RBI No.2007-2008/39
DBOD.No.BP.BC.12/21.04.048/2007-08

July 2, 2007

To

The Chairman / CEOs of all Commercial Banks
(Excluding RRBs)

Dear Sir,

Master Circular - Prudential norms on Income Recognition,
Asset Classification and Provisioning pertaining to Advances

Please refer to the Master Circular No. DBOD.BP.BC.15/21.04.048/2006-2007 dated July 1, 2006 consolidating instructions / guidelines issued to banks till June 30, 2006 on matters relating to prudential norms on income recognition, asset classification and provisioning pertaining to advances. The Master Circular has been suitably updated by incorporating instructions issued up to June 30, 2007 and has also been placed on the RBI web-site (http://www.rbi.org.in).

2. We advise that this revised Master Circular consolidates the instructions contained in the circulars mentioned in the Appendix.

Yours faithfully,

(Prashant Saran)
Chief General Manager-in-Charge

Prudential Norms on Income Recognition, Asset Classification and Provisioning pertaining to Advances 

GENERAL 

1.1 In line with the international practices and as per the recommendations made by the Committee on the Financial System (Chairman Shri M. Narasimham), the Reserve Bank of India has introduced, in a phased manner, prudential norms for income recognition, asset classification and provisioning for the advances portfolio of the banks so as to move towards greater consistency and transparency in the published accounts. 

1.2 The policy of income recognition should be objective and based on record of recovery rather than on any subjective considerations. Likewise, the classification of assets of banks has to be done on the basis of objective criteria which would ensure a uniform and consistent application of the norms. Also, the provisioning should be made on the basis of the classification of assets based on the period for which the asset has remained nonperforming and the availability of security and the realisable value thereof. 

1.3 Banks are urged to ensure that while granting loans and advances, realistic repayment schedules may be fixed on the basis of cash flows with borrowers. This would go a long way to facilitate prompt repayment by the borrowers and thus improve the record of recovery in advances. 

1.4 With the introduction of prudential norms, the Health Code-based system for classification of advances has ceased to be a subject of supervisory interest. As such, all related reporting requirements, etc. under the Health Code system also cease to be a supervisory requirement. Banks may, however, continue the system at their discretion as a management information tool. 

2. DEFINITIONS

2.1 Nonperforming Assets 

2.1.1  An asset, including a leased asset, becomes nonperforming when it ceases to generate income for the bank. 

2.1.2   A nonperforming asset (NPA) is a loan or an advance where;
 
i)  interest and/ or instalment 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’ as indicated at paragraph 2.2 below, in respect of an Overdraft/Cash Credit (OD/CC), 
iii) the bill remains overdue for a period of more than 90 days in the case of bills purchased and discounted, 
(iv)  the instalment of principal or interest thereon remains overdue for two crop seasons for short duration crops, 
(v)  the instalment of principal or interest thereon remains overdue for one crop season for long duration crops. 

2.1.3  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. 

2.2  '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 credits are not enough to cover the interest debited during the same period, these  accounts should be treated as 'out of order'. 

2.3 ‘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. 

3. INCOME RECOGNITION 

3.1 Income Recognition Policy 

3.1.1 The policy of income recognition has to be objective and based on the record of recovery. Internationally income from nonperforming assets (NPA) is not recognised 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. 

3.1.2 However, interest on advances against term deposits, NSCs, IVPs, KVPs and Life policies may be taken to income account on the due date, provided adequate margin is available in the accounts. 

3.1.3 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.

3.1.4 If Government guaranteed advances become NPA, the interest on such advances should not be taken to income account unless the interest has been realised. 

3.2  Reversal of income 

3.2.1 If any advance, including bills purchased and discounted, becomes NPA as at the close of any year, interest accrued and credited to income account in the corresponding previous year, should be reversed or provided for if the same is not realised. This will apply to Government guaranteed accounts also. 

3.2.2  In respect of NPAs, fees, commission and similar income that have accrued should cease to accrue in the current period and should be reversed or provided for with respect to past periods, if uncollected. 

3.2.3  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 unrealised, should be reversed or provided for in the current accounting period. 

3.3  Appropriation of recovery in NPAs 

3.3.1  Interest realised on NPAs may 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. 

3.3.2  In the absence of a clear agreement between the bank and the borrower for the purpose of appropriation of recoveries in NPAs (i.e. towards principal or interest due), banks should adopt an accounting principle and exercise the right of appropriation of recoveries in a uniform and consistent manner. 

3.4 Interest Application
 
There is no objection to the banks using their own discretion in debiting interest to an NPA account taking the same to Interest Suspense Account or maintaining only a record of such interest in proforma accounts. 

4. ASSET CLASSIFICATION

4.1  Categories of NPAs 

Banks are required to classify nonperforming assets further into the following three categories based on the period for which the asset has remained nonperforming and the realisability of the dues: 

a) Substandard Assets
b) Doubtful Assets
c) Loss Assets

4.1.1  Substandard Assets 

With effect from 31 March 2005, a substandard asset would be one, which has remained NPA for a period less than or equal to 12 months. In such cases, the current net worth of the borrower/ guarantor or the current market value of the security charged is not enough to ensure recovery of the dues to the banks in full. In other words, such an asset will have well defined credit weaknesses that jeopardise the liquidation of the debt and are characterised by the distinct possibility that the banks will sustain some loss, if deficiencies are not corrected. 

4.1.2 Doubtful Assets 

With effect from March 31, 2005, an asset would be classified as doubtful if it has remained in the substandard category for a period of 12 months. A loan classified as doubtful has all the weaknesses inherent in assets that were classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, – on the basis of currently known facts, conditions and values – highly questionable and improbable. 

4.1.3  Loss Assets 

A loss asset is one where loss has been identified by the bank or internal or external auditors or the RBI inspection but the amount has not been written off wholly. In other words, such an asset is considered uncollectible and of such little value that its continuance as a bankable asset is not warranted although there may be some salvage or recovery value. 

4.2  Guidelines for classification of assets 

4.2.1  Broadly speaking, classification of assets into above categories should be done taking into account the degree of well-defined credit weaknesses and the extent of dependence on collateral security for realisation of dues. 

4.2.2  Banks should establish appropriate internal systems to eliminate the tendency to delay or postpone the identification of NPAs, especially in respect of high value accounts. The banks may fix a minimum cut off point to decide what would constitute a high value account depending upon their respective business levels. The cut off point should be valid for the entire accounting year. Responsibility and validation levels for ensuring proper asset classification may be fixed by the banks. The system should ensure that doubts in asset classification due to any reason are settled through specified internal channels within one month from the date on which the account would have been classified as NPA as per extant guidelines. 

4.2.3  Accounts with temporary deficiencies 

The classification of an asset as NPA should be based on the record of recovery. Bank should not classify an advance account as NPA merely due to the existence of some deficiencies which are temporary in nature such as non-availability of adequate drawing power based on the latest available stock statement, balance outstanding exceeding the limit temporarily, non-submission of stock  statements  and non-renewal of the limits on the due date, etc. In the matter of classification of accounts with such deficiencies banks may follow the following guidelines: 

a) Banks should ensure that drawings in the working capital accounts are covered by the adequacy of current assets, since current assets are first appropriated in times of distress. Drawing power is required to be arrived at based on the stock statement which is current. However, considering the difficulties of large borrowers, stock statements relied upon by the banks for determining drawing power should not be older than three months. The outstanding in the account based on drawing power calculated from stock statements older than three months, would be deemed as irregular. 

A working capital borrowal account will become NPA if such irregular drawings are permitted in the account for a continuous period of 90 days even though the unit may be working or the borrower's financial position is satisfactory. 

b) Regular and ad hoc credit limits need to be reviewed/ regularised not later than three months from the due date/date of ad hoc sanction. In case of constraints  such as non-availability of financial statements and other data from the borrowers, the branch should furnish evidence to show that renewal/ review of credit limits is already on and would be completed soon. In any case, delay beyond six months is not considered desirable as a general discipline. Hence, an account where the regular/ ad hoc credit limits have not been reviewed/ renewed within 180 days from the due date/ date of ad hoc sanction will be treated as NPA. 

4.2.4  Upgradation of loan accounts classified as NPAs 

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 nonperforming and may be classified as ‘standard’ accounts. With regard to upgradation of a restructured/ rescheduled account which is classified as NPA contents of paragraphs 4.2.14 and 4.2.15 will be applicable. 

