Presentation on changes in NPA-SMA Recognition

Our Article explaining changes in NPA-SMA classification can be read here: https://vinodkothari.com/2021/11/npa-classification-norms-2/

 

NPA classification norms significantly tightened

Daily NPA determination, full payment to move back to standard among several measures

– Anita Baid, anita@vinodkothari.com

RBI has issued a notification on Prudential norms on Income Recognition, Asset Classification and Provisioning pertaining to Advances – Clarifications (‘RBI Circular’). The said RBI Circular dated November 12, 2021 is depicted to be a clarification issued by the RBI on the applicable prudential norms for all lending institutions. However, the same would have a major impact on the NPA classification by banks and NBFCs, specifically. The intention of the RBI is to clarify and harmonise certain aspects of the extant regulatory guidelines, making it applicable mutatis mutandis to all lending institutions

We are organising a Workshop to discuss the intricacies and impact of the RBI Circular on Saturday, November 20, 2021 at 11:30am. The participation is on an invite basis only. Kindly register your interest here

The major clarifications are applicable on the lenders with immediate effect and hence, it becomes important to understand the changes and its impact.

Highlights of the clarifications:

  1. Specification of exact due dates for repayment of a loan, frequency of repayment, breakup between principal and interest, examples of SMA/NPA classification dates, etc. in the loan agreement-  to be complied with by December 31, 2021 for new loans, and at the time of renewal/review for existing loans;
  2. The timelines for SMA categorisation has been modified to ensure that the same is continuous. Earlier the overdue timeline for SMA 0, SMA 1 and SMA 2 was 1-30, 31-60 and 61-90 days respective. Now the same shall be upto 30, more than 30 upto 60 and more than 60 upto 90 days–  applicable immediately;
  3. Classification of borrower accounts as SMA as well as NPA shall be done as part of the day-end process for the relevant date and the SMA or NPA classification date shall be the calendar date for which the day end process is run. The said SMA classification of borrower accounts are applicable to all loans (except agri advances), including retail loans, irrespective of size of exposure of the lending institution-  applicable immediately;
  4. Term loan accounts will be classified as NPA if the interest applied at specified rests remains overdue for more than 90 days, this is an amendment to IRACP norms applicable to banks for classification of NPA and there is no change for NBFCs since they have already been classifying such accounts as NPA in case the instalment is overdue for a period of 3 months or more or on which interest amount remained overdue for a period of 3 months or moreapplicable for loan accounts becoming overdue on or after March 31, 2022;
  5. Loan accounts classified as NPAs may be upgraded as ‘standard’ assets only if entire arrears of interest and principal are paid by the borrower- applicable immediately;
  6. In cases of loans where moratorium has been granted for repayment of interest, lending institutions may recognize interest income on accrual basis for accounts which continue to be classified as ‘standard’- applicable immediately;
  7. If loans with moratorium on payment of interest (permitted at the time of sanction of the loan) become NPA after the moratorium period is over, the capitalized interest corresponding to the interest accrued during such moratorium period need not be reversed- applicable immediately;
  8. Lending institutions shall place consumer education literature on their websites, explaining with examples, the concepts of date of overdue, SMA and NPA classification and upgradation, with specific reference to day-end process- to be complied with by March 31, 2022.

NPA Classification and Reporting

Before getting into the exact contents of the RBI Circular, let us first understand the existing process of NPA classification and provisioning.

For banks and NBFCs[1], loan account is classified as an NPA if the interest or principal remains overdue for a period 90 days or three months and above. Standard Asset means an asset in respect of which, no default in repayment of principal or payment of interest is perceived and which does not disclose any problem or carry more than normal risk attached to the business. The usual practice among the NBFCs has been that once an asset is classified as NPA, it will move back to ‘Standard’ category if the DPD (days past due) count comes below 90 days. Now the reporting of NPA is done at the month or quarter end and hence, the fluctuations during the particular month or quarter is not considered. It is only based on the position of the loan account as on the reporting date, the classification is done.

However, the RBI has now clarified that borrower accounts shall be flagged as overdue by the lending institutions as part of their day-end processes for the due date, irrespective of the time of running such processes. Further, the classification of borrower accounts as SMA or NPA shall also be done as part of the day-end process for the relevant date. In other words, the SMA or NPA classification date shall be the calendar date for which the day end process is run.

It is important to note that the RBI Circular states that NPA classification shall be based on the account being overdue for more than 90 days which at present is considered as 90 days and above. However, the implications of day count run would outweigh the 1 day relaxation in NPA classification.

 

Let us understand taking November 15, 2021 as the due date –

DPD Status as on 15th November Classification as on the day end Classification as on the Reporting Date, i.e. 30th November
1-30 days SMA 0 To be reported as per the day end process

 

Upgraded to Standard only if the entire outstanding is repaid

31-60 days SMA 1
61- 90 days SMA 2
More than 90 days NPA

DPD status and NPA classification will no longer be correlated. An account classified as NPA would continue as the same even if one or two installments have been paid. Hence, even at a DPD of less than 90 days, the account still would be classified as NPA. Further, the provisioning will also be done accordingly- depending on the classification as on the date of the creating such provision.

