A loan asset of a bank is considered as a Standard Asset as long as the borrower is paying the interest, instalments and other charges as and when debited to his account. A period of 30 days is generally allowed to the borrower to make such payments to the bank. In case the borrower fails to pay or service the account within 30 days from the data of charging, the borrowal account is termed as Irregular/Out of Order.
An account remaining irregular continuously for 90 days is classified as Sub-standard/Non-Performing Asset (NPA). Thus, in line with the international practices on prudential norms for banks, an asset is defined as non-performing when it ceases to generate income for the bank. Availability of security is never a criterion for deciding whether a loan asset is performing or non-performing.
Thus, Non-Performing Asset (NPA) is a loan or advance where:
(i) Interest and/or installment of principal remaining overdue for a period of more than 90 days in respect of a Term Loan;
(ii) The bill remains overdue for a period of more than 90 days in case of bills purchased and discounted;
(iii) When an advance is disbursed in the form of overdraft/cash credit and the account remains out of order for more than 90 days. An overdraft/ cash credit account is considered to be out of order when the outstanding balance remains continuously in excess of the sanctioned limit/drawing power.
The account shall also be treated as out of order if there is no credit in the account continuously for a period of 90 days or more or the credits are not enough to cover the interest debited during the period of last 90 days. Non-submission of inventory and receivable statements for 90 days for computation of drawing power will also render the account out of order.
In terms of the prudential norms, an overdue amount means any amount due to the bank under any credit facility, which is not paid by the borrower on the due date fixed by the bank. Further, any amount to be received for use of credit cards, debits in suspense account, etc., from a customer and if it remains overdue for a period of more than 90 days, the same is also to be treated as NPA.
Ideally, a bank should have all its assets performing all the time and there should not be any non-performing asset. But it is extremely difficult to maintain a zero-NPA level. Like any other business activity, the banking business also witnesses a certain percentage of NPA in its asset (Credit) portfolio. However, the banks always endeavour to keep the NPA level to zero or the bare minimum. This is done by a structured NPA management in the bank.
RBI Guidelines on Prudential Norms:
Banks are required to classify the advance accounts in terms of the international practices and prudential norms.
The existing RBI guidelines regarding non-performing assets are given below:
Non-Performing Assets:
An asset, including a leased asset, becomes non-performing when it ceases to generate income for the bank.
A Non-Performing Asset (NPA) is a loan or an advance where:
(i) Interest and/or installment of principal remain overdue for a period of more than 90 days in respect of a term loan.
(ii) The account remains ‘out of order’ in respect of an Overdraft/Cash Credit (OD/CC) for more than 90 days.
(iii) The bill remains overdue for a period of more than 90 days in the case of bills purchased and discounted.
(iv) For agricultural crop loans, the installment of principal or interest thereon remains overdue for two crop seasons for short-duration crops.
(v) The installment of principal or interest thereon remains overdue for one crop season for long duration crops under agricultural loan.
Banks should classify an account as NPA only if the interest charged during any quarter is not serviced fully within 90 days from the end of the quarter.
‘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 the 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 bank.
Causes
External Factors
- Willful Defaults
There are borrowers who are competent to pay back loans but are intentionally withdrawing it. These groups of people should be recognized and proper measures should be taken in order to get back the money extended to them as advances and loans.
- Ineffective recovery tribunal
The Govt. has set of numbers of recovery tribunals, which works for recovery of loans and advances, due to their carelessness and ineffectiveness in their work the bank suffers the consequence of non-recover, their by reducing their profitability and liquidity.
- Natural calamities
This is the measured factor, which is creating an alarming increase in NPAs of the PSBs. every now and then India is hit by major natural calamities thus making the borrowers unable to pay back their loans. Thus, the bank has to make a large amount of provisions in order to pay damages those loans, hence end up the fiscal with a reduced profit. Basically our farmers depend on rain fall for cropping. Due to irregularities of rain fall the farmers are not to attain the production level thus they are not repaying the loans.
