All You Need to Know About NPA (Non-Performing Asset)

What is a Non-Performing Asset (NPA)?

RBI has defined non-performing assets in a circular form 2007. According to them, an asset becomes non-performing when it ceases to generate income for the bank. A non-performing asset refers to the loans or advances that are in default or in arrears. Where, in arrears are defined as the principal amount, as well as the interest amount of the loan, which is due and is considered default when the agreement is broken and the debtor fails to make the commitment or obligation of paying the amount back. Internationally these loans are known as Problem Loans. 

Asset for a Bank

Anything that is owned by a bank and can help to generate revenue in any way is considered an asset. For banks, the loans they give are assets as the interest they earn from giving a loan to the general public is the primary source of revenue for them.

So when a debtor is not in a position to pay the loan and its interest then it is known as a non-performing asset.

A certain number of days as a grace period is given to these assets before classifying them into non-performing assets (NPA).

What are the types of Non-Performing Assets (NPAs):

1) Term Loan

A term loan, i.e., a simple debt facility will be treated as an NPA when the principal or the interest instalment of the loan has been due for more than 90 days.

2) Cash Credit or Overdraft

Cash credit or an overdraft when remaining past due for more than 90 days can be treated as an NPA.

3) Agricultural Advances

Agricultural advances that have been past due for more than two crop seasons for short crop duration or one crop duration for long duration crops

There could be various other types of NPAs, including residential mortgage, home equity loans, credit card loans, and non-credit card outstandings, direct and indirect consumer loans.

Classification of NPA (Non-Performing Asset):

Non-performing assets can be classified into;

1) Standard Assets

• They are non-performing assets (NPAs) that have been past due for anywhere from 90 days to 12 months, with a normal risk level.
• The Reserve Bank of India also keeps changing the standard and sub-standard classification from time to time.
• What was a standard asset today can well become a sub-standard asset tomorrow. Banks in India in the last few quarters have been increasing their provisions, to guard against turning standard assets into sub-standard assets.

2) Sub-Standard Assets

• They are NPAs that have been past due for more than 12 months.
• They have a significantly higher risk level, combined with a borrower that has less than ideal credit.
• Banks usually assign a haircut (reduction in market value) to such NPAs because they are less certain that the borrower will eventually repay the full amount.

3) Doubtful Debts

• Non-performing assets in the doubtful debts category have been past due for at least 18 months.
• Banks generally have serious doubts that the borrower will ever repay the full loan.
• This class of NPA seriously affects the bank’s risk profile.

4) Loss Assets

• These are non-performing assets with an extended period of non-payment.
• With this class, banks are forced to accept that the loan will never be repaid, and must record a loss on their balance sheet.
• The entire amount of the loan must be written off completely.

How do Non-Performing assets (NPAs) work?

• Loans turned into an NPA after a certain period of time.
• After the due date is passed it is considered an overdue loan.
• Then after 90-120 days, it is considered a Non-Performing Asset.
• The bank tries to recover its amount from the collateral the debtor put when they asked for the loan.

For example, if an individual takes out a second mortgage and that loan becomes an NPA, the bank will generally send notice of foreclosure on the home because it is being used as collateral for the loan.

How can Non-Performing Assets (NPA) affect you as a borrower and lender?

As a borrower

As a borrower, NPA can definitely hamper your credit score and can have a massive effect on your future credit or loan taking capacity.

As a Lender/Bank

As a bank, the main source of earning is the interest earned by giving loans to the borrowers. It can certainly affect the financials of the bank. In the short-run generally, the banks recover their money through collateral and the mortgage amount, but in a long term loan, the NPA proves to be a huge problem for them.
Non-performing assets can be manageable, but it depends on how many there are and how far they are past due. In the short term, most banks can take on a fair amount of NPAs. However, if the volume of NPAs continues to build over a period of time, it threatens the financial health and future success of the lender.

Provisioning of Non-Performing Assets (NPA):

• All the banks, in general, do provisioning in accordance with the NPA.
• It basically means keeping a certain amount of the profit or income for unforeseen losses due to the NPA and covering those losses to maintain stability in the business operations throughout.
• Provisioning is done according to the categories of NPA as discussed above.
• Every bank has a different methodology to keep a certain amount in provisioning. It also depends on the size of the bank.

What are Gross Non-Performing Assets (GNPA) and Net Non-Performing Assets (NNPA)?

The RBI has made it mandatory for the banks to show the NPA in their bank statements at the end of the financial year. There are mainly two metrics that help us to understand the NPA situation of any bank. NPA numbers for a bank will be mentioned in the standalone financial statements of a bank.

GNPA:

GNPA stands for Gross Non-Performing Assets. This tells you the total value of the non-performing asset in a particular quarter or a year as required.

GNPA = Total of NPA (in a particular quarter or a year)

NNPA:

NNPA stands for Net Non-Performing Assets. NNPA subtracts the provisions made by the bank from the gross NPA. Therefore, net NPA gives you the exact value of non-performing assets after the bank has made specific provisions for it.

NNPA = GNPA – Provisions made by the bank (in the particular period)

Key Takeaways:

• High NPAs may not be favourable for a bank. This is because they are assets that are not performing.
• High NPAs mean that banks have too many loans that have become non-functional or are not rendering any interest income to the bank.
• Banks can either keep the NPAs in their books in the hope that they may be able to recover it or make provisions for it. Or else, banks write off the loans entirely as bad debt. However, there are many other factors to assess a bank apart from NPA.
• NPAs place a financial burden on the lender; a significant number of NPAs over a period of time may indicate to regulators that the financial fitness of the bank is in jeopardy.
• NPAs can be classified as substandard assets, doubtful assets, or loss assets, depending on the length of time overdue and probability of repayment.
• Lenders have options to recover their losses, including taking possession of any collateral or selling off the loan at a significant discount to a collection agency.
• For reference refer to this document.