4.2.5  Accounts regularised near about the balance sheet date 

The asset classification of borrowal accounts where a solitary or a few credits are recorded before the balance sheet date should be handled with care and without scope for subjectivity. Where the account indicates inherent weakness on the basis of the data available, the account should be deemed as a NPA. In other genuine cases, the banks must furnish satisfactory evidence to the Statutory Auditors/Inspecting Officers about the manner of regularisation of the account to eliminate doubts on their performing status. 

4.2.6  Asset Classification to be borrower-wise and not facility-wise 

i) It is difficult to envisage a situation when only one facility to a borrower/one investment in any of the securities issued by the borrower becomes a problem credit/investment and not others. Therefore, all the facilities granted by a bank to a borrower and investment in all the securities issued by the borrower will have to be treated as NPA/NPI and not the particular facility/investment or part thereof which has become irregular. 

ii) If the debits arising out of devolvement of letters of credit or invoked guarantees are parked in a separate account, the balance outstanding in that account also should be treated as a part of the borrower’s principal operating account for the purpose of application of prudential norms on income recognition, asset classification and provisioning. 

4.2.7 Advances under consortium arrangements 

Asset classification of accounts under consortium should be based on the record of recovery of the individual member banks and other aspects having a bearing on the recoverability of the advances. Where the remittances by the borrower under consortium lending arrangements are pooled with one bank and/or where the bank receiving remittances is not parting with the share of other member banks, the account will be treated as not serviced in the books of the other member banks and therefore, be treated as NPA. The banks participating in the consortium should, therefore, arrange to get their share of recovery transferred from the lead bank or get an express consent from the lead bank for the transfer of their share of recovery, to ensure proper asset classification in their respective books. 

4.2.8  Accounts where there is erosion in the value of security/frauds committed by borrowers 

In respect of accounts where there are potential threats for recovery on account of erosion in the value of security or non-availability of security and existence of other factors such as frauds committed by borrowers it will not be prudent that such accounts should go through various stages of asset classification. In cases of such serious credit impairment the asset should be straightaway classified as doubtful or loss asset as appropriate.

i) Erosion in the value of security can be reckoned as significant when the realisable value of the security is less than 50 per cent of the value assessed by the bank or accepted by RBI at the time of last inspection, as the case may be. Such NPAs may be straightaway classified under doubtful category and provisioning should be made as applicable to doubtful assets. 

ii) If the realisable value of the security, as assessed by the bank/ approved valuers/ RBI is less than 10 per cent of the outstanding in the borrowal accounts, the existence of security should be ignored and the asset should be straightaway classified as loss asset. It may be either written off or fully provided for by the bank. 

4.2.9  Advances to PACS/FSS ceded to Commercial Banks 

In respect of agricultural advances as well as advances for other purposes granted by banks to PACS/ FSS under the on-lending system, only that particular credit facility granted to PACS/ FSS which is in default for a period of two crop seasons in case of short duration crops and one crop season in case of long duration crops, as the case may be, after it has become due will be classified as NPA and not all the credit facilities sanctioned to a PACS/ FSS. The other direct loans & advances, if any, granted by the bank to the member borrower of a PACS/ FSS outside the on-lending arrangement will become NPA even if one of the credit facilities granted to the same borrower becomes NPA. 

4.2.10 Advances against Term Deposits, NSCs, KVP/IVP, etc 

Advances against term deposits, NSCs eligible for surrender, IVPs, KVPs and life policies need not be treated as NPAs. Advances against gold ornaments, government securities and all other securities are not covered by this exemption. 

4.2.11 Loans with moratorium for payment of interest 

i)  In the case of bank finance given for industrial projects or for agricultural plantations etc. where moratorium is available for payment of interest, payment of interest becomes 'due' only after the moratorium or gestation period is over. Therefore, such amounts of interest do not become overdue and hence do not become NPA, with reference to the date of debit of interest. They become overdue after due date for payment of interest, if uncollected. 

ii)  In the case of housing loan or similar advances granted to staff members where interest is payable after recovery of principal, interest need not be considered as overdue from the first quarter onwards. Such loans/advances should be classified as NPA only when there is a default in repayment of instalment of principal or payment of interest on the respective due dates 

4.2.12 Agricultural advances 

i) A loan granted for short duration crops will be treated as NPA, if the instalment of principal or interest thereon remains overdue for two crop seasons. A loan granted for long duration crops will be treated as NPA, if the instalment of principal or interest thereon remains overdue for one crop season. For the purpose of these guidelines, “long duration” crops would be crops with crop season longer than one year and crops, which are not “long duration” crops, would be treated as “short duration” crops. The crop season for each crop, which means the period up to harvesting of the crops raised, would be as determined by the State Level Bankers’ Committee in each State. Depending upon the duration of crops raised by an agriculturist, the above NPA norms would also be made applicable to agricultural term loans availed of by him. 

ii)  Where natural calamities impair the repaying capacity of agricultural borrowers, banks may decide on their own as a relief measure conversion of the short-term production loan into a term loan or reschedulement of the repayment period; and the sanctioning of fresh short-term loan, subject to guidelines contained in RBI circular RPCD. No.PLFS.BC.6/ 05.04.02/ 200405 dated July 1, 2005. 

iii)  In such cases of conversion or re-schedulement, the term loan as well as fresh short-term loan may be treated as current dues and need not be classified as NPA. The asset classification of these loans would thereafter be governed by the revised terms & conditions and would be treated as NPA if interest and/or instalment of principal remains overdue for two crop seasons for short duration crops and for one crop season for long duration crops. For the purpose of these guidelines, "long duration" crops would be crops with crop season longer than one year and crops, which are not 'long duration" would be treated as "short duration" crops. 

iv)  The debts as on March 31, 2004 of farmers, who have suffered production and income losses on account of successive natural calamities, i.e., drought, flood, or other calamities which might have occurred in the districts for two or more successive years during the past five years may be rescheduled/ restructured by the banks, provided the State Government concerned has declared such districts as calamity affected. Accordingly, the interest outstanding/accrued in the accounts of such borrowers (crop loans and agriculture term loans) up to March 31,2004 may be clubbed with the principal outstanding therein as on March 31, 2004, and the amount thus arrived at shall be repayable over a period of five years, at current interest rates, including an initial moratorium of two years. As regards the crop loans and agricultural term loans which have already been restructured on account of natural calamities as per the standing guidelines, only the overdue instalments including interest thereon as on March 31, 2004 may be taken into account for the proposed restructuring. On restructuring as above, the farmers concerned will become eligible for fresh loans. The rescheduled/restructured loans as also the fresh loans to be issued to the farmers may be treated as current dues and need not be classified as NPA. While the fresh loans would be governed by the NPA norms as applicable to agricultural loans, in case of rescheduled/restructured loans, the NPA norms would be applicable from the third year onwards, i.e., on expiry of the initial moratorium period of two years. 

v)  In case of Kharif crop loans in the districts affected by failure of the SouthWest monsoon as notified by the State Government, recovery of any amount either by way of principal or interest during the financial year 2002-03 need not be effected. Further, the principal amount of crop loans in such cases should be converted into term loans and will be recovered over a period of minimum 5 years in case of small and marginal farmers and 4 years in case of other farmers. Interest due in the financial year 2002-03 on crop loans should also be deferred and no interest should be charged on the deferred interest. In such cases of conversion or re-schedulement of crop loans into term loans, the term loans may be treated as current dues and need not be classified as NPA. The asset classification of these loans would thereafter be governed by the revised terms and conditions and would be treated as NPA if interest and / or instalment of principal remain overdue for two crop seasons. 

4.2.13 Government guaranteed advances 

The credit facilities backed by guarantee of the Central Government though overdue may be treated as NPA only when the Government repudiates its guarantee when invoked. This exemption from classification of Government guaranteed advances as NPA is not for the purpose of recognition of income. The requirement of invocation of guarantee has been delinked for deciding the asset classification and provisioning requirements in respect of State Government guaranteed exposures. With effect from the year ending 31 March 2006 State Government guaranteed advances and investments in State Government guaranteed securities would attract asset classification and provisioning norms if interest and/or principal or any other amount due to the bank remains overdue for more than 90 days. 

4.2.14 Restructuring/ Rescheduling of Loans 

i)  The stages at which the restructuring/rescheduling/renegotiation of the terms  of loan agreement could take place, can be identified as under: 

a) before commencement of commercial production; 
b) after commencement of commercial production but before the asset has been classified as sub standard, 
c) after commencement of commercial production and after the asset has been classified as sub standard. 

