RBI compromise settlement and write-off framework 2023: OTS rules, 12-month cooling period, and the wilful defaulter window

When the Reserve Bank of India notified Circular RBI/2023-24/40 on 8 June 2023, it rewrote the architecture of one-time settlement (OTS) for stressed loans. The Framework for Compromise Settlements and Technical Write-offs lets every regulated entity — scheduled commercial banks, urban and rural cooperative banks, NBFCs and all-India financial institutions — settle with a defaulting borrower for less than contractual dues, even where the account is classified as wilful default or fraud. For roughly two crore borrowers whose accounts slipped into the special mention or sub-standard buckets during 2020-22, this is the most consequential RBI rule of the decade. It is also the most misunderstood, because settlement does not erase the wilful-defaulter tag, does not collapse Section 138 proceedings under the Negotiable Instruments Act 1881, and does not restore eligibility to bid as a resolution applicant under Section 29A of the Insolvency and Bankruptcy Code 2016.

The Statutory Position

The 8 June 2023 circular is issued under Sections 21 and 35A of the Banking Regulation Act 1949, Section 45L of the RBI Act 1934, and Section 30A of the National Housing Bank Act 1987. It supersedes paragraph 17 of the Prudential Framework for Resolution of Stressed Assets dated 7 June 2019. Two operative paragraphs do the heavy lifting. Paragraph 4 permits the RE Board to approve a policy that allows compromise settlement with any borrower, including those classified as fraud or wilful default. Paragraph 5 imposes a minimum cooling period of 12 months between the date of settlement and the date on which fresh exposure to the same borrower can be sanctioned. Banks were required to put a Board-approved policy in place within 90 days, that is by 6 September 2023.

The legal scaffolding sits in three statutes. Recovery action flows from the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act 2002 (SARFAESI), the Recovery of Debts and Bankruptcy Act 1993 (RDDB Act), and the Insolvency and Bankruptcy Code 2016 (IBC). The OTS framework operates in parallel — a bank can settle even while a Section 13(2) SARFAESI notice is live, a Debts Recovery Tribunal (DRT) proceeding is pending, or an admission application under Section 7 or 9 of the IBC is filed. The settlement extinguishes the contractual claim, but the regulatory status — wilful defaulter under the RBI Master Direction dated 1 July 2015, or fraud under the Master Directions on Fraud Risk Management dated 15 July 2024 — survives unless removed through a separate process.

A second piece of statutory architecture is the credit-bureau reporting obligation under Section 17 of the Credit Information Companies (Regulation) Act 2005. Every settlement is reported to all four credit information companies (CIBIL, Equifax, Experian and CRIF High Mark) with the status "Settled" — distinct from "Closed" — and remains on the borrower's report for 84 months from the date of last reporting. The CIBIL score impact is typically 75-100 points downward, with recovery curves stretching across 36-60 months.

Procedure Step by Step

The OTS process under the 8 June 2023 framework runs through nine stages. The procedure below assumes a Rs 5 crore exposure that has slipped to doubtful-1, the most common context for an OTS proposal filed in 2025.

1. Account classification confirmation. The borrower obtains a written confirmation of the asset classification (sub-standard, doubtful-1, doubtful-2, doubtful-3, or loss) along with the latest provisioning percentage. Under the Master Circular on Income Recognition and Asset Classification (IRAC) dated 1 April 2024, doubtful-1 attracts 25% secured-portion provisioning and 100% unsecured-portion provisioning. The classification drives the bank's haircut tolerance.
2. Recoverable value assessment. The bank commissions an independent valuer from the RBI panel to value the primary and collateral security. The realisable value, not the book value, is the anchor for the OTS price. A realisable value of Rs 2.8 crore on a Rs 5 crore exposure typically supports a settlement in the Rs 2.5-3.2 crore band.
3. Borrower proposal. The borrower files a written OTS proposal addressed to the branch head, with copies to the regional office and the Stressed Assets Management Branch (SAMB). The proposal cites Paragraph 4 of RBI Circular dated 8 June 2023, attaches CA-certified net worth statement, source-of-funds proof for the settlement amount, and a 12-month repayment schedule capped at 270 days from approval.
4. Bank evaluation. The proposal is examined by the Credit Committee of the next-higher level than the original sanctioning authority — that is the express RBI mandate in Paragraph 6 of the 8 June 2023 circular. Where the original loan was sanctioned by the branch, the OTS is decided at the regional office; where sanctioned at the regional office, the decision rests with the corporate office.
5. Board-approved policy check. The Credit Committee tests the proposal against the bank's Board-approved compromise settlement policy. The policy must specify minimum haircut, eligible categories of borrowers, role of independent committee for wilful-default cases, and reporting framework. Without a Board-approved policy, no OTS is legally tenable post 6 September 2023.
6. Up-front deposit. The borrower deposits 25% of the proposed settlement amount, called the up-front money, within 30 days of in-principle acceptance. The deposit is non-refundable on the borrower's withdrawal, refundable only if the bank withdraws.
7. Sanction letter. The bank issues the OTS sanction letter specifying the settlement amount, payment schedule, interest on deferred portion (typically MCLR + 100 bps), and the consequence of default. Standard schedules are 30 days to 180 days for the balance, extendable up to 270 days with interest.
8. Payment completion and discharge. On receipt of the full settlement amount, the bank issues the No Objection Certificate, returns the title deeds, releases the personal guarantees, and files satisfaction of charge with the Registrar of Companies within 30 days under Section 82(1) of the Companies Act 2013.
9. CIC reporting. Within 30 days of discharge, the bank reports the account as "Settled" to all four credit information companies. The 12-month cooling period under Paragraph 5 begins on this reporting date.

