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Factoring Law Amendments backed by Standing Committee

-Megha Mittal 

[finserv@vinodkothari.com]

In the backdrop of the expanding transaction volumes, and with a view to address the still prevalent delays in payments to sellers, especially MSMEs, the Factoring Regulation (Amendment) Bill, 2020 (‘Amendment Bill’) was introduced in September, 2020, so as to create a broader and deeper liquid market for trade receivables.

The proposed amendments have been reviewed and endorsed by the Standing Committee of Finance chaired by Shri. Jayant Sinha, along with some key recommendations and suggestions to meet the objectives as stated above.  In this article, we discuss the observations and recommendations of the Standing Committee Report  in light of the Amendment Bill.

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ECLGS 2.0- Another push for businesses

-Kanakprabha Jethani (kanak@vinodkothari.com)

Background

The Government of India had, in response to the crisis caused by the COVID-19 pandemic, announced an Emergency Credit Line Guarantee Scheme (ECLGS). Under the scheme, the Government undertook to guarantee additional facilities provided by Lending Institutions (LIs) to their existing borrowers[1]. These facilities were limited to business loans only.

On November 12, 2020, the Finance Minister (FM), in a press conference, extended the last date granting loans under ECLGS 1.0 from November 30, 2020 to June 30, 2020. Further, the FM also announced introduction of ECLGS 2.0. On November 26, 2020, ECLGS 2.0 was introduced and the existing operational guidelines[2] and FAQs on the scheme[3] were revised. The below write-up discusses the major features of ECLGS 2.0 and changes in the existing ECLGS (referred to as ECLGS 1.0).

Opt-in Vs. Opt-out

While ECLGS 1.0 is essentially an opt-out facility, i.e. the lenders are required to offer a pre-approved additional facility to all the existing eligible borrowers and provide them an option to opt-out (not avail the funding). Under ECLGS 1.0, it is the responsibility of the LIs to determine the eligibility of the borrowers and offer loans.

On the contrary, the ECLGS 2.0 is an opt-in facility i.e. only those eligible borrowers, who intend to avail the funding and make an application for the same, will receive the additional facility. Here, the LIs would check the eligibility of the borrower upon receipt of application from the borrower for such funding. Hence, the responsibility of the lender to offer has now been changed to the responsibility of the borrower to apply.

Difference between ECLGS 1.0 and ECLGS 2.0

Particulars ECLGS 1.0 ECLGS 2.0
Eligibility of the borrower ·         Credit outstanding (fund based only) across all lending institutions- up to Rs.50 crore

·         Days Past

·         Due (DPD) as on February 29, 2020 – up to 60 days or the borrower’s account should not have been classified as SMA 2 or NPA by any of the lender as on 29th February, 2020

·         Borrower should be engaged in any of the 26 sectors identified by the Kamath Committee on Resolution Framework vide its report[4] and the Healthcare sector

·         Total credit outstanding (fund based only) across all lending institutions- above Rs.50 crores and not exceeding Rs.500 crore

·         DPD as on February 29, 2020 -up to 30 days respectively or the borrower’s account should not have not been classified as SMA 1, SMA 2 or NPA by any of the lender as on 29th February 2020

Nature of Facility Pre- approved additional funding with 100% guarantee coverage from the NCGTC Non-fund based (in case of banks and FIs-other than NBFCs)/fund-based/mix of fund-based and non-fund based additional facility- with 100% guarantee coverage
Amount 20% of the total credit outstanding of the borrower up to Rs. 50 crores 20% of the total credit outstanding of the borrower up to Rs. 500 crores
Tenure 4 years from the date of disbursement 5 years from the date of first disbursement of fund based facility or first date of utilization of non-fund based facility, whichever is earlier

Other changes

Along with introduction of ECLGS 2.0, a few changes have been introduced in ECLGS 1.0 as well. The major changes are as follows:

  • Extension of last date of disbursing loans from November 30, 2020 to June 30, 2021;
  • Extension of the last date for sanctioning loans to March 31, 2021;
  • The limit on turnover, under the eligibility criteria has been removed;
  • The requirement of creating a second charge on the existing security has been waived-off in case of loans up to Rs. 25 lakhs.