In each of the foregoing three stages, the rescheduling, etc., of principal and/or of interest could take place, with or without sacrifice, as part of the restructuring package evolved. 

ii)  Treatment of restructured standard accounts 

a)  A rescheduling of the instalments of principal alone, at any of the aforesaid first two stages would not cause
a standard asset to be classified in the sub standard category provided the loan/credit facility is fully secured. 

b)  A rescheduling of interest element at any of the foregoing first two stages would not cause an asset to be downgraded to sub standard category subject to the condition that the amount of sacrifice, if any, in the element of interest, measured in present value terms, is either written off or provision is made to the extent of the sacrifice involved. For the purpose, the future interest due as per the original loan agreement in respect of an account should be discounted to the present value at a rate appropriate to the risk category of the borrower (i.e., current PLR+ the appropriate credit risk premium for the borrowercategory) and compared with the present value of the dues expected to be received under the restructuring package, discounted on the same basis. 

c)  In case there is a sacrifice involved in the amount of interest in present value terms, as at (b) above, the amount of sacrifice should either be written off or provision made to the extent of the sacrifice involved. 

iii) Treatment of restructured substandard accounts 

a) A rescheduling of the instalments of principal alone, would render a substandard asset eligible to be continued in the substandard category for the specified period, provided the loan/credit facility is fully secured. 

b) A rescheduling of interest element would render a substandard asset eligible to be continued to be classified in sub standard category for the specified period subject to the condition that the amount of sacrifice, if any, in the element of interest, measured in present value terms, is either written off or provision is made to the extent of the sacrifice involved. For the purpose, the future interest due as per the original loan agreement in respect of an account should be discounted to the present value at a rate appropriate to the risk category of the borrower (i.e., current PLR + the appropriate credit risk premium for the borrower--category) and compared with the present value of the dues expected to be received under the restructuring package, discounted on the same basis. 

(iv) Upgradation of restructured accounts 

The substandard accounts which have been subjected to restructuring etc., whether in respect of principal instalment or interest amount, by whatever modality, would be eligible to be upgraded to the standard category only after the specified period i.e., a period of one year after the date when first payment of interest or of principal, whichever is earlier, falls due, subject to satisfactory performance during the period. The amount of provision made earlier, net of the amount provided for the sacrifice in the interest amount in present value terms as aforesaid, could also be reversed after the one year period. During this one year period, the substandard asset will not deteriorate in its classification if satisfactory performance of the account is demonstrated during the period. In case, however, the satisfactory performance during the one year period is not evidenced, the asset classification of the restructured account would be governed as per the applicable prudential norms with reference to the pre-restructuring payment schedule. 

(v) General 

(a) The instructions contained in sub-paras (i) to (iv) above would be applicable to all type of credit facilities including working capital limits, extended to industrial units, provided they are fully covered by tangible securities. 

(b) As trading involves only buying and selling of commodities and the problems associated with manufacturing units such as bottleneck in commercial production, time and cost escalation etc. are not applicable to them, the guidelines contained in subparas (i) to (iv) above should not be applied to restructuring/ rescheduling of credit facilities extended to traders. 

(c) While assessing the extent of security cover available to the credit facilities, which are being restructured/ rescheduled, collateral security would also be reckoned, provided such collateral is a tangible security properly charged to the bank and is not in the intangible form like guarantee etc. of the promoter/ others. 

(d) Banks can not reschedule /restructure /renegotiate borrowal accounts with retrospective effect. The asset classification status as on the date of approval of the restructured package by the competent authority would be relevant to decide the asset classification status of the account after restructuring /rescheduling/renegotiation. In case there is undue delay in sanctioning a restructuring package and in the meantime the asset classification status of the account undergoes deterioration, it would attract supervisory intervention. 

(e)  Banks are not expected to repeatedly restructure/ reschedule the amounts due to them unless there are very strong and valid reasons which warrant such repeated restructuring/rescheduling. Restructuring in all cases should be based on viability parameters. Any restructuring done without looking into cash flows of the borrower would invite supervisory concerns. It will not be appropriate to extend the special asset classification status as provided for in paragraphs (ii) and (iii) above to accounts, where there are repeated restructuring/ rescheduling. 

(f)  Normally restructuring can not take place unless alteration/changes in the original loan agreement are made with the formal consent/application of the  debtor. However, the process of restructuring can be initiated by the bank in deserving cases subject to customer agreeing to the terms and conditions. 

(g)  As regards the regulatory treatment of ‘funded interest’ recognised as income and ‘conversion into equity, debentures or any other instrument’ banks should adopt the following: 

i)  Funded Interest: Income recognition in respect of the NPAs, regardless of whether these are or are not subjected to restructuring/ rescheduling/ renegotiation of terms of the loan agreement, should be done strictly on cash basis, only on realisation and not if the amount of interest overdue has been funded. If, however, the amount of funded interest is recognised as income, a provision for an equal amount should also be made simultaneously. In other words, any funding of interest in respect of NPAs, if recognised as income, should be fully provided for. 

4.2.15 Revised Guidelines on Corporate Debt Restructuring (CDR) Mechanism

A Background 

i) Based on the experience in other countries like the U.K., Thailand, Korea, etc. of putting in place institutional mechanism for restructuring of corporate debt and need for a similar mechanism in India, a Corporate Debt Restructuring System was evolved, and detailed guidelines were issued vide circular DBOD No. BP.BC. 15/21.04.114/200001 dated August 23, 2001 for implementation by banks. Subsequently based on the recommendations made by the Working Group to make the operations of the CDR mechanism more efficient (Chairman: Shri Vepa Kamesam, Deputy Governor, RBI. The group was constituted pursuant to the announcement made by the Finance Minister in the Union Budget 2002-2003), and consultations with the Government, the guidelines on Corporate Debt Restructuring system were revised in terms of our circular DBOD No. BP.BC. 68/21.04.114/200203 dated February 5, 2003. 

ii) A Special Group was constituted in September 2004 with Smt.S.Gopinath, Deputy Governor, RBI, as the Chairperson to review and suggest changes / improvements, if any, in the CDR mechanism. Based on the suggestions of the Special Group, and the feedback received on the draft guidelines, the CDR Guidelines have been further revised. The revised guidelines are in supersession of the extant guidelines outlined in the aforesaid circular dated February 5, 2003. 

iii) One of the main features of the restructuring under CDR system is the provision of two categories of debt restructuring under the CDR system. Accounts, which are classified as ‘standard’ and ‘substandard’ in the books of the creditors, will be restructured under the first category (Category 1). Accounts which are classified as ‘doubtful’ in the books of the creditors would be restructured under the second category (Category 2). 

The main features of the CDR mechanism are given below: 

B. Objective 

The objective of the Corporate Debt Restructuring (CDR) framework is to ensure timely and transparent mechanism for restructuring the corporate debts of viable entities facing problems, outside the purview of BIFR, DRT and other legal proceedings, for the benefit of all concerned. In particular, the framework will aim at preserving viable corporates that are affected by certain internal and external factors and minimize the losses to the creditors and other stakeholders through an orderly and coordinated restructuring programme. 

C. Structure 

CDR system in the country will have a three tier structure: 

• CDR Standing Forum and its Core Group 
• CDR Empowered Group 
• CDR Cell 

i) CDR Standing Forum 

a) The CDR Standing Forum would be the representative general body of all financial institutions and banks participating in CDR system. All financial institutions and banks should participate in the system in their own interest. CDR Standing Forum will be a self-empowered body, which will lay down policies and guidelines, and monitor the progress of corporate debt restructuring. 

b) The Forum will also provide an official platform for both the creditors and borrowers (by consultation) to amicably and collectively evolve policies and guidelines for working out debt restructuring plans in the interests of all concerned. 

i) Eligibility criteria

a) The scheme will not apply to accounts involving only one financial institution or one bank. The CDR mechanism will cover only multiple banking accounts / syndication / consortium accounts of corporate borrowers with outstanding fundbased and non-fund based exposure of Rs.10 crore and above by banks and institutions. 

b) The Category 1 CDR system will be applicable only to accounts classified as 'standard' and 'substandard'. There may be a situation where a small portion of debt by a bank might be classified as doubtful. In that situation, if the account has been classified as ‘standard’/ ‘substandard’ in the books of at least 90% of creditors (by value), the same would be treated as standard / substandard, only for the purpose of judging the account as eligible for CDR, in the books of the remaining 10% of creditors. There would be no requirement of the account / company being sick, NPA or being in default for a specified period before reference to the CDR system. However, potentially viable cases of NPAs will get priority. This approach would provide the necessary flexibility and facilitate timely intervention for debt restructuring. Prescribing any milestone(s) may not be necessary, since the debt restructuring exercise is being triggered by banks and financial institutions or with their consent. 

