Non-Performing Assets(NPA)

Asset Classification, Income Recognition and Provisioning Norms

Asset Classification

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DEFINITION OF NPA
An asset, including a leased asset, becomes non performing

when it ceases to generate income for the bank.

A NPA is a loan or an advance where;
Interest and/ or installment of principal remain overdue for a period

of more than 90 days in respect of a term loan,

The account remains out of order in respect of an overdraft/

cash credit
The bill remains overdue for a period of more than 90 days in the

case of bills purchased and discounted

The installment or interest remains overdue for two crop seasons

in case of short duration crops and for one crop season in case of
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long duration crops

Out of Order status An account should be treated as 'out of order' if the outstanding balance remains continuously in excess of the sanctioned limit/drawing power.
In cases where the outstanding balance in the principal

operating account is less than the sanctioned limit/drawing power, but there are no credits continuously for 90 days as on the date of Balance Sheet or credits are not enough to cover the interest debited during the same period, these accounts should be treated as 'out of order'. Overdue Any amount due to the bank under any credit facility is overdue if it is not paid on the due date fixed by the Charu Gupta bank.

Categories of NPAs
Banks are required to classify nonperforming assets

further into the following three categories based on the period for which the asset has remained nonperforming and the realisability of the dues: i. Substandard Assets ii. Doubtful Assets iii. Loss Assets

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CATEGORIES OF NPA
Substandard Assets Which has remained NPA

for a period less than or equal to 12 months.

Doubtful Assets Which has remained in the

sub-standard category for a period of 12 months

Loss Assets where loss has been identified by

the bank or internal or external auditors or the RBI inspection but the amount has not been written off wholly.
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FACTORS CONTRIBUTING TO NPAS

Poor Credit discipline Inadequate Credit & Risk Management Diversion of funds by promoters Funding of non-viable projects

In the early 1990s PSBs started suffering from acute

capital inadequacy and lower/ negative profitability. The parameters set for their functioning did not project the paramount need for these corporate goals.
The banks had little freedom to price products, cater

products to chosen segments or invest funds in their best interest

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FACTORS CONTRIBUTING TO NPAS

Since 1970s, the SCBs functioned as units cut off

from international banking and unable to participate in the structural transformations and new types of lending products.
Audit and control functions were not independent

and thus unable to correct the effect of serious flaws in policies and directions
Banks were not sufficiently developed in terms of

skills and expertise to regulate the humongous growth in credit and manage the diverse risks that emerged in the process
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FACTORS CONTRIBUTING TO NPAS

Inadequate mechanism to gather and disseminate

credit information amongst commercial banks

Effective recovery from defaulting and overdue

borrowers was hampered on account of sizeable overhang component arising from infirmities in the existing process of debt recovery, inadequate legal provisions on foreclosure and bankruptcy and difficulties in the execution of court decrees.

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IMPACT OF NPAS ON OPERATIONS

Drain on Profitability

Impact on capital adequacy

Adverse effect on credit growth as the bankers

prime focus becomes zero percent risk and as

a result turn lukewarm to fresh credit.
Excessive focus on Credit Risk Management High cost of funds due to NPAs
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INCOME RECOGNITION
The policy of income recognition has to be

objective and based on the record of recovery.

Internationally income from nonperforming assets

(NPA) is not recognized on accrual basis but is

booked as income only when it is actually received.
Therefore, the banks should not charge and take

to Charu income account interest on any NPA. Gupta

INCOME RECOGNITION
Fees and commissions earned by the banks as a result of

renegotiations or rescheduling of outstanding debts should

be recognized on an accrual basis over the period of time covered by the renegotiated or rescheduled extension of credit.

If Government guaranteed advances become NPA, the

interest on such advances should not be taken to income account unless the interest has been realized. Charu Gupta

Provision for NPA

Taking into account the time lag between an

account becoming doubtful of recovery, its recognition as such, the realization of the security and the erosion over time in the value of security charged to the bank,
The banks should make provision against

substandard assets, doubtful assets and loss assets as below:

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Loss assets:
Loss assets should be written off. If loss assets are permitted to remain in the books for any reason, 100 percent of the outstanding should be provided for.

Doubtful Assets:
100 percent of the extent to which the advance is not covered by the realizable value of the security to which the bank has a valid recourse and the realizable value is estimated on a realistic basis. (ii) In regard to the secured portion, provision may be made on the following basis, at the rates ranging from 25 percent to 100 percent of the Charu Gupta secured portion depending upon the period for
(i)

 Period for which the advance has remained in

doubtful category Provision requirement Up to one year 25% One to three years 40% More than three years 100% Note: Valuation of Security for provisioning purposes

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Doubtful Assets: 100% of the extent to which,

the finance is not secured by the realizable

value of the leased asset.