Conclusion

With intent to provide relief and to give a push to the real sector, the government has been introducing various benefits and facilities; ECLGS being one of them. The date of the scheme has been extended to further provide benefit to the business. In this line, ECLGS 2.0 has also been introduced, with stricter eligibility criteria (to ensure lower risk) and higher loan sizes.

[1] Refer our detailed FAQs on the scheme here- http://vinodkothari.com/2020/05/guaranteed-emergency-line-of-credit-understanding-and-faqs/

[2] https://www.eclgs.com/documents/ECLGS%20-Operational%20Guidelines%20-%20Updated%20as%20on%2026.11.2020.pdf

[3] https://www.eclgs.com/documents/FAQs-ECLGS%20-Updated%20as%20on%2026.11.2020.pdf

[4] https://www.rbi.org.in/Scripts/PublicationReportDetails.aspx?UrlPage=&ID=1157

 

Our related write-ups:

 

 

Modes of Restructuring of Stressed Accounts

Our detailed write-ups on these frameworks may be referred here:

 

The new PSL Master Direction and its Impact on NBFCs

-Siddharth Goel (finserv@vinodkothari.com)

Introduction

The Reserve Bank of India (RBI) issued Master Directions-Priority Sector Lending (PSL) Targets and Classification on September 4, 2020 (‘Master Directions’).[1] The Master Directions consolidates various circulars and guidelines issued by RBI with respect to PSL.

The changes made in the Master Directions primarily deal with targets and sub-targets for classification of loans as priority sector loans. Further there are some addition of new sectors in Eligible categories, along with increase in lending limit of some of the existing eligible categories for priority sector lending.

Our detailed write-up on the topic can be viewed here.

Changes in priority sector norms do not have a direct impact on the NBFCs, but they have an indirect impact. Banks are allowed to acquire loans under Direct Assignment arrangements or invest in pass through certificates backed by loans which qualify the definition of PSL, in order to meet the prescribed targets. Mostly, the banks acquire these receivables from NBFCs who does the origination of the loans. Additionally, banks also engage in co-lending arrangements with NBFCs to originate PSLs. Therefore, it is worthwhile to examine the impact of these changes on NBFCs.

Co-origination of loans by Banks for lending to Priority Sector

RBI through its vide notification RBI/2018-19/49 dated September 21, 2018 issued guidelines on Co-origination of loans by Commercial Banks and NBFC-ND-SI (“Co-origination Guidelines”).[2] These guidelines excluded Regional Rural Banks (RRBs) and Small Finance Banks (SFBs). Essentially, the banks could claim priority sector status in respect of its share of credit while engaging in the co-origination arrangement with NBFC under the Co-origination Guidelines. Provided, the priority sector assets on the bank’s books should at all times be without recourse to the NBFC.

It is pertinent to note that the PSL Master Directions under its para 25 covers Co-origination of loans by Banks and NBFC-ND-SI. The Master Direction specifically excludes, RRBs SFBs and Urban Co-Operative Banks (UCBs) and Local Area Banks (LABs) under the above para. Moreover, the Master Directions under the said para, specifically stipulates that detailed guidelines in this regard are to be governed as provided under Co-origination Guidelines dated September 21, 2018. Hence there are no changes intended to be introduced vis-a-vis Master Direction, to the co-origination of loans by banks and NBFCs.

PSL- Lending by Banks to NBFCs for On-Lending

In the earlier regime, after the review of Priority sector lending by banks to NBFC for On-Lending notification dated August 13, 2019[3], RBI through its notification dated March 23, 2020,[4] extend the priority sector classification for bank loans to NBFCs for on-lending for the FY 2020-21. Further, existing loans disbursed under the on-lending model continued to be classified under Priority Sector till the date of repayment/maturity. The extension notification also stipulated an overall capping limit for calculating bank’s total priority sector lending as produced herein below;

“3. Bank credit to registered NBFCs (other than MFIs) and HFCs for on-lending will be allowed up to an overall limit of five percent of individual bank’s total priority sector lending. Further, banks shall compute the eligible portfolio under on-lending mechanism by averaging across four quarters, to determine adherence to the prescribed cap.”

