RBI Flags NBFC Loans to Defaulters

Shadow banks are being ticked off on a tricky lending practice. The Reserve Bank of India (RBI) has questioned at least three non-banking finance companies (NBFCs) on their policy to lend to borrowers who have already defaulted.

Central bank officials looking into the books of these companies have raised the issue during their annual inspection.

They have spelt out that there should be a board- approved policy to justify new loans to a customer whose earlier loan has become overdue even though it has not been tagged as a non-performing asset (NPA).

The RBI inspectors have come across cases where a borrower who has defaulted in a vehicle loan but has received fresh disbursement for a loan against property or a home loan.

“RBI is not saying that an NBFC should refrain from giving the second loan for a different product. It’s the lender’s commercial decision. However, they are insisting that this should be backed by a policy which requires the NBFC to explain under what circumstances the new loan is given, and what are the safeguards that it is not being used for evergreening purposes,” a senior banker told ET.

“If an NBFC’s internal lending policy is silent on the issue, it does not mean it can be done. This seems to be RBI's stand,” said the person.

Evergreening is a sharp lending practice where struggling borrowers receive new loans to repay interest or principal on existing, failing loans. Such zombie lending hides the extent of sticky loans in asset books.

A loan is categorised as an NPA when the interest or principal is overdue for 90 days. In tracking the stress build-up before the account turns NPA, a loan is classified as a Special Mention Account (SMA-0) soon after the first default, SMA-1 when repayment is delayed by 31 to 60 days, and SMA-2 when the overdue period stretches for 61 to 90 days.

“It’s likely that RBI would take the same approach for other comparable NBFCs having a net-worth of more than Rs 250 crore --a threshold that requires them to follow the IndAS system,” said a source.

ET's email to RBI went unanswered till the time of going to press.

STICKING TO STRICT RULES

IndAS or the Indian Accounting Standards -- a complex principle-based approach focusing on economic value -- is considered to be more rigorous than the Indian GAAP accounting framework that currently applies to banks. While banks provide for loans -- i.e, set aside a slice of profits to cover possible future losses — NBFCs with higher net-worth carry out provisioning after a loan is classified as SMA1 (i.e, well before it turns NPA). The quantum provided is a function of multiple factors – overall recovery record, expected cash flow from the asset, realisable value, risk rating etc.

“There are cases where NBFCs are being nudged to classify a new loan as SMA1 even because the existing loan is overdue and becomes SMA-1. It’s the borrower in question that matters, not the different loan products. It’s possible that an NBFC may have a good reason to clear a new loan after assessing that the stress in the existing account is only temporary. For this it must now have a policy. However, many boards could be reluctant to clear such a feature in the lending policy,” said an auditor.

A company whose financial assets constitute more than 50% of the total assets (netted off by intangible assets) and income from financial assets comprise at least 50% of the gross income must register itself as NBFC with the RBI.

According to Bhavesh Vora, director, Basilstone Consulting which advises several RBI and SEBI regulated companies, “Disbursal of additional loans or loans on other products to borrowers in stress situations (after due date but before being classified as NPA) is not a general policy feature for most NBFCs. Since the risk profile is different from generic business, RBI may mandate a separate board approved policy, specifically aligned to increased credit risk. RBI regulations are principle based and it requires that NBFCs adopt the best processes of governance, risk management and internal control.”

Under IndAS, this principle is recognised indirectly with the concept of "significant increase in credit risk" for 30 days past due, after which lifetime expected credit loss is to be provided for, rather than 12-month ECL, said Vora. ECL is an accounting method requiring a lender to recognise potential credit losses on assets from the start, rather than waiting for a default to happen.