Guidelines - Loans, Advice of ex-Banker in Npa Accounts, Drt, Sarfaesi Act

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NPA Defined:
(Source: RBI Website)
In  India NPA is defined in the RBI Master Circular -  
Prudential  norms on Income Recognition, Asset  Classi
fication  and Provisioning pertaining to  Advances

RBI/2013-14/62
DBOD.No.BP.BC.1/21.04.048/2013-14
July 1, 2013

All Commercial Banks (excluding RRBs)

Dear Sir
Master Circular - Prudential norms on Income  Recognition, Asset Classification and Provisioning pertaining to  Advances
Please refer to the Master  Circular No. DBOD.No.BP.BC.9/21.04.048/2012-13 dated July 2,  2012 consolidating instructions / guidelines issued to banks till June  30, 2012 on matters relating to prudential norms on income recognition, asset  classification and provisioning pertaining to advances.

2. The Master  Circular has now been suitably updated by incorporating instructions  issued up to June 30, 2013 and is attached. It has also been placed on the RBI  web-site (http://www.rbi.org.in). We advise that this revised Master  Circular consolidates the instructions contained in the circulars listed in  the Annex 7.
Yours faithfully
(Chandan Sinha)
Principal Chief General  Manager
Encl.: As above

Changes in the Prudential  Norms, Provisioning by RBI Background During the year 2012 RBI constituted a  working group headed by Sh. B. Mahapatra to review the existing prudential  guidelines on restructuring of advances by Banks/FI’s. The working group made  certain recommendations and after receiving comments/suggestions RBI came out  with circular No. DBOD.BP.BC.No.99/ 21.04.132/2012-13 dated May 30, 2013. Some  of the changes become effective immediately and for others will become effective  from April 1, 2015.   A bird’s eye view of the various changes proposed are is as  under :- Bird’s Eye View Change in Forbearance Restructured Advances Benefit of retention of classification in lenders books withdrawn w.e.f. 1.4.2015 Change in  DCOC Higher time limit of 1 year for Non-Infra and 2 years for Infra Projects  General Provisions on Restructured Advances Increase in provisioning in phased  manner to 5%. Provision in Diminution 5% for advances upto Rs. 1 Crore Criteria  for up-gradation of Restructured Account Change in basis, bucket with longest repayment to become basis Viability Parameters Parameters prescribed Viability  Time Period Reduced Roll Over of Short Term Loan 3 rd Roll Over to be considered  NPA Promoters Sacrifice Increase from 15% to 20% or 2% of loan amount Conversion  to Equity/Preference Listed entities/not more than 10% of loans Right to  Recompense Made mandatory in all case Personal Guarantee of Promoters Made mandatory Many of the changes have far reaching implications for the lenders and  their borrowers. In times to come, due to increased provisioning the  profitability of the banks is likely to go down. ICRA (rating agency) has  estimated the NPA’s percentage is likely to increase to 5.5% to 6.5% from the  present nearly 3.5%. With the prevailing economic conditions and the GDP growth  rate being what it is, the estimates may come true. The details of changes are  as under :-
1. Changes in forbearance norms for restructured accounts. Present  Norms The norms prescribe Incentive for quick implantation of package and  retention of asset classification in pre-restructuring category subject to  fulfilment of certain conditions. Accordingly, during pendency of the  application lender has to follow the usual asset classification norms meaning  whereby standard accounts are allowed to retain their asset classification and  NPA accounts are allowed not to deteriorate further in asset classification on  restructuring. Condition The restructuring package is implemented within 90 days  of receipt of application, lender allowed to retain the present classification  for Non-CDR cases. In case of CDR cases time limit is 120 days. Benefit is also  available to projects under implementation (Infrastructure and others) which  have passed their ‘Date of Commencement of Commercial Operations’ [DCCO]. Change  With the recent circular the existing asset classification benefits available on  restructuring on fulfilling certain conditions will be withdrawn for all  restructured accounts effective from April 1, 2015 with the exception of  provisions related to changes in DCCO in respect of infrastructure as well as  non-infrastructure project loans. Implication of the change It implies that a  standard account on restructuring (for reasons other than change in DCCO) would  be immediately classified as sub-standard on restructuring as also the  non-performing assets, upon restructuring, would continue to have the same asset  classification as prior to