c) While corporates indulging in frauds and malfeasance even in a single bank will continue to remain ineligible for restructuring under CDR mechanism as hitherto, the Core group may review the reasons for classification of the borrower as wilful defaulter specially in old cases where the manner of classification of a borrower as a wilful defaulter was not transparent and satisfy itself that the borrower is in a position to rectify the wilful default provided he is granted an opportunity under the CDR mechanism. Such exceptional cases may be admitted for restructuring with the approval of the Core Group only. The Core Group may ensure that cases involving frauds or diversion of funds with malafide intent are not covered. 

d) The accounts where recovery suits have been filed by the creditors against the company, may be eligible for consideration under the CDR system provided, the initiative to resolve the case under the CDR system is taken by at least 75% of the creditors (by value) and 60% of creditors (by number). 
e) BIFR cases are not eligible for restructuring under the CDR system. However, large value BIFR cases, may be eligible for restructuring under the CDR system if specifically recommended by the CDR Core Group. The Core Group shall recommend exceptional BIFR cases on a case-to-case basis for consideration under the CDR system. It should be ensured that the lending institutions complete all the formalities in seeking the approval from BIFR before implementing the package. 

ii) Reference to CDR system 

a) Reference to Corporate Debt Restructuring System could be triggered by (i) any or more of the creditor who have minimum 20% share in either working capital or term finance, or (ii) by the concerned corporate, if supported by a bank or financial institution having stake as in (i) above. 

b) Though flexibility is available whereby the creditors could either consider restructuring outside the purview of the CDR system or even initiate legal proceedings where warranted, banks / FIs should review all eligible cases where the exposure of the financial system is more than Rs.100 crore and decide about referring the case to CDR system or to proceed under the new Securitisation and Reconstruction of Financial Assets and Enforcement of Securities Interest Act, 2002 or to file a suit in DRT etc. 

iii) Legal Basis 

vii) Conversion option 

a) The CDR Empowered Group, while deciding the restructuring package, should decide on the issue regarding convertibility (into equity) option as a part of restructuring exercise whereby the banks / financial institutions shall have the right to convert a portion of the restructured amount into equity, keeping in view the statutory requirement under Section 19 of the Banking Regulation Act, 1949, (in the case of banks) and relevant SEBI regulations. 

b) Equity acquired by way of conversion of debt / overdue interest under the CDR mechanism is allowed to be taken up without seeking prior approval from RBI, even if by such acquisition the prudential capital market exposure limit prescribed by the RBI is breached, subject to reporting such holdings to RBI, Department of Banking Supervision (DBS), every month along with the regular DSB Return on Asset Quality. However, banks will have to comply with the provisions of Section 19(2) of the Banking Regulation Act 1949.  

c) Acquisition of non-SLR securities by way of conversion of debt is exempted from the mandatory rating requirement and the prudential limit on investment in unlisted non-SLR securities prescribed by the RBI, subject to periodical reporting to RBI in the aforesaid DSB return. 

d) The relaxations allowed under paras 4.2.15.D (vii)(b)&(c) would be reviewed after a year. 

viii) Category 2 CDR System 

a) There have been instances where the projects have been found to be viable by the creditors but the accounts could not be taken up for restructuring under the CDR system as they fell under ‘doubtful’ category. Hence, a second category of CDR is introduced for cases where the accounts have been classified as ‘doubtful’ in the books of creditors, and if a minimum of 75% of creditors (by value) and 60% creditors (by number) satisfy themselves of the viability of the account and consent for such restructuring, subject to the following conditions:

i) It will not be binding on the creditors to take up additional financing worked out under the debt restructuring package and the decision to lend or not to lend will depend on each creditor bank / FI separately. In other words, under the proposed second category of the CDR mechanism, the existing loans will only be restructured and it would be up to the promoter to firm up additional financing arrangement with new or existing creditors individually.

ii) All other norms under the CDR mechanism such as the standstill clause, asset classification status during the pendency of restructuring under CDR, etc., will continue to be applicable to this category also. 

b) No individual case should be referred to RBI. CDR Core Group may take a final decision whether a particular case falls under the CDR guidelines or it does not. 

c) All the other features of the CDR system as applicable to the First Category will also be applicable to cases restructured under the Second Category. 

E. Creditors’ Rights 

All   CDR   approved   packages   must   incorporate creditors’ right to accelerate repayment   and borrowers’ right to prepay.  The right of recompense should be based on certain performance criteria to be decided by the Standing Forum.

F. Prudential and Accounting Issues 

i) Restructuring of corporate debts under CDR system could take place in the following stages: 

a. before commencement of commercial production; 
b. after commencement of commercial production but before the asset has been classified as ‘substandard’; 
c. after commencement of commercial production and the asset has been classified as ‘substandard’ or ‘doubtful’. 

ii) Accounts restructured under CDR system, including accounts classified as 'doubtful' under Category 2 CDR, would be eligible for regulatory concession in asset classification and provisioning on writing off/providing for economic sacrifice stipulated in para 4.2.15.F(iii)(b) and 4.2.15.F(v)(b) above] only if 

i) Restructuring under CDR mechanism is done for the first time,

ii) The unit becomes viable in 7 years and the repayment period for the restructured debts does not exceed 10 years, 

iii) Promoters’ sacrifice and additional funds brought by them should be a minimum of 15% of creditors’ sacrifice, and iv) Personal guarantee is offered by the promoter except when the unit is affected by external factors pertaining to the economy and industry. 

iii)  Treatment of ‘standard’ accounts restructured under CDR 

a.  A rescheduling of the instalments of principal alone, at any of the aforesaid first two stages [paragraph 4.2.15.F(i)(a) and (b) above] would not cause a standard asset to be classified in the substandard category, provided conditions (i) to (iv) of Para 4.2.15.F(ii) are complied with and the loan / credit facility is fully secured. 

ix) Prudential norms on conversion 

a) Where overdue interest is funded or outstanding principal and interest components are converted into equity, debentures, zero coupon bonds or other instruments and income is recognized in consequence, full provision should be made for the amount of income so recognized. Equity, debentures and other financial instruments acquired by way of conversion of outstanding principal and/ or interest should be classified in the AFS category and valued in accordance with the extant instructions on valuation of banks’ investment portfolio except to the extent that (a) equity may be valued as per market value, if quoted (b) in cases where equity is not quoted, valuation may be at breakup value in respect of standard assets and in respect of substandard / doubtful assets, equity may be initially valued at Re1 and at breakup value after restoration / up gradation to standard category. 

b)  If the conversion of interest into equity, which is quoted, interest income can be recognized after the account is upgraded to the standard category at market value of equity, on the date of such up gradation, not exceeding the amount of interest converted into equity. If the conversion of interest is into equity, which is not quoted, interest income should not be recognized. 

c) In case of conversion of principal and / or interest into equity, debentures, bonds, etc., such instruments should be treated as NPA abinitio in the same asset classification category as the loan if the loan’s classification is substandard or doubtful on implementation of the restructuring package and provision should be made as per the norms. Consequently, income should be recognized on these instruments only on realization basis. The income in respect of unrealised interest which is converted into debentures or any fixed maturity instruments, would be recognized only on redemption of such instruments. 

d) Banks may reverse the provisions made towards income recognised at the time of conversion of accrued interest into equity, bonds, debentures etc. when the instrument goes out of balance sheet on sale/ realisation of value/maturity. 

G. Asset classification of repeatedly restructured accounts 

The regulatory concession in terms of paragraphs 4.2.15.F(iii) and 4.2.15.F(v) would not be available if the account is restructured for the second or more times. In case a restructured asset, which is a standard asset on restructuring, is subjected to restructuring on a subsequent occasion, it should be classified as substandard. If the restructured asset is a substandard or a doubtful asset and is subjected to restructuring, on a subsequent occasion its asset classification would be reckoned from the date when it became NPA on the previous occasion. However, such assets restructuring for the second or more time may be allowed to be upgraded to standard category after one year from the date of first payment of interest or repayment of principal whichever falls due earlier in terms of the current restructuring package subject to satisfactory performance. 
H. Disclosure 

Banks / FIs should also disclose in their published annual Balance Sheets, under "Notes on Accounts", the following information in respect of corporate debt restructuring undertaken during the year: 

a. Total  number  of  accounts  total  amount of  loan assets and the amount of sacrifice in the restructuring cases under CDR.

