Income Recognition and Asset Classification

1. Income Recognition and Asset Classification M Rama Kumari AGM & MoF College of Agricultural Banking Reserve Bank of India, Pune

2. Why do we need IRAC Norms ?

3. What is IRAC A policy of income recognition on the basis of record of recovery rather than on any subjective considerations. The classification of assets of banks on the basis of objective criteria ensuring a uniform and consistent application of the norms

4. What is Performing Asset • A performing asset is one which does not disclose any problems and which does not carry more than normal risk attached to the business. Such an asset is classified as Standard Asset

5. What is Non-Performing Asset A non performing asset is a loan or an advance where: (i) interest and/ or installment remain overdue for a period of more than 90 days in respect of a Term Loan (ii) The amount remains ‘out of order’ for a period of more than 90 days, in respect of an Overdraft/ cash credit (iii) The bills remains overdue for a period of more than 90 days in case of bills purchased and discounted,

6. (iv) In case of direct agricultural advances if the installment of principal thereon remains overdue for more than two crop seasons (in case of short duration crops) and more than one crop season (in case of long duration crop) ; crop pattern as determined by SLBC (v) Similar treatment for gold loans granted for agricultural purposes

7. Some exceptions (vi) Gold loans for non agricultural purposes will have the same treatment like any other loans. However, in case of a Board approved policy and subject to adequate margin gold loan up to Rs.1.0 lakh would not be NPA with bullet repayment option (not exceeding 12 months). It will be NPA only after it is overdue form the date of bullet repayment as fixed by the bank. (Nov.26, 2007)

8. Some exceptions (vii) Advances against term deposits, NSCs eligible for surrender, IVPs, KVPs and Life policies need not be treated as NPAs provided adequate margin is available. (viii) Central Govt. guaranteed accounts need not be treated as NPAs. However, income not to be recognised unless interest/ inatallment is really paid. (ix) Staff housing loan: as per the due date fixed by the bank, where interest is payable after recovery of principal.

9. What is an Out of Order A/c the outstanding balance remains continuously in excess of the sanctioned limit/drawing power. Or there are no credits continuously for 90 days or credits are not enough to cover the interest debited during the same period

10. A few other criteria of classification of CASH CREDIT account as NPA • No monthly stock statement has been submitted by the borrower for last six months (3 months+90 days) or The Cash Credit account has not been reviewed/ renewed for more than 90 days or Where there is a solitary or a few credit entries before the balance sheet date but the account goes ‘out of order’ thereafter

11. Classification of Assets • Identification of assets as NPAs should be done on an ongoing basis. Provisions to be made at the end of each calendar quarter. • Charging of interest at monthly rests. However, the date of classification of an advance as NPA shall not change on account of charging of interest at monthly basis • Treatment of NPAs – Borrower-wise not Facility-wise, Bank-wise not borrower-wise

12. Classification of Assets • If the asset is non-performing, the investment in the shares and bonds of the same borrower shall also be classified as NPA. • If the bank is not receiving regular dividend, the investment shall be classified as NPI.

13. ASSET CLASSIFICATION Sub Standard Assets: The sub standard asset is one which has remained as NPA for a period less than or equal to 12 months. Provision requirement – 10% of total outstanding irrespective of available security. However, if there is an erosion in the value of security (less than 50% of the original value as assessed by the bank or accepted by RBI at the time of last inspection) or a fraud has been committed by the borrower, the account will be straight away classified as doubtful category and will attract provision accordingly. 9/16/2014 CAB, RBI, PUNE 13 13 9/16/2014 College of Agricultural Banking, RBI, PUNE

14. ASSET CLASSIFICATION • Further, if the erosion in the value of security is to the extent that the realisable value of security depletes to less than 10% of the outstanding loan, the account can be straight away classified as ‘Loss’ and provision shall be made accordingly.

15. Doubtful Asset • Doubtful Assets: • D I, D II, D III • An asset which has remained NPA for more than 12 months but is less than or upto 24 months is classified in Doubtful I category Provision required is 20% on secured portion and 100% on unsecured portion

16. Doubtful Asset • Doubtful II • NPA for more than 2 years and up to 4 years • Provision required is 30% on secured portion and 100% on unsecured portion • Doubtful III • More than 4 years

17. Doubtful Asset • Provision required: • 100% for new (after April 1,2010) D III accounts for both T I banks and T II banks • For T II banks: 100% in case of old D III accounts also.

