Index
y Introduction y Advances ² Funded and Non Funded y Classification of Advances y Evaluation of Internal Controls y Provisioning Norms y Audit Procedures y Loan Documents y Reviewing Operation of accounts y Verification of Securities against Advances y Restructuring and Upgradation of Assets y Resources
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Introduction
y The third schedule to the Banking Regulation Act, 1949
requires classification of advances made by Bank from three different angels : Nature of Advances Nature and extent of security Place of Making the advances ( In India or Outside)
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Advances ² Funded and Non Funded
y Funded Facilities
Term Loans Cash Credit Bill Purchase/ Discounting Pre-shipment and post-shipment finance
y Non Funded Facilities
Letter of Credit Guarantees Underwritings Other Commitments
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Classification of Advances
y An asset, including a leased asset, becomes non performing when it
ceases to generate income for the bank.
y A non-performing asset (NPA) is a loan or an advance where;
y interest and/ or installment of principal remain overdue for a
period of more than 90 days in respect of a term loan y the account remains ¶out of order· in respect of an Overdraft/Cash Credit (OD/CC)
y Banks should, classify an account as NPA only if the interest due and
charged during any quarter is not serviced fully within 90 days from the end of the quarter. y Out of Order Accounts
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Classification of Advances
Standard Asset
Remained NPA for 12 months or less
Sub Standard Asset
Remained sub-standard for 12 months or less
Doubtful Asset
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Evaluation of Internal Controls
y Creditworthiness of the borrowers y Execution of Loan Documents y Margin Sufficiency y Cut- off point for high value accounts y Joint Custody of Security y Title over the Securities y Inspection after regular Intervals y Surprise Checks y Modifications to DP Book y Regularization of Accounts
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Guidelines for Classification
y Take into account the degree of well-defined credit
weaknesses and the extent of dependence on collateral security for realization of dues
y Establish appropriate internal systems to eliminate the
tendency to delay or postpone the identification of NPAs, especially in respect of high value accounts.
y Responsibility and validation levels for ensuring
proper asset classification may be fixed by the banks.
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Asset Classification to be borrowerwise and not facility-wise
y 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.
y 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 and not the particular facility/investment or part thereof which has become irregular
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Accounts not to be considered as NPAs
y Accounts regularized near about the Balance Sheet Date y Temporary Deficiencies
y Non availability of adequate DP y Non submission of Stock Statement y Non renewal of Limits on due date
y Irregular Accounts y Upgraded or restructured accounts
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Provisioning Norms
Classification of Asset Standard Asset Type Agricultural & SME Commercial Real Estate Other Standard Asset Sub Standard Asset Secured Unsecured Infrastructure Loan Accounts Doubtful Asset Unsecured Secured- upto 1 year Secured- 1 to 3 years Secured- 3 years & above Loss Asset
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Amounts included in the balance sheet in respect of advances are outstanding at the date of the balance sheet. Advances represent amount due to the Bank There are no unrecorded advances The stated basis of valuation of advances is appropriate and properly applied and that the recoverability of advances is recognized in their valuation. The advances are disclosed, classified and described in accordance with recognized accounting policies and practices & relevant statutory and regulatory requirements.
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Loan Documents
y Documents depend upon
y Legal status of the Borrower y Nature of Security
y Documents include
y Certificate of Incorporation y MoA and AoA/ Partnership Deed y Resolution of Board of Directors y Resolution of Shareholders y Mortgage Deeds ( Equitable/ English Mortgage), etc
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Review of Operation of Account
y Whether limit is generally exceeded? y Whether the customer is not drawing against deposits which
are not free from lien?
y Whether account is not window-dressed? y Whether there is healthy turnover?
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Review of Operation of Account
y Review the following to assess the recoverability of advances
Periodic Statements submitted by borrowers indicating extent of compliance Latest Financial Statements of Borrowers Reports of Inspection of Security Auditors· reports Claims Lodged for guarantees under DICGC/ ECGC covers
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Verification of Security against advances
y Legal enforceability of the security y Effective control of the Bank y Amount of Outstanding Loan Covered
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Types of Securities provided
y Stock Exchange Securities y Goods ( Pledge) y Documents of Title to Goods (Hypothecation) y Gold Ornaments/ Bullion y LIC policies y Bank·s own Deposit Certificates y Hire- Purchase Documents y Plantations y Immovable Property y ECGC Covers
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Restructuring of Loans
The stages at which the restructuring / rescheduling / renegotiation of the terms of loan agreement could take place, can be identified as under: Before commencement of commercial production After commencement of commercial production but before the asset has been classified as sub standard, After commencement of commercial production and after the asset has been classified as sub standard
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Treatment of Restructured Standard Accounts
At any of the foregoing first two stages y A rescheduling of the installments of principal alone would not cause a standard asset to be classified in the sub standard category provided the loan/credit facility is fully secured y A rescheduling of interest element 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
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Treatment of restructured Sub-standard accounts
y A rescheduling of the installments of principal alone,
would render a sub-standard asset eligible to be continued in the sub-standard category for the specified period, provided the loan/credit facility is fully secured
y A rescheduling of interest element would render a sub-
standard 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
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Upgradation of restructured accounts
One Year after the date on which first payment falls due
Sub Standard Asset
Standard Asset
Provision can also be reversed after one year
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Resources
y DBOD.No.BP.BC.21 /21.04.048/2010-11
´ Master Circular -Prudential Norms on Income Recognition, Asset Classification and Provisioning pertaining to Advancesµ notified by RBI