4.2.16 Debt restructuring mechanism for Small and Medium Enterprises (SMEs) 

A. Eligibility criteria 

(i) These guidelines would be applicable to the following entities, which are viable     or potentially viable : 

a) All non-corporate SMEs irrespective of the level of dues to banks. 

b) All corporate SMEs, which are enjoying banking facilities from a single bank, irrespective of the level of dues to the bank. 

c) All corporate SMEs, which have funded and non-funded outstanding up to Rs.10 crore under multiple/ consortium banking arrangement 

(ii) Accounts involving wilful default, fraud and malfeasance will not be eligible for restructuring under these guidelines. However banks may review the reasons for classification of the borrower as wilful defaulter specially in old cases where the manner of classification of a borrower as wilful defaulter was not transparent and satisfy themselves that the borrower is in a position to rectify the wilful default provided he is granted an opportunity under the Debt Restructuring Mechanism for SMEs. Such exceptional cases may be admitted for restructuring with the approval of the Board of Directors of the banks only. 

(iii) Accounts classified by banks as “Loss Assets” will not be eligible for restructuring. 

(iv)  In respect of BIFR cases banks should ensure completion of all formalities in seeking approval from BIFR before implementing the package. 

B. Viability criteria
 
Banks may decide on the acceptable viability benchmark, consistent with the unit becoming viable in 7 years and the repayment period for restructured debt not exceeding 10 years.

C .  Prudential Norms for restructured accounts 

i) Treatment of ‘standard’ accounts subjected to restructuring 

a) A rescheduling of the instalments of principal alone, would not cause a standard asset to be classified in the substandard category, provided the borrower’s outstanding is fully covered by tangible security. However, the condition of tangible security may not be made applicable in cases where the outstanding is up to Rs.5 lakh, since the collateral requirement for loans up to Rs 5 lakh has been dispensed with for SSI / tiny sector. 
b) A rescheduling of interest element would not cause an asset to be downgraded to substandard category subject to the condition that the amount of sacrifice, if any, in the element of interest, measured in present value terms, is either written off or provision is made to the extent of the sacrifice involved. 
c) In case there is a sacrifice involved in the amount of interest in present value terms, as at (b) above, the amount of sacrifice should either be written off or provision made to the extent of the sacrifice involved.

ii) Treatment of ‘substandard’ / ‘doubtful’ accounts subjected to restructuring 

a) A rescheduling of the instalments of principal alone, would render a ‘substandard’ / ‘doubtful’ asset eligible to continue in the ‘substandard’ / ‘doubtful’ category for the specified period ( as defined in paragraph 4.2.16 E below), provided the borrower’s outstanding is fully covered by tangible security. However, the condition of tangible security may not be made applicable in cases where the outstanding is up to Rs.5 lakh, since the collateral requirement for loans up to Rs 5 lakh has been dispensed with for SSI / tiny sector. 

b) A rescheduling of interest element would render a substandard / ‘doubtful’ asset eligible to be continued to be classified in substandard / ‘doubtful’ category for the specified period subject to the condition that the amount of sacrifice, if any, in the element of interest, measured in present value terms, is either written off or provision is made to the extent of the sacrifice involved. 

c) Even in cases where the sacrifice is by way of write off of the past interest dues, the asset should continue to be treated as substandard / ‘doubtful’. 

iii) Treatment of Provision 

a) Provision made towards interest sacrifice should be created by debit to Profit & Loss account and held in a distinct account. For this purpose, the future interest due as per the current BPLR in respect of an account should be discounted to the present value at a rate appropriate to the risk category of the borrower (i.e., current PLR + the appropriate term premium and credit risk premium for the borrower-category) and compared with the present value of the dues expected to be received under the restructuring package, discounted on the same basis. 
b) Sacrifice may be recomputed on each balance sheet date till satisfactory completion of all repayment obligations and full repayment of the outstanding in the account, so as to capture the changes in the fair value on account of changes in BPLR, term premium and the credit category of the borrower. Consequently, banks may provide for the shortfall in provision or reverse the amount of excess provision held in the distinct account. 
c) The amount of provision made for NPA, may be reversed when the account is reclassified as a ‘standard asset’. 

D. Additional finance
 
Additional finance, if any, may be treated as ‘standard asset’ in all accounts viz;standard, substandard, and doubtful accounts, up to a period of one year after the date when first payment of interest or of principal, whichever is earlier, falls due under the approved restructuring package. If the restructured asset does not qualify for upgradation at the end of the above period, additional finance shall be placed in the same asset classification category as the restructured debt. 

E. Upgradation of restructured accounts
 
The substandard / doubtful accounts at para 4.2.16. C (ii) (a) & (b) above, which have been subjected to restructuring, whether in respect of principal instalment or interest, by whatever modality, would be eligible to be upgraded to the standard category after the specified period, i.e., a period of one year after the date when first payment of interest or of principal, whichever is earlier, falls due under the rescheduled terms, subject to satisfactory performance during the period. 

F. Asset classification status
 
During the specified one year period, the asset classification status of rescheduled accounts will not deteriorate if satisfactory performance of the account is demonstrated during the period. In case, however, the satisfactory performance during the one year period is not evidenced, the asset classification of the restructured account would be governed as per the applicable prudential norms with reference to the pre--restructuring payment schedule. The asset classification would be bank specific, based on record of recovery of each bank, as per the existing prudential norms applicable to banks. 

G.  Repeated restructuring
 
The special dispensation for asset classification as available in terms of paragraphs 5, 6 and 7 above, shall be available only when the account is restructured for the first time. 

H. Procedure
 
(i) Based on these guidelines, banks may formulate, with the approval of their Board of Directors, a debt restructuring scheme for SMEs. While framing the scheme, banks may ensure that the scheme is simple to comprehend and will, at the minimum, include parameters indicated in these guidelines. 

(ii) The restructuring would follow a receipt of a request to that effect from the borrowing units. 

I. Time frame
 
Banks should work out  the restructuring package and  implement the same within  a maximum period of 60 days from date of receipt of requests.
 
J.  Disclosure
 
The Debt Restructuring Scheme for SMEs should be displayed on the bank’s website and also forwarded to SIDBI for placing on their web site. 

Banks  should  also  disclose in  their  published  annual  Balance  Sheets,  under 
"Notes on Accounts", the following information in respect of restructuring undertaken during the year for SME accounts: 

(a) Total amount of assets of SMEs subjected to restructuring.  [(a) = (b)+(c)+(d)] 

(b) The amount of standard assets of SMEs subjected to restructuring. 

(c) The amount of substandard assets of SMEs subjected to restructuring. 

(d) The amount of doubtful assets of SMEs subjected to restructuring. 

4.2.17 Projects under implementation 

It was observed that there were instances, where despite substantial time overrun in the projects under implementation, the underlying loan assets remained classified in the standard category merely because the project continued to be under implementation. Recognising that unduly long time overrun in a project adversely affected its viability and the quality of the asset deteriorated, a need was felt to evolve an objective and definite timeframe for completion of projects so as to ensure that the loan assets relating to projects under implementation were appropriately classified and asset quality correctly reflected. In the light of the above background, it was decided to extend the norms detailed below on income recognition, asset classification and provisioning to banks with respect to industrial projects under implementation, which involve time overrun. 

(i) The projects under implementation are grouped into three categories for the purpose of determining the date when the project ought to be completed: 

Category I: Projects where financial closure had been achieved and formally documented. 
Category II: Projects sanctioned before 1997 with original project cost of Rs.100 crore or more where financial closure was not formally documented. 
Category III: Projects sanctioned before 1997 with original project cost of less than Rs.100 crore where financial closure was not formally documented. 

Asset classification 

(ii) In case of each of the three categories, the date when the project ought to be completed and the classification of the underlying loan asset should be determined in the following manner: 

Category I (Projects where financial closure had been achieved and formally documented): In such cases the date of completion of the project should be as envisaged at the time of original financial closure. In all such cases, the asset may be treated as standard asset for a period not exceeding two years beyond the date of completion of the project, as originally envisaged at the time of initial financial closure of the project. 

Category II (Projects sanctioned before 1997 with original project cost of Rs.100 crore or more where financial closure was not formally documented): For such projects sanctioned prior to 1997, where the date of financial closure had not been formally documented, an independent Group was constituted with experts from the term lending institutions as well as outside experts in the field to decide on the deemed date of completion of projects. The Group, based on all material and relevant facts and circumstances, has decided the deemed date of completion of the project, on a project-by-project basis. In such cases, the asset may be treated as standard asset for a period not exceeding two years beyond the deemed date of completion of the project, as decided by the Group. Banks, which have extended finance towards such projects, may approach the lead financial institutions to which a copy of the independent Group’s report has been furnished for obtaining the particulars relating to the deemed date of completion of project concerned. 

