Indian leasing by Vinod Kothari

In this section, we take a look at the basic law of leasing in India. For details of legal issues in Indian leasing, refer to Vinod Kothari's Lease Financing and Hire-purchase, Chapters 12, 13, 14 and 15.

This write-up reviews the law of leasing in India under the following heads:

1. Sources of the law
Leasing and hire-purchase
Requirements of a valid lease or hire-purchase
4. Goods and redeliverability features
Supreme ownership rights of the lessor
6. Obligations relating to the goods
7. Obligations on misuse of the goods
8. Repossession of the goods
9. Motor vehicles law on lease and hire-purchase
10. Lease and Hire-purchase documentation

Leasing and hire-purchase are essentially hiring transactions - transactions in which possession of goods is handed over along with right to use, for a stated period and for consideration.

Hiring transactions are species of bailments in contract law - therefore, the transactions of lease and hire-purchase are governed by the common law of contracts dealing with bailment transactions.

Contracts law, being common law, is codified in the Indian Contracts Act 1872 but is enriched by history of precedents from both English and Indian Courts. Notably, the common law of contracts in India is based largely on the British legal principles, which have by and large been accepted as applicable to India.

Therefore, the principal sources of applicable law on lease and hire-purchase transactions are sections 148 to 171 of the Indian Contracts Act dealing with bailments, and a long series of Court rulings, principally on hire-purchase transactions, but of late, on lease transactions as well.

The law of hire-purchase, essentially with a view to standardize procedures and eliminate malpractice, on the lines of the English Hire-purchase Act, was enacted in 1972. However, the has not been enforced as yet. In the meantime, there has been an attempt to amend it and make it applicable. Reportedly, the Law Commission is again considering it fit to amend and implement the law, but unfortunately, over years, there have been so much change in commercial reality of hire-purchase business that the concepts and calculations relevant in 1972 have become absolutely redundant close to Y2K. Besides, there is no sanctity today to implement a law dealing with hire-purchase, and not lease, or any such instrument in isolation - if at all necessary, India needs a law on consumer credit. Even UK has scrapped the Hire-purchase Act and merged it with consumer credit law.

From legal rights and obligations viewpoint, there is no difference between lease and hire-purchase transactions. Both are viewed as bailment transactions.

Accordingly, most of the common law applicable to hire-purchase transactions is also applicable to leases, and vice versa.

The difference between the two is principally the non-existence of option to buy in case of lease transactions. In other words, lease transactions carrying an option to buy, explicitly or implicitly, will be treated as hire-purchase transactions. This may lead to differences in taxation treatment, but there is no appreciable difference in legal rights of parties. Click here for more on the substance of a financial lease and hire-purchase.

Hire-purchase is treated as distinct from conditional sale, since it provides the hirer with an option to buy, and does not impose an obligation to buy. The usual option to buy in case of hire-purchase transactions is for a nominal price of Re.1. If hire-purchase transaction were to force the hirer to continue paying the hire installments through the term of hire, and offer an option to the hirer only for the nominal purchase price of Re. 1, the optionality will be meaningless, and such hire-purchase transaction may be treated as a conditional sale. Refer for case law on this point to Lease Financing and Hire-purchase, page 665. See the next heading for more on this.

Both lease and hire-purchase, to be valid, must be valid bailment transactions. Therefore, all the preconditions of a valid bailment will be applicable to lease and hire-purchase transactions too.

Here is a detailed online article on the requirements of a valid lease and hire-purchase transaction, deriving from the law of bailments. Click here for the relevant section of the article.

The requirements for a valid hire-purchase are the same as those in case of a lease, but the additional requirement about an option to terminate the hiring by returning the goods, mentioned above, has been dealt with in detail in the online article on true leases. Click here to read the relevant section of the article.

No bailment, and hence, no hiring can take place where there are no goods delivered by the hire-grantor to the hirer. In case of a sale and leaseback transaction, a leasing company bought and leased goods which were later found to be non-existent. No lease was held to be created by the agreement, since a lease without goods is not even initiated. [Associated Japanese Bank v. Credit Nuford (1988) 3 All E R 902]

As the lease contract envisages a delivery of goods to the lessee, to be terminated by redelivery of goods at the end of the lease period, the goods must have the following features:

1. Durability: The goods must last for at least as long as the lease period. Unless the lessor, or the lessee being under obligation to do so, replaces them and the goods so replaced become the subject matter of the lease, the contract of lease comes to an end as soon as the subject matter of the lease, viz., the leased goods, cease to exist.

The goods constitute the very string of relation between the lessor and the lessee, and the relation is snapped the moment the string is broken. There may be doubts as to the existence of an intended lease where the goods leased are known not to have an estimated life at least equal to the lease period. For example, a lease of an umbrella could be intended, but not the lease of an ice cream. That is to say, goods which are consumed in the process of using them are incapable of lease.

