consideration paid either for the use of money or

for forbearance in demanding it, after it has fallen due, and thus, it is a

charge for the use or forbearance of money. In this sense, it is a

compensation allowed by law or fixed by parties, or permitted by custom or

usage, for use of money, belonging to another, or for the delay in paying

money after it has become payable." It is the appeal against this decision

of Punjab High Court which was dismissed by Supreme Court in Dr. Shamlal

Manila's case (supra).

However 'penal interest' has to be distinguished from 'interest'. Penal

interest is an extraordinary liability incurred by a debtor on account of

his being a wrong-doer by having committed the wrong of not making the

payment when it should have been made, in favour of the person wronged and

it is neither related with nor limited to the damages suffered. Thus, while

liability to pay interest is founded on the doctrine of compensation, penal

interest is a penalty founded on the doctrine of penal action. Penal

interest can be charged only once for one period of default and, therefore,

cannot be permitted to be capitalised.

Mulla on the Code of Civil Procedure (1995 Edition) sets out three

divisions of interest as dealt in Section 34 of CPC. The division is

according to the period for which interest is allowed by the Court, namely

- (1) interest accrued due prior to the institution of the suit on the

principal sum adjudged; (2) additional interest on the principal sum

adjudged, from the date of the suit to the date of the decree, at such rate

as the Court deems reasonable; (3) further interest on the principal sum

adjudged, from the date of the decree to the date of the payment or to such

earlier date as the Court thinks fit, at a rate not exceeding 6 per cent

per annum. Popularly the three interests are called pre-suit interest,

interest pendente lite and interest post-decree or future interest.

Interest for the period anterior to institution of suit is not a matter of

procedure; interest pendente lite is not a matter of substantive law (See,

Secretary, Irri-gation Department, Government of Orissa & Ors. v. G.C. Roy,

[1992] 1 SCC 508, Pr. 44-iv). Pre-suit interest is referable to substantive

law and can be sub-divided into two sub-heads; (i) where there is a

stipulation for the payment of interest at a fixed rate; and (ii) where

there is no such stipulation. If there is a stipulation for the rate of

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interst, the Court must allow that rate upto the date of the suit subject

to three exceptions; (i) any provision of law applicable to money lending

transactions, or usury laws or any other debt law governing the parties and

having an overriding effect on any stipulation for payment of interest

voluntarily entered into between the parties; (ii) if the rate is penal,

the Court must award at such rate as it deems reasonable; (iii) even if the

rate is not penal the Court may reduce it if the interest is excessive and

the transaction was substantially unfair. If there is no express

stipulation for payment of interest the plaintiff is not entitled to

interest except on proof of mercantile usage, statutory right to interest,

or an implied agreement. Interest from the date of suit to date of decree

is in the discretion of the Court. Interest from the date of the decree to

the date of payment or any other earlier date appointed by the Court is

again in the discretion of the Court - to award or not to award as also the

rate at which to award. These principles are well established and are not

disputed by learned counsel for the parties. We have stated the same only

by way of introduction to the main controversy before us which has a colour

little different and somewhat complex. The learned counsel appearing before

us are agreed that pre-suit interest is a matter of substantive law and a

voluntary stipulation entered into between the parties for payment of

interest would being the parties as also the Court excepting in any case

out of the three exceptions set out hereinbefore.

"Such Principal Sum"-meaning of:

Let us paraphrase the relevant part of Section 34(1) as under and then deal

with the question posed before us: "Where and in so far as a decree is for

the payment of money, the Court may, in the decree, order interest at such

rate as the Court deems reasonable to be paid on the principal sum

adjudged,

from the date of the suit to the date of the decree, in addition to any

interest adjudged on such principal sum for any period prior to the

institution of the suit, with further interest at such rate not exceeding

six per cent per annum, as the Court deems reasonable on such principal

sum, from the date of the decree to the date of payment, or to such earlier

date as the Court thinks fit."

