Criminal proceedings under Section 138 NI Act are unsustainable for security cheques absent a formal loan recall or default notice.

The Petitioners (Guarantors and a Director) challenged a Complaint filed by the Respondent Bank under Section 138 of the Negotiable Instruments (NI) Act and Section 420 of the IPC, along with the subsequent cognizance and revision orders

The Bank had sanctioned a term loan of ₹40 Crores to KRPM Infrastructure Pvt. Ltd., for which the Petitioners provided undated "security cheques" marked "Amount not exceeding 40 crores"

While the loan was active and being serviced through revised EMIs and substantial payments totaling over ₹2.68 Crores between February and June 2024, the Bank presented four cheques of ₹70 Lakhs each.

The cheques were dishonored for "insufficient funds".

The Petitioners argued the debt had not crystallized, no default notice was served as contractually required, and the cheques were presented beyond their six-month validity period from the date of the agreement.

Whether the presentation of undated security cheques without a prior demand notice or a formal declaration of default constitutes an enforceable debt under Section 138 of the NI Act

Whether the criminal proceedings under Section 138 and Section 420 IPC are maintainable when the loan account is subsisting, re-structured, and actively being serviced

The Court considered Section 138 of the Negotiable Instruments Act, 1881, regarding the dishonor of cheques for discharge of debt.

It referenced the Supreme Court’s ruling in Sripati Singh v. State of Jharkhand (2022) to distinguish the treatment of security cheques.

It applied principles of the Indian Contract Act, 1872, specifically Sections 126-141 regarding Guarantees, noting that a guarantor’s liability is governed by the specific terms of the Deed of Guarantee.

The Court also highlighted the requirement of mens rea for "cheating" under Section 420 IPC, citing Suryalakshmi Cotton Mills Ltd. v. Rajvir Industries Ltd. (2008).

The Court observed that the Master Facility Agreement (MFA) and Deed of Guarantee required specific conditions to be met before a "Default" could be declared.

Under Clause 2 of the Guarantee Deed, the Guarantor’s liability only arises "upon demand" by the Bank, yet no such demand was proven before the cheques were presented.

The Court found that since the loan was being actively re-structured and the borrower was maintaining financial discipline by paying revised EMIs, no "Event of Default" under Article 9 of the MFA had crystallized to justify invoking security.

Furthermore, the Bank failed to issue a prior notice to rectify the alleged default, which violated both the contract and principles of natural justice.

The Court determined that using criminal machinery for a subsisting commercial transaction where the debt was already being addressed through enhanced interest/re-payment was an abuse of process.

The Court answered that security cheques cannot be used to bypass the necessity of a demand notice in a subsisting loan.

Consequently, the High Court quashed the Complaint Cases, the Cognizance Order, and the Revisional Order.

The Petitions were allowed.