2. Movability and severability: The goods leased are to be returned at the end of the lease period, since the possessory interest is only for a specific period. At the end of the period, the goods must redeliverable. This requires two attributes: that the goods must not have been permanently attached or affixed to an immovable property and hence rendered immovable, nor must they have been attached unseverably to any other property. The law of movable and immovable properties in India is by and large the same as in England - the character of a property is determined by the degree of annexation with land, and the intent of annexation.
3. Identifiability: To ensure that the bailee holds the goods owned by the bailor, the goods possessed by the lessee must be held distinct and ascertainable; in other words, the leased goods must not be mixed to render them unascertainable. The law of contracts distinguishes between mixture with or without the bailor's consent. Where the mixture is with the bailor's consent, the bailor and bailee will have proportionate interest in the lot. [Sec. 155]. Where the mixture is without the bailor's consent and the goods are unseverable, the bailor becomes entitled to be compensated by the bailee for the loss of goods.

Indian Courts have generally recognized the ownership rights of a lessor over the leased asset. Even if the lease is avowedly a financial lease, such as in case of a hire-purchase transaction, the Courts respect the way the parties have sought to create and protect their rights.

Click here for details of the ownership rights of a lessor in a lease. These rights are applicable in case of a hire-purchase transaction also.

While enjoying all the rights of ownership, the lessor may virtually escape all obligations relating to the goods - conditions of fitness, quality, usefulness for purpose, or any damages on account of defects in goods, can be effectively avoided by a disclaimer clause in the agreement backed by evidence that the lessor was not involved in selection of the goods nor did he influence the lessee's decision as to the goods or the supplier.

There is no categorical Indian case on the quality claims against the lessor - but the English principles of Astley Industrial Trust v. Grimley (1963) 2 All E. R. 33 apply in India too. See for details of the case law on this point Vinod Kothari: Lease Financing and Hire-purchase, pages 566 and 674.

While being the owner of the goods, the lessor may completely distance himself from obligations relating to the operation and use of the goods. This issue is very comfortably settled in India though there is a raging controversy on this point in number of other markets. The lessor is not in effective possession and is not the user of the goods. The lessee cannot be taken to be the agent of the lessor. See the following instances:

• A bus given on hire-purchase collided with a tree and killed several people. Hire-purchase financier as owner was not responsible. The driver of the bus was not to be taken as agent and the financier a "master". [Sundaram Finance Ltd. v. D G Nanajappa and Others]
• A truck given on hire-purchase was found carrying opium. The financier cannot be held responsible as the misuse of the vehicle could not have been with his consent and there was no possibility of the financier having control over the actual use by the hirer. [Great Finance (P) Ltd. v.The State]
• While the owner of the asset has been held not to be responsible for misuse, he still claims right to be notified before confiscation of his asset. [Pradeep and Co. v. Collector of Customs AIR 1973 Cal 131.]

On the lessee committing a breach of contract, the lessor being the owner of the goods is entitled to terminate the agreement of lease or hiring and repossess the goods. See above for the predominant ownership rights of the lessor and click here for additional information on repossessory interest of the lessor.

No judicial intervention is required in case of repossession of goods - however, the practice depends upon the physical ease in repossession and the need to enter private premises or enclosures.

Repossession being an extra-ordinary remedy should be resorted to with great caution and with full force to the rules of fair play. In case of UP State Financial Corporation, the Supreme Court set a number of preconditions for possession and sale of confiscated properties - though those conditions were imposed due to the benevolent position of the Corporation, to a large extent, these conditions apply to every repossession. Hence, it is considered appropriate that before sale of the confiscated goods, the lessee should be given a right of buying the goods at the best available price.

Motor vehicles law in India contains specific provisions relating to lease and hire-purchase transactions. In respect of all motor vehicles, registration with motor vehicles authorities is compulsory.

The motor vehicle is given a registration certificate, which contains the name of the "owner". Owner, for the purposes of the motor vehicles law, is defined as the person effectively using the asset- obviously therefore, the name of the lessee/hirer is reflected as owner there. The name of the legal owner, viz., the lessor or hire-vendor, is reflected merely by way of an endorsement.

However, it is clear understanding of the law that the neither the name on the registration certificate, nor the endorsement therein, have any reflection on the legal ownership of the vehicle.

It is also provided that no transfer of a motor vehicle bearing the endorsement of a lease or hire-purchase (or hypothecation) shall be permitted without the non-objection letter of the lessor/hire-vendor.

The documentation recommended for an ordinary lease/hire-purchase transaction is a simple lease or hire-purchase agreement. Evidence of having received delivery of goods should be obtained from the lessee/hirer. In general, it is advisable that the lessor limits himself to giving delivery of the leased asset, and commences the lease/hire instantly on delivery of the goods.

Model agreements drafted by Vinod Kothari have been adopted by the Association of Leasing and Financial Services Cos. as models to be adopted by members.

Click here for model lease agreement.

Click here for a model hire-purchase agreement.