In its monetary policy review on Thursday, the Federal Reserve Bank of India gave the green signal to a loan restructuring scheme for stressed borrowers. A special window providing one-time loan restructuring to companies and individuals, it’ll provide relief specifically to those impacted by the Covid-19 pandemic.

RBI’s new loan scheme

Who will enjoy the scheme?

Only those companies and individuals whose loans accounts are in default for less than 30 days as on March 1, 2020, are eligible for one-time restructuring. For corporate borrowers, banks can invoke a resolution plan till December 31, 2020 and implement it till June 30, 2021. Such loan accounts should still be standard till the date of invocation. The one-time restructuring window is out there across sectors.

It is expected to supply relief to companies that were servicing loan scheme obligations on time but could have found it difficult after March, because the pandemic affected their revenues. Companies that were already in default for over 30 days as on March 1, however, cannot avail this facility. Industry sources said this might affect revival plans of companies that were close to regain profitability but got hit when the lockdown was imposed.

For personal loans, the resolution plan will be invoked till December 31, 2020 and can be implemented within 90 days thereafter. This too is for accounts classified as standard, but not in default for over 30 days as on March 1.

How will it be implemented?

The RBI has created a five-member expert committee headed by K V Kamath, former Chairman of ICICI Bank, which can make recommendations on the financial parameters required. While the RBI has given the broad contours, the panel will recommend the sector-specific benchmark ranges for such parameters to be factored into each resolution plan for borrowers with an aggregate exposure of Rs 1,500 crore or above at the time of invocation. The committee also will undertake a process validation of resolution plans for accounts above a specified threshold.

The RBI will notify this along side modifications in 30 days. this suggests the RBI will have the last word on who are going to be eligible and therefore the parameters.

According to the RBI’s systemic risk survey, the three sectors most adversely suffering from the pandemic are tourism and hospitality, construction and land , and aviation.

How will the scheme impact banks?

The biggest impact are going to be that banks are going to be ready to check the increase in non-performing assets (NPAs) to an excellent extent. However, it’ll not bring down the NPAs from this levels; legacy bad loans of on the brink of Rs 9 lakh crore will remain within the system. Banks will need to maintain additional 10% provisions against post-resolution debt, and lenders that don’t sign the Inter-Creditor Agreement (ICA) within 30 days of invocation of the plan will need to create a 20% provision. This may be a burden for banks.

While a section of borrowers who have gone for a moratorium is probably going to apply for the scheme, banks won’t face much of a drag in understanding individual resolutions plans: they’ll need to tackle only borrowers who were in stress after the pandemic hit.

Were earlier such schemes not misused by banks and corporates?

CDR: The RBI discontinued the company debt restructuring (CDR) scheme from April 1, 2015. For several years, corporates were misusing the debt recast plans with the regulator turning a blind eye to manipulations by shady promoters in connivance with some banks. Banks also created a separate CDR cell with erstwhile IDBI overseeing the method .

The promoters of the many big corporates siphoned off bank funds while their units suffered. They approached the CDR Cell and to urge their loans recast, a number of them quite once. These promoters managed to urge fresh loans and that they used liberal loan recasts to evergreen their accounts and exclude of the NPA books. a number of them are now within the bankruptcy court.

SDR: Under the Strategic Debt Restructuring (SDR) scheme, banks got a chance to convert the loan amount into 51% of equity which was to be sold to the very best bidder, once the firm became viable. This was unable to assist banks resolve their bad loan problem as only two sales have taken place through this measure thanks to viability issues.

S4A: Sustainable Structuring of Stressed Assets (S4A) scheme, banks were unwilling to grant write-downs as there have been no incentives to try to to so, and write-downs of huge debtors could exhaust banks’ capital cushions.

5/25: The 5/25 scheme was derailed because refinancing was done at a better rate of interest in order that banks could preserve net present value of the loan amount. There was a perception that this was one among the tools deployed to hide NPAs by banks.

ARC: Asset reconstruction scheme, the main problem was that asset reconstruction companies (ARCs) were finding it difficult to resolve assets that they had bought from banks. Therefore, they wanted to get the loans only on low prices. Consequently, banks were reluctant to sell them loans on an outsized scale.

IBC: The Insolvency and Bankruptcy Code kicked off; the RBI announced a stringent loan resolution process through its June 7 circular.

Does the new scheme have safeguards against misuse?

Yes, the RBI has inbuilt safeguards within the resolution framework to make sure it doesn’t cause ever-greening of bad loans as within the past. Restructuring of huge exposures would require independent credit evaluation done by rating agencies and a process validation by the Kamath-led expert committee.

Unlike within the case of restructuring of larger corporate exposures, for private loans there’ll be no requirement for third party validation by the expert committee, or by credit rating agencies, or need for ICA. The RBI has said that the term of loans under resolution can’t be extended by quite two years. within the case of multiple lenders to one borrower, banks got to sign an ICA.

To mitigate the impact of expected loan losses, banks got to make a tenth provision against such accounts under resolution. For banks not willing to be a part of the ICA, a penal provision of 20% has been specified.

What are the main differences with previous recast schemes?

The earlier restructuring schemes didn’t have any entry barrier, unlike the present scheme that’s available just for companies facing Covid-related stress, as identified by the deadline of March 1. Strict timelines for invocation of resolution plan and its implementation are defined within the scheme, unlike within the past when this was largely open-ended.

The structuring of the scheme makes signing of the ICA largely mandatory for all lenders once the resolution plans has been majority-voted for, otherwise they face twice the quantity of provisioning required. Independent external evaluation, process validation and specific post-resolution monitoring are further safeguards.