Para 22 of the Master Directions governs Bank loans to registered NBFCs (other than MFIs). It is highlighted that there is no change in sub-category for On-lending by NBFC, and limits also remain unchanged. The above para in the Master Direction, clearly stipulates that on-lending will be eligible for classification as priority sector under respective categories which is subject to the following conditions:

(i) Agriculture: On-lending by NBFCs for ‘Term lending’ component under Agriculture will be allowed up to ₹ 10 lakh per borrower.

(ii) Micro & Small enterprises: On-lending by NBFC will be allowed up to ₹ 20 lakh per borrower.

The above dispensation is valid up to March 31, 2021 and will be reviewed thereafter. However, loans disbursed under the on-lending model will continue to be classified under Priority Sector till the date of repayment/maturity. Caping of overall limit of Bank Credit to 5 percent has been prescribed under para 24 of the Master Directions.

Investments by Banks in Securitised Assets & Direct Assignment

Investments by banks in securitised assets or assignment/outright purchase of a pool of assets, representing loans by banks and financial institutions to various categories of priority sector, except ‘others’ category, are eligible for classification under respective categories of priority sector depending on the underlying assets. However, earlier the requirement was that the interest rate charged to the ultimate borrower in securitised assets and in case of transfer of assets through direct assignment, shall be capped at Base Rate of the investing bank plus 8 percent per annum.

Therefore, investments by banks, in securitised assets and purchase of assets originated by NBFCs in eligible sectors had to comply with above capping in order to qualify as eligible for PSL. To encourage MSME lending in smaller areas where cost of intermediation is high for the smaller NBFCs, the UK Sinha committee in its report has proposed the cap at Base Rate of the investing bank plus 12% per annum initially and periodical review thereafter. The intent of the recommendation stood on the grounds that price caps are not applicable to banks when they originate directly through branches.

Accordingly, such capping limit has been relaxed and as per the as per the revised requirement the all-inclusive interest charged to the ultimate borrower by the originating entity should not exceed the External Benchmark Lending Rate (EBLR)/ MCLR of the investing bank plus appropriate spread which will be communicated separately. It is expected that the RBI shall be separately communicating the limits to the banks.

The aforesaid relaxation in the interest rate capping would widen the eligibility of loans originated by the NBFCs for securitisation and direct assignment to banks, for meeting the PSL requirement.

Adjustments for weights in PSL Achievement

To address the regional disparities in flow of credit at the district level, currently districts have been ranked on the basis of per capita credit flow. Higher weight (125%) is assigned to the incremental priority sector credit in districts with low per capita credit flow. Similarly, lower weight (90%) has been assigned to incremental PSL in districts with comparatively higher credit flow. The higher PSL credit (125 %) districts are specified in ANNEX-I A and districts with comparatively low PSL credit (90%) are specified in ANNEX-IB of the Master direction. Districts not mentioned in either of the Annex will be having weightage of 100%. PSL incremental credit shall be applicable from F.Y. 2021-2022 onwards.

Thus, for the purpose of above incentives, banks will get incremental PSL credit, if they invest as following:

  • Investment in securitsed assets/direct assignment/outright purchase, of loans originated by NBFCs from high priority districts. The entire investment in PTCs made by the banks, the proportion which is represented by those as priority districts will be weighted at 125% and low priority districts at 90% and others at 100%.
  • On-lending by Banks to NBFCs, wherein NBFCs are further lending in districts with high priority.
  • Incremental credit incentive will be available to Banks, on proportion of their share of loans, to district with high priority under Co-Origination model.

Impact of new Master Directions on NBFCs

The new Master Direction does not seem to impact legal relationship between banks and NBFCs in respect to co-origination of loans and co-lending materially, since all the regulations are similar to the earlier PSL regime. However, the incentives introduced by way of incremental PSL credit to Banks will channel the credit to districts with low credit penetration. Therefore, banks will be benefitted by dealing with NBFCs having portfolio of loans (eligible for PSL) and presence in districts with lower credit penetration.

Further, change in capping, of investments by Banks in securitised assets and direct assignment/ outright purchase of loans, originated by NBFCs is intended to cover loans originated with higher spreads. Further lending to new sub sectors introduced through Master Direction, would also qualify towards PSL target investments by Banks.