A few points are clear from a bare reading of the provision. While

decreeing a suit if the decree be for payment of money, the Court would

adjudge the principal sum on the date of the suit. The Court may also be

called upon to adjudge interest due and payable by the defendant to the

plaintiff for the pre-suit period which interest would, on the findings

arrived at and noted by us hereinabove, obviously be other than such

interest as has already stood capitalised and having shed its character as

interest, has acquired the colour of the principal and having stood

amalgamated in the principal sum would be adjudged so. The principal sum

adjudged would be the sum actually loaned plus the amount of interest on

periodical rests which according to the contract between the parties or the

established banking parties has stood capitalised. Interest pendente lite

and future interest (i.e. interest post-decree not exceeding 6 per cent per

annum) shall be awarded on such principal sum i.e. the principal sum

adjudged on the date of the suit. It is well settled that the use of the

word 'may' in Section 34 confers a discretion on the Court to award or not

to award interest or to award interest at such rate as it deems fit. Such

interest, so far as future interest is concerned may commence from the date

of the decree and may be made to stop running either with payment or with

such earlier date as the Court thinks fit. Shortly hereinafter we propose

to give an indication of the circumstances in which the Court may decline

award of interest or may award interest at a rate lesser than the

permissible rate.

It was submitted by the learned amicus and other counsel for the bor-

rowers, that the expression "on such principal sum" as occurring twice in

the latter part of Section 34(1), which refers to interest pendente lite

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and post-decree, should be interpreted to mean principal sum arrived at by

excluding the interest even if it has stood capitalised. This would be

consistent with the legislative intent as reflected in the report of Joint

Committee and sought to be fulfilled by 1956 Amendment. For two reasons

this contention has to be rejected. Firstly, entertaining such a plea

amounts to begging the question. As we have already held that the interest

once capitalised ceases to be interest and becomes a part of principal sum

or capital. That being so the interest forming amalgam with the principal,

in view of having been capitalized, is principal sum and therefore the

question of awarding interest on interest does not arise at all. Secondly,

well-settled principles of interpretation of statutes would frown upon such

a plea being entertained. A construction which leads to repugnancy or

inconsistency has to be avoided. Ordinarily, a word or expres-sion used at

several places in one enactment should be assigned the same meaning so as

to avoid "a head-on clash" between two meanings assigned to the same word

or expression occurring at two places in the same enactment. It should not

be lightly assumed that "Parliament had given with one hand what it took

away with the other" [See - Principles of Statutory Interpretation, Justice

G.P. Singh, 7th Edition 1999, p.1 13]. That construction is to be rejected

which will introduce uncertainty, friction or confusion into the working of

the system (ibid, p.l 19). While embarking upon interpretation of words and

expressions used in a Statute it is possible to find a situation when the

same word or expression may have somewhat different meaning at different

places depend-ing on the subject or context. This is however an exception

which can be resorted to only in the event of repugnancy in the subject or

context being spelled out. It has been the consistent view of Supreme Court

that when the Legislature used same word or expression in different parts

of the same section or statute, there is a presumption that the word is

used in the same sense throughout, (ibib, p.263). More correct statement of

the rule is, as held by House of Lords in Farrell v. Alexander, [1976] 2

All E.R. 721, 736, "where the draftsman uses the same word or phrase in

similar contexts, he must be presumed to intend it in each place to bear

the same meaning". The Court having accepted invitation to embark upon

interpretative expedition shall iden-tify on its radar the contextual use

of the word or expression and then determine its direction avoiding

collision with icebergs of inconsistency and repugnancy.

Webster defines "such" as "having the particular quality or character

specified; certain; representing the object as already particularised in

terms which are not mentioned. In New Webster's Dictionary And Thesaurus,

mean-ing of "such" is given as "of a kind previously or about to be

mentioned or implied; of the same quality as something just mentioned (used

to avoid the repetition of one word twice in a sentence); of a degree or

quantity stated or implicit; the same as something just mentioned (used to

avoid repetition of one word twice in a sentence); that part of something

just stated or about to be stated." Thus, generally speaking, the use of

the word "such" as an adjective prefixed to a noun is indicative of the

draftsman's intention that he is assigning the same meaning or

characteristic to the noun as has been previously indicated or that he is

referring to something which has been said before. This principle has all

the more vigorous application when the two places employing the same

expression, at earlier place the expression having been defined or

characterised and at the latter place having been qualified by use of the

word "such", are situated in close proximity.

