Team Financial Services, Vinod Kothari Consultants P Ltd.
[This version dated 2nd April 2020. We shall continue to develop this further based on the text of notification and the clarifications, if any, issued by the RBI ]
To address the stress in the financial sector caused by COVID-19, several measures have been taken by the RBI as a part of its Seventh Bi-monthly Policy. Further, the RBI has come up with a Notification titled COVID 19 package. These measures are intended to mitigate the burden on debt-servicing caused due to disruptions on account of COVID-19 pandemic. These measures include moratorium on term loans, deferring interest payments on working capital and easing of working capital financing. We have tried to provide our analysis of the measures taken by RBI in form of the following FAQs.
Further, in this regard the Ministry of Finance has also issued FAQs on RBI’s scheme for a 3-month moratorium on loan repayment.
Legal/contractual nature of the Moratorium
1. Has the RBI granted a compulsory moratorium?
No, the lending institutions have been permitted to allow a moratorium of three months. This is a relaxation offered by RBI to the lending institutions. Neither is it a guidance by the RBI to the lenders, nor is it a leeway granted by the RBI to the borrowers to delay or defer the repayment of the loans. Hence, the moratorium will actually have to be granted by the lending institution to the borrowers. The RBI has simply permitted the lenders to grant such moratorium.
2. Who are the lending institutions covered by the moratorium requirement?
All commercial banks (including regional rural banks, small finance banks and local area banks), co-operative banks, all-India Financial Institutions, and NBFCs (including housing finance companies and micro-finance institutions) have been permitted to allow the moratorium relaxation to its borrowers.
3. Is this the first time such a moratorium or relaxation has been granted by the RBI?
During the demonetisation phase in November 2016, a 60 day relaxation was offered to small borrowers accounts for recognition of an asset as sub-standard. Our detailed analysis on the same can be viewed here- http://vinodkothari.com/wp-content/uploads/2017/03/Interpreting_the_2_months_relaxation_for_asset_classification.pdf
4. What is meant by moratorium on term loan?
Moratorium is a sort of granting of a ’holiday’- it is a repayment holiday where the borrower is granted an option to not pay during the moratorium period. It is a restructuring of the terms of the loan with the mutual consent of the lender and the borrower. The consent of the lender will be in the form the lender’s circular or notice – see below. The consent of the borrower may be obtained by a “deemed consent unless declined” option.
For example, in case the instalment falls due on April 01, 2020, and the lender has granted a moratorium of 3 months from a specific date, say April 1, 2020, then the revised due date for repayment shall be July 1, 2020.
Scope and implementation of the moratorium
5. From what date can the moratorium be granted?
The lenders are permitted to grant a moratorium of three months on payment of all instalments falling due between March 1, 2020 and May 31, 2020. The intention is to shift the repayment dates by three months. Therefore, the moratorium should start from the due date, falling immediately after 1st March, 2020, against which the payment has not been made by the borrower.
For example, if an instalment was due on 15th March, 2020, but has remained unpaid so far, the lender can impose the moratorium from 15th March, 2020 and in that case, revised due date shall be 15th June, 2020
6. Will the moratorium be applicable in case of new loans sanctioned after March 1, 2020 during the lockdown period?
Technically, new loans sanctioned after March 1, 2020 are not covered under the press release since it mentioned about loans outstanding as on March 1, 2020. However, based on the RBI circular it can be inferred that the Lending Institution may at its own discretion extend the benefit to such borrowers in case the loan instalments of such new loans are falling due between March 1, 2020 and May 31, 2020.
7. Is the moratorium on principal or interest or both?
The repayment schedule and all subsequent due dates, as also the tenor for loans may be shifted by three months (or the period of moratorium granted by the lending institution). Instalments will include payments falling due from March 1, 2020 to May 31, 2020 in the form of-
(i) principal and/or interest components;
(ii) bullet repayments;
(iii) Equated Monthly instalments;
(iv) credit card dues.