There may also be an impact on the P/L of the lender. Since, once the account turns NPA, the income recognition is on a cash basis under RBI norms. This will continue until the entire dues are repaid by the customer. Hence, the delay in upgradation would eventually keep the income recognition on a cash basis.

Counting of DPD based on Due Date

It must be noted that the counting is not based on three repayment installments falling due, instead the oldest of the payment due date shall be considered and the number of days falling due shall be counted to classify the loan account as NPA. In this regard, in case the due date and billing date are different, the former would be considered for the purpose of calculating the DPD. The same-day default classification would increase the operational burden on the lenders, since they would be required to monitor the payment and resultant classification on a daily basis.

Receipt of Payment Instrument

There could be a situation wherein the payments instrument (cheque) has been collected from the borrower but the same is pending for clearance or has not been deposited in the bank- in such a case, the question would be whether the classification be done on the basis of receipt of the payment instrument or the actual collection in the bank account. It would be unfair to degrade the classification of the borrower if the payment instrument has been submitted by the borrower, however, treating the acceptance as clearance could be a practice that the lender may misuse. Hence, it is prudent to treat only the actual collection of repayment as sufficient discharge of payment obligation by the borrower.

Applicability for different categories of NBFCs

The intent of the RBI Circular is to bring the classification norms of NBFCs at par with banks. However, there are certain categories of NBFCs that in the first place are either not covered under certain aspects of the IRAC provisions or have less stringent norms applicable on them. For instance, Housing Finance Companies (HFCs), which are now a category of NBFCs, are not required to do SMA classification and report to CRILC. Hence, the clarification for SMA classification should ideally not be made applicable on HFCs by virtue of the RBI Circular. However, it is prudent to ensure that the SMA classification is being done by the HFC, though the same may not be reported to CRILC. It seems that eventually, the RBI may extend the CRILC reporting to HFCs as well. 

Similarly, NBFC-NSIs at present follow the DPD count of 180 days for classification as NPA. Since the 90-days NPA norm is to be implemented in a phased manner by NBFC-NSI as per the Scale Based Regulatory Framework, the provisions of the RBI Circular shall apply accordingly. Hence, even NBFC-NSI will have to implement the day count run immediately but the DPD count for classification as NPA would be as per the relaxation provided by RBI.

Upgradation of NPA accounts

As discussed, the approach of the lending institutions for upgrading accounts classified as NPAs to ‘standard’ asset category upon payment of only interest overdues, partial overdues, etc. or upon the DPD status coming below 90 days. However, the RBI has clarified that loan accounts classified as NPAs may be upgraded as ‘standard’ assets only if entire arrears of interest and principal are paid by the borrower. This would mean that any partial payment, such as payment of only interest or only one installment, shall not result in the upgradation of the loan account.

Hence, once a loan account is classified as an NPA, it shall remain as such till the time the entire outstanding amount is repaid. Hence, there would be no downgrade from NPA to SMA- it can only directly be classified as 0 DPD.

Considering penal Interest and other charges

In case of a situation where the borrower clears all his dues except the overdues and penal interest etc.- Will the account be upgraded to a standard category or will it remain as an NPA. The usual practice is that these payments take priority and have to be adjusted first from the collections received. Here, it is important to understand that penal interest and other charges are accounted for on cash basis and they will not be classified as overdue instead be recognised only when collected. Hence, even if the charges remain unpaid, but all other outstanding payments are received the account would be upgraded as standard. 

This clause is effective with immediate effect, hence, there will be no impact on the loan accounts that have already been rolled back and are classified as standard as on November 12, 2021. The loan account that reaches more than 90 days after November 12 will be classified as NPA and remains as such until the borrower clears all the dues.

It is very likely that the tightening of upgradation criteria could result in an increase in the NPA count for NBFCs specifically, since banks were already following the same.

Impact on Ind AS Accounting

NPA recognition is a regulatory requirement, the same does not directly have an impact on the credit risk associated with the loan account.  Hence, Ind AS reporting may not have any impact due to the RBI classification. There is no necessary correlation between the credit-impaired status under Ind AS and the asset classification under regulatory norms. As per the past practice, there remains a gap between IRAC and Ind AS, if regulators still insist, the asset will continue as NPA even if it goes below 90- the same is not unusual. Like provisioning is different under IRAC and IndAS, the same would still continue. 

We are further analysing the provisions and shall keep updating the article.

 

[1] At present the 90 days norm is for NBFC-SI, however, the Scale Based Regulations (SBR) proposes to align the same for NBFC-NSI as well

FAQs on Transfer of Loan Exposure