(This article explains the definition of non-performing assets (NPAs), and basis on which accounts are classified into Special Mention Accounts (SMA) /sub-standard Assets, Doubtful assets, and Loss Assets. Income recognition and provisioning requirement are specified in the article.)
Internationally income from Non-Performing Assets (NPAs) is not recognized on accrual basis but is booked as income only when it is actually received. In line with the international practices and in terms of recommendations made by Mr.Narasimham committee on financial system, RBI has introduced prudential norms for income recognition and asset classifications for Indian banks and financial institutions, to ensure proper provisioning and transparency in the published accounts.In agreement with the prudential norms for loans & advances, provisioning should be made on the non-performing assets (NPA) of the banks. The provisions are made by the banks on the basis of classification of assets into prescribed NPA categories viz. Sub-standard,bad and doubtful and loss accounts.
Definition of Non-performing Assets (NPA): An asset, including a leased asset, is called NPA when the asset ceases to generate income for the bank.If interest and or installment of principal amount of loan remain overdue for a period of more than 90 days, of term loan or the account remain ‘out of order’ in case of overdraft/Cash Credit account or the bills purchased /discounted remain overdue for a period of more than 90 days the account, such accounts will be classified as NPA.
In case of agricultural advance the account is classified as NPA, if the installment of principal or interest thereon remains overdue for two crop seasons for short duration crops. In the case of long duration crop loans, the account will be classified as NPA if the outstanding is overdue for more than one crop season.
What is ‘Overdue’ Status?
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.
What is ‘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’.
Categories of Assets
Based on the period, for which the asset remained nonperforming and the realisability of the dues, Banks are required to classify their assets into the following categories.
(i) 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. If the loan is not repaid even after it remains sub-standard asset for more than 3 years, it may be identified as unrecoverable by internal / external audit and it would be called loss asset
(a) The entire assets should be written off after obtaining necessary approval from the competent authority or as per the provisions of the Co-operative Societies Act / Rules. If the assets are permitted to remain in the books for any reason, 100 per cent of the outstanding should be provided for.
(b) In respect of an asset identified as a loss asset, full provision at 100 per cent should be made if the expected salvage value of the security is negligible.
(ii) Doubtful Assets: If an account remains in substandard category for a period of 12 months, the account will be classified as ‘Doubtful Asset.’ A loan classified as doubtful.
In this case of doubtful assets, the bank need to make provisioning as follows:
Up to one year: 25% of outstanding amount in case of Secured loans; 100% of outstanding amount in case of Unsecured loans.
Above One year up to three years: 40% of outstanding amount in case of Secured loans; 100% of outstanding amount in case of Unsecured loans.
If the loan is not repaid even after it remains sub-standard asset for more than 3 years: the bank need provisioning of 100% of the outstanding amount in case of Secured loans; as well as 100% of the outstanding amount in case of Unsecured loans.
iii) Sub-standard Assets: If interest and or installment of principal amount of loan remain overdue for a period of more than 90 days, of term loan or the account remain ‘out of order’ in case of overdraft/Cash Credit account or the bills purchased /discounted remain overdue for a period of more than 90 days the account. If the borrower does not pay dues for 90 days after end of a quarter; the loan becomes an NPA- substandard asset and it is termed as ―Special Mention Account(SMA).
In case of agricultural advance, the account is classified as NPA, if the installment of principal or interest thereon remains overdue for two crop seasons for short duration crops. If the loan is for long duration crop, the account is classified as NPA if the outstanding for one crop season such accounts also classified as NPA –Sub standard account. If an account remains in substandard category for a period of 12 months, then the account will be classified as ‘Doubtful Asset.’
In this case of sub-standard accounts, a bank has to make provisioning as follows:
15% of outstanding amount in case of Secured loans
25% of outstanding amount in case of Unsecured loans
The restructured loans classified under the standard category would also need a provision of two per cent in the first two years from the date of restructuring.
(iv) Standard Assets: If the loan accounts or the bills purchased /discounted which do not fall under NPA classification are called standard account.As per the norms, banks have to make a general provision of 0.40% for all standard assets (loans and advances) except that given towards agriculture and small and medium enterprise (SME) sector.
Income recognition: Banks all over the world do not recognize the income from non-performing assets on accrual basis. Income is booked only when it is actually received. In India also banks do not charge and show interest income from NPA accounts. However interest on advances against term deposits, NSCs, IVPs, KVPs and Life policies are recognized as income when adequate margin is available in the accounts.
Reversal of income credited for the past period:
Once, any advance, including bills purchased and discounted, becomes NPA, the entire interest accrued and credited to income account in the past periods, should be reversed if the same is not realised. This will apply to Government guaranteed accounts also. The fees, commission and similar income that have accrued should cease to accrue in the current period and should be reversed with respect to past eriods, if uncollected.