8. What shall be the moratorium period?
Lending Institutions may use their discretion to allow a moratorium of upto three months. It is not necessary to provide a compulsory moratorium of three months- it can be less than three months as well. Practically, we envisage that all lenders shall grant a moratorium to all borrowers across board for 3 months.
However, a moratorium beyond three months shall be considered as restructuring of loan.
9. Reading the language of the RBI Notification strictly, it says: “lending institutions” are permitted to grant a moratorium of three months on payment of all instalments1 falling due between March 1, 2020 and May 31, 2020. [Para 2]. The notification nowhere refers to the payments which had already fallen due before March 1. Therefore, will those payments continue to age during the moratorium period? For example, will something which is 30 DPD will become 120 DPD?
As per the contents of the letter dated March 31, 2020 written by RBI to IBA, any amount which was overdue on 29th Feb, 2020, there is no moratorium with respect to those amounts, and therefore, the existing IRAC norms will continue to apply. The RBI contends that there was no disruption in February, and therefore, one cannot bring disruption as the basis for not paying what had fallen due before March 1.
However, in our view, such an interpretation will be completely counter-intuitive. The whole intent behind the moratorium is the disruption in the system due to an externality. If the borrower had an instalment which was 30 days past due on 1st March, it cannot be contended that he will have difficulty in paying his current dues but will have no difficulty in paying what had already become due. But for the systemic disruption, it could well have been that the borrower would have cleared all his dues.
The meaning of the moratorium is that payments do not fall due during the period of the moratorium – whether current or past. Therefore, the moratorium period cannot result into ageing of the past dues. Of course, if the past dues are an overdue rate, the overdue rate may continue. But for the purpose of counting DPD, the moratorium period will have to be excluded.
Taking any other interpretation will frustrate the very purpose of the moratorium. By rules of appropriation, whatever the borrower pays between March 1 and May 31 would have first gone towards clearing his overdues. Hence, a moratorium on the current dues should apply to the existing dues as well.
We have also written to the RBI seeking a clarification on the same and we will continue to update our FAQs if there is any further update on this.
10. How will the moratorium impact the existing loan tenure?
In case a moratorium is granted, the RBI circular states that the repayment schedule for such loans as also the residual tenure, will be shifted across by three months after the moratorium period.
However, in certain cases of long tenure loans (say, home loans), the additional burden on the borrower due to the accrued interest (and interest on such interest) would cause the amount to swell so much that paying the accumulated interest in one go may not be feasible. This may require the lender to convert the accrued interest also into instalments. Converting such accrued interest into manageable instalments is the lender’s prudential call, and should not be taken as a case of restructuring, since the total tenure is going beyond 3 months over the original term.
11. Will the interest accrue during the moratorium period?
Yes, the moratorium is a ‘payment holiday’ however, the interest will definitely accrue. The accrual will not stop.
12. Will there be delayed payment charges for the missing instalments during the moratorium period?
Overdue interest is charged in case of default in payment. However, during the moratorium, the payment itself is contractually stopped. If there is no payment due, there is no question of a default. Therefore, there will be no overdue interest or delayed payment charges to be levied.
13. Which all loans shall be considered eligible for the relaxation?
All term loans outstanding as on March 1, 2020 are eligible to claim the relaxation. Also, there may be a deferment of interest in case of working capital facilities sanctioned in the form of cash credit/overdraft and outstanding as on March 1, 2020.
14. Is the moratorium applicable to the following:
(a) Personal loans
The moratorium is applicable to all term loans and working capital facilities (refer para 5 and 6 of the Statement on Developmental and Regulatory Policies). Therefore, the lender may extend the benefit of the moratorium or deferment of interest to lending facilities in the nature of term loans as well as revolving lines of credit, a.k.a. working capital facilities, as the case may be.
(b) Overdraft facilities
Overdraft facilities allow the account-holder to withdraw more money than what is held in the account. It is a kind of short-term loan facility, which the account-holder shall be required to repay within a specified period of time or at once, depending on the terms of arrangement with the bank. Thus, in case repayment is to be made within a specified tenure , the same qualifies to be term-loan and moratorium shall be applicable on EMIs of such overdraft facility.
