There aren’t too many instances of the?chief executive of a bank questioning the wisdom of the Reserve Bank of India (RBI) in the country’s banking history. The State Bank of India’s (SBI) refusal to set aside money for making provisions, as directed by RBI, for the so-called teaser home loans is raising many eyebrows.

No banker is willing to formally comment on the stance of Om Prakash Bhatt, chairman of SBI, the nation’s largest lender, but in private, a few say Bhatt “has the guts to take on the regulator" while the more diplomatic ones dub his “defiance" as “creative tension between the regulator and a regulated entity". Bhatt has done something no Indian banker has done before.

Also Read Tamal Bandyopadhyay’s earlier columns

In its mid-year review of monetary policy in November, RBI raised the provision for standard assets of such loans fivefold—from 0.4% to 2%. Higher provisioning dents a bank’s profit. According to RBI, such loans impact the quality of assets as chances of defaults by the borrowers are high and, hence, the directive for higher provisioning which will discourage them from selling teaser loans.

According to Investopedia, a comprehensive investing dictionary on the Web, teaser loans are “an adjustable-rate mortgage loan in which the borrower pays a very low initial interest rate, which increases after a few years". Teaser loans, Investopedia says, try to entice borrowers by offering an artificially low rate and small down payments, claiming that borrowers should be able to refinance before the increases occur. They are usually offered to low-income homebuyers. “Unfortunately, when these borrowers try to refinance the loan before the rate increases, most will not qualify for standard mortgages. This leaves borrowers with increased monthly payments, which many cannot afford. This method of loaning is considered risky, as default rates are high."

In its directive to banks, RBI describes teaser loans as loans that carry “comparatively lower rates of interest in the first few years, after which rates are reset at higher rates." RBI’s concern is some borrowers may find it difficult to service the loans once the normal interest rates, which is higher than the rate applicable in the initial years, become effective.

“It has been also observed that many banks at the time of initial loan appraisal do not take into account the repaying capacity of the borrower at normal lending rates," it says. According to the regulator, teaser loans carry high risk and it is willing to revert to bring down the provision rate from 2% to 0.40% for those loans which do not turn bad one year after the loan rates go up.

Bhatt contests RBI’s perception of risk and says the home loans that SBI offers at a discount for the first two years are special loans and no teaser loans. He also claims while giving such special loans the bank takes into consideration a customer’s capacity to service the loan when the rates go up. In the absence of any risk of default, the bank does not need to make extra provisioning, as directed by RBI.

The audit committee of SBI’s board, headed by chartered accountant Dileep C. Choksi, has endorsed the chairman’s decision. Shyamala Gopinath, an RBI deputy governor director of the bank’s board, is a member of the audit committee.

Apart from higher provisioning for teaser home loans, Bhatt also has reservations about RBI’s decision on 70% provisions for bad loans. In a television interview, after announcing the bank’s third quarter earning, he dubbed the RBI norm as “arbitrary".

There are three types of bad loans—substandard, doubtful and loss assets. Till recently, banks were required to set aside the entire amount of loss assets, or those assets which can never be recovered, while provisioning requirement for other two categories varied, depending on their age and quality. RBI in 2009 made 70% provision mandatory for bad assets for all banks.

In other words, irrespective of the degree of deterioration, banks need to set aside Rs70 for every Rs100 worth of bad loans. SBI has so far done close to 64% provisioning for its bad loans and sought time to raise it to 70%. Bhatt’s argument is while money has already been set aside for different categories of bad assets, what’s the point in raising the overall bad loan provisioning to 70%?

Can a commercial banker question the rationale behind a regulator’s decision? While the industry is divided on this, I would be curious to know how does the RBI nominee on the bank’s board react to such moves?

RBI says teaser loans are not only risky, but also an instrument that discriminates one set of borrower against others. This is because new customers get such loans at a discounted rate while the existing customer had paid higher interest rates. If this indeed has been the case, why can’t the RBI nominee on the board settle it at the board level? There is a government nominee, too, on the board. Can a bank chairman overrule these representatives when it comes to taking decisions on such contentious issues?

I am told that SBI would need to set aside at least Rs400 crore to achieve the 2% provisioning for teaser home loans. It would also require about Rs2,000 crore for rasing its provisioning for bad loans to 70%. So, together it will need Rs2,400 crore to adhere to RBI norms, more than 80% of the bank’s December quarter profit.

Pressure from investors to grow the bank’s net profit every quarter handsomely could be another reason behind Bhatt’s reluctance to make additional provisions. After he steps down in March, Bhatt’s successor in April will have tough time in keeping both the regulator and the investors happy.

I am taking a break and will not write this column for the next two weeks.

Tamal Bandyopadhyay keeps a close eye on all things banking from his perch as Mint’s deputy managing editor in Mumbai. Please email your comments to