18. Doubtful Asset • For T I banks: In case of NPAs(D III) as on March 31, 2010 • (i) 60% w.e.f. March 31, 2011 • (ii) 75% w.e.f. March 31,2012 • (iii)100% w.e.f. March 31, 2013

19. Loss Asset Loss Assets: An NPA account where realisable value of security is either nil or is less than 10% of the outstanding. Realisibility is the main criterion not the value of security per se. Loss asset will attract 100% provision 9/16/2014 CAB, RBI, PUNE 19 19 9/16/2014 College of Agricultural Banking, RBI, PUNE

20. Internal System for classification of asset • Banks should establish appropriate internal systems to eliminate the tendency to postpone the identification of NPAs , especially in respect of high value accounts. • Responsibility and validation levels for ensuring asset classification may be fixed by the bank • RBI would continue to identify the divergences arising due to non-compliance, for fixing responsibility.

21. Prudential Guidelines on restructuring of Advances

22. Prudential Guidelines on Restructuring of Advances Asset classification norms • As a general rule: • Standard accounts should be immediately reclassified as ‘sub standard assets’ upon restructuring • The non performing asset would slip into further lower asset classification category as per extant asset classification norms with reference to pre restructuring repayment schedule.

23. Prudential Guidelines on Restructuring of Advances • non-performing assets upon restructuring, would be eligible for up-gradation to the 'standard' category after observation of 'satisfactory performance' during the 'specified period‘ i.e. one year • the asset classification of the restructured account would be governed as per the applicable prudential norms with reference to the pre-restructuring payment schedule.

24. Restructured A/c-Income recognition norms • However, this rule is not applicable in case of (i)Project Financing, (ii) borrowers engaged in important business activities (iii) housing loan • This exceptional treatment is not available to • (i) consumer and personal advances • (ii) Advances to traders

25. Restructuring of Agricultural Advances • In case of default in payment of agricultural loans due to natural calamities UCBs on their own may decide to • convert the short term production loan into a long term loan or reschedule the repayment period and • sanction fresh short term loans • these fresh/ restructured loans will not be treated as NPAs and will be governed by fresh terms and conditions

26. Restructured A/c- Provisioning norms • PRECONDITIONS: (i)Provision for diminution in the fair value of restructured Advances • Interest sacrifice to be calculated on the basis of discounting present value of cash flow with both pre and post restructuring rate of bank’s BPLR+ appropriate term premium +credit risk premium • Simpler method:5% of the exposure (ii)The dues of the bank are fully secured with certain exceptions

27. Restructured A/cs-Income recognition norms- • Exceptions of (ii) • (a) SSI borrowers where outstanding is up to Rs.25.0 lakh • (b) Infrastructure projects with an escrow account with valid legal claim and where the cash flows generated form the project are adequate for repayment of the advance

28. Restructured A/cs-Income recognition norms- • WCTL part (created out of irregular principal repayment) may remain unsecured with the condition that a provisioning of 20% would be required on standard restructured asset and for substandard asset it should be 20% in the first year with yearly increase of 20% each subsequent year

29. Restructured A/cs-Income recognition norms- (iii)The unit becomes viable in 10 years if it is engaged in infrastructure and in 7 years in case of other units (iv)The repayment period of the restructured advance should not exceed 15 years in case of infrastructure and housing loans 10 years in all other cases.

30. Restructured A/cs-Income recognition norms- (v) Personal guarantee is offered by the promoter (except when the unit is affected by external factors pertaining to the economy and industry (vi) The account should not be subjected to repeated restructuring

31. Restructured A/cs-Income recognition norms- (vii)Promoter’s additional contribution should not be less than 15% of bank’s sacrifice (viii) If FITL is created out of unpaid interest, the unrealised income should have a corresponding credit in the account styled as “Sundry Liabilities Account (Interest Capitalisation)”

32. Other important issues • FITL will be classified in the same category as the restructured advance • The bank should disclose in their published annual Balance Sheet, under ‘Notes on Account’ information relating to number and amount of advances restructured and the amount of diminution in the fair value of advances

33. PROVISIONING NORMS Rate of Provisioning on Standard Asset: 9/16/2014 CAB, RBI, PUNE 33 33 9/16/2014 College of Agricultural Banking, RBI, PUNE

34. Thank you