Category III (Projects sanctioned before 1997 with original project cost of less than Rs.100 crore where financial closure was not formally documented): In these cases, sanctioned prior to 1997, where the financial closure was not formally documented, the date of completion of the project would be as originally envisaged at the time of sanction. In such cases, the asset may be treated as standard asset only for a period not exceeding two years beyond the date of completion of the project as originally envisaged at the time of sanction. 

(iii) In all the three foregoing categories, in case of time overruns beyond the aforesaid period of two years, the asset should be classified as substandard regardless of the record of recovery and provided for accordingly. 

(iv) As regards the projects financed by the FIs/ banks after 28 May, 2002, the date of completion of the project should be clearly spelt out at the time of financial closure of the project. In such cases, if the date of commencement of commercial production extends beyond a period of six months after the date of completion of the project, as originally envisaged at the time of initial financial closure of the project, the account should be treated as a substandard asset. However, for Infrastructure projects alone, w.e.f. March 31, 2007, if the date of commencement of commercial production extends beyond a period of one year after the date of  completion of the project, as originally envisaged, the account should be treated as substandard.

Income recognition 

(v) Banks may recognise income on accrual basis in respect of the above three categories of projects under implementation, which are classified as ‘standard’. 

(vi) Banks should not recognise income on accrual basis in respect of the above three categories of projects under implementation which are classified as a ‘substandard’ asset. Banks may recognise income in such accounts only on realisation on cash basis. 

Consequently, banks which have wrongly recognised income in the past should reverse the interest if it was recognised as income during the current year or make a provision for an equivalent amount if it was recognised as income in the previous year(s). As regards the regulatory treatment of ‘funded interest’ recognised as income and ‘conversion into equity, debentures or any other instrument’ banks should adopt the following: 

a) Funded Interest: Income recognition in respect of the NPAs, regardless of whether these are or are not subjected to restructuring/ rescheduling/ renegotiation of terms of the loan agreement, should be done strictly on cash basis, only on realisation and not if the amount of interest overdue has been funded. If, however, the amount of funded interest is recognised as income, a provision for an equal amount should also be made simultaneously. In other words, any funding of interest in respect of NPAs, if recognised as income, should be fully provided for. 

Provisioning 

(vii) While there will be no change in the extant norms on provisioning for NPAs, banks which are already holding provisions against some of the accounts, which may now be classified as ‘standard’, shall continue to hold the provisions and shall not reverse the same. 

4.2.18 Availability of security / net worth of borrower/ guarantor 

The availability of security or net worth of borrower/ guarantor should not be taken into account for the purpose of treating an advance as NPA or otherwise, as income recognition is based on record of recovery. 

4.2.19 Takeout Finance
 
Takeout finance is the product emerging in the context of the funding of long-term infrastructure projects. Under this arrangement, the institution/the bank financing infrastructure projects will have an arrangement with any financial institution for transferring to the latter the outstanding in respect of such financing in their books on a predetermined basis. In view of the time-lag involved in taking-over, the possibility of a default in the meantime cannot be ruled out. The norms of asset classification will have to be followed by the concerned bank/financial institution in whose books the account stands as balance sheet item as on the relevant date. If the lending institution observes that the asset has turned NPA on the basis of the record of recovery, it should be classified accordingly. The lending institution should not recognise income on accrual basis and account for the same only when it is paid by the borrower/ taking over institution (if the arrangement so provides). The lending institution should also make provisions against any asset turning into NPA pending its take over by taking over institution. As and when the asset is taken over by the taking over institution, the corresponding provisions could be reversed. However, the taking over institution, on taking over such assets, should make provisions treating the account as NPA from the actual date of it becoming NPA even though the account was not in its books as on that date.
 
4.2.20 Post-shipment Supplier's Credit
 
i) In respect of post-shipment credit extended by the banks covering export of goods to countries for which the ECGC’s cover is available, EXIM Bank has introduced a guarantee-cum-refinance programme whereby, in the event of default, EXIM Bank will pay the guaranteed amount to the bank within a period of 30 days from the day the bank invokes the guarantee after the exporter has filed claim with ECGC. 

ii) Accordingly, to the extent payment has been received from the EXIM Bank, the advance may not be treated as a nonperforming asset for asset classification and provisioning purposes. 

4.2.21 Export Project Finance 

4.2.22 Advances under rehabilitation approved by BIFR/ TLI 

Banks are not permitted to upgrade the classification of any advance in respect of which the terms have been renegotiated unless the package of renegotiated terms has worked satisfactorily for a period of one year. While the existing credit facilities sanctioned to a unit under rehabilitation packages approved by BIFR/term lending institutions will continue to be classified as substandard or doubtful as the case may be, in respect of additional facilities sanctioned under the rehabilitation packages, the Income Recognition, Asset Classification norms will become applicable after a period of one year from the date of disbursement. 

5 PROVISIONING NORMS 

5.1  General 

5.1.1 The primary responsibility for making adequate provisions for any diminution in the value of loan assets, investment or other assets is that of the bank managements and the statutory auditors. The assessment made by the inspecting officer of the RBI is furnished to the bank to assist the bank management and the statutory auditors in taking a decision in regard to making adequate and necessary provisions in terms of  prudential guidelines. 

5.1.2 In conformity with the prudential norms, provisions should be made on the nonperforming assets on the basis of classification of assets into prescribed categories as detailed in paragraphs 4 supra. Taking into account the time lag between an account becoming doubtful of recovery, its recognition as such, the realisation of the security and the erosion over time in the value of security charged to the bank, the banks should make provision against substandard assets, doubtful assets and loss assets as below: 

5.2 Loss assets 

Loss assets should be written off. If loss assets are permitted to remain in the books for any reason, 100 percent of the outstanding should be provided for. 

5.3 Doubtful assets 

i) 100 percent of the extent to which the advance is not covered by the realisable value of the security to which the bank has a valid recourse and the realisable value is estimated on a realistic basis. 

ii) In regard to the secured portion, provision may be made on the following basis, at the rates ranging from 20 percent to 100 percent of the secured portion depending upon the period for which the asset has remained doubtful:

iii) Banks are permitted to phase the additional provisioning consequent upon the reduction in the transition period from substandard to doubtful asset from 18 to 12 months over a four year period commencing from the year ending March 31, 2005, with a minimum of 20 % each year. 

Note: Valuation of Security for provisioning purposes 

5.4 Substandard assets 

A general provision of 10 percent on total outstanding should be made without making any allowance for ECGC guarantee cover and securities available.  The ‘unsecured exposures’ which are identified as ‘substandard’ would attract additional provision of 10 per cent, i.e., a total of 20 per cent on the outstanding balance. The provisioning requirement for unsecured ‘doubtful’ assets is 100 per cent. Unsecured exposure is defined as an exposure where the realisable value of the security, as assessed by the bank/approved valuers/Reserve Bank’s inspecting officers, is not more than 10 percent, ab-initio, of the outstanding exposure. ‘Exposure’ shall include all funded and non-funded exposures (including underwriting and similar commitments). ‘Security’ will mean tangible security properly discharged to the bank and will not include intangible securities like guarantees (including State government guarantees), comfort letters etc. 

5.5 Standard assets 

(i) Banks should make general provision for standard assets at the following rates for the funded outstanding on global loan portfolio basis: 

(a) direct advances to agricultural and SME sectors at 0.25 per cent; 
(b) residential housing loans beyond Rs. 20 lakh at 1 per cent;
(c) advances to specific sectors, i.e., personal loans (including credit card receivables), loans and advances qualifying  as  capital  market  exposures,  Commercial real estate loans, and Loans and advances to Non-deposit taking Systemically Important NBFCs at 2 per cent
(d) all other advances not included in (a), (b) and (c) above, at 0.40 per cent. 

(ii) The provisions on standard assets should not be reckoned for arriving at net NPAs. 

5.6  Prudential norms on creation and utilisation of floating provisions 

5.6.1  Principle for utilisation of floating provisions by banks 

The floating provisions should not be used for making specific provisions as per the extant prudential guidelines in respect of nonperforming assets or for making regulatory provisions for standard assets. The floating provisions can be used only for contingencies under extraordinary circumstances for making   specific  provisions  in impaired accounts after obtaining board’s approval and with prior permission of RBI. The boards of the banks should lay down an approved policy  as to what circumstances would be considered extraordinary. 