Loss Assets: The entire asset should be written off. If for any reason, an asset is allowed to remain in books, 100% of the sum of the net investment in the lease and the unrealised
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portion of finance income net of finance

Reversal of Income
If

any advance, including bills purchased and

discounted, becomes NPA, the entire interest accrued and credited to income account in the past periods, should be reversed if the same is not realized. This

will apply to Government guaranteed accounts

also.

In respect of NPAs, fees, commission and similar

Charu Gupta income that have accrued should cease to accrue in

Leased Assets
The finance charge component of finance

income [as defined in AS 19 Leases issued

by the Council of the Institute of Chartered

Accountants of India (ICAI)] on the leased

asset which has accrued and was credited to income account before the asset became nonperforming, and remaining unrealized, should Charu Gupta be reversed or provided for in the

Appropriation of Recovery in NPAs

Interest realized on NPAs may be taken to

income account provided the credits in the accounts towards interest are not out of fresh/ additional credit facilities sanctioned to the borrower concerned.
In the absence of a clear agreement between the

bank and the borrower for the purpose of appropriation of recoveries in NPAs (i.e. towards principal or interest due), banks should adopt an accounting principle and exercise the right of appropriation of recoveries in a uniform and Charu Gupta consistent manner.

Interest Application
On an account turning NPA, banks should reverse the

interest already charged and not collected by debiting

Profit and Loss account, and stop further application of interest.

However, banks may continue to record such accrued

interest in a Memorandum account in their books. For

the purpose of computing Gross Advances, interest
Charu Guptain the Memorandum account should not be recorded

Provisioning Norms
The primary responsibility for making

equate provisions for any diminution in the value of loan assets, investment or other assets is that of the bank managements and the statutory auditors.

The assessment made by the inspecting officer of

the RBI is furnished to the bank to assist the bank management and the statutory auditors in taking a decision in regard to making adequate and necessary provisions in terms of prudential guidelines.
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 With a view to bringing down divergence arising out of

difference in assessment of the value of security, in cases of NPAs with balance of Rs. 5 crore and above stock audit at annual intervals by external agencies appointed as per the guidelines approved by the Board would be mandatory in order to enhance the reliability on stock valuation.
Collaterals such as immovable properties charged in

favour of the bank should be got valued once in three years by valuers appointed as per the guidelines approved by the Board of Directors.

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Substandard assets
(i) A general provision of 15 percent on total

outstanding should be made without making any allowance for ECGC guarantee cover and securities available.
(ii)

The unsecured exposures which are identified as substandard would attract additional provision of 10 per cent, i.e., a total of 25 per cent on the outstanding balance. However, in view of certain safeguards such as escrow accounts available in respect of infrastructure lending, infrastructure loan accounts which are classified as sub-standard Charu Gupta will attract a provisioning of 20 per cent

(iii) In order to enhance transparency and ensure correct reflection of the unsecured advances in Schedule 9 of the banks' balance sheet, it is advised that the following would be applicable from the financial year 2009-10 onwards :
(a) For

determining the amount of unsecured advances for reflecting in schedule 9 of the published balance sheet, the rights, licenses, authorizations, etc., charged to the banks as collateral in respect of projects (including infrastructure projects) financed by them, should not be reckoned as tangible security. Hence such advances shall be reckoned as Charu Gupta unsecured.

(b) However, banks may treat annuities under buildoperate-transfer (BOT) model in respect of road / highway projects and toll collection rights, where there are provisions to compensate the project sponsor if a certain level of traffic is not achieved, as tangible securities subject to the condition that banks' right to receive annuities and toll collection rights is legally enforceable and irrevocable.

(c) Banks should also disclose the total amount of

advances for which intangible securities such as charge over the rights, licenses, authority, etc. has been taken as also the estimated value of such intangible collateral. The disclosure may be made under a separate head in "Notes to Accounts". This Charu Gupta would differentiate such loans from other entirely

Standard Assets (i) The provisioning requirements for all types of standard assets stands as below.. Banks should make general provision for standard assets at the following rates for the funded outstanding on global loan portfolio basis:
(a) direct advances to agricultural and Small and Micro

Enterprises (SMEs) sectors at 0.25 per cent; (b) advances to Commercial Real Estate (CRE) Sector at 1.00 per cent; (c) housing loans extended at teaser rates and restructured advances as indicated in Para 5.9.13 and 5.9.14 respectively
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Provisions on Leased Assets

Substandard Assets: (a) Ten percent of the sum of the net investment in the lease and the unrealized portion of finance income net of finance charge component. (b) Unsecured lease exposures would require additional provision of 10% in total 20%.

