Harmonisation of NPA recognition:

th
Implications of 12 Nov RBI Circular
Vinod Kothari
Vinod Kothari Consultants P. Ltd.
vinod@vinodkothari.com

www.vinodkothari.com
Harmonisation of NPA recognition practices

• The preamble says: • Meaning of non-performing asset

 With a view to ensuring uniformity in
IRACP norms  For banks and NBFCs, loan account is
 Across all lending institutions classified as an NPA if the interest or
 Has been issued partly as a clarificatory principal remains overdue for a period
circular, and partly as harmonizing of 90 days or three months and above.
• Deals with 7 main heads:
 Specification of repayment date/due
• Meaning of SMA0, SMA1 and SMA2
date  SMA classification is done before the
 Classification as SMA/NPA account is classified as an NPA. Based
 Meaning of “out of order” on the DPD status-
 NPA classification in case of interest  SMA0- 0 to 30 days
payments
 Upgradation to standard status  SMA1- 31 to 60 days
 Income recognition policy in case of  SMA2- 61 to 90 days
loans with moratorium on interest
 Consumer education

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Applicability by entities
• RBI Circular addressed to
 All commercial banks
 Existing IRACP Norms
 Cooperative banks , etc.
 AIFIs
 NBFCs including HFCs
 For NBFC-ND-NSI- Chapter IV of
the Master Directions
 For NBFC-ND-SI- Chapter V of the
Master Directions
 For HFCs- Chapter V of the Master
Directions
• Applicability to Housing finance
companies
 HFCs, which are now a category of
NBFCs, are not required to do SMA
classification and report to CRILC.
 The clarification for SMA
classification should ideally not be
made applicable on HFCs by virtue
of the RBI Circular.
 However, it is prudent to ensure
that the SMA classification is being
done by the HFC, though the same
may not be reported to CRILC.
 It seems that eventually, the RBI
may extend the CRILC reporting to
HFCs as well.
© Vinod Kothari Consultants Pvt. Ltd.
Applicability by facilities for SMA Classification (Para 5)

• Facilities covered • Agricultural advances

 Term loans  Exempt from the scope
 Retail loans
 EMIs loans • Applicability on -
 Working capital facilities  Demand and Call Loans
 Gold loans  Housing Loans
 Fintech loans  IPO Funding/ LAS
 Personal loans  BNPL
 Financial lease transactions  Line of credit facilities

© Vinod Kothari Consultants Pvt. Ltd.

Applicability dates
• Para 2 – due dates to be
specified in agreements:
 Not later than 31st Dec, 2021 in
respect of fresh loans
 Existing loans – as and when the
loans come for renewal
 That is, in that case, the
implementation is immediate
• SMA and NPA classification
 Immediate
• Clarification on out of order
status in case of working capital
loans
 Immediate
• NPA recognition in case of
interest on loans [as per para
2.1.3 of IRACP norms, applicable
to banks]
 31st March 2022
• Upgradation to standard
 Immediate
• Consumer protection
 At the earliest, not later than 31st
March, 2022
© Vinod Kothari Consultants Pvt. Ltd.
Loan agreements to contain Due Dates - para 2
• Specification of due date
 Some loan agreements do not mention
the due date; rather, describe the due
date
• Leaving a room for interpretation
• Loan agreement and sanction terms to
show:
 The exact due dates for repayment of a
loan,
 Frequency of repayment,
 Breakup between principal and interest,
 Examples of SMA/NPA classification
dates, etc
 In cases of loan facilities with
moratorium on payment of principal
and/or interest, the exact date of
commencement of repayment shall also
be specified
• For example, are the payments
definitive?
 Loan agreement says: payments at the
end of each of month
 Payments with monthly rests
 Payments start after a moratorium of 60
days
• In essence, the schedule should clearly
specify the payment dates
• Some loans have flexible payments
dates:
 For example, the borrower may pay at
any time within 6 months
 This is common in case of fintech loans
© Vinod Kothari Consultants Pvt. Ltd.
Existing IRAC Norms