(c) An unsecured personal loan extended by a lender through prepaid cards for making payments at partner merchant PoS
Such unsecured personal loans may be repayable in the form of EMIs or a bullet repayment. As discussed above, if repayment is made over a period of time, moratorium is applicable. In case of bullet repayments as well, moratorium may be granted.
(d) Invoice financing
Invoice financing can be of 2 types- (a) Factoring and (b) Asset-based invoice financing.
In case of factoring, the factor purchases the receivables of an entity and pays the amount of receivables reduced by a certain percentage (factoring fee) to the entity. Thereafter, the factor is responsible to recover the money from the debtor of such entity. There is no moratorium in case of commercial invoices.
Another device commonly used is invoice financing i.e. asset-based invoice financing, which allows a vendor to avail a credit facility against the security of receivables. Since the underlying here is the commercial receivable, for which there is no moratorium, the same is not covered by the moratorium as being discussed.
(e) Payday loans
Payday loans are unsecured personal credit facilities obtained by salaried individuals against their upcoming pay-cheques. The amount of such facilities is usually limited to a certain part of the borrower’s upcoming salary.
In case of such loans, the repayment term, though very short, is pre-determined and is payable from out of the salary of the individual. As there is no deferral of salary payments, we are of the view that there is no case of disruption here.
(f) Loan against turnover
These loans are extended by the lenders on the basis of expected turnover of a merchant, mostly on e-commerce websites. The intent is to finance the day-to-day business needs of the borrower in order to attain the expected turnover. Thus, such loans are essentially working capital loans. As already discussed, moratorium may be allowed on working capital loans.
(g) Long-term loans
These kinds of loans have a pre-specified term, which is usually greater than 3 years. Needless, to say, being term loans, moratorium shall be allowed on such loans. Such loans are usually secured and may cover the following kinds of loans:
- Housing loans
- Equipment finance loans
- Personal loans
- Two-wheeler loans
- Auto-finance loans
15. How will the moratorium be effective in case of working capital facilities?
The working capital facilities have been allowed a deferment of three months on payment of interest in respect of all such facilities outstanding as on March 1, 2020. The accumulated interest for the period will be paid after the expiry of the deferment period.
16. Is it possible for the Lender to not provide a moratorium?
Technically, certainly yes. However, borrowers may take advantage of the Ministry of Law circular that the COVID disruption is a case of “force majeure” and FMC does not result in a contractual breach. Hence, lenders will be virtually forced into granting the same.
17. Is the lending institution required to grant the moratorium to all categories of borrowers?
Since the grant of the moratorium is completely discretionary, the lending institution may grant different moratoriums to different classes of borrowers based on the degree of disruption on a particular category of borrowers. However, the grant of the moratorium to different classes of borrowers should be making an intelligible distinction, and should not be discriminatory.
18. Can the lender revise the interest rate while granting extension under the moratorium?
The intent of the moratorium is to ensure relaxation to the borrower due to the disruption caused. However, increase in interest rate is not a relief granted and hence should not be practised as such.
19. Can the moratorium period be different for different loans of the same type? For example, a lender grants a moratorium of 3 months for all loans which are 60-89 DPD, and a moratorium of 2 months for all loans which are 30 -59 DPD as on the effective date.
The moratorium is essentially granted to help the borrowers to tide over a liquidity crisis caused by the corona disruption. In the above example, the scheme seems to be to get over a potential NPA characterisation, which could not be the intent of the relaxation.
20. Will the grant of different moratorium periods be regarded as discrimination by the NBFC?
An NBFC may assess where the disruption is likely to adversely impact the repayment capacity of the borrower and take a call based on such assessment. For example in case of farm sector borrowers and daily wage earners, the disruption will be maximum. However, a salaried employee may not be facing any impact on their repayment capacity.
21. Can a borrower prevail upon a lending institution to grant the moratorium, in case the same has not been granted the lending institution?
The grant of the moratorium is a contractual matter between the lender and the borrower. There is no regulatory intervention in that contract.
