Page 207 - DCOM208_BANKING_THEORY_AND_PRACTICE

Banking Theory and Practice

Notes Objectives

After studying this unit, you will be able to:

Elaborate on the meaning of Non-performing Assets
Classify NPAs
Discuss the provisions for NPAs
Explain the management of NPAs

Introduction

In the previous unit, we dealt with first and second generation banking sector reforms. The unit
also discussed about the liberalization of banking sector. This unit will help you to classify
non-performing assets. The various section and sub section of this unit will also summarize the
provisions for NPA’s and management of NPA’s. Non Performing Assets concept was introduced
by Reserve Bank of India on 1st April 1991. These are to be identified on balance sheet date only.
In case government guarantee is invoked such an account is called as Non Performing Assets. In
case of advances granted for agricultural purpose where interest/instalment is in arrear for
more than two quarters from the date of interest/instalment being due for repayment the
advances shall be treated as Non Performing Assets.
In case where there are threats of recovery on account such as frauds committed by borrowers
are classified as doubtful assets and remained as Non Performing Assets. Thus an asset is classified
as Non Performing Assets if due in the form of principal and interest are not paid by the
borrower for a period of 180 days. However, with a view to moving toward international best
practices and to ensure greater transparency it has been decided to adopt the 90 days overdue
norm for identification of Non Performing Assets from the year ending March 31, 2004.

13.1 Meaning of Non Performing Assets

Non-performing assets, also known as Non-productive Assets (NPAs), constitute an integral
part of banks’ operations. A bank gives out money upfront and earns income overtime on the
promise of a borrower to repay. When loans are not repaid, the bank loses both its income
stream, as well as its capital. The level of non-performing loans is recognized as a critical
indicator for assessing banks’ credit risk, asset quality and efficiency in allocation of resources to
productive sectors.
The most calamitous problem facing commercial banks all over the world in recent times is
spiralling NPAs which are affecting their viability and solvency and thus posing challenge to
their ultimate survival. NPAs adversely affect lending activity of banks as non-recovery of loan
installments as also interest on the loan portfolio negates the effectiveness of credit-dispensation
process. Non-recovery of loans also hurt the profitability of banks. Besides, banks with a high
level of NPAs have to carry more owned funds by way of capital and create reserves and
provisions and to provide cushion for the loan losses.

Did u know? The solvency crisis of financial systems, such as the American Savings and
Loan crisis in the 1980s, the Nordic banking crisis at the beginning of 1990s and more
recently, the banking sector problems in Japan and Turkey and of late sub-prime crisis in
the US have, in large measure, been a consequence of accumulation of problem loans
overtime.

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