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NPA and SMA classification – para 3-5

• Classification as SMA governed by June, • Also, overdues still include “principal or

2019 Circular: Prudential Framework for interest payment or any other amount
Resolution of Stressed Assets (FRESA)
wholly or partly due” - hence, no change
• Clarification, not an amendment
 Intervals are intended to be continuous. • Instructions applicable to all loans
• Basis of classification as appearing in  Including retail loans
FRESA:  Agricultural advances governed by crop
 SMA 0 - 1 to 30 days season-based asset classification norms
 SMA 1 - 31 to 60 days are exempt
 SMA 3 - 61 to 90 days
 Size of exposure of the lending institution
• Basis of classification appearing in this does not matter
Notification:
 SMA 0 - Upto 30 days
 SMA 1 - more than 30 days but upto 60 days
 SMA 2 - more than 60 days but upto 90 days

© Vinod Kothari Consultants Pvt. Ltd.

Day-end process for status of loans - Overdue, SMA, NPA

• Day-end process
 Classification is to freeze at “day-end”
 “Day-end” does not imply end of day
 Accounts are to be flagged “overdue” as a part of “day-
end process” for the due date run by the lending
institutions irrespective of the time of running such
process
• Hence, classification of accounts as SMA/NPA
shall be a part of the day-end process too
• That is, classification date shall be the date on which the
day-end process is run
• Example, say due date is 31.03.2021; by day-end process is
run, full dues are not received, date of overdue shall be
31.03.2021. The account continues to remain overdue till
30.04.2021 when day-end process is run. Account is to be
classified as SMA 1 on 30.04.2021.
• Process to be explained to consumers through
website as a part of consumer education
© Vinod Kothari Consultants Pvt. Ltd.
Out of order position in case of working capital loans – para 6-7

• Para 6 is apparently clarificatory

• Treatment of CC/OD accounts
• Working capital facilities are characterised
as NPA based on out-of-order status for 90 as ‘out of order’ shall be done
days or above.
accordingly on or after the
• The circular clarifies that the account is
taken to be OOO if date of RBI Circular
 The outstanding balance in the CC/OD
account remains continuously in excess of
the sanctioned limit/drawing power for 90
days, or
 (a) the outstanding balance in the CC/OD
account is less than the sanctioned
limit/drawing power but there are no
credits continuously for 90 days,
 (b) or the outstanding balance in the
CC/OD account is less than the sanctioned
limit/drawing power but credits are not
enough to cover the interest debited
during the previous 90 days period.

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NPA classification in case of interest - para 8-9

• NPA classification in case of interest • Applicability

(para 8)
 Extant norms as per Master circular of  Effective from March 31, 2022
Oct, 2021: NPA classification only if the  In respect of any borrower account
interest due and charged during any which becomes overdue on or after
quarter is not serviced fully within 90
days from the end of the quarter. March 31, 2022, its classification as
 Notification aligns the requirement NPA shall be based on the account
with the requirement to apply interest being overdue for more than 90 days.
at monthly rests
 In case of interest payments in respect
of term loans, an account will be
classified as NPA if the interest applied
at specified rests remains overdue for
more than 90 days.
 Hence, whether interest is overdue or
not shall be reckoned from the due date
of each “monthly interest” and not
quarterly interest”

© Vinod Kothari Consultants Pvt. Ltd.

Rolling back to standard status- Para 10

• Existing norms:
 If arrears of interest and principal are
paid by the borrower in the case of
loan accounts classified as NPAs, the
account should no longer be treated as
non-performing and may be classified
as ‘standard’ accounts.
• Clarification by the Notification
 Upgrade not allowed on payment of
partial overdues, or only interest
overdues
 Allowed only if entire arrears of
interest and principal are paid
 What if penal charges, etc. are not paid?
See next slide
• A mere clarification; hence
applicable immediately

© Vinod Kothari Consultants Pvt. Ltd.

