Non-Performing Assets

Introduction

Banking sector is important backbone for our economy. A banker has to be very cautious in lending, because bank is not lending money out of his own capital. A major portion of the money lent comes from the deposits received from the public and government share. If an advance where payment of interest or repayment of instalment of principal (in case of term loans) or both remains unpaid for a certain period, then it is a serious concern for bank at micrscopic level and economy at macroscopic level. At present, high levels of Non Performing Assets (“NPA”) in the banking sector is an issue of worry and its constant increase is a matter of serious economic concern. The article analyses the legal interpretation of the same.

A. NPA

As per RBI [1], An asset becomes non-performing when it ceases to generate income for the bank. Earlier an asset was considered as NPA based on the concept of ‘Past Due’. A NPA was defined as credit in respect of which interest and/ or installment of principal has remained ‘past due’ for a specific period of time. The specific period was reduced in a phased manner as under:

Year ended March, 31  Specific period
1993 4 quarters
1994 3 quarters
1995 2 quarters

An amount is considered as past due, when it remains outstanding for 30 days beyond the due date. However, with effect from March 31, 2001 the ‘past due’ concept has been dispensed with and the period is reckoned from the due date of payment.

As such, with effect from March 31, 2004, a non-performing asset shall be a loan or an advance where:

(i) Interest and/or installment of principal remain overdue for a period of more than 90 days in respect of a Term Loan.

(ii) The account remains ‘Out of order’ for a period of more than 90 days, 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 installment of principal or interest thereon remains overdue for two crop seasons for short duration crops,

(v) The installment of principal or interest thereon remains overdue for one crop season for long duration crops,

(vi) The amount of liquidity facility remains outstanding for more than 90 days, in respect of a securitization transaction undertaken in terms of guidelines on securitization dated February 1, 2006.

(vii) In respect of derivative transactions, the overdue receivables representing positive mark-to-market value of a derivative contract, if these remain unpaid for a period of 90 days from the specified due date for payment.

B. Judgment

Dismissing appeals filed by around 60 companies, the Supreme Court upheld the amendment to the Securitization and Reconstruction of Financial Assets and Enforcement of Security Act, 2002 (“Sarfesi Act”)that gave power to every financial institution to decide a period after which a bad loan can be declared as a non-performing asset (NPA) in the judgment titled Keshavlal Khemchand & sons Pvt. Ltd. & Ors vs. Union of India[2]. Challenging the Gujarat HC’s April order that termed the decision of Parliament to take away the power from RBI as wrong, the promoters and companies had alleged that its prudential norms defy the right to equality under Article 14 of the Constitution of India. The promoters of around 60 companies had moved the Supreme Court questioning every financial institutions power to decide its own NPA period, saying it is a violation of right to equality. They had also challenged the RBI’s competence to regulate all banking and NBFCs in this regard. A bench headed by Justice J Chelameswar, while dismissing the appeals, asked the distressed companies to pay 1% of their loan outstanding amount to the lenders as costs.

Before the 2004 amendment to the Sarfaesi Act, RBI was the regulator for the banking, non-banking and securitisation institutions for deciding the period after which loans could be treated as NPA. Till 2004, RBI had set the NPA period for banks at 90 days and at 180 days for NBFCs. Power Finance Corporation has a six-month period to classify an asset as an NPA. Besides, there are a few other institutions like Exim Bank, National Housing Bank under NHB Act, Nabard, Rural Electrification Corporation and Indian Railway Finance Corporation who are governed by their own regulations.

Sarfaesi Act gives powers to seize and desist to the banks under which the banks need to send a notice in writing to the defaulting borrower requiring it to discharge its liabilities within 60 days. In case the borrower fails to comply with the notice, the bank can take either take possession of the security for the loan, sell or lease or assign the right over the security or appoint any person to manage the same.


Conclusion

Bankers would find the above ruling as the positive one especially when recovery of money through courts by creditors takes longer duration. The defaulting companies will have lesser loopholes to escape now.

[1] Master Circular of RBI on Prudential Norms on Income Recognition, Asset Classification and Provisioning Pertaining to Advances dated July 1, 2014.
[2] Writ Petition of 901 of 2014.

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