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Income Recognition and

Asset Classification

M Rama KumariAGM & MoF

College of Agricultural BankingReserve Bank of India, Pune

Why do we need IRAC Norms ?

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What is IRAC

• A policy of income recognition on the A policy of income recognition on the basis of record of recovery rather basis of record of recovery rather than on any subjective than on any subjective considerations.considerations.

• The classification of assets of banks The classification of assets of banks on the basis of objective criteria on the basis of objective criteria ensuring a uniform and consistent ensuring a uniform and consistent application of the normsapplication of the norms

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

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What is Non-Performing Asset

• A non performing asset is a loan or an advance A non performing asset is a loan or an advance where:where:

• (i) interest and/ or installment remain overdue (i) interest and/ or installment remain overdue for a period of more than 90 days in respect of a for a period of more than 90 days in respect of a Term LoanTerm Loan

• (ii) The amount remains ‘(ii) The amount remains ‘out of order’ out of order’ for a for a period of more than 90 days, in respect of an period of more than 90 days, in respect of an Overdraft/ cash creditOverdraft/ cash credit

• (iii) The bills remains overdue for a period of (iii) The bills remains overdue for a period of more than 90 days in case of bills purchased and more than 90 days in case of bills purchased and discounted,discounted,

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

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Some exceptions (vi(vi) ) Gold loans for non agricultural purposes Gold loans for non agricultural purposes

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

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Some exceptions(vii) Advances against term deposits, NSCs (vii) Advances against term deposits, NSCs

eligible for surrender, IVPs, KVPs and Life eligible for surrender, IVPs, KVPs and Life policies need not be treated as NPAs policies need not be treated as NPAs provided adequate margin is available.provided adequate margin is available.

(viii) Central Govt. guaranteed accounts (viii) Central Govt. guaranteed accounts need not be treated as NPAs. need not be treated as NPAs. However, However, income not to be recognised unless income not to be recognised unless interest/ inatallment is really paid. interest/ inatallment is really paid.

(ix) Staff housing loan: as per the due date (ix) Staff housing loan: as per the due date fixed by the bank, where interest is fixed by the bank, where interest is payable after recovery of principal.payable after recovery of principal.

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What is an Out of Order A/c

• the outstanding balance remains the outstanding balance remains continuously in excess of the sanctioned continuously in excess of the sanctioned limit/drawing power. limit/drawing power.

OrOr• there are no credits continuously for 90 there are no credits continuously for 90

days days or or

• credits are not enough to cover the credits are not enough to cover the interest debited during the same period interest debited during the same period

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)

orThe Cash Credit account has not been reviewed/ renewed for more than 90 days

orWhere there is a solitary or a few credit entries before the balance sheet date but the account goes ‘out of order’ thereafter

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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

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.

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04/21/23 1304/21/23 13College of Agricultural Banking, RBI, PUNE

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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.

ASSET CLASSIFICATIONASSET CLASSIFICATION

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.

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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 categoryProvision required is 20% on secured portion and 100% on unsecured portion

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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

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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.

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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

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04/21/23 1904/21/23 19College of Agricultural Banking, RBI, PUNE

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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

Loss AssetLoss Asset

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.

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Prudential Guidelines on restructuring of Advances

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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.

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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.

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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

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

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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

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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

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

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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.

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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

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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)”

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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

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04/21/23 3304/21/23 33College of Agricultural Banking, RBI, PUNE

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PROVISIONING PROVISIONING NORMSNORMS

Rate of Provisioning on Standard Asset:

Loan Type T II banks

T I banks

Direct advances to Agriculture and SME sector

0.25% 0.25%

Commercial Real Estate (CRE) sector

1.00% 1.00%

All other loans and advances not included in (a) and (b) above

0.40% 0.25%

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Thank you