restructuring and slip into further lower asset  classification categories as per the extant asset classification norms with  reference to the pre-restructuring repayment schedule. This will increase  substantially the provisioning for the Banks/FI’s. Date of implementation for  this change is April 1, 2015 Incidentally vide point no. 8 of the same circular RBI has given incentive for quick implementation of restructuring package for  non-CDR restructurings. If the restructuring package is implemented within 120  days (90 days as per earlier guidelines) of receipt of application, lender  allowed to retain the present classification for Non-CDR cases. This will  continue to apply till new norms kick in i.e. upto 31.3.2015.
2. Change in Date  of Commencement of Commercial Operations This change pertains to project under implementation which are classified into two categories viz. a. Infrastructure  projects b. Non infrastructure projects At the time of appraisal/financial  closure a date for Commencement of Commercial Operations (DCOC) is specified.  Due to uncertainties involved in implementation, at times, the project is not  able to commence commercial operations by the appointed date. In terms of the  earlier guidelines, if the project is unable to commence commercial operations  as per the DCOC specified, the account was to be downgraded to NPA. The period  envisaged was 6 months for non-infrastructure projects and 2 years for  infrastructure projects. The lender on request of the borrower and upon  satisfaction of certain terms and conditions as laid down under circular no.  DBOD.No.BP.BC.9 /21.04.048/2012-13 dated July 2, 2012 could extend the DCOC and  retain the present status of the account. RBI in its present circular has made  following changes in this respect :- a. For other projects banks can extend the  prescribed period of ‘six months from the original DCCO’ to ‘one year from the  original DCCO’ within which a non-infrastructure project will have to commence  commercial operation for complying with the provisions in this regard. As a  consequence of the above, if the delay in commencement of commercial operations  extends beyond the period of one year from the date of completion as determined  at the time of financial closure, banks can prescribe a fresh DCCO and retain  the “standard” classification by undertaking the restructuring of accounts in  accordance with the provisions in this regard provided that the fresh DCCO does  not extend beyond a period of 2 years from the original DCCO. This will help  those borrowers and banks which are stuck up with projects which are suffering  from time over run. b. The circular specifically provides that mere extension of  DCCO would not be considered as restructuring, if the revised DCCO falls within  the period of two years and one year from the original DCCO for infrastructure projects and non-infrastructure projects respectively. In such cases the  consequential shift in repayment period by equal or shorter duration (including  the start date and end date of revised repayment schedule) than the extension of  DCCO, would also not be considered as restructuring provided all other terms and  conditions of the loan remain unchanged. As such project loans will be treated  as standard assets in all respects. c. As regards Commercial Real Estate  Projects (CRE) mere extension of DCCO even in the case of CRE projects would not  be considered as restructuring, if the revised DCCO falls within the period of  one year from the original DCCO and there is no change in other terms and  conditions except possible shift of the repayment schedule and servicing of the  loan by equal or shorter duration compared to the period by which DCCO has been  extended. d. PPP Projects :- PPP Projects where the DCCO is extended due to  shift in appointed date will not be considered restructured provided followings  are satisfied :-
i. Project is an infrastructure project under PPP model awarded  by a public authority;
ii. The loan disbursement is yet to begin;
iii. The  revised date of commencement of commercial operations is documented by way of a  supplementary agreement between the borrower and lender; and
iv. Project  viability has been reassessed and sanction from appropriate authority has been  obtained at the time of supplementary agreement.
v. Viability is reassessed and  the Board of the bank is satisfied in this regard. e. The circular reiterates  that norms regarding not treating an account as a restructured account on  account of any change in the repayment schedule of a project loan caused due to  an increase in the project outlay on account of increase in scope and size of  the project, subject to certain conditions, will continue to remain effective.  

