Home / Opinion / Views /  A technical loan write-off must be seen in the right perspective
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Peaceful transfers of power are a feature of our democracy. But it’s not just power that newly-elected administrations inherit. They are often saddled with the implications of actions taken by those in power before. The Narendra Modi administration was just 7 Lok Sabha sittings young when the House roared with the opposition’s demand for answers to a “loan waive off" worth 7,000 crore. Communist Party of India (Marxist) chief Sitaram Yechury led the uproar by referring to a news report that blamed the government for allegedly going easy on elite borrowers.

In response, our erstwhile finance minister Arun Jaitley clarified thus: “...there is a little bit of ‘malapropism’ involved in this. Don’t go by the literal meaning of ‘write-off’. A write-off does not mean loan waiver. The loan still remains. You still continue to pursue it." Oxford Dictionary defines ‘malapropism’ as “An amusing mistake somebody makes when they use a word that sounds similar to the word they meant to use, but has a completely different meaning." Jaitley’s magnanimity led him to set the record straight in the august house.

Yet, this “amusing mistake" seems to live on, and one doubts if it ever was one. But clarifications are due.

Loan “waive offs" have been a contentious issue in Indian politics. It even features in various election manifestos. Opposition parties view it as a form of political appeasement at high financial cost. Misreadings of “technical write offs" could explain why these are often seen as scandalous.

To understand the concept of a technical write-off, let’s take a few steps back. Let’s begin with the importance of bank loans. The banking business is as much about lending as about taking deposits from customers. Both need to be done. Loans are assets held by financial institutions as they deliver earnings over time, based on repayment promises of interest along with the sum borrowed, while bank deposits are liabilities, since this money, used for lending, is owed back.

Those promises keep the business alive and balance sheets strong. The strength of these institutions depends on how well these promises are kept. People trust banks to get back the money they lend. But what if one of these promises appears to be slightly weaker than others? Representing them on an equal footing with stronger ones would not be fair to those closely monitoring the bank. It would also be misleading for the bank’s management. It follows that classifying repayment promises by their strength would serve an important purpose. This explains why the sector’s regulator, the Reserve Bank of India (RBI), asks banks to classify their assets as per its master circular of 1 October 2021, ‘Prudential Norms on Income Recognition, Asset Classification, and Provision Pertaining to Advances’.

Further, RBI also mandates that banks set aside a certain proportion of their asset value to cover loans that appear doubtful or stressed. This process is called provisioning, as per the master circular. A non-performing asset (NPA) is a loan whose repayment is overdue for over 90 days. Banks are expected to make provisions that range from 15% of the outstanding sum to 100%, depending on the NPA classification and its period of non-performance (over 4 years). The said amount is reserved from the operating profit of the bank and cannot be put to any other use.

The rising scale of the provisioning requirement indicates significant capital engaged in bank reinforcement. While making provisions for stressed assets, banks must maintain liquidity for lending purposes.

Now let us consider loans that have a 100% provision. These assets represent little hope of immediate recovery. True to their name, ‘prudential norms’ would have banks remove these assets from their balance sheets. This technical writing off helps the bank present a true picture of its asset base, frees up provisioning resources and can also help the entity save on taxes for assets that offer no immediate return. What needs to be noted here is that recovery efforts for this non-performing loan continue as before, and what is retrieved gets added as profit of the lender.

In the last 8 years, the government has taken steps to ensure that a technical exercise does not impact the due process of recovery. These include legislative, institutional and operational measures. The Insolvency and Bankruptcy Code, 2016, can lawfully deprive defaulters of business ownership. Wilful defaulters are barred from market participation and operational controls can lawfully be seized where necessary. Similarly, the Securitisation and Reconstruction of Financial Assets and Enforcement of Securities Interest (SARFAESI) Act of 2002 has helped against bad loans. On the institutional front, banks have been asked to form a separate “stressed asset" vertical to deal with such matters. Lastly, RBI has ensured strict monitoring of accounts through early warning indicators of financial mismanagement.

Two deductions can be made. One, it is much costlier for a bank to maintain a badly performing loan on its books, while its repayment can still be pursued after a ‘technical write-off’. And two, it takes time before 100% provisioning has to be made, so a subsequent technical write-off has a long timeline too.

Numbers do not lie, but they do not always tell the whole truth either.

Bhagwat Karad is minister of state for finance and a member of the Rajya Sabha from Maharashtra.

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