We are of the opinion that the meaning assigned to the expression 'the

principal sum adjudged' should continue to be assigned to "principal sum"

at such other places in Section 34(1) where the expression has been used

qualified by the adjective "such" that is to say, as "such principal sum".

Recognition of the method of capitalisation of interest so as to make it a

part of the principal consistently with the contract between the parties or

established banking prac-tice does not offend the sense of reason, justice

and equity. As we have noticed such a system has a long established

practice and a series of judicial precedents upholding the same. Secondly,

the underlying principle as noticed in several decided cases is that when

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interest is debited to the account of the borrower on periodical rests, it

is debited because of its having fallen due on that day. Nothing prevents

the borrower from paying the amount of interest on the date it falls due.

If the amount of interest is paid there will be no occasion for

capitalising the amount of interest and converting it into principal. If

the interest is not paid on the date due, from that date the creditor is

deprived of such use of the money which it would have made if the debtor

had paid the amount of interest on the date due. The creditor needs to be

compensated for deprivation. As held in Pazhaniappa Mudaliar and Ors. v.

Narayana Ayyar and Ors. (supra) the fact-situation is analogous to one as

if the creditor has advanced money to the borrower equivalent to the amount

of interest debited. We are, therefore, of the opinion that the expression

"the principal sum ad-judged" may include the amount of interest, charged

on periodical rests, and capitalised with the principal sum actually

advanced, so as to become an amalgam of principal in such cases where it is

permissible or obligatory for the Court to hold so. Where the principal sum

(on the date of suit) has been so adjudged, the same shall be treated as

"principal sum" for the purpose of "such principal sum" - the expression

employed later in Section 34 of C.P.C.. The expression "principal sum"

cannot be given different meanings at different places in the language of

same section, i.e. Section 34 of C.P.C..

The 1956 amendment serves two-fold purpose. Firstly, it prevents award of

interest on the amount of interest so adjudged on the date of suit.

Secondly, it brings the last clause of Section 34, by narrowing down its

ambit, in con-formity with the scope of the first clause in so far as the

expression "the principal sum adjudged" occurring in the first part of

Section 34 is concerned which has been left untouched by amendment. The

meaning to be assigned to this expression in the first part remains the

same as it was even before the amendment. However, in the third part of

Section 34 the words used were "on the aggregate sum so adjudged". The

judicial opinion prevalent then was (to wit, see Prabirendra Mohan v.

Berhampore Bank Ltd. & Ors., AIR (1954) Calcutta 289, 295 that 'aggregate

sum' contemplated the aggregate of (i) the principal sum adjudged, (ii) the

interest from the date of the suit to the date of decree, and (iii) the

pre-suit interest. Future interest was capable of being awarded also on the

amount of pre-suit interest - adjudged as such, that is, away from such

interest as was adjudged as principal sum having amalgamated into in by

virtue of capitalisation. The amendment is intended to deprive the court of

its pre-amendment power to award interest on interest i.e. interest on

interest adjudged as such. The amendment cannot be read as intending,

expressly or by necessary implication, to deprive the court of its power to

award future interest on the amount of the principal sum adjudged, the

sense in which the expression was understood, also judicially expounded

even before 1955; the expression having been left untouched by the 1956

amendment.

It was submitted from borrowers' side that such an interpretation of

Section 34 of the Civil Procedure Code as canvassed on behalf of the banks,

if accepted, may result in anomalous situations emerging. To wit, it was

pointed out that if the bank deliberately and unscrupulously delays the

suit being filed, for such period of delay the bank would gain an advantage

by continuing to charge interest at the contract rate and by capitalising

the same. If the suit was filed promptly then the contract would cease to

operate and debtor would be relieved from the rigour of the contract and

find solace under the operation of Section 34 of the Civil Procedure Code.