3. General Provisions on Restructured Advances As per the present guidelines  banks are required to make a provision of 2.75% on restructured standard  accounts for different periods depending on the way an account is classified as  restructured standard account, i.e. either abinitio or on upgradation or on  retention of asset classification due to change in DCCO of infrastructure and  noninfrastructure projects. Such provisioning is enhanced to 5% in phased manner  by RBI as per table given below :- Effective date Provisioning 31/03/2014  (spread over 4 quarters of 13-14) 3.5 31/03/2015 (spread over 4 quarters of  14-15) 4.25 31/03/2016 (spread over 4 quarters of 15-16) 5.00

4. Provision for  diminution in fair value of restructured advances a. The current instructions  regarding calculation of diminution in the fair value of restructured advances  will continue. b. Where the total dues to banks are less than Rs. 1 Crore, the  diminution may be taken as 5% and may be provided on long term basis. This was  earlier available to small/rural branches.

5. Criteria for up-gradation of  account classified as NPA on restructuring In terms of the existing guidelines,  all restructured accounts which have been classified as NPA and which have been  restructured, are eligible for up-gradation to the ‘standard’ category after  observing satisfactory performance during the specified period. The specified  period in this regard means a period of one year from the date when the first  payment of interest or instalment of principal falls due under the terms of  restructuring package. Satisfactory performance during the specified period  means adherence to the following conditions during that period:-

a.  Non-Agricultural Cash Credit Accounts In the case of non-agricultural cash credit accounts, the account should not be out of order any time during the  specified period, for a duration of more than 90 days. In addition, there should  not be any overdues at the end of the specified period.

b. Non-Agricultural Term  Loan Accounts In the case of non-agricultural term loan accounts, no payment  should remain overdue for a period of more than 90 days. In addition there  should not be any overdues at the end of the specified period.

c. All  Agricultural Accounts In the case of agricultural accounts, at the end of the specified period the account should be regular. It is well known that when the  borrower is facing financial difficulties there is payment pressure. This is the  primary reason why the account is classified as NPA in the books of the lender.  In order to reduce the financial burden of the borrower, the existing loans  under the restructuring exercise are broken into different packets/buckets and  different rates of interest andrepayment periods are prescribed, based upon the  past/future cash flows of the borrower. We take an example of A Ltd. a borrower  having credit facilities from 2 banks aggregating to Rs. 75 Crores. The  pre-restructuring debt of A Ltd. is as under :-

Nature of Loan ----(Rs. Cr.)  Bank X Bank Z Total Term Loan 17 18 35 Cash Credit 18 19 37 Unpaid Interest 2 1  3 Total 37 38 75 A Ltd. is facing financial difficulties and its account with  both the banks has turned NPA as on 31.3.2012. Upon request of A Ltd., both the  banks agree to a restructuring package with cutoff-date as 31.3.12. The loans  are reclassified as under :- Nature of Loan ----(Rs. Cr.) Bank X Bank Z Total  Term Loan 10 10 20 Cash Credit 10 10 20 WCDL 8 9 17 Zero Coupon Loan 9 9 18  Total 37 38 75 As per the package, the loans will have following terms :-

a.  Term Loan i. Interest @ 10%, ii. Interest payments to commence immediately, iii.  Repayment in 28 equal quarterly instalments commencing from 1.4.2014. b. Cash  Credit i. Interest @ 8% ii. Interest payment to commence immediately. c. Working  Capital Demand Loan (WCDL) i. Interest @ 10%, ii. Interest payment to commence  from 1.4.2014 iii. Repayment in 28 equal quarterly instalment commencing from  1.4.2015 d. Zero Coupon Loan i. Repayment with yield of 8% in 4 equal quarterly  instalments in the year 2021 As can be noticed from the above, the outgo for A  Ltd. during FY13 is on account of interest payment for Cash Credit and Term Loan  accounts aggregating to Rs. 3.60 Crores. Supposing the company performs as per  the package and pays the interest which falls due during FY13. As per the  present guidelines, since the company has performed satisfactorily during the  specified period, the account of the company with the lenders will be upgraded  as on 31.3.13. The above way of bifurcation of accounts into different baskets  with different repayment structure and interest rates is a very common practice.  The underlying object is to be provide borrower relief. The effect of the above practice was that in some cases of restructuring with moratorium on payment of principal as well as major portion of interest, the accounts were upgraded on  the basis of payment of interest on only a small portion of the debt, though  such account may have inherent weakness as payment of interest only on a small  portion of the debt is presently the yard stick for ‘satisfactory performance’  during ‘specified period’. Vide the new circular RBI has redefined the  ‘specified period’. Specified period is now redefined as a period of one year  from the commencement of the first payment of interest or principal, whichever  is later, on the credit facility with ‘longest period of moratorium under the  terms of restructuring package’. As a result of above, standard accounts  classified as NPA and NPA accounts retained in the same category on restructuring by the bank should be upgraded only when all the outstanding  loan/facilities in the account perform satisfactorily during the ‘specified  period’, i.e. principal and interest on all facilities in the account are  serviced as per terms of payment during that period. This is a major departure  from the existing guidelines. This change is going to affect all the present and  future restructured accounts. In view of the author, the proposed guidelines  will act as a deterrent for the banks for restructuring of borrower accounts.  The incentive presently available to the lender by way of up-gradation of account in the books of the lender will be elongated and will available to them  after much longer period. In the example given above, the borrower account can  be only upgraded in the year 2021 when the Zero Coupon Loan is repaid with the specified yield. In view of the author, all the existing restructured accounts  (which were NPA before restructuring) will suffer the fate. This will also  increase the provisioning in the books of the lenders and impact their bottom  lines.

