Loan Default Alone is Not Cheating: Karnataka High Court Acquits Businessmen in ₹85 Lakh Fraud Case

Criminal Intent Must Be Present From Inception, Not Arise Due to Business Loss, Karnataka High Court, in a judgment delivered on 12th February 2025, set aside the conviction of two businessmen accused of defrauding Canara Bank of ₹85 lakh, ruling that mere default in loan repayment does not amount to cheating unless there is proof of fraudulent intent from the beginning of the transaction.

The court acquitted N.S. Suhas and his father, N.G. Subbaraya Setty, proprietors of Taranga Commercials of India and N.G. Subbaraya Setty & Sons, who were convicted by the CBI Special Court in 2011 for criminal conspiracy and cheating under Sections 120B and 420 of the IPC. The trial court had found that they had conspired with Canara Bank’s Basavanagudi branch manager, A. Sheshagiri Rao, to unlawfully secure and misuse loan facilities.

Justice V. Srishananda, allowing Criminal Appeal No. 208/2011, ruled: "Criminal liability for cheating cannot be imposed merely because a borrower defaults in repayment. Fraudulent or dishonest intention must exist from the inception of the transaction. If financial difficulties arise later due to business losses, that does not automatically transform the transaction into a criminal offence."

"Business Risks Cannot Be Equated With Criminal Conspiracy"

The case was based on allegations that between 1998 and 2001, the accused businessmen colluded with the bank manager to secure excessive credit limits, bypassing bank regulations and causing financial loss to Canara Bank.

The CBI’s charge sheet alleged that despite previous defaults and dishonored cheques, the accused firms were repeatedly granted additional credit limits. It was alleged that the bank manager, in violation of banking norms, enhanced the working capital limit of Taranga Commercials from ₹8 lakh to ₹10 lakh, even though the firm had outstanding dues. Similarly, a loan of ₹7 lakh and a term loan of ₹3 lakh were sanctioned to N.G. Subbaraya Setty & Sons, despite an existing outstanding balance of ₹19.93 lakh.

The trial court convicted the accused and sentenced them to three years in prison, holding that they had misused the loan facilities for personal benefit and evaded liability by issuing dishonored cheques.

The High Court, however, overturned this decision, holding that the prosecution had failed to establish that the accused had deceived the bank at the time of securing the loans.

"Banking transactions inherently involve risk. The prosecution must prove that the accused had a fraudulent intent at the time of obtaining credit facilities. Here, there is no such proof," the court stated.

"Loan Sanctions Were Within Bank’s Authority, No Proof of Deception"

The defense argued that all loans were sanctioned within permissible limits, backed by securities, and with full disclosure of financial statements. The High Court agreed with these submissions, noting that: "The fact that the bank continued to extend credit to the firms indicates that the transactions were approved as per banking norms. There is no material to show that the accused induced the bank into granting the loans by deception."

The court observed that the prosecution could not present any evidence to show that the bank suffered an actual financial loss or that the accused personally benefited from the transactions.

"Criminal Law Cannot Be Used as a Tool for Debt Recovery"
Relying on Supreme Court precedents, the High Court reiterated that breach of a financial contract does not constitute cheating unless deception is proved. The court cited the judgment in Vesa Holdings v. State of Kerala (2015) 8 SCC 293, where the Supreme Court ruled:

"For an offence of cheating to be made out, the complainant must show that the accused had fraudulent intent at the very inception of the transaction. If financial default occurs later, that by itself is not an offence under Section 420 IPC."

The court further noted that Canara Bank officials were fully aware of the financial condition of the accused firms and had continued extending loans despite previous defaults.

"A banker’s commercial decision to grant a loan cannot later be converted into a criminal charge unless there is clear evidence of fraud or misrepresentation," the court held.

Acquitting the accused, the High Court ruled: "The trial court’s conviction was based on conjecture rather than solid evidence. The prosecution failed to establish dishonest intent or criminal conspiracy. The appeal is allowed, and the accused are acquitted of all charges."

With this judgment, the Karnataka High Court reaffirmed that business losses or loan defaults, unless accompanied by fraud, cannot be treated as criminal offences. The ruling provides clarity on the distinction between civil and criminal liability in banking disputes, ensuring that entrepreneurs are not wrongfully prosecuted for financial failures.

Date of Decision: 12 February 2025