The indicative list of new sub-sectors and sub-sectors with enhanced credit limit is reproduced herein below for ready reference.

Agriculture Lending Including Farm Credit (Allied Activities), lending for Agriculture Infrastructure and Ancillary Activities. ·        Inclusion of loans to farmers for installation of stand-alone Solar Agriculture Pumps and for solarisation of grid connected Agriculture Pumps.

·        Inclusion of loans to farmers for installation of solar power plants on barren/fallow land or in stilt fashion on agriculture land owned by farmer

·        Inclusion of loans up to ₹50 crore to Start-ups, as per definition of Ministry of Commerce and Industry, Govt. of India that are engaged in agriculture and allied services.

·        Inclusion of loans up to ₹2 lakh to individuals solely engaged in Allied activities without any accompanying land holding criteria. This change is in line with recommendation by M.K. Jain Committee7.

·        Inclusion of loans for construction of oil extraction/ processing units for production of bio-fuels, their storage and distribution infrastructure along with loans to entrepreneurs for setting up Compressed Bio Gas (CBG) plants.

·        Laying of Indicative list conveying permissible activities under Food Processing Sector as recommended by Ministry of Food Processing Industries.

·        A credit limit of ₹5 crore per borrowing entity has been specified for Farmers Producers Organisations (FPOs)/Farmers Producers Companies (FPCs) undertaking farming with assured marketing of their produce at a pre-determined price. This inclusion is as per the M.K Jain Committee Recommendations8.

 

Other Finance to MSMEs In line with the series of benefits being extended to MSMEs, loans up to ₹50 crore to Start-ups, as per definition of Ministry of Commerce and Industry, Govt. of India that confirm to the definition of MSME has been included under the PSL catergory. (On the basis of recommendations by UK Sinha Committee, to financially incentivise the startups in India)

 

 

Housing Loans

 

·        Increase in Loans up to ₹ 10 lakh (earlier ₹ 5 lakh) in metropolitan centres and up to ₹6 lakh (earlier 2 ₹ Lakh) in other centres for repairs to damaged dwelling units.

·        Bank loans to governmental agency for construction of dwelling units or for slum clearance and rehabilitation of slum dwellers subject to dwelling units with carpet area of not more than 60 square meters. Under the earlier regime, it was based on cost of dwelling unit which was ₹ 10 lakh per unit.

·        Inclusion of bank loans for affordable housing projects using at least 50% of FAR/FSI (Floor Area Ratio/ Floor Space Index) for dwelling units with carpet area of not more than 60 sq.m.

 

Social Infrastructure

 

Inclusion of loans up to a limit of ₹ 10 crore per borrower for building health care facilities including under ‘Ayushman Bharat’ in Tier II to Tier VI centres. This is in addition to the existing limit of ₹5 crore per borrower for setting up schools, drinking water facilities and sanitation facilities including construction/ refurbishment of household toilets and water improvements at household level, etc.

 

Renewable Energy Increase in loan limit to ₹ 30 Crore for purposes like solar based power generators, biomass-based power generators, wind mills, micro-hydel plants and for non-conventional energy based public utilities etc. This is to boost renewable energy sector, the earlier limit was up to ₹ 15 Crore.

 

 

[1]https://rbidocs.rbi.org.in/rdocs/notification/PDFs/MDPSL803EE903174E4C85AFA14C335A5B0909.PDF

[2] https://rbidocs.rbi.org.in/rdocs/notification/PDFs/NT49BAA4688D36A64EAF8DB0BFD99C6FC54C.PDF

[3] https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=11659&Mode=0

[4] https://www.rbi.org.in/scripts/FS_Notification.aspx?Id=11828&fn=2754&Mode=0

 

Our related write-ups

 

 

Additional relief from COVID-19 disruptions

Based on the recommendations of the Monetary Policy Committee

-Financial Services Division (finserv@vinodkothari.com)

Extension of the restructuring norms for MSME debt

The RBI via a notification on 1st January 2019[1] had allowed NBFCs and banks to restructure their advances to MSMEs, classified as ‘standard’, without any asset classification downgrade and the same was extended further on 11th February 2020.[2]

Through the notification dated August 6, 2020[3], the RBI has again extended the timeline for restructuring till March 31, 2021.