Rolling back to standard status- Para 10
• Text of RBI Circular:
• In order to avoid any ambiguity in this regard, it
is clarified that loan accounts classified as NPAs
may be upgraded as ‘standard’ asset only if
entire arrears of interest and principal are paid
by the borrower. With regard to upgradation of
accounts classified as NPA due to restructuring,
non-achievement of date of commencement of
commercial operations (DCCO), etc., the
instructions as specified for such cases shall
continue to be applicable.
• Three implications
 Entire arrears of interest and principal to be paid
before an account can be taken as standard
 In case of restructuring, existing instructions to
apply
 Restructuring usually leads to NPA classification
 In case of shifting of DCCO, existing instructions to
apply
• Several cases of restructuring
• COVID related restructuring: One-time
restructuring for MSMEs and Resolution
Framework for COVID Related Stress
(“ResFraCoS”)
 Roll-back shall be as per the applicable
IRAC norms
 Accordingly, this circular also becomes
applicable
 Roll-back upon repayment of all
outstanding dues
• Restructuring in normal course: Prudential
Framework for Resolution of Stressed
Assets June 07, 2019 (FRESA)
 Refer next slide
© Vinod Kothari Consultants Pvt. Ltd.
Restructuring under FRESA

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Meaning of all dues collected
• What is the meaning of all dues
collected?
 All principal and interest
 All other changes – ODC, penal
interest?
 If penal interest itself is embedded
in interest, in that case ?
• General appropriation of payments
 Costs and expenses incurred
 penal interest, other charges
 Interest
 Principal
• Penal interest, etc. would not be
classified as overdue as these are
recognised when collected
• Account upgrade is possible only
when principal and interest
overdues are received
 Impliedly, lender would have first
adjusted penal interest, etc. before
appropriating amounts against
principal and interest
• However, possible stipulations in
agreements as to appropriations
first against interest and principal,
and then penal interest
 Instant upgrade is possible even if
penal interest is not received from
borrower
© Vinod Kothari Consultants Pvt. Ltd.
Meaning of collections, appropriation rules
• When is the payment said to
be collected?
 Date of receipt of cheque,
having current date
 Date of receipt of cheque,
having a forward date
 Date of putting the cheque in
bank
 Date of encashment
• In case of a NACH mandate
 Date of receiving the mandate
or the date of sending it to the
bank?
• Most loans have appropriation
clauses:
 Providing that any payment
received from the borrower will
first be adjusted towards penal
charges, expenses, etc
 Will this have a bearing, or the
manner of appropriation done by
the lender will prevail?
 In our view, in case of non-specific
payments made by the borrower,
appropriation is merely the
discretion
 If the lender explicitly credits
interest or principal, he is entitled
to.
© Vinod Kothari Consultants Pvt. Ltd.
Distinguishing between DPD, amount due, and the NPA status
• Does para 10 imply that even
when the borrower has paid 2
EMIs, he is still taken as 90
DPD?
• Clearly not
• If the borrower, having turned
NPA once, has paid 2 EMIs, he
is only 30 DPD
• However, he is still an NPA
• Therefore, the implication is a
delinking of NPA tagging, DPD
and amounts past due
• Does NPA tagging have to do
with amounts past due?
• For example, if a loan requires
payment of quarterly
instalments, does it become
NPA after 90 days, even though
only one instalment is pending?
• Answer is yes
• Therefore, NPA characterisation
is not related to amounts due
• It is a function of DPD, except in
case of accounts once
characterised as NPA
© Vinod Kothari Consultants Pvt. Ltd.
Daily determination

• Let us understand taking November 15, 2021 as the • System implications:

due date -
• It is impossible to do a manual NPA
DPD Status as Classification as on Classification as on classification
on 15th the day end the Reporting Date,
November i.e. 30th November • Therefore, systems of NBFCs have to
be rejigged to transition to the new
norms
1-30 days SMA 0 To be reported as per
the day end process • Challenges
 Usually, the date and actual payment
31-60 days SMA 1 Upgraded to Standard dates are mismatched
only if the entire  And the due amount and actual
outstanding is repaid amount paid, in many cases, is also
61- 90 days SMA 2 mismatched
 Further, there are some charges such
as overdue interest etc which also get
More than 90 NPA automatically debited.
days

© Vinod Kothari Consultants Pvt. Ltd.

