Frozen Accounts, Open Loopholes: A Critical Look at §138, NI Act

Introduction

The Negotiable Instruments Act (NI Act) of 1881 was created to define and amend the law relating to promissory notes, bills of exchange and cheques. Section 138 of the Negotiable Instruments Act establishes that when a cheque that is drawn by a person, on an account maintained by him with the bank is returned as unpaid, because the money is insufficient to honour the cheque, that person will be criminally liable to be imprisoned for a period of up to two years or a fine.

As evinced, there are certain elements (p 3) necessary to elicit an offence under this section. These include a cheque, drawn by the person himself, on an account maintained by him. This article deals with the latter element, ‘an account maintained by him with a bank.’ As noted in a variety of cases such as Sachin Jain v Rajesh Jain (2024 SCC OnLine Del 37, p 14) and Ceasefire Industries v State (2017 SCC OnLine Del 8280, p 7), an account is taken outside the scope of this section when it is frozen or blocked by a statutory authority. The reasoning being that this takes the account outside the control or dominion of the accused. While this rationale is sound, it raises a significant question of the circumstances such a ratio could extend to. That is, Can an account that is blocked or closed at the instance of the bank, and not the accused, be shielded via the same exception?

This blog attempts to analyse this question. The first part of the blog evaluates cases that have strayed from the ‘statutory authority freeze’ to a freeze by banks. In the second part, the author ascertains the flaws in following such an approach and discusses whether this runs the risk of creating a loophole within §138. Lastly, the author provides a brightline rule approach, equally applicable to all cases, to prevent misuse.

‘An Account Maintained by Him’

The core idea behind the NI Act is that business transactions remain honoured and not mere incarceration (Gaurav Sharma v Ishwari Nand 2020 SCC OnLine HP 2464, p 7). However, a loophole that enables individuals to be shielded from prosecution even amidst default would be antithetical to such an objective of enabling commercial transactions and prioritising recovery.

The Karnataka High Court in Nagaraju Upadhyay v M Sanjeevan (2007 SCC OnLine Kar 214, p 5) precluded the accused from liability owing to the fact that the account had been closed at the instance of the bank and not at the instance of the accused. Although a 2007 judgement, this precedent has been relied upon by various courts in the following years.

Similarly, in Adinarayana v PN Sridhar Bhattar (CRL.A.No. 951 of 2008 (Karnataka), p 5), the court held that the accused could not be made liable for an offence if the bank account was closed due to non-operation on its part. This standing was also reiterated in 2024 high court judgements such as D Roopa v DS Siddaraju (CRL.A.No. 1132 of 2014 (Karnataka), p 9) and S Jayanthi v P Sukumaran (Crl.A.No.529 of 2017 (Madras), p 6), wherein the court held that §138 would not be attracted if the account was frozen at the instance of the bank.

As shown above, the Nagaraju judgement has set forth a trend of similar judgements that preclude liability on the basis of a literal interpretation of the term ‘account maintained by him at the bank.’ The following part analyses how this may establish a perilous precedent.

Loophole in §138

Notably, these judgements fail to go into one seminal aspect of liability, which ends up creating a loophole rather than protection. The cases fail to distinguish between an account that has been closed due to dormant behaviour and an account that has been closed due to an insufficient balance. While the latter warrants a default within the provisions of §138 as it constitutes a direct default on the part of the accused, the former ostensibly does not constitute the same penalty. However, this must not be taken to mean that the former constitutes no penalty at all, as this severely runs the risk of enabling a loophole within the provision, antithetical to its intent.

Take, for example, in the S Jayanthi judgement, liability for default was vitiated simply because of the account being inactive for a period of one and a half years (p 6). While this premise seems sound, the court did not go into whether the account had sufficient balance to bestow the amount in the first place. This thereby creates a loophole for defaulters to create a dormant account with insufficient balance as a ploy to escape liability.

An examination of the initial reasoning used by the court in Nagaraju is the absence of mens rea, or the fact that the accused did not know he could not use the account, and thus cannot be said to have wilfully issued a dishonourable cheque. While persuasive at first glance, this justification falters in practice. The closure of dormant accounts pursuant to RBI directives is a matter of public knowledge, and any drawer is presumed to be aware of such regulatory requirements. Similarly, banks close accounts for numerous reasons, including violations of their policy, suspicions of fraud, and so forth. To treat such closures as ‘unforeseeable’ shields the drawer from responsibility and undermines the preventive purpose of Section 138.

Herein, treating a deliberately underfunded dormant account the same as a genuinely inactive account erodes the internal consistency of Section 138’s objective. Section 138 was enacted as a creditor-protection device, designed to foster trust in the cheque system and ensure that commercial instruments did not degenerate into mere pieces of paper. Allowing defaulters to escape liability by hiding behind technical dormancy undermines this foundational purpose.

A Brightline Rule Approach

A brightline rule refers to a scenario wherein there is an objective and clearly defined threshold or rule that must be met, which leaves little scope for interpretation. In the context of §138, such a rule would mitigate the risks posed by subjective interpretations of ‘an account maintained by him.’ Presently, judicial reasoning often hinges on whether the account was closed or frozen. This interpretation, though textually appropriate, does not sufficiently capture the mischief the statute seeks to prevent, namely, the wilful dishonour of a cheque.

Applying the same to a case consisting of an alleged offence under §138, there must be an objective criterion that is laid down by the Court in ascertaining whether there was sufficient balance in the account. This directly corresponds to the intention of a party in initiating the payment and is in line with the aims of the NI Act, as opposed to arbitrarily precluding an accused of liability based on a loophole.

The proposed brightline rule should focus on the availability of sufficient funds in the account on the date of issuance of the cheque. If the account closure resulted from insufficient balance, then the drawer’s liability under §138 must subsist. However, if the account was closed due to genuine long-term dormancy, unconnected to any attempt to avoid payment, the drawer’s liability u/s 138 should not be automatically vitiated. Instead, the accused should be given a time-bound opportunity to honour the payment.

Conclusion

Section 138 of the NI Act is a cornerstone provision intended to preserve the credibility of cheques as instruments of commerce. However, judicial trends that exempt liability solely on the basis of account closure or dormancy initiated by the bank dilute the statute’s deterrent function and risk incentivising strategic default. Such an interpretation privileges procedural technicalities over the substantive objective of the law.

A more coherent standard must focus on the sufficiency of funds in the account at the time of issuance of the cheque. This brightline approach offers clarity, predictability, and fidelity to legislative purpose: it distinguishes between genuine cases where closure was beyond the control of the drawer and instances where account status is exploited to evade responsibility.

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This article has been authored by Tanya Sara George, a student at Maharashtra National Law University, Mumbai. It is a part of the RSRR's Rolling Blog Series.