A Non-performing Asset

A Non-performing asset (NPA) is a credit facility where the interest and/or installment of Bond finance principal has remained “past due” for a specified period of time. NPA is a term used by financial institutions for loans that are in jeopardy of default.. Once the borrower has failed to make interest or principle payments for 90 days the loan is considered to be a non-performing asset of the lender. Non-performing assets are worrisome for financial institutions since they depend on interest payments for income. Troublesome pressure from the economy can lead to a sharp increase in NPAs and often results in massive write-downs.

Keeping in mind the international best practices and ensuring greater transparency, it has been decided to adopt the “90 days” overdue” norm for identification of NPA, from the year ending March 31, 2004. Accordingly, with effect from March 31, 2004, a non-performing asset (NPA)is a loan or an advance where:

• Interest and/or installment of principal remain overdue for a period of more than 91 days in respect of a term loan,
• The account remains “out of order” for a period of more than 90 days, in respect of an Overdraft/Cash Credit (OD/CC),
• The bill remains overdue for a period of more than 90 days in the case of bills purchased and discounted,
• Interest and/or installment of principal remains overdue for two harvest seasons but for a period not exceeding two half years in the case of an advance granted for agricultural purposes, and
• Any amount to be received remains overdue for a period of more than 90 days in respect of other accounts.
• Non submission of Stock Statements for 3 Continuous Quarters in case of Cash Credit Facility.
• No active transactions in the account (Cash Credit/Over Draft/EPC/PCFC) for more than 91days.

Types of NPA:

The following points highlight the top seven types of non-performing assets.

The types are:

1. Term Loans
2. Cash Credit and Overdrafts
3. Agricultural Advances
4. Exempted Assets
5. Advances under Rehabilitation Packages
6. Take-out Finance
7. Advances Covered by the Guarantees of DICGC/ECGC.

1. Term Loans:

A term loan facility will be treated as NPA for the year ending 31st March, 1998 and onwards if interest or installment of principal remains past due for a period of more than 90 days.

2. Cash Credit and Overdrafts:

A cash credit and overdraft account will be treated as NPA if the account remains out of order for a period more than 90 days. An account is treated as “out of order” any of the following conditions is fulfilled:

• (a) The outstanding balance remains continuously in excess of the sanctions limit/during power.
• (b) Though the outstanding balance is less than the sanctioned limit/drawing power:

1. (1) There are no credits continuously for more than 90 days as on the date of balance sheet; or
2. (2) Credits during the aforesaid period are not enough to cover the interest debited during the same period more than 90 days.

With effect from September 30, 2004, Advances granted for agriculture purposes become NPA if interest and /or installment of principal remains overdue for two crop seasons in case of short duration crops and a loangranted for long duration crops will be treated as NPA, if the installment of principal or interest thereon remains overdue for one crop season.

Crops having crop season of more than one year i.e. up to the period of harvesting the crops raised will be termed as “long duration” crops and other crops will be treated as “short duration” crops. These NPA nouns would also be applicable to agricultural term loans.

In respect of other agricultural loans and term loans given to non-agriculturists, identification of NPAs would be done on the basis as per nonagricultural advances which are, at present, 90 days delinquency norm.

Certain categories of advances have been exempted from being treated as non-performing for the purpose of income determination and / or provisioning, even though they meet the aforesaid criteria.

Briefly, they are as follows:

• Advances secured against term deposits. National Savings Certificates, Vikas Patras, Kisan Vikas Patras and surrender value of life insurance policies.
• Advances guaranteed by Government of India and/or State Governments. But this exemption is only for the purpose of assets classification and provisioning norms and not for the purpose of recognition of income. It means income in respect of the facility will not be recognized until it is actually received. Also, in the case of state government guarantees, this exemption is available only where the guarantees have not been invoked. The State Government guaranteed accounts which have been invoked upon becoming NPA are to be treated at par with other advances for purpose of asset classification, income recognition and provisioning norms.

Where additional facilities are granted to a unit under rehabilitation packages approved by the Board for Industrial and Financial Reconstruction (BIFR) or by term-lending institutions or the bank (on its own or under consortium arrangement), provision should continue to be made for the dues in respect of existing credit facilities.As regards the additional facilities, provision need not be made for a period of one year from the date of disbursement in respect of additional facilities sanctioned under rehabilitation packages approved by BIFR/term– lending institution.

Similarly, no provision need be made for a period of one year in respect of additional facilities granted to a sick small-scale industrial unit in accordance with a rehabilitation package/nursing program drawn up by the bank itself or under a consortium arrangement.

After the period of one year, the bank in consultation with its auditors would take a view whether there is need for making provision in respect of the additional facilities sanctioned.

In the case of take-out finance, if based on record of recovery, the account is classified by their lending bank as NPA it should make provision for loan losses as per guidelines. The provision should be reversed when the account is taken over by the taking-over institution. On taking over the account, the taking-over institution should make provisions as per the guidelines.

In the case of advances guaranteed by Expert Credit Guarantee Corporation (ECGC) or by Deposit Insurance and Credit Guarantee Corporation (DICGC), provision is required to be made only for the balance in excess of the amount guaranteed by these corporations.

Income Recognition:

Income from non-performing 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 income account interest on any NPA. This will apply to Government guaranteed accounts also. However, interest on advances against Term Deposits, National Savings Certificates (NSCs), Indira Vikas Patras (IVPs), Kisan Vikas Patras (KVPs) and Life policies may be taken to income account on the due date provided adequate margin is available in the accounts.

Fees and commissions earned by the banks as a result of renegotiations or rescheduling of outstanding debts should be recognised on an accrual basis over the period of time covered by the renegotiated or rescheduled extension of credit.