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CURRENT STATUS OF NPAS

All SCBs average Net NPA Ratio for 2011 be seen

according to the given list. The banks have been able to report lower NPA percentage mostly by providing against or writing off NPAs.
The provision to certain extent was facilitated by

higher profits on account of treasury management

The better Net NPA ratio was also facilitated by

higher credit off take resulting in larger asset portfolio/ book size.
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NPA MANAGEMENT PREVENTIVE MEASURES

Formation of the Credit Information Bureau (India)

Limited (CIBIL)
Release

of Wilful Defaulters List. RBI also releases a list of borrowers with aggregate outstanding of Rs.1 crore and above against whom banks have filed suits for recovery of their funds

Reporting of Frauds to RBI Norms of Lenders Liability framing of Fair

Practices Code with regard to lenders liability to be followed by banks, which indirectly prevents accounts turning into NPAs on account of banks Charu Gupta own failure

NPA MANAGEMENT PREVENTIVE MEASURES

Risk assessment and Risk management RBI has advised banks to examine all cases of

wilful default of Rs.1 crore and above and file suits in such cases. Board of Directors are required to review NPA accounts of Rs.1 crore and above with special reference to fixing of staff accountability.
Reporting quick mortality cases Special mention accounts for early identification

of bad debts. Loans and advances overdue for less than one and two quarters would come under this category. However, these accounts do not need provisioning Charu Gupta

TOOLS AVAILABLE FOR NPA MANAGEMENT

Compromise Settlement Schemes Lok Adalat

Corporate Debt Restructuring Cell

Debt Recovery Tribunal (DRT) Board for Industrial & Financial Reconstruction (BIFR) National Company Law Tribunal (NCLT) Sale of NPA to other banks Sale of NPA to ARC/ SC under Securitization and Reconstruction

of Financial Assets and Enforcement of Security Interest Act 2002 (SRFAESI)

Liquidation Charu Gupta

Compromise Settlement Schemes

Banks are free to design and implement their

own policies for recovery and write off incorporation compromise and negotiated settlements with board approval
Specific guidelines were issued in May 1999 for

one time settlement of small enterprise sector.

Guidelines were modified in July 2000 for

recovery of NPAs of Rs.5 crore and less as on 31st March 2007.

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Lok Adalats
Small NPAs up to Rs.20 Lacs Speedy Recovery Veil of Authority Soft Defaulters Less expensive Easier way to resolve
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Corporate Debt Restructuring

The objective of CDR is to ensure a timely and

transparent mechanism for restructuring of the debts of viable corporate entities affected by internal and external factors, outside the purview of BIFR, DRT or other legal proceedings
The legal basis for the mechanism is provided by

the Inter-Creditor Agreement (ICA). All participants in the CDR mechanism must enter the ICA with necessary enforcement and penal clauses.
The scheme applies to accounts having multiple

banking/ syndication/ consortium accounts with outstanding exposure of Rs.10 crores and above. Charu Gupta

Corporate Debt Restructuring

The CDR system is applicable to standard and

sub-standard accounts with potential cases of NPAs getting a priority.

Packages given to borrowers are modified time

& again
Drawback of CDR Reaching of consensus

amongst the creditors delays the process

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DRT Act
The banks and FIs can enforce their securities

by initiating recovery proceeding under the Recovery if Debts due to Banks and FI act, 1993 (DRT Act) by filing an application for recovery of dues before the Debt Recovery Tribunal constituted under the Act.
On adjudication, a recovery certificate is issued

and the sale is carried out by an auctioneer or a receiver.

DRT has powers to grant injunctions against the

disposal, transfer or creation of third party interest by debtors in the properties charged to Charu Gupta creditor and to pass attachment orders in respect

DRT Act
In case of non-realization of the decreed

amount by way of sale of the charged properties, the personal properties if the guarantors can also be attached and sold.
However,

realization

is

usually

time-

consuming
Steps have been taken to create additional

benches

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Proceeding under Code of Civil Procedure For claims below Rs.10 lacs, the banks and FIs can initiate proceedings under the Code of Civil Procedure of 1908, as amended, in a Civil court.
The

courts are empowered to pass injunction orders restraining the debtor through itself or through its directors, representatives, etc from disposing of, parting with or dealing in any manner with the subject property.
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Proceeding under Code of Civil Procedure

Courts

are also empowered to pass attachment and sales orders for subject property before judgment, in case necessary.