The commonest cause of collapse is failure at stage 6 — borrowers underestimate the rigour of the 25% deadline. Once the 30-day window expires, the in-principle approval lapses and a fresh proposal must be filed, usually at a worse haircut because the classification has slipped further.

Borrower Defences Available

A borrower facing recovery action while an OTS proposal is pending has five defences. The first is the Section 13(3A) SARFAESI objection. Where the bank issues a Section 13(2) demand notice, the borrower has 60 days to file objections; the bank must respond by a reasoned order within 15 days. Failure to issue that reasoned order is a jurisdictional infirmity that can ground a writ under Article 226. The companion piece on Section 14 SARFAESI possession applications before the District Magistrate maps the parallel 60-day disposal mandate.

The second defence is the DRT Securitisation Application under Section 17 of SARFAESI. The borrower has 45 days from the bank's measure (notice, possession, sale) to file the SA. The DRT entry fee scales from Rs 12,500 for claims up to Rs 10 lakh to Rs 1.5 lakh for claims above Rs 30 lakh under the DRT (Procedure) Rules 1993. No pre-deposit is required at the DRT stage; that requirement kicks in only at the appellate stage.

The third defence is the Section 18 SARFAESI appeal to the Debts Recovery Appellate Tribunal (DRAT). The pre-deposit is 50% of the debt due, reducible to 25% in the tribunal's discretion. The appellate window is 30 days from the DRT order. Where the OTS is in active negotiation, the borrower can move a stay application before the DRAT citing bona fide settlement — a route used in roughly 18% of the 2024 DRAT filings as recorded in the DRT Annual Report 2023-24.

The fourth defence is the Section 17(1A) IBC route — where the corporate debtor argues that resolution under IBC is the appropriate forum, not SARFAESI. This is a defensive tool of limited utility because the bank elects between fora, not the borrower.

The fifth and most underused defence is writ jurisdiction. In Bijnor Urban Cooperative Bank Ltd v. Meenal Agarwal, decided on 15 December 2021 and reported as 2022 SCC OnLine SC 26, the apex court held that no borrower has a vested right to an OTS, but the bank cannot arbitrarily reject a proposal that complies with the Board-approved policy. Where rejection is unreasoned, mechanical, or contrary to the bank's own policy, a writ under Article 226 lies. The borrower must plead specific arbitrariness; the writ is not a forum to negotiate the haircut percentage.

For non-resident borrowers, the settlement payment from overseas attracts FEMA reporting and TDS implications. The NRI tax calculator quantifies the Section 195 withholding on the haircut, while the repatriation calculator prices the inward remittance under LRS limits.

Recent Tribunal/HC Position

The 2024 and early 2025 jurisprudence around the 8 June 2023 circular has crystallised around four propositions. First, in Bijnor Urban Cooperative Bank Ltd v. Meenal Agarwal (15 December 2021), a two-judge bench of Justices M R Shah and B V Nagarathna held that the writ court cannot direct the bank to grant OTS at a particular haircut; the relief is to set aside the rejection and remit for fresh consideration. Practitioners routinely cite this for the proposition that the writ court does not sit in appeal over commercial wisdom.

Second, in RBI v. Jayantilal N Mistry (16 December 2015), reported as (2016) 3 SCC 525, the apex court ruled that information about defaulters and inspection reports must be disclosed under the Right to Information Act 2005, subject to Section 8 exemptions. This is the backbone for borrower requests to inspect the bank's internal OTS evaluation file. The companion analysis on Section 8 RTI exemptions and the public interest override maps the grounds on which the bank can resist disclosure.

Third, the Delhi High Court in Milind Patel v. Union Bank of India (5 February 2024, WP(C) 1492 of 2024) reiterated that a Board-approved compromise settlement policy must be disclosed in summary form, and that a borrower's request to inspect the policy is a legitimate exercise of natural justice. The court ordered the bank to furnish the policy summary within 30 days.