To facilitate banks' boards to evolve suitable policies in this regard, it is clarified that the extra-ordinary circumstances refer to losses which do not arise in the normal course of business and are exceptional and non-recurring in nature. These extra-ordinary circumstances could broadly fall under three categories viz. General, Market and Credit. Under general category, there can be situations where bank is put unexpectedly to loss due to events such as civil unrest or collapse of currency in a country. Natural calamities and pandemics may also be included in the general category. Market category would include events such as a general melt down in the markets, which affects the entire financial system. Among the credit category, only exceptional credit losses would be considered as an extra-ordinary circumstance.

5.6.2 Principle for creation of floating provisions by banks 

The bank's board of directors should lay down approved policy regarding the level to which the floating provisions can be created. The bank should hold floating provisions for ‘advances’ and ‘investments’ separately and the guidelines prescribed will be applicable to floating provisions held for both ‘advances’ & ‘investment’ portfolios. 

5.6.3 Accounting

Floating provisions cannot be reversed by credit to the profit and loss account. They can only be utilised for making specific provisions in extraordinary circumstances as mentioned above. Until such utilisation, these
provisions can be netted off from gross NPAs to arrive at disclosure of net NPAs. Alternatively, they can be treated as part of Tier II capital within the overall ceiling of 1.25 % of total risk weighted assets. 

5.6.4 Disclosures 

Banks should make comprehensive disclosures on floating provisions in the “notes on accounts” to the balance sheet on (a) opening balance in the floating provisions account, (b) the quantum of floating provisions made in the accounting year, (c) purpose and amount of draw down made during the accounting year, and (d) closing balance in the floating provisions account. 

5.6.5 Provisions for advances at higher than prescribed rates

A bank may voluntarily make specific provisions for advances at rates which are higher than the rates prescribed under existing regulations provided such higher rates are approved by the Board of Directors and consistently adopted from year to year. Such additional provisions are not to be considered as floating provisions. 

5.7 Provisions on Leased Assets 

i) Substandard assets 

a) 10 percent of the sum of the net investment in the lease and the unrealised portion of finance income net of finance charge component. The terms ‘net investment in the lease’, ‘finance income’ and ‘finance charge’ are as defined in ‘AS 19 Leases’ issued by the ICAI. 
b) Unsecured lease exposures, as defined in paragraph 5.4 above, which are identified as ‘substandard’ would attract additional provision of 10 per cent, i.e., a total of 20 per cent. 
ii) Doubtful assets 100 percent of the extent to which, the finance is not secured by the realisable value of the leased asset. Realisable value is to be estimated on a realistic basis. In addition to the above provision, provision at the following rates should be made on the sum of the net investment in the lease and the unrealised portion of finance income net of finance charge component of the secured portion, depending upon the period for which asset has been doubtful:

iii) Loss assets 

The entire asset should be written off. If for any reason, an asset is allowed to remain in books, 100 percent of the sum of the net investment in the lease and the unrealised portion of finance income net of finance charge component should be provided for. 

5.8  Guidelines for Provisions under Special Circumstances 

5.8.1 Advances granted under rehabilitation packages approved by BIFR/term lending institutions 

(i) In respect of advances under rehabilitation package approved by BIFR/term lending institutions, the provision should continue to be made in respect of dues to the bank on the existing credit facilities as per their classification as substandard or doubtful asset. 

(ii) As regards the additional facilities sanctioned as per package finalised by BIFR and/or term lending institutions, provision on additional facilities sanctioned need not be made for a period of one year from the date of disbursement. 

(iii) In respect of additional credit facilities granted to SSI units which are identified as sick [as defined in Section IV (Para 2.8) of RPCD circular RPCD.PLNFS.BC. No 83 /06.02.31/20042005 dated 1 March 2005] and where rehabilitation packages/nursing programmes have been drawn by the banks themselves or under consortium arrangements, no provision need be made for a period of one year. 

5.8.2 Advances against term deposits, NSCs eligible for surrender, IVPs, KVPs, and life policies would attract provisioning requirements as applicable to their asset classification status. 

5.8.3 However, advances against gold ornaments, government securities and all other kinds of securities are not exempted from provisioning requirements. 

5.8.4 Treatment of interest suspense account 

Amounts held in Interest Suspense Account should not be reckoned as part of provisions. Amounts lying in the Interest Suspense Account should be deducted from the relative advances and thereafter, provisioning as per the norms, should be made on the balances after such deduction. 

5.8.5 Advances covered by ECGC guarantee 

Example

Provision required to be made

5.8.6 Advance covered by CGTSI guarantee 

In case the advance covered by CGTSI guarantee becomes nonperforming, no provision need be made towards the guaranteed portion. The amount outstanding in excess of the guaranteed portion should be provided for as per the extant guidelines on provisioning for nonperforming advances. Two illustrative examples are given below: 

Example I

Example II

5.8.7 Takeout finance
 
The lending institution should make provisions against a 'takeout finance' turning into NPA pending its take-over by the taking-over institution. As and when the asset is taken-over by the taking-over institution, the corresponding provisions could be reversed. 

5.8.8 Reserve for Exchange Rate Fluctuations Account (RERFA) 

When exchange rate movements of Indian rupee turn adverse, the outstanding amount of foreign currency denominated loans (where actual disbursement was made in Indian Rupee) which becomes overdue, goes up correspondingly, with its attendant implications of provisioning requirements. Such assets should not normally be revalued. In case such assets need to be revalued as per requirement of accounting practices or for any other requirement, the following procedure may be adopted: 

•  The loss on revaluation of assets has to be booked in the bank's  Profit & Loss Account. 
•  Besides the provisioning requirement as per Asset Classification, banks should treat the full amount of the Revaluation Gain relating to the corresponding assets, if any, on account of Foreign Exchange Fluctuation as provision against the particular assets. 

5.8.9  Provisioning for country risk 

Banks shall make provisions, with effect from the year ending 31 March 2003, on the net funded country exposures on a graded scale ranging from 0.25 to 100 percent according to the risk categories mentioned below. To begin with, banks shall make provisions as per the following schedule:

Banks are required to make provision for country risk in respect of a country where its net funded exposure is one per cent or more of its total assets. 

The provision for country risk shall be in addition to the provisions required to be held according to the asset classification status of the asset. In the case of ‘loss assets’ and ‘doubtful assets’, provision held, including provision held for country risk, may not exceed 100% of the outstanding. 

Banks may not make any provision for ‘home country’ exposures i.e. exposure to India. The exposures of foreign branches of Indian banks to the host country should be included. Foreign banks shall compute the country exposures of their Indian branches and shall hold appropriate provisions in their Indian books. However, their exposures to India will be excluded. 

Banks may make a lower level of provisioning (say 25% of the requirement) in respect of short-term exposures (i.e. exposures with contractual maturity of less than 180 days). 

5.8.10  Provisioning norms for sale of financial assets to Securitisation Company   (SC) / Reconstruction company (RC) 

(i) If the sale of financial assets to SC/RC, is at a price below the net book value (NBV) (i.e. book value less provisions held), the shortfall should be debited to the profit and loss account of that year. 

(ii) If the sale is for a value higher than the NBV, the excess provision will not be reversed but will be utilized to meet the shortfall/loss on account of sale of other financial assets to SC/RC. 

(iii) With a view to enabling banks to meet the shortfall, if any, banks are advised to build up provisions significantly above the minimum regulatory requirements for their NPAs, particularly for those assets which they propose to sell to securitisation/reconstruction companies. 

6. Guidelines on purchase/ sale of Non Performing Financial Assets 

In order to increase the options available to banks for resolving their non performing assets and to develop a healthy secondary market for nonperforming assets, where securitisation companies and reconstruction companies are not involved, guidelines have been issued to banks on purchase / sale of NonPerforming Assets. Since the sale/purchase of nonperforming financial assets under this option would be conducted within the financial system the whole process of resolving the non performing assets and matters related thereto has to be initiated with due diligence and care warranting the existence of a set of clear guidelines which shall be complied with by all entities so that the process of resolving nonperforming assets by sale and purchase of NPAs proceeds on smooth and sound lines. Accordingly guidelines on sale/purchase of nonperforming assets have been formulated and furnished below. The guidelines may be placed before the bank's /FI's /NBFC's Board and appropriate steps may be taken for their implementation. 

Scope 

6.1 These guidelines would be applicable to banks, FIs and NBFCs purchasing/ selling non performing financial assets, from/ to other banks/FIs/NBFCs (excluding securitisation companies/ reconstruction companies). 