Income recognition in case of moratorium on interest para 11-12
• During moratorium period, as long
as the account is standard,
recognition of interest may continue
on accrual basis
• Once the account becomes an NPA,
will this interest, which is
capitalised, have to be reversed?
• Answer is NO
• Income recognition norms for loans
towards projects under
implementation involving
deferment of DCCO and gold loans
for non-agricultural purposes
• Shall continue to be governed as per
the existing instructions
• Loans with moratorium on payment
of interest (paras 11-12)
 lending institutions may recognize
interest income on accrual basis for
accounts which continue to be
classified as ‘standard’
 If such loans become NPA after the
moratorium period is over, the
capitalized interest corresponding
to the interest accrued during such
moratorium period need not be
reversed
• This seems applicable to both NBFCs
and banks
Consumer education - para 13
• Lenders to educate borrowers about
recognition of NPA, SMA status,
through appropriate literature
 On the website
 At the branches
 Through frontline workers
• Intention is to increase awareness
among the borrowers
• Educate borrowers at the time of
sanction/disbursal/renewal of loans
• Emphasis on clarity in loan
agreements
• Instructions be complied with at the
earliest, not later than 31.03.2022
 Place consumer education literature on
website - explain with examples the
concepts of date of overdue, SMA and
NPA classification and upgradation,
with specific reference to day-end
process
 May consider displaying such literature
in branches by means of posters
and/or other appropriate media.
 Front-line officers to educate
borrowers about all these concepts,
with respect to loans availed by them,
at the time of
sanction/disbursal/renewal of loans
Areas of concern
• Difference in Due Date and Billing
Date
 The former would be considered for
the purpose of calculating the DPD.
• Payment Instrument pending for
clearance
 Unfair to degrade the classification of
the borrower if the payment
instrument has been submitted by the
borrower
 However, treating the acceptance as
clearance could be a practice that the
lender may misuse
 Prudent to treat only the actual
collection of repayment as sufficient
discharge of payment obligation
• NBFC-NSIs follow the DPD count of
180 days for classification as NPA
 90-days NPA norm is to be
implemented in a phased manner by
NBFC-NSI as per the Scale Based
Regulatory Framework
 NBFC-NSI will have to implement the
day count run immediately but the
DPD count for classification as NPA
would be as per the relaxation
provided by RBI
© Vinod Kothari Consultants Pvt. Ltd.
Prospective vs retrospective applicability
• As on the 12th Nov., there may have
been loans which have been rolled
back to standard status already,
even though dues not completely
cleared
• In view of the prospective
application, that would not be
affected
• The implementation of daily
counting for NPA classification
would also take some time
• Even though the same is applicable
immediately, lender will need some
time to put the same in operation
• Dichotomy for Banks?
 NPA day count is applicable
immediately
 Para 8 pertains to interest payment
in case of those accounts where
interest is due and charged during a
quarter
 Apparently, this should be
applicable only to cash credit
accounts
 However, it seems that now the
intent is apply interest computation
uniformly on monthly rests
 Hence, it seems that para 8
amending para 2.1.3 of IRACP
norms also results into a change in
interest debiting system
 Not just, NPA classification
© Vinod Kothari Consultants Pvt. Ltd.
Applicability in various scenarios
• Applicability to various
instruments
 Loans with EMIs
 Loans with quarterly or 6
monthly payments
 Loans under moratorium
 Lease or other transactions
• Covid moratorium and the
impact of the RBI Circular
 No impact as such since the
moratorium period is already
over
• Covid Restructuring and the
impact of the RBI Circular
 Roll-back upon repayment of all
outstanding dues
© Vinod Kothari Consultants Pvt. Ltd.
Implications in case of direct assignment transactions

• Impact on Direct assignment • So, if the servicer ascertains that an

transactions account has turned NPA, the
 The servicing is done by the originator assignee require the servicer to do a
and servicing reports are submitted to
the assignee typically on monthly basis prompt intimation
 Unless there is automatic integration
• Therefore, is the assignee required of databases so that the information
to follow the day-end process, or with the servicer is available on real
the servicer? time basis
• Apparently, the servicer is the
servicing agent of the assignee, and
therefore, if the information is
available with the agent, the
information is deemed available
with the principal

© Vinod Kothari Consultants Pvt. Ltd.