The sale of subject property is normally

carried out by way of open public auction subject to confirmation of the court.
The foreclosure proceedings, where the DRT

Act is not applicable, can be initiated under the Transfer of Property Act of 1882 by filing a mortgage suit where the procedure is same as laid down under the CPC.
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BIFR AND AAIFR

BIFR has been given the power to consider

revival and rehabilitation of companies under the Sick Industrial Companies (Special Provisions) Act of 1985 (SICA), which has been repealed by passing of the Sick Industrial Companies (Special Provisions) Repeal Bill of 2001.
The board of Directors shall make a reference

to BIFR within sixty days from the date of finalization of the duly audited accounts for the financial year at the end of which the company becomes sick
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 The company making reference to BIFR to

prepare a scheme for its revival and rehabilitation and submit the same to BIFR the procedure is same as laid down under the CPC.
The shelter of BIFR misused by defaulting

and dishonest borrowers

It is a time consuming process

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NATIONAL COMPANY LAW TRIBUNAL

In December 2002, the Indian Parliament

passed the Companies Act of 2002 (Second Amendment) to restructure the Companies Act, 1956 leading to a new regime of tackling corporate rescue and insolvency and setting up of NCLT.
NCLT will abolish SICA, have the jurisdiction

and power relating to winding up of companies presently vested in the High Court and jurisdiction and power exercised by Company Law Board
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 The second amendments seeks to improve

upon the standards to be adopted to measure the competence, performance and services of a bankruptcy court by providing specialized qualification for the appointment of members to the NCLT.
However, the quality and skills of judges,

newly appointed or existing, will need to be reinforced and no provision has been made for appropriate procedures to evaluate the performance of judges based on the standards
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SALE OF NPA TO OTHER BANKS

A NPA is eligible for sale to other banks only if

it has remained a NPA for at least two years in the books of the selling bank
The NPA must be held by the purchasing bank

at least for a period of 15 months before it is sold to other banks but not to bank, which originally sold the NPA.
The NPA may be classified as standard in the

books of the purchasing bank for a period of 90 days from date of purchase and thereafter it would depend on the record of recovery with reference to cash flows estimated while Charu Gupta purchasing

 The bank may purchase/ sell NPA only on

without recourse basis

If the sale is conducted below the net book

value, the short fall should be debited to P&L account and if it is higher, the excess provision will be utilized to meet the loss on account of sale of other NPA.

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SARFESI Act 2002

SARFESI

provides for enforcement of security interests in movable (tangible or intangible assets including accounts receivable) and immovable property without the intervention of the court The bank and FI may call upon the borrower by way of a written legal notice to discharge in full his liabilities within 60 days from the date of notice, failing which the bank would be entitled to exercise all or any of the rights set out under the Act. Another option available under the Act is to takeover the management of the secured assets Any person aggrieved by the measures taken by the bank can proffer an appeal to DRT within 45 days after depositing 75% of the amount claimed in the notice.

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SARFESI Act 2002

Chapter II of SARFESI provides for setting up of

reconstruction and securitization companies for acquisition of financial assets from its owner, whether by raising funds by such company from qualified institutional buyers by issue of security receipts representing undivided interest in such assets or otherwise. The ARC can takeover the management of the business of the borrower, sale or lease of a part or whole of the business of the borrower and rescheduling of payments, enforcement of security interest, settlement of dues payable by the borrower or take possession of secured assets Additionally, ARCs can act as agents for recovering dues, as manager and receiver. Drawback differentiation between first charge holders and the second charge holders Charu Gupta

NEGOTIATION PROCESS FOR SETTLEMENT OF NON PERFORMING ASSETS

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Factors Affecting the Acceptance of Proposal by Bank

Banks Documentation. Security value. Realizable sale value. Banks ability to sell. Ability & Source of the borrower. Ability & Source of the guarantor. Vulnerability of the borrower/guarantor. Time frame. Strength and Zeal of bank's field staff. What message is bank sending out (No in a fraud case.) Banks Policy. Success rate.
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Preparation Stage
Thorough study of the case Find out our strengths and weaknesses in the

case. Find out the vulnerable point/weaknesses of the borrower. Follow-up with the Borrower and Guarantors. Visit factory/Collaterals/residence. Find out properties not charged to the bank. Indicate that Bank is willing to compromise.
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ROLE OF CHARTERED ACCOUNTANTS

Assist and Prepare Viability study Conduct Business, Assets & Share Valuation

Carry out Due Diligence Study for Business

Restructuring Verification and Vetting of Documents Preparation of Scheme of Arrangement Consultancy on Taxation aspects Monitoring of Accounts Credit Audit of borrowers Stock Audits
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THANK YOU

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