True it is that once a suit is filed in the Court, so far as Section 34 of

the Civil Procedure Code is concerned, the relationship of parties ceases

to be governed by contract between the parties and comes to be governed by

Section 34 of the Civil Procedure Code. Still the submission has to be

repelled for several reasons. Firstly, the bank can afford to wait or delay

the filing of the suit only during the period of limitation which delay

would not be illegitimate. Secondly, noting prevents the debtor, even

during the period of this delay, to pay or tender the amount of interest as

and when it falls due and thereby prevent its capitalisation. Thirdly, the

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court is not powerless to deny the bank's claim for interest, if in the

facts and circumstances of a given case the court is persuaded to hold that

filing of the suit was delayed for the purpose of deliberately gaining an

unfair advantage over adverse finan-cial condition of the defendant. In

such cases the pre-suit interest though claimed in accordance with the

contract would be denied by the Court on the ground of public policy and on

the ground of the creditor having tried to gain an unfair advantage over

the debtor by a deliberate inaction of himself, no one can take advantage

of its own wrong.

It was further submitted that if the expression "the principal sum ad-

judged" was to be interpreted and assigned a meaning as inclusive of the

interest capitalised and therefore being the principal sum to be adjudged

so at the date of the suit then there would be left nothing to be adjudged

by way of interest for the pre-suit period and therefore a part of Section

34(1) "and in addition to any interest adjudged on such principal sum for

any period prior to the institution of the suit" - shall be rendered

redundant. We cannot subscribe to this submission. We give just an

illustration or two to demonstrate reasons for our such opinion. The same

plaintiff while suing the same defendant may join in the suit more causes

of action then one; one permitting capitalisation of interst, and the

other, not permitting the same. There may be a case, as was Gowda's case

decided by this Court, wherein interest is capitalised with quar-terly

rests on a particular date, says 31st March and so on and the suit is filed

before the date on which interest will be capitalised. The amount of

interest charged for the period of time less than the quarter would remain

an interest, not capitalised. Then there may be a case where interest may

have been charged and capitalised at a rate exceeding the one permitted in

which case the amount of interest charged and capitalised beyond the

quantum permissible shall have to be separated. In all such cases the

principal sum inclusive of capitalised interest to the extent permissible

shall be adjudged as 'principal sum' and there would also be 'in addition

any interest adjudged by way of interest on such principal sum' for the

pre-suit period. We therefore find force in the submission of the learned

Solicitor General that in that part of Section 34(1) which speaks of

"interest adjudged on such principal sum" for pre-suit period, the text

should be read as if by reading "interest" qualified by "if any" so as to

make it meaningful.

It was also submitted that Section 34 of the CPC is general in its

application to all money suits and if banking practice or banking contracts

providing for capitalisation of interest charged on periodical rests were

to be recognised it will mean that application of Section 34 would be

different in suits filed by banks and in suits filed by creditors other

than bankers. In our opinion it is bound to be so. Section 34 is a general

procedural provision and whether it would apply or not and if apply then to

what extent would obviously depend on the fact situation of each case.

We are, therefore, of the opinion that two-Judge Bench decision of this

Court in Corporation Bank v. D.S. Gowda & Anr., and three Judge Bench

decision in Bank of Baroda v. Jagannath Pigment & Chemicals & Ors., are

correctly decided and are, therefore, affirmed. A creditor can charge

interest from his debtor on periodical rests and also capitalise the same

so as to make it a part of the principal. Such a course can be justified by

stipulation in a contract voluntarily entered into between the parties or

by a practice or usage well established in the world to which the parties

belong. Such practice is to be found already in vogue in the field of

banking business. Such contract or usage or practice can stand abrogated by

legislation such as Usury Laws or Debt Relief Laws and so on.