- Lack of demand
Entrepreneurs in India could not predict their product demand and starts production which ultimately piles up their product thus making them unable to pay back the money they borrow to operate these activities. The banks recover the amount by selling of their assets, which covers the smallest label. Therefore, the banks record the non-recovered part as NPAs and has to make provision for it.
- Industrial sickness
Inappropriate project handling, ineffective management, lack of adequate resources, lack of advance technology, day to day changing govt. Policies produce industrial sickness. Therefore, the banks that finance those industries ultimately end up with a low recovery of their loans reducing their profit and liquidity.
- Change on Govt. policies
With every new govt. banking sector gets new policies for its operation, so it has to cope with the changing principles and policies for the regulation of the rising of NPAs. For example, the fallout of the handloom sector is continuing as most of the weavers’ Co-operative societies have become defunct largely due to withdrawal of state patronage. The rehabilitation plan worked out by the Central government to renew the handloom sector has not yet been implemented, so the over dues due to the handloom sectors are becoming NPAs.
Internal Factors
- Inappropriate technology
Due to improper technology and management information system, market driven decisions on real time basis cannot be taken. Proper MIS and financial accounting system is not implemented in the banks, which leads to poor credit collection, so NPA, therefore all the branches of the bank should be computerized.
- Defective Lending process
There are three cardinal principles of bank lending that have been followed by commercial banks, that is, Principles of safety, Principle of liquidity, Principles of profitability. Principles of safety mean that the borrower is in a position to pay back the loan, including both principal and interest. The refund of loan depends upon the borrowers, Capacity to pay and Willingness to pay.
Capacity to pay depends upon, Tangible assets, Success in business. Willingness to pay depends on, Character, Honest, Reputation of borrower. The banker should, therefore take utmost care in ensuring that the enterprise or business for which a loan is sought is a sound one and the borrower is competent of carrying it out successfully, he should be a person of integrity and good character.
- Improper SWOT analysis
The inappropriate strength, weakness, opportunity and threat analysis is another reason for increase in NPAs. While providing unsecured advances the banks depend more on the honesty, integrity, and financial soundness and credit worthiness of the borrower, so, banks should consider the borrowers own capital investment and bank should collect credit information of the borrowers from, a. Bankers b. Enquiry from market/segment of trade, industry, business. c. From external credit rating agencies.
Banker should examine the balance sheet which shows the true picture of business will be revealed on analysis of profit/loss a/c and balance sheet. When bankers give loan, he should examine the purpose of the loan. To make sure safety and liquidity, banks should grant loan for productive purpose only. Bank should examine the profitability, viability, long term acceptability of the project while financing.
- Managerial deficiencies
The banker should always select the borrower very cautiously and should take tangible assets as security to safeguard its interests. When accepting securities, banks should consider, the Marketability, Acceptability, Safety, Transferability etc. The banker should follow the principle of diversification of risk based on the famous maxim “do not keep all the eggs in one basket”, which means that the banker should not grant advances to a few big farms only or to concentrate them in few industries or in a few cities. If a latest big customer meets misfortune or certain traders or industries affected adversely, the overall position of the bank will not be affected.
- Poor credit appraisal system
Deprived credit appraisal is an additional factor for the increase in NPAs, due to poor credit appraisal the bank gives advances to those who are not able to repay it back. They should use better credit appraisal to reduce the NPAs.
- Absence of regular industrial visit
The irregularities in spot visit also increases the NPAs, absence of regularly visit of bank officials to the customer point decreases the collection of interest and principals on the loan. So the NPAs can be collected by regular visits.
The growth and proliferation in the activities of the bank has led to ever-increasing non-performing assets that have mounted to a huge amount during the last decade or so. The quantum of NPAs has been calculated and put at different figures mainly due to absence of correct statistics and the method on the basis adopted for calculating the percentage of NPAs in relation to either the total assets of the bank or the quantity of loan portfolio or on the basis of the number of the accounts or the size of the outstanding advances.
For a large number of years, the banks have been taking credit in its books, on basis of accrued interest income, even for the sum of periodic interest that was not really paid by the borrower. This was done by raising debt in suspense account and crediting amount equivalent to the periodic interest in the loan account of the borrower.
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