Implications in case of TLE transactions going forward
• DA transactions now come
under the new Directions as
TLEs
• There is a separate framework
for loans with zero DPD, and
loans which are “stressed”
• Therefore, the TLE framework
is even stricter, and whatever
is now NPA as per 12th Nov
would anyways be covered by
the stressed assets norms
• Will this lead to a new thrust
to inter-FI shifting of what is
“non performing” but re-
performing?
• Para 65 of TLE standards
 If the transferee(s), except ARCs,
have no existing exposure to the
borrower whose stressed loan
account is acquired, the
acquired stressed loan shall be
classified as “Standard” by the
transferee(s).
© Vinod Kothari Consultants Pvt. Ltd.
Implications in case of securitisation transactions

• Existing securitisation • Will this mean a new thrust to

transactions are not impacted at the popularity of securitisation
all
 Since the NPA recognition norms
transactions?
are not applicable
 Securitisation investments are
treated as NPA based on the
expected cashflows remaining in
arrears for 90 days or above
• Therefore, an individual account
remaining or turning an NPA, as
long as the credit enhancements
are sufficient, does not impact
the investors

© Vinod Kothari Consultants Pvt. Ltd.

Implications in case of co-lending transactions

• In case of co-lending • The co-lending partners are

transactions too, the both regulated by the RBI
collection/servicing are • The provisions of RBI circular
typically done by the shall apply to both of them on
originating co-lender their respective share
• However, once again, a
seamless information flow
between the two is required,
to ensure adherence to the
new norms

© Vinod Kothari Consultants Pvt. Ltd.

Implications under SARFAESI Act, refinancing of loans, etc

• Under SARFAESI Act, • Also, typically, loans which are

enforcement action can be characterised as NPA are not
taken in case the loan is refinanced by banks
characterised as NPA in the • This also seems to be limiting
books of the secured creditor the refinanceability of assets of
• This will apply in case of NBFCs
secured loans only
• And in case of those NBFCs
which are eligible to take
action under SARFAESI

© Vinod Kothari Consultants Pvt. Ltd.

NPA classification vs stages under IndAS

• Relevant para of IndAS • Relevance of restructuring for ECL

• Stage 1 - no SICR computation
• ….at the reporting date, the credit risk on a
financial instrument has not increased • Para 5.5.12 deals with modification of loan
significantly since initial recognition, an entity
shall measure the loss allowance for that financial cashflows
instrument at an amount equal to 12-month
expected credit losses.[Para 5.5.5] • Entity is to take a view whether
• Stage 2 - SICR modification is associated with SICR
• ….at each reporting date, an entity shall measure
the loss allowance for a financial instrument at an
amount equal to the lifetime expected credit
• Meaning of SICR- para 5.5.3
losses if the credit risk on that financial
instrument has increased significantly since initial • Meaning of “default”- para B5.5.37
recognition. [Para 5.5.3]
 “.... there is a rebuttable presumption
• Stage 3 - credit impaired assets
• Definition of “credit impaired asset”- B 5.5.33
that default does not occur later than
when a financial asset is 90 days past
• Basis of SICR is “past due” - 5.5.11 due unless an entity has reasonable
• Rebuttable presumption that there is an and supportable information to
SICR, if receivables are more than 30 DPD demonstrate that a more lagging
• Nowhere is the IndAS relating to the past default criterion is more appropriate…”
DPD status

© Vinod Kothari Consultants Pvt. Ltd.


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