A Few Notes of Caution:

Though we have answered the question of law before us, but we cannot leave

the matter at that alone without sounding notes of caution, lest our view

of the law should be misconstrued and misapplied. Before we do so, it would

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be appropriate to refer to the decision of this Court in Corporation Bank

v. D.S. Gowda (supra) in somewhat details.

The Banking Regulations Act, 1949 empowers Reserve Bank, on its being

satisfied that it is necessary or expedient in the public interest or in

the interest of depositors or banking policy so to do, to determine the

policy in relation to advances to be followed by banking companies

generally or by any banking company in particular and when the policy has

been so determined it has a binding effect. In particular, the Reserve Bank

of India may give direc-tions as to the rate of interest and other terms

and conditions on which advances or other financial accommodation may be

made. Such directions are also binding on every banking company. Section

35A also empowers Reserve Bank of India in the public interest or in the

interest of banking policy or in the interests of depositors (and so on) to

issue directions generally or in particular which shall be binding. With

effect from 15.2.1984 Section 21A has been inserted in the Act which takes

away power of the Court to re-open a trans-action between a banking company

and its debtor on the ground that the rate of interest charged is

excessive. The provision has been given an overriding effect over the Usury

Loans Act, 1918 and any other provincial law in force relating to

indebtedness.

This Court held in D.S. Gowda's case that the directions issued by the

Reserve Bank of India have statutory flavour. The Court noted that

agricultural finance stands on a different footing for the reason that

agriculturists do not have any regular source of income other than the sale

proceeds of their crops and therefore agricultural loans have to be treated

differently from other loans and borrowings. Reserve Bank of India has also

shown its concern towards agriculturist loances by devising separate policy

to govern them and not per-mitting capitalisation of accrued interest on

agricultural loans except on annual rests or when the loan/instalment has

become overdue.

As to capitalisation of interest charged on periodical rests this Court

found the High Court of Karnataka having noticed that banks in India were

not following a uniform practice and some banks charged interest with

monthly or quarterly rests while others charged with yearly or six monthly

rests and hence the Reserve Bank of India had to issue directives to bring

about uniformity in that behalf. In conclusion this Court held that if bank

was claiming interest in excess of that permitted by the circular/direction

of the Reserve Bank, the Court could give relief to the aggrieved party

notwithstanding Section 21A to the extent of interest charged in excess of

the rate prescribed by the Reserve Bank of India. A distinction was drawn

between Court's power to interfere on the premise that the interest charged

is excessive under the general law and courts interference on the premise

that the interest charged is in contravention of the circulars/directions

issued by the Reserve Bank of India. In the former case it would not be

permissible in view of the bar enacted by Section 21A of the Banking

Regulations Act while in the latter case it would be permissible because of

the Reserve Bank's circulars and directions having statutory force under

Sections 21/35A of the Act having been violated. The question whether

interest charged in excess of the minimum rate of interest appointed by the

Reserve Bank without fixing a ceiling and levying higher rate to be charged

at the discretion of each bank can be treated as excessive and

unconscionable and whether in such situation Section 21A would debar the

Court from reduc-ing the rate of interest to a reasonable limit was left

open and undecided as the same did not arise in the case before the Court.

However it was made very clear that if the Reserve Bank has fixed the

maximum rate of interest under Sections 21/35A of the Act any transaction

charging interest within the limit so ap-pointed would not be treated as

excessive.

It is interesting to note that the same Bench which decided D.S. Gowda's

case also decided State Bank of India, Bhubaneswar v. Ganjam District

Tractor Owners Association and Ors., [1994] 5 SCC 238, and held that where

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the agreement between the bank and the borrower did not provided for

payment of compound interest or interest with periodical rests, the bank

could not have charged the same.

During the course of hearing it was brought to our notice that in view of

several Usury Laws and Debt Relief Laws in force in several States private

money lending has almost come to an end and needy borrowers by and large

depend on banking institutions for financial facilities. Several unhealthy

prac-tices having slowly penetrated into prevalence were pointed out.

Banking is an organised institution and most of the banks press into

service long running documents wherein the borrowers fill in the blanks, at

times without caring to read what has been provided therein, and bind

themselves by the stipulations articulated by best of legal brains.