22. Can the borrower pay in between the moratorium period?
It is a relief granted to the borrower due to disruption caused by the sudden lockdown. However, the option lies with the borrower to either repay the loan during this moratorium as per the actual due dates or avail the benefit of the moratorium.
23. Will such payment be considered as prepayment?
This will not be considered as prepayment and there will not be any prepayment penalty on the same.
24. Is the moratorium applicable to financial lease transactions?
Financial leases are akin to loan transactions and have rental payouts similar to EMIs in case of a term loan. Hence, lessors under a financial lease may confer the benefit of the moratorium under the RBI circular.
25. Is the moratorium applicable to operating lease transactions?
Operating leases are not considered as financial transactions and hence, they shall not be covered under the RBI circular for granting moratorium. However, lessors may, in their wisdom, grant the benefit of moratorium. Note that the NPA treatment in case of operating leases is not the same as in case of loans.
Refer to our various articles on leasing here.
26. A loan was in default already as on 1st March, 2020. The lender has various security interests – say a mortgage, or a pledge. Will the lender be precluded from exercising security interest during the holiday period?
The moratorium is only for what instalments/payments were due from 1st March 2020 upto the period of moratorium conferred by the lender (so, 31st May, in case of a 3 month moratorium). The same does not affect payment obligations that have already fallen due before 1st March. Hence, if there was a default, and there were remedies available to the lender as on 1st March already, the same will not be affected.
However, note that for using the powers under the SARFAESI Act, the facility has to be characterised as non-performing. Unless the facility was already a non-performing loan, the intervening holiday will defer the NPA categorisation. In that case, the use of SARFAESI powers will be deferred until NPA categorisation happens.
Modus operandi for giving effect to the moratorium
27. What are the actionables required to be taken by the lending institution to grant the moratorium?
The RBI Notification dated 27th March, 2020, para 8 mentions about a board-approved policy. Accordingly, the lending institution may put in place a policy. The Policy should provide maximum facility to the concerned authority centre in the hierarchy of decision-making so that everything does not become rigid. For instance, the extent of moratorium to be granted, the types of asset classes where the moratorium is to be granted, etc., may be left to the relevant asset managers.
Further, the instructions in the notification must be properly communicated to the staff to ensure its implementation.
You may refer to the list of actionables here.
28. The RBI has mentioned about a Board-approved policy. Obviously, under the present scenario, calling of any Board-meeting is not possible. Hence, how does one implement the moratorium?
Please refer to our article here as to how to use technology for calling board meetings.
29. In case the lender intends to extend a moratorium, will it require consent of the borrower and confirmation on the revised repayment schedule?
Based on the policy adopted by the lending institution, the moratorium may be extended to all borrowers or only those who approach the lender in this regard. However, the revised terms must be communicated to the borrower and the acceptance must be recorded.
An option may be provided to the borrower for opting the moratorium. In case the borrower fails to respond or remains silent, it may be considered as deemed confirmation on the moratorium. In case of acceptance by the borrower to opt for moratorium, including deemed acceptance, the revised terms shall be shared which should be accepted by the borrower- either electronically or such other means as per the respective lending practice. Further, the PDC or NACH should not be presented for encashment as per the existing terms.
However, in case the borrower has not opted for the moratorium by his action or otherwise has expressly denied the option, the PDC and NACH shall be encashed as per the existing terms and necessary action can be initiated by the lender in case of dishonour.
30. Is the lender required to obtain fresh PDCs and NACH debit mandates from the borrowers?
An option may be provided to the borrower for opting the moratorium. In case the borrower fails to respond or remains silent, it may be considered as deemed confirmation on the moratorium. In such a case the PDC or NACH should not be presented for encashment as per the existing terms.
However, in case the borrower has not opted for the moratorium by his action or otherwise has expressly denied the option, the PDC and NACH shall be encashed as per the existing terms and necessary action can be initiated by the lender in case of dishonour.
31. In case the payment has been made by a borrower for the installment due for the month of March 2020, does the lender need to refund the same?
