Problem of Non-performing assets (NPAs)

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    • Recently, according to data furnished by the Reserve Bank of India (RBI), the mega write-off exercise has enabled banks to reduce their non-performing assets (NPAs) or defaulted loans by Rs 10,09,510 crore ($123.86 billion) in the last five years.
      • But, banks have been able to recover only 13 percent of it so far.  

    About the news 

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    • This huge write-off would have been enough to wipe out 61 per cent of India’s estimated gross fiscal deficit of Rs 16.61 lakh crore for 2022-23.
    • The banking sector reported a decline in gross NPAs to Rs 7, 29,388 crore, or 5.9 per cent of the total advances as of March 2022. 
      • Gross NPAs were 11.2 per cent in 2017-18.
    • Once a loan is written off by a bank, it goes out from the asset book of the bank
      • The bank writes off a loan after the borrower has defaulted on the loan repayment and there is a very low chance of recovery. 
      • The lender then moves the defaulted loan, or NPA, out of the assets side and reports the amount as loss. 
    • Public sector banks reported the maximum share of write-offs at Rs 734,738 crore accounting for nearly 73 per cent of the exercise.

    What is NPA?

    • A loan becomes an NPA when the principal or interest payment remains overdue for 90 days. 

    Types of NPA

    • Sub Standard:  A sub-standard asset is one that is classified as an NPA for a period not exceeding twelve months.
    • Doubtful: A doubtful asset is one that has remained as an NPA for a period exceeding twelve months.
    • Loss: A loss asset is one where loss has already been identified by the bank or an external institution, but it is not yet completely written off, due to its recovery value, however little it may be.

    Why do banks write off loans?

    • After a loan turns bad, a bank writes it off when chances of recovery are remote. 
    • It helps the bank reduce not only its NPAs but also taxes since the written off amount is allowed to be deducted from the profit before tax.
    • After write-off, banks are supposed to continue their efforts to recover the loan using various options. They have to make provisioning also. 

    Causes for Banking NPA

    • Financial crisis
      • Before the financial crisis of 2008 India’s economy was in a boom phase. 
      • During this period banks lent extensively to corporates in the expectation that the good times will continue in future.
    • Earning of the corporates
      • Low earnings affected their ability to pay back loans. This is one of the most important reasons behind the increase in NPA of public sector banks.
    • Relaxed lending norms
      • Another major reason for rising NPA was the relaxed lending norms for corporate houses.
      • Their financial status and credit rating were not analysed properly.
    • Public Sector banks 
      • It provides a major portion of the credit to industries and it is this part of the credit distribution that forms a great portion of NPA.
    • The priority sector lending (PSL) sector 
      • This has contributed substantially to the NPAs. Priority sectors include agriculture, education, housing, MSMEs.
    • Credit default by promoters
      • There are also cases of credit default by promoters, where the funds have been diverted by over-invoicing imports, sourced via a promoter owned subsidiary abroad or exporting to shell companies and then declaring that they defaulted.

    Issues with NPA

    • Provisioning
      • The bad loans lead to banks having to save a part of their operating revenue to account for bad loans which is called Provisioning. 
      • The technical term used for provisioning is Capital Adequacy Ratio (CAR) or Capital to Risk (weighted) Assets Ratio (CRAR).
    • Less profitable
      • The banks are required to provision for bad loans out of their operating income. 
      • The concerned bank becomes less profitable because it has to use some of its profits from other loans to make up for the loss on the bad loans. 
    • Risk-averse
      • The officials of such banks hesitate from extending loans to business ventures that may remotely appear risky for the fear of aggravating an already high level of non-performing assets (or NPAs).
    • Downfall in the share markets
      • Any reduction in the perceived valuation of the banks might lead to loss of share value of the banks, leading to general downfall in the share markets. This could result in wiping out shareholders’ wealth from the financial markets.
    • Rising Bad Loans
      • In spite of various efforts, a substantial amount of NPAs continue on the balance sheets of banks primarily because the stock of bad loans as revealed by the Asset Quality Review is not only large but fragmented across various lenders.

    Way forward

    • The writing off NPAs is a regular exercise carried by banks to clean up the balance sheet.
    • It is primarily intended at cleansing the balance sheet and achieving taxation efficiency.
    • In Technically Written Off accounts: loans are written off from the books at the Head Office, without foregoing the right to recovery.
    • Write-offs are generally carried out against accumulated provisions made for such loans.
      • Once recovered, the provisions made for those loans flow back into the profit and loss account of banks. 
    • Steps Taken for NPA
      • Insolvency and Bankruptcy Code (IBC)
      • Strengthening of Securitization and Reconstruction of Financial Assets and Enforcement of Securities Interest (SARFAESI Act) and Debt Recovery Tribunals
      • Setting up of dedicated Stressed Asset Management Verticals (SAMVs) in banks for large-value NPA accounts etc.
      • Existing ARCs have been helpful in the resolution of stressed assets, especially for smaller value loans. 
      • However, considering the large stock of legacy NPAs, additional options/alternatives are needed.

    Source: IE