Fourth, the Bombay High Court in Mahindra & Mahindra Financial Services Ltd v. State of Maharashtra (10 January 2024, WP-LD-VC-99 of 2024) clarified that the 12-month cooling period under Paragraph 5 cannot be circumvented by routing fresh exposure through a different RE in the same group. Group-level lending teams now run a cross-RE check on every fresh proposal where any group entity has booked a compromise settlement in the preceding 12 months. For contractual-remedy contrast, see the analysis on the post-2018 Section 10 Specific Relief Act amendment.

The aggregate effect is that the borrower's strongest weapon against a mechanical OTS rejection is the demand for reasons. Where the bank's rejection letter does not engage with the realisable-value calculation, the source-of-funds verification, or comparable settlement precedents, the writ court is prepared to remit. Where rejection is a reasoned commercial decision, the courts have consistently declined to interfere. The hard-edged limitation is the Section 29A IBC bar — even a fully completed OTS does not restore a wilful defaulter's eligibility to bid as a resolution applicant. The borrower must separately secure removal from the wilful-defaulter list through the Identification Committee and Review Committee process under the RBI Master Direction on Wilful Defaulters dated 30 July 2024.

FAQ

Does an OTS under the 8 June 2023 framework remove the wilful-defaulter tag from CIBIL?

No. The CIBIL record will reflect the account as "Settled" rather than "Closed" for 84 months from the date of last reporting under Section 17 of the Credit Information Companies (Regulation) Act 2005. Separately, the wilful-defaulter status — if recorded — survives the settlement and can be removed only through the Identification Committee process under the RBI Master Direction on Wilful Defaulters dated 30 July 2024.

What is the minimum cooling period for fresh exposure after an OTS in 2025?

Paragraph 5 of RBI Circular RBI/2023-24/40 dated 8 June 2023 mandates a minimum cooling period of 12 months from the date of settlement before the same regulated entity can extend fresh exposure to the settled borrower. The Bombay High Court in Mahindra & Mahindra Financial Services Ltd v. State of Maharashtra (10 January 2024) extended this principle to group entities, meaning fresh exposure through a sister NBFC in the same group also triggers the 12-month bar.

Can a borrower file an OTS proposal while a Section 138 NI Act cheque-bounce case is pending?

Yes. The OTS proposal and the Section 138 prosecution operate on separate planes. The settlement extinguishes the civil claim, but the criminal proceeding under Section 138 of the Negotiable Instruments Act 1881 must be separately compounded under Section 147. Compounding requires both parties' consent and is permissible at any stage, including post-conviction, on the principles laid down in Damodar S Prabhu v. Sayed Babalal H on 3 May 2010.

What is the up-front deposit a borrower must place at the OTS in-principle stage?

The standard up-front deposit is 25% of the proposed settlement amount, to be paid within 30 days of in-principle approval. The deposit is forfeited if the borrower withdraws but refundable if the bank withdraws or the proposal lapses at the bank's end. Banks may set higher up-front percentages in their Board-approved policy under Paragraph 4 of the 8 June 2023 framework; some PSU banks demand 30-35% for wilful-default OTS cases.

Can a borrower challenge an OTS rejection in the High Court under Article 226?

Yes, but the relief is limited. Following Bijnor Urban Cooperative Bank Ltd v. Meenal Agarwal (15 December 2021), the court will not direct the bank to grant OTS at a particular haircut. It can, however, set aside an unreasoned or arbitrary rejection and remit the proposal for fresh consideration. The borrower must plead specific arbitrariness — non-application of mind, deviation from the bank's own Board-approved policy, or denial of natural justice.

Does an OTS-settled borrower regain eligibility to be a resolution applicant under IBC?

No, not automatically. Section 29A(c) of the Insolvency and Bankruptcy Code 2016 bars a wilful defaulter from being a resolution applicant, and the wilful-defaulter classification survives the OTS unless separately removed through the Identification Committee under the RBI Master Direction dated 30 July 2024. The disqualification can be cured by paying the overdue amount in full along with interest — that is a higher standard than the OTS haircut.

How is the OTS settlement amount treated for income tax in the borrower's hands?

For a company or firm, principal waiver is taxable under Section 28(iv) of the Income-tax Act 1961 as a business benefit, following CIT v. Mahindra & Mahindra Ltd on 24 April 2018 (reported as (2018) 404 ITR 1). Interest waivers are taxable under Section 41(1) where the interest was claimed as a deduction earlier. For individual borrowers, the waiver of interest may be taxed under Section 56(2)(x) where it exceeds Rs 50,000 in a financial year.

External authorities for further reading: the master compendium of RBI Master Directions and circulars is hosted at the Reserve Bank of India website, and the bare text of the SARFAESI Act 2002, the RDDB Act 1993, the IBC 2016 and the Companies Act 2013 is available on India Code. The full text of Bijnor Urban Cooperative Bank Ltd v. Meenal Agarwal and Milind Patel v. Union Bank of India can be retrieved from Indian Kanoon.