The payments already received may not be considered for the purpose of passing the moratorium relaxation. The lenders have their discretion, but appropriately, these payments may either be regarded as payment of principal as on 1st March, 2020, duly discounted for the time lag between 1st March and the actual repayment date, or the payment already made by the borrower may just be excluded from the moratorium. For example, if the payments fell due on 7th March, and by 15th March, 80% of the payments have already been made, the same may just be excluded from the holiday, thereby granting holiday only for the payments due on 15th April and 15th May.
NPA classification and restructuring
32. What will be the impact on the NPA classification on the following loans:
- Standard as on March 1, 2020
- NPA as on March 1, 2020
- Showing signs of distress as on March 1, 2020
In case of standard loan, the moratorium period will not be considered for computing default and hence, it will not result in asset classification downgrade. Our views in this regard have been discussed elaborately above.
As per the FAQs issued by the MoF, it is clear that the benefit of moratorium is available to all such accounts, which are standard assets as on 1st March 2020. Hence, loans already classified as NPA shall continue with further asset classification deterioration during the moratorium period in case of non-payment.
If the account is showing signs of stress on March 1, 2020, it seems remains a stressed account on that date. The moratorium is simply to ameliorate the impact of the disruption. The disruption was not there on March 1, 2020 – hence, the status as on that date does not change due to the moratorium. If a loan was 30 DPD on 1st March, it will become a non-performing loan on 1st May.
33. Effectively, are we saying the grant of the moratorium is also a stoppage of NPA classification?
The RBI contends that there was no disruption in February, and therefore, one cannot bring disruption as the basis for not paying what had fallen due before March 1. The benefit of the moratorium is not applicable for the amounts which were already past due before March 01, 2020..
34. Is grant of moratorium a type of restructuring of loans?
The moratorium/deferment is being provided specifically to enable the borrowers to tide over the economic fallout from COVID-19. Hence, the same will not be treated as change in terms and conditions of loan agreements due to financial difficulty of the borrowers.
35. What will be the impact on the loan tenure and the EMI due to the moratorium?
Effectively, it would amount to extension of tenure. For example, if a term loan was granted for a period of 36 months on 1st Jan 2020, and the lender grants a 3 months’ moratorium, the tenure effectively stands extended by 3 months – so it becomes 39 months how.
Since there is an accrual of interest during the period of moratorium, the lender will have to either increase the EMIs (that means, recompute the EMI on the accreted amount of outstanding principal for the remaining number of months), or change the last EMI so as to compensate for the accrual of interest during the period of the moratorium. Since changing of EMIs have practical difficulties (PDCs, standing instructions, etc.), it seems that the latter approach will be mostly used.
36. How will the deferment of interest in the case of working capital facilities impact the asset classification?
Recalculating the drawing power by reducing margins and/or by reassessing the working capital cycle for the borrowers will not result in asset classification downgrade.
The asset classification of term loans which are granted relief shall be determined on the basis of revised due dates and the revised repayment schedule.
37. Will the delayed payment by the borrower due to the moratorium have an impact on its CIBIL score?
The moratorium on term loans, the deferring of interest payments on working capital and the easing of working capital financing will not qualify as a default for the purposes of supervisory reporting and reporting to credit information companies (CICs) by the lending institutions. Hence, there will be no adverse impact on the credit history of the beneficiaries.
Impact of the Moratorium on accounting under IndAS 109
38. Where there are no repayments during the moratorium period, is it proper to say that the loan will be taken to have “defaulted” or there will be credit deterioration, for the purposes of ECL computation?
The provisions of para 5.5.12 of the IndAS 109 are quite clear on this. If there has been a modification of the contractual terms of a loan, then, in order to see whether there has been a significant increase in credit risk, the entity shall compare the credit risk before the modification, and the credit risk after the modification. Sure enough, the restructuring under the disruption scenario is not indicative of any increase in the probability of default.
39. There are presumptions in para B 5.5.19 and 20 about “past due” leading to rebuttable presumption about credit deterioration. What impact does the moratorium have on the same?