Further, the notification dated August 6, 2020 provides that the accounts which may have slipped into NPA category between March 2, 2020 and date of implementation i.e. from August 6, 2020 to March 31, 2021, may be upgraded as ‘standard asset’, as on the date of implementation of the restructuring plan.

For accounts restructured under these guidelines, the lenders are required to maintain an additional provision of 5% over and above the provision already held by them with respect to standard assets. Though, the extension notification does not specifically provide such provisioning requirements for NBFCs, however, reading in consonance with the January 2019 notification, it can be said that the requirement is for both banks and NBFCs.

The extension of relaxation would chiefly benefit the MSME borrowers who are having sound businesses as well as repayment capabilities however, are unable to meet their obligations post 1st March 2020, due to widespread disruption caused by the pandemic. The move would ensure that MSMEs that are having a viable business standing are not hit by negative classification just because of short term volatilities.

Advances against Gold Ornaments and Jewellery

The existing RBI guidelines[4] require that for the loan granted by banks against the security of gold jewelry i.e. gold loans a Loan-to-Value (LTV) Ratio of maximum upto 75% has to be maintained. Through notification dated August 6, 2020[5], LTV requirement has been relaxed temporarily. Accordingly, banks may now lend up to 90% of the amount of gold jewellery pledged until March 31, 2021.

Banks may, while sanctioning new loans, grant relatively more amount of loan. Further, using the advantage of extended LTV, banks may also consider providing top-up loans to the existing borrowers, on existing security of gold jewellery.

After March 31, 2021, the LTV requirement shall be restored back to 75%. While the notification mentions that fresh loans granted after such date shall have an LTV of 75%, it is silent about the treatment of existing loans. Clarification in this regard is expected from the RBI.

In the absence of any clarification, the loans given before March 31, 2021 shall also be bound by the LTV of 75% after such date. Accordingly, the banks should either structure the loan in such a manner that the LTV comes down to 75% after receiving repayments up to March 31, 2021 or the banks may have to call back a certain portion of loan so as to meet the LTV requirement after such date.

It may also be noted that despite the high amount of market penetration of NBFCs in gold loan sector[6], no such relaxation has been provided to NBFCs.

Priority Sector Lending by Banks

The RBI has revised the existing guidelines on priority sector lending (PSL) by banks[7]. While the detailed PSL guidelines are yet to be released, following are a few major changes that will be introduced:

  • Start-ups would be a new sector to come under the ambit of priority sectors
  • The limits for renewable energy, including solar power and compressed bio-gas plants, small and marginal farmers and weaker sections are proposed to be increased.
  • An incentive-based system shall be introduced, which shall address the regional disparities in the flow of priority sector credit. Under this system, higher weight will be assigned for incremental priority sector credit in the identified districts where credit flow is comparatively lower and vice versa.

 

[1] https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=11445&Mode=0

[2] https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=11808&Mode=0

[3] https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=11942&Mode=0

[4] https://www.rbi.org.in/Scripts/BS_CircularIndexDisplay.aspx?Id=9124 and https://www.rbi.org.in/scripts/NotificationUser.aspx?Id=8701&Mode=0

[5] https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=11944&Mode=0

[6] https://assets.kpmg/content/dam/kpmg/in/pdf/2020/01/return-of-gold-financiers-in-organised-lending-market.pdf

[7] https://m.rbi.org.in/Scripts/BS_ViewMasDirections.aspx?id=10497

Resolution Framework for Covid-19-related stress

Other related write-ups:

 

 

Special Liquidity Scheme – providing short term liquidity relief for NBFCs

Timothy Lopes | Senior Executive

Vinod Kothari Consultants

finserv@vinodkothari.com

In light of the disruption caused by the pandemic, the Government of India announced a Rs. 20 lakh crores economic stimulus package. The first of the several reforms were announced on 13th May, 2020 which announced the Emergency Credit Line, the partial credit guarantee scheme 2.0 (PCG 2.0), TLTRO 2.0 and much more.