Borrowers other than those belonging to corporate sector, find themselves

having unwittingly fallen into a trap and rendered themselves liable and

obliged to pay interest the quantum whereof may at the end prove to be

ruinous. At times the interest charged and capitalised is manifold than the

amount actually advanced. Rule of damdupat does not apply. Penal interest,

service charges and other over-heads are debited in the account of the

borrower and capitalised of which debits the borrower may not even be

aware. If the practice of charging interest on quarterly rests is upheld

and given a judicial recognition, unscrupulous banks may resort to charging

interest even on monthly rests and capitalising the same. Statements of Ac-

counts supplied by banks to borrowers many a times do not contain

particulars or details of debit entries and when written in hand are worse

than medical prescriptions putting to test the eyes and wits of the

borrowers. Instances of unscrupulous, unfair and unhealthy dealings can be

multiplied though they cannot be generalised. Suffice it to observe that

such issues shall have to be left open to be adjudicated upon in

appropriate cases as and when actually arising for decision and we cannot

venture into laying down law on such issues as do not arise for

determination before us. However, we propose to place on record a few

incidental observations, without which, we feel, our answer will not be

complete and that we do as under :

(1) Though interest can be capitalised on the analogy that the interest

falling due on the accrued date and remaining unpaid, partakes the

character of amount advanced on that date, yet penal interest, which is

charged by way of penalty for non-payment, cannot be capitalised. Further

interest, i.e. interest on interest, whether simple, compound or penal,

cannot be claimed on the amount of penal interest. Penal interest cannot be

capitalised. It will be opposed to public policy.

(2) Novation, that is, debtor entering into a fresh agreement with

creditor undertaking payment of previously borrowed principal amount

coupled with interest by treating the sum total as principal, any contract

express or implied and an express acknowledgement of accounts, are best

evidence of capitalisa-tion. Acquiescence in the method of accounting

adopted by the creditor and brought to the knowledge of the debtor may also

enable interest being con-verted into principal. A mere failure to protest

is not acquiescence.

(3) The prevalence of banking practice legitimatises stipulations as to

interest on periodical rests and their capitalisation being incorporated in

contracts. Such stipulations incorporated in contracts voluntarily entered

into and binding on the parties shall govern the substantive rights and

obligations of the parties as to recovery and payment of interest.

(4) Capitalisation method is founded on the principle that the borrower

failed to make payment though he could have made and thereby rendered

himself a defaulter. To hold an amount debited to the account of the

borrower capitalised it should appear that the borrower had an opportunity

of making the payment on the date of entry or within a reasonable time or

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period of grace from the date of debit entry or the amount falling due and

thereby avoiding capitalisa-tion. Any debit entry in the account of the

borrower and claimed to have been capitalised so as to form an amalgam of

the principal sum may be excluded on being shown to the satisfaction of the

Court that such debit entry was not brought to the notice of the borrower

and/or he did not have the opportunity of making payment before

capitalisation and thereby excluding its capitalisa-tion.

(5) The power conferred by Sections 21 and 35A of the Banking Regulations

Act, 1935 is coupled with duty to Act. Reserve Bank of India is prime

banking institution of the country entrusted with a supervisory role over

banking and conferred with the authority of issuing binding directions,

having statutory force, in the interest of public in general and preventing

banking affairs from deterioration and prejudice as also to secure the

proper management of any banking company generally. Reserve Bank of India

is one of the watchdogs of finance and economy of the nation. It is, and it

ought to be, aware of all relevant factors, including credit conditions as

prevailing, which would invite its policy decisions. RBI has been issuing

directions/circulars from time to time which, inter alia, deal with rate of

interest which can be charged and the periods at the end of which rests can

be struck down, interest calculated thereon and charged and capitalised. It

should continue to issue such directives. Its circulars shall bind those

who fall within the net of such directives. For such transaction which are

not squarely governed by such circulars, the RBI direc-tives may be treated

as standards for the purpose of deciding whether the interest charged is

excessive, usurious or opposed to public policy.