6. Benchmarks on Viability Parameters As per the present guidelines,  financial viability of the borrower is to be established before the account is  restructured and there exists a reasonable certainty of repayment/interest  payments as per the package. The various benchmarks for viability were left by  RBI to the banks. As such at present the various benchmarks based on which  viability was measured were set by the banks and not by the RBI. Through the  present circular certain broad benchmarks have been prescribed by the RBI. The  broad benchmarks prescribed are as under :- i. Return on capital employed should  be at least equivalent to 5 year Government security yield plus 2 per cent. ii.  The debt service coverage ratio should be greater than 1.25 within the 5 years period in which the unit should become viable and on year to year basis the  ratio should be above 1. The normal debt service coverage ratio for 10 years  repayment period should be around 1.33. iii. The benchmark gap between internal  rate of return and cost of capital should be at least 1 per cent. iv. Operating  and cash break even points should be worked out and they should be comparable  with the industry norms. v. Trends of the company based on historical data and  future projections should be comparable with the industry. Thus behaviour of  past and future EBIDTA should be studied and compared with industry average. vi.  Loan life ratio (LLR), as defined below should be 1.4, which would give a  cushion of 40% to the amount of loan to be serviced. LLR = Present value of  total available cash flow (ACF) during the loan life period (including interest  and principal) Maximum amount of loan Leverage given to banks to adopt these  benchmarks with appropriate adjustments.

7. Viability Time Period The present  guidelines prescribe that the unit should become viable within a period of 10  years to Infrastructure projects and 7 years for non-infrastructure projects.  Henceforth the time limit is reduced to 8 years and 5 years, respectively. Thus  the time for attaining viability is reduced.

8. Roll over of Short Term Loans  Short Term Loans are many a times allowed facility of Roll Over. Conditions have  now been attached to such Roll Over. They are i. Proper pre-sanction assessment  is made, ii. Roll-over is allowed based on the actual requirement of the  borrower, iii. No concession has been provided due to credit weakness of the  borrower, iv. In case account is rolled-over more than 2 times, then third  roll-over onwards the account would have to be treated as a restructured  account.

9. Promoters Sacrifice One of the conditions for eligibility for  regulatory asset classification benefit on restructuring is that promoters' sacrifice and additional funds brought by them should be a minimum of 15 per  cent of banks' sacrifice. The term 'bank's sacrifice' means the amount of  "erosion in the fair value of the advance". It is also prescribed that  promoters’ sacrifice may be brought in two instalments and it may be brought in  different forms as indicated therein. As per the recent circular, the promoters  sacrifice has been enhanced. The revised guidelines prescribe that promoters’  sacrifice and additional funds brought by them should be minimum of 20 per cent  of banks’ sacrifice or 2 per cent of the restructured debt, whichever is higher.  This is minimum contribution which the lenders must insist, they are free to  insist for a higher contribution from the promoters.

10. Conversion of loan to Preference Shares/Equity Shares Present guidelines do not put a cap on  conversion of loans to equity or preference shares. The restrictions are  contained in the SEBI guidelines and the BR Act. Through the present circular  RBI has put certain restrictions they are :- a. Conversion to be done only as  last resort. b. Conversion be restrained to 10% of the restructured debt. c. Conversion to equity should be done only in case of listed companies.

11. Right  to Recompense Presently right to recompense is restricted to CDR cases. The  formula for calculation of recompense is left to the CDR Standing Group. The  recent circular has made right to recompense mandatory in case of all  restructuring exercises. The circular recommends that 75 per cent of the amount  of recompense calculated should be recovered from the borrowers and in cases of  restructuring where a facility has been granted below base rate, 100 per cent of  the recompense amount should be recovered.

12. Personal Guarantee of Promoters  The recent circular desires that in case of all restructured advances, personal guarantee of the promoters should be obtained in order to get the benefits of  asset classification. Personal guarantee will ensure promoters’ “skin in the  game” or commitment to the restructuring package. Wherever a corporate is  promoter, corporate guarantee should be obtained.

Other  important instructions of Reserve Bank of India relating to Loans and  Advances:
Master Circular- Loans and Advances – Statutory and  Other Restrictions (Corrected) -  01-Jul-2015
Master  Circular - Prudential norms on Income Recognition, Asset Classification and  Provisioning pertaining to Advances -  01-JUL-2014
Master  Circular - Prudential norms on Income Recognition, Asset Classification and  Provisioning pertaining to Advances -  01-Jul-2015

RBI's new NPA takeover  norms
In order to tackle the NPAs, RBI has provided a mechanism to lenders  to recover bad loans. The RBI has allowed banks to acquire 51 per cent or more  stake in companies defaulting after restructuring their loans. The keyword here  is restructured assets.
The central bank is willing to give the promoter one more  chance to bring his company on track. One can excuse a promoter for painting a rosy picture for getting a loan from a bank, but if his case comes up for  restructuring, he has to be more realistic of the future and how he intends to  repay banks.
When a restructuring exercise is underway, a company has  to agree to several benchmarks which are set in consultation between the banker  and the company. RBI feels that if there is a default even after the recast,  there is a case of operational/managerial inefficiencies. This becomes a good  case for change in ownership as per the central banker.
 
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