The PCG 2.0 scheme permitted banks to purchase CPs and bonds issued by NBFCs/MFIs/HFCs. These purchases were then guaranteed by the Government of India up to 20% of the first loss. For more details of the scheme see our write up here.

The announcement also proposed launching a Rs. 30,000 crores “Special Liquidity Scheme” for NBFCs/HFCs including MFIs. The Cabinet approved this scheme on 20th May, 2020[1].

On 1st July, 2020, RBI has released the details of the Special Liquidity Scheme[2]. The scheme is intended to avoid potential systemic risk to the financial sector. The scheme seems to be a short term relief for NBFCs acting as a bail-out package for near term maturity debt instruments. The scheme is intended to supplement the existing measures already introduced by the Government.

The scheme will provide liquidity to eligible NBFCs defined in the notification which is similar to the eligibility criteria specified under the PCG 2.0 scheme. The Government will implement the scheme through SBICAP which is a subsidiary of SBI. SBICAP has set up a SPV called SLS Trust to manage the operations. More details about the trust can be found on the website of SBICAP[3].

Under the scheme, the SPV will purchase the short-term papers from eligible NBFCs/HFCs.  RBI will provide liquidity to the Trust depending on actual purchases by the Trust. The utilisation of proceeds from the scheme will be only towards the sole purpose of extinguishing existing liabilities.

Eligible instruments

Instruments eligible for the scheme are relatively short term. The scheme specifies that CPs and NCDs with a residual maturity of not more than three months (90 days) and rated as investment grade will be eligible instruments. These dates, however, may be extended by Government of India. The SPV would invest in securities either from the primary market or secondary market subject to the conditions mentioned in the Scheme.

The actual investment decisions will be taken by the Investment Committee of the SPV.

Validity of the Scheme

The scheme is available only up to 30th September, 2020 as the SPV will cease to make purchases thereafter and would recover all the dues by 31st December, 2021 or any other date subsequently modified.

Investment by the SPV

The SPV set up under the scheme comprises of an investment committee. The investment committee will decide the amount to be invested in a particular NBFC/HFC. The FAQs available on the website of SBICAPs specifies that the Trust shall invest not more than Rs. 2000 crores on any one NBFC/HFC subject to them meeting conditions specified in the scheme. The Trust may have allocation up to 30% to NBFCs/HFCs with asset size of Rs. 1000 crores or less.

Rate of Return and collateral

Rate of Return (RoR) and other specifics under the scheme will likely be based on mutual negotiation between the NBFCs and the trust. According to the FAQs, the yield on securities invested by SPV shall be decided by the Investment Committee subject to the provisions of the scheme.

The Trust may also require an appropriate level of collateral from the NBFCs/ HFCs as specified under the FAQs.

Conclusion

The scheme is a welcome move likely to provide sufficient liquidity to the NBFC sector for the near term and act as a bail-out package for their short term liabilities.

The press release dated 20th May, 2020, approving the Special Liquidity Scheme states that “Unlike the Partial Credit Guarantee Scheme which involves multiple bilateral deals between various public sector banks and NBFCs, requires NBFCs to liquidate their current asset portfolio and involves flow of funds from public sector banks, the proposed scheme would be a one-stop arrangement between the SPV and the NBFCs without having to liquidate their current asset portfolio. The scheme would also act as an enabler for the NBFC to get investment grade or better rating for bonds issued. The scheme is likely to be easier to operate and also augment the flow of funds from the non-bank sector.”

Our related write ups may be viewed below –

http://vinodkothari.com/2020/05/pcg-scheme-2-0-for-nbfc-pooled-assets-bonds-and-commercial-paper/

http://vinodkothari.com/2020/05/guaranteed-emergency-line-of-credit-understanding-and-faqs/

http://vinodkothari.com/2020/05/self-dependent-india-measures-concerning-the-financial-sector/

http://vinodkothari.com/2020/04/would-the-doses-of-tltro-really-nurse-the-financial-sector/

[1] https://pib.gov.in/PressReleasePage.aspx?PRID=1625310

[2] https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=11925&Mode=0

[3] https://www.sbicaps.com/index.php/sls-trust/