(6) Agricultural borrowings are to be treated on a pedestal different from

others. Charging and capitalisation of interest on agricultural loans

cannot be permitted in India except on annual or six monthly rests

depending on the rotation of crops in the area to which the agriculturist

borrowers belong.

(7) Any interest charged and/or capitalised in voilation of RBI

directives, as to rate of interest, or as to periods at which rests can be

arrived at, shall be dis-allowed and/or excluded from capital sum and be

treated only as interest and dealt with accordingly.

(8) Award of interest pendente lite and post-decree is discretionary with

the Court as it is essentially governed by Section 34 of the CPC de hors

the contract between the parties. In a given case if the Court finds that

in the principal sum adjudged on the date of the suit the component of

interest is disproportionate with the component of the principal sum

actually advanced the Court may exercise its discretion in awarding

interest pendente lite and post-decree inter-est at a lower rate or may

even decline awarding such interest. The discretion shall be exercised

fairly, judiciously and for reasons and not in an arbitrary or fanciful

manner.

In view of the law having been settled with this judgment, it is expected

henceforth from the banks, bound by the directives of the Reserve Bank of

India, to make an averment in the plaint that interest/compound interest

has been charged at such rates, and capitalised at such periodical rests,

as are permitted by, and do not run counter to, the directives of the

Reserve Bank of India. A statement of account shall be filed in Court

showing details and giving particulars of debit entries, and if debit entry

relates to interest then setting out also the rate of, and the period for

which, the interest has been charged. On the Court being prima facie

satisfied, if a dispute is raised in that regard, of the permissibility of

debits, the onus would be on the borrower to show why the amount of debit

balance appearing at the foot of the account and claimed as principal sum

cannot be so accepted and adjudged. This practice would narrow down the

scope of controversy in suits filed by banking institutions and enable an

expeditious disposal of the suits, the issues wherein are by and large

capable of being determined by documentary evidence. RBI directives have

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not only statutory flavour, any contravention thereof or any default in

compliance therewith is punishable under sub-section (4) of Section 46 of

Banking Regu-lations Act, 1949. The Court can act on assumption that

transactions or dealings have taken place and accounts maintained by banks

in conformity with RBI directives.

We have dealt with the law governing the debtor and creditor relation-ship.

We have not dealt with any provision or principle of taxation law

whereunder deemed payment of interest consequent upon capitalisation and

actual payment whenever made may be treated as capital or revenue which

question shall have to be determined under the scheme of relevant statutory

enactment.

Subject to the above we answer the reference in following terms :

(1) Subject to a binding stipulation contained in a voluntary contract

between the parties and/or an established practice or usage interest on

loans and ad-vances may be charged on periodical rests and also capitalised

on remaining unpaid. The principal sum actually advanced coupled with the

interest on periodical rests so capitalised is capable of being adjudged as

principal sum on the date of the suit.

(2) The principal sum so adjudged is 'such principal sum' within the

meaning of Section 34 of the Code of Civil Procedure Code, 1908 on which

interest pendente lite and future interest i.e. post-decree interest, at

such rate and for such period which the Court may deem fit, may be awarded

by the Court.

(3) Corporation Bank v. H.S. Gowda and Anr., [1994] 5 SCC 213 and Bank of

Baroda v. Jagannath Pigment & Chem. have been correctly decided.

All the learned counsel for the parties did their best to assist the Court

in arriving at a just decision on the issues of significance and far

reaching implications. However, we would like to place on record our

appreciation of valuable assistance given to Court by Shri Ranjit Kumar,

Sr. Advocate assisted by Shri K.M.K. Nair and Shri A. Subba Rao, Advocates,

who appeared as amicus curiae on Court's request and with objectivity

placed before the Court relevant material, judicial view-points and several

authorities. As most of the borrowers were unrepresented, the Court needed

their assistance.

Let all these appeals and SLPs be now placed before appropriate Bench for

decision.