6.2 A financial asset, including assets under multiple/consortium banking arrangements, would be eligible for purchase/sale in terms of these guidelines if it is a nonperforming asset/non performing investment in the books of the selling bank. 

Structure 

6.4 The guidelines to be followed by banks purchasing/ selling nonperforming financial assets from / to other banks are given below. The guidelines have been grouped under the following headings:

i) Procedure for purchase/ sale of non performing financial assets by banks,  including valuation and pricing aspects. 

ii) Prudential norms, in the following areas, for banks for purchase/ sale of non performing financial assets: 

a) Asset classification norms 
b) Provisioning norms 
c) Accounting of recoveries 
d) Capital adequacy norms  e) Exposure norms 

iii) Disclosure requirements

6.5 Procedure for purchase/ sale of non performing financial assets, including valuation and pricing aspects

i) A bank which is purchasing/ selling nonperforming financial assets should ensure that the purchase/ sale is conducted in accordance with a policy approved by the Board. The Board shall lay down policies and guidelines covering, inter alia, 

a)  Non performing financial assets that may be purchased/ sold; 
b)  Norms and procedure for purchase/ sale of such financial assets; 
c)  Valuation procedure to be followed to ensure that the economic  value of financial assets is reasonably estimated based on the estimated cash flows arising out of repayments and recovery  prospects;
d) Delegation of powers of various functionaries for taking decision on the purchase/ sale of the financial assets; etc.
e)  Accounting policy

ii)  While laying down the policy, the Board shall satisfy itself that the bank has adequate skills to purchase non performing financial assets and deal with them in an efficient manner which will result in value addition to the bank. The Board should also ensure that appropriate systems and procedures are in place to effectively address the risks that a purchasing bank would assume while engaging in this activity.
 
iii)  The estimated cash flows are normally expected to be realised within a period of three years and at least 10% of the estimated cash flows should be realized in the first year and at least 5% in each half year thereafter, subject to full recovery within three years 

iv)  A bank may purchase/sell nonperforming financial assets from/to other banks only on ‘without recourse’ basis, i.e., the entire credit risk associated with the nonperforming financial assets should be  transferred to the purchasing bank. Selling bank shall ensure that the effect of the sale of the financial assets should be such that the asset is taken off the books of the bank and after the sale there should not be any known liability devolving on the selling bank. 

v)  Banks should ensure that subsequent to sale of the non performing financial assets to other banks, they do not have any involvement with reference to assets sold and do not assume operational, legal or any other type of risks relating to the financial assets sold. Consequently, the specific financial asset should not enjoy the support of credit enhancements / liquidity facilities in any form or manner.
 
vi)  Each bank will make its own assessment of the value offered by the purchasing bank for the financial asset and decide whether to accept or reject the offer.

vii)  Under no circumstances can a sale to other banks be made at a contingent price whereby in the event of shortfall in the realization by the purchasing banks, the selling banks would have to bear a part of the shortfall.

viii)  A nonperforming asset in the books of a bank shall be eligible for sale to other banks only if it has remained a nonperforming asset for at least two years in the books of the selling bank.
 
ix)  Banks shall sell nonperforming financial assets to other banks only on cash basis. The entire sale consideration should be received upfront and the asset can be taken out of the books of the selling bank only on receipt of the entire sale consideration.
 
x)  A nonperforming financial asset should be held by the purchasing bank in its books at least for a period of 15 months before it is sold to other banks. Banks should not sell such assets back to the bank, which had sold the NPFA. 

xi)  Banks are also permitted to sell/buy homogeneous pool within retail nonperforming financial assets, on a portfolio basis provided each of the nonperforming financial assets of the pool has remained as non-performing financial asset for at least 2 years in the books of the selling bank. The pool of assets would be treated as a single asset in the books of the purchasing bank.
 
xii)  The selling bank shall pursue the staff accountability aspects as per the existing instructions in respect of the nonperforming assets sold to other banks.
 
6.6. Prudential norms for banks for the purchase/ sale transactions
 
(A) Asset classification norms
 
(i) The nonperforming financial asset purchased, may be classified as ‘standard’ in the books of the purchasing bank for a period of 90 days from the date of purchase. Thereafter, the asset classification status of the financial asset purchased, shall be determined by the record of recovery in the books of the purchasing bank with reference to cash flows estimated while purchasing the asset which should be in compliance with requirements in Para 6.5 (iii).
 
(ii) The asset classification status of an existing exposure (other than purchased financial asset) to the same obligor in the books of the purchasing bank will continue to be governed by the record of recovery of that exposure and hence may be different.
 
(iii) Where the purchase/sale does not satisfy any of the prudential requirements prescribed in these guidelines the asset classification status of the financial asset in the books of the purchasing bank at the time of purchase shall be the same as in the books of the selling bank. Thereafter, the asset classification status will continue to be determined with reference to the date of NPA in the selling bank. 

(iv) Any restructure/reschedule/rephrase of the repayment schedule or the estimated cash flow of the non-performing financial asset by the purchasing bank shall render the account as a nonperforming asset. 

(B) Provisioning norms 

Books of selling bank 

i)  When a bank sells its nonperforming financial assets to other banks, the same will be removed from its books on transfer. 
ii)  If the sale is at a price below the net book value (NBV) (i.e., book value less provisions held), the shortfall should be debited to the profit and loss account of that year.
iii)  If the sale is for a value higher than the NBV, the excess provision shall not be reversed but will be utilised to meet the shortfall/ loss on account of sale of other non performing financial assets. 

Books of purchasing bank

The asset shall attract provisioning requirement appropriate to its asset classification status in the books of the purchasing bank.

(C) Accounting of recoveries
 
 Any recovery in respect of a nonperforming asset purchased from other banks should first be adjusted against its acquisition cost. Recoveries in excess of the acquisition cost can be recognised as profit. 

(D) Capital Adequacy 

For the purpose of capital adequacy, banks should assign 100% risk weights to the nonperforming financial assets purchased from other banks. In case the nonperforming asset purchased is an investment, then it would attract capital charge for market risks also. For NBFCs the relevant instructions on capital adequacy would be applicable. 

(E) Exposure Norms

The purchasing bank will reckon exposure on the obligor of the specific financial asset. Hence these banks should ensure compliance with the prudential credit exposure ceilings (both single and group) after reckoning the exposures to the obligors arising on account of the purchase. For NBFCs the relevant instructions on exposure norms would be applicable. 

6.7. Disclosure Requirements

Banks which purchase nonperforming financial assets from other banks shall be required to make the following disclosures in the Notes on Accounts to their Balance sheets: 

  (Amounts in Rupees crore)

1.  (a) No. of accounts purchased during the year              
     (b) Aggregate outstanding 
2.  (a) Of these, number of accounts restructured during the year 
     (b) Aggregate outstanding 
(Amounts in Rupees crore) 

1. No. of accounts sold 
2. Aggregate outstanding 
3. Aggregate consideration received 

C. The purchasing bank shall furnish all relevant reports to RBI, CIBIL etc. in respect of the nonperforming financial assets purchased by it. 

7. Writing off of NPAs 

7.1 In terms of Section 43(D) of the Income Tax Act 1961, income by way of interest in relation to such categories of bad and doubtful debts as may be prescribed having regard to the guidelines issued by the RBI in relation to such debts, shall be chargeable to tax in the previous year in which it is credited to the bank’s profit and loss account or received, whichever is earlier. 

7.2 This stipulation is not applicable to provisioning required to be made as indicated above. In other words, amounts set aside for making provision for NPAs as above are not eligible for tax deductions. 

7.3 Therefore, the banks should either make full provision as per the guidelines or write-off such advances and claim such tax benefits as are applicable, by evolving appropriate methodology in consultation with their auditors/tax consultants. Recoveries made in such accounts should be offered for tax purposes as per the rules. 

7.4 Write-off at Head Office Level

Banks may write-off advances at Head Office level, even though the relative advances are still outstanding in the branch books. However, it is necessary that provision is made as per the classification accorded to the respective accounts. In other words, if an advance is a loss asset, 100 percent provision will have to be made therefor.

Annex I

Relevant extract of the list of direct agricultural advances, from the Master Circular on lending to priority sector-  
RPCD. No. Plan. BC. 84 /04.09.01/ 2006-07dated 30 April 2007

Appendix

Master Circular on Prudential Norms on Income Recognition,
Asset Classification and Provisioning Pertaining to Advances

List of Circulars consolidated by the Master Circular