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, reversed if the same is not realized. This will apply to Government guaranteed accounts also. In respect of NPAs, fees, commission and similar income that have accrued should cease to accrue in the current period and should be reversed with respect to past periods, if uncollected.

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 be reversed or provided for in the current accounting period. Appropriation of recovery in NPAs: Interest realized on NPAs can 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.

Categories of NPA

Non-performing assets can classified into three categories based on the span for which the asset has remained non-performing and the recovery of the dues:

1. Substandard Assets With effect from March 31, 2005, a substandard asset would be the one, which has remained as a nonperforming asset for a period of less than or equal to 12 months. Substandard assets have credit weaknesses that jeopardise the liquidation of the debt and there are also possibility of incurring and sustaining some losses if the deficiencies are not corrected.
2. Doubtful Assets With effect from March 31, 2005, an asset is classified as doubtful if it has remained as a sub-standard asset for a period of 12 months. A loan classified under the doubtful category has all the weakness characteristics as defined for the sub-standard assets; also it has added characteristics that the weakness makes full liquidation or collection, on the basis of the currently known conditions, facts, and values that are highly doubtful and questionable.
3. Loss Assets A loss asset is one where loss has been identified by the bank’s internal auditors and RBI?s external auditors, but the amount has not been written off fully. These kinds of assets are also considered as uncollectible, and of little value that its continuance or maintenance as a bankable asset is not warranted or acceptable though there may be some salvage or recovery value.

Substandard Asset

*Remained NPA for a period not less than or equal to one year.

*In such cases, the current net worth of the borrower or guarantor or market value of the security charged is not enough to ensure recovery of the bank's dues;

*Likely to sustain some loss if deficiencies are not corrected.

*15% of the sum of the net investment in The lease and the unrealized portion of finance income net of finance charge component.

*Additional 10% for unsecured lease exposure i.e. total 25%.

Doubtful Asset

*Remained in substandard category beyond 1 year;

*Recovery - highly questionable and improbable.

*100% of the finance not secured by the realizable value of the leased asset.

*Additional provision on the unrealised portion of finance income net of finance charge component of the secured portion as under: Period for which the advance remained in doubtful category and the provision (%) Up to one year is 25% provision, One to three years 40% provision, More than three years 100%

Loss Assets

*Asset considered uncollectible and of little value but not written off wholly by the bank.

*Continuance as bankable assets although it may have some salvage or recovery value.

To be written off or 100% of the sum of the net investment in the lease and the unrealised portion of finance income net of finance charge component.

Present situation Of NPA:

Total bad loans of India’s 38 listed commercial banks have crossed Rs 8 lakh crore at the end of June quarter, 2017. This chunk accounts for approximately 11 percent of the total loans given by the banking industry in India.

Over 90 percent of these sticky assets are of the public sector banks. These banks constitute about 70 percent of the total banking industry, in terms of assets, indicating the government will have to bear the brunt of capital requirements of industry which is struggling in terms of NPA’s. Higher bad loans require banks to set aside more money as provisions in order to meet future contigencies.

Eleven of India’s 21 listed government-owned banks are now under the Reserve Bank of India’s watch due to large NPA’s, low capital levels and inadequate return on assets. Together these banks account for more than Rs 3 lakh crore in bad loans out of the total Rs 8.4 lakh crore across India’s listed banks. Since April, 11 banks have been put under the corrective action framework. Banks under the corrective framework include Allahabad Bank, Bank of India, Central Bank of India, IDBI Bank, UCO Bank, Dena Bank, Oriental Bank of Commerce, Indian Overseas Bank, Bank of Maharashtra and Corporation Bank. United Bank of India.

Impact of NPA in economy:

The higher is the amount of non-performing assets (NPA) the weaker will be the bank’s revenue stream. Indian Banking sector has been facing the NPA issue due to the mismanagement in the loan distribution carried by the Public sector banks. As the NPAs of the banks will rise, it will bring a scarcity of funds in the Indian markets. Few banks will be willing to lend if they are not sure of the recovery of their money. Also, The shareholders of the banks will lose of money as banks themselves will find it tough to survive in the market.The price of loans, interest rates will shoot up badly. Shooting of interest rates will directly impact the investors who wish to take loans for setting up infrastructural, industrial projects etc. Thus with less loans being availed by investors the countrie’s growth will be adversely affected. Consumers will also be victims of high interest rate, with higher amount of interest payments to be paid by them to avail the loans . Thus, inflationary trends will prevail in the economy due to higher cost of capital.

Worldwide NPA

Metrics to Asses NPAs

Traditionally, two metrics are used to assess the scale of the problem

• The ratio of NPAs (gross or net) to gross domestic product (GDP) – measures the potential losses in relation to the size of the economy and is helpful in comparing different countries. However, this measure does not indicate about banks ability to handle the NPAs with their own capital.
• The ratio of NPAs to total loans – shows the fraction of bank loans that has turned bad. One shortcoming of this measure is that it suggests the problem can be solved through denominator management—growing the loan books of banks to make the NPA ratio smaller assuming that the source of the NPA problem is external to the banking system and not in the weaknesses of the lending processes. Moreover, it is difficult for the NPA-ridden banks to grow. Prolonged NPA episodes erode banks” capital and constrain their ability to grow their loan books.

The ratio of non-performing loans to the gross loans has risen by 350% in the last 5 years, a very steep rise indeed. When compared to other developing economies, the present condition of Indian banking sector shows a dismal state. China, Brazil and South Africa are all below the 4% mark which is considered as a safe zone. India’s however, is hovering over 9% as of 2016 which has increased since then. This official figure is the best case scenario, the ground reality being even worse.