The very meaning of “past due” is something which is not paid when due. The moratorium amends the payment schedule. What is not due cannot be past due.
40. Will the effective interest rate (EIR) for the loan be recomputed on account of the modification of tenure?
The whole idea of the modification is to compute the interest for the deferment of EMIs due to moratorium, and to compensate the lender fully for the same. The IRR for the loan after restructuring should, in principle, be the same as that before restructuring. Hence, there should be no impact on the EIR.
41. What will be the impact of the moratorium for accounting for income during the holiday period?
As the EIR remains constant, there will be recognition of income for the entire Holiday period. For example, for the month of March, 2020, interest will be accrued. The carrying value of the asset (POS) will stand increased to the extent of such interest recognised. In essence, the P/L will not be impacted.
42. If the moratorium is a case of “modification of the financial asset”, is there a case for computing modification gain/loss?
As the EIR remains constant, the question of any modification gain or loss does not arise.
43. Does the “modification of the financial asset”call for impairment testing?
The contractual modification is not the result of a credit event. Hence, the question of any impairment for this reason does not arise.
Impact in case of securitisation transactions
44. There may be securitisation transactions where there are investors who have acquired the PTCs. The servicing is with the originator. Can the originator, as the servicer, grant the benefit of the moratorium? Any consent/concurrence of the trustees will be required? PTC holders’ sanction is required?
Servicer is simply a servicer – that is, someone who enforces the terms of the existing contracts, collects cashflows and remits the same to the investors. Servicer does not have any right to confer any relaxation of terms to the borrowers or restructure the facility.
While the moratorium may not amount to restructuring but there is certainly an active grant of a discretionary benefit to the borrowers. In our view, the servicer by himself does not have that right. The right may be exercised only with appropriate sanction as provided in the deed of assignment/trust deed – either the consent of the trustees, or investor’ consent.
45. Irrespective of whether the moratorium is granted with the requisite consent or not, there may be some missing instalments or substantial shortfall in collections in the months of April, May and June. Is the trustee bound to use the credit enhancements (excess spread, over-collateralisation, cash collateral or subordination) to recover these amounts?
As we have mentioned above, the grant of the moratorium by the servicer will have to require investor concurrence or trustee consent (if the trustee is so empowered under the trust deed/servicing agreement). Assuming that the investors have given the requisite consent (say, with 75% consent), the investors’ consent may also contain a clause that during the period of the moratorium, the investors’ payouts will be deemed “paid-in-kind” or reinvested, such that the expected payments for the remaining months are commensurately increased.
This will be a fair solution. Technically, one may argue that the credit enhancements may be exploited to meet the deficiency in the payments, but utilisation of credit enhancements will only reduce the size of the support, and may cause the rating of the transaction to suffer. Therefore, investors’ consent may be the right solution.
Impact in case of direct assignment transactions
46. There may be direct assignment transactions where there is an assignee with 90% share, and the assignor has a 10% retained interest. Can the assignor/originator, also having the servicer role, grant the benefit of the moratorium? Any consent/concurrence of the assignee will be required?
In our view, the 10% retained interest holder cannot grant the benefit without the concurrence of the 90% interest holder.
47. What will be the impact of the moratorium on the assignee?
Once again, as in case of securitisation transactions, if the grant of the moratorium takes place with assignee consent, the assignee may agree to give the benefit to the borrowers. In that case, the assignee does not have to treat the loans as NPAs merely because of non-payment during the period of the moratorium.
Impact in case of co-lending transactions
48. In case of a co-lending arrangement, can the co-lenders grant differential benefit of the moratorium?
Since the grant of moratorium is discretionary, the co-lenders may intend to grant different moratorium periods to the same borrower. However, that could lead to several complications with respect to servicing, asset classification etc. Hence, it is recommended that all the parties to the co-lending arrangement should be in sync.
Our other write-ups relating to covid-19 disruption can be read here- http://vinodkothari.com/covid-19-incorporated-responses/
Other write-ups on NBFCs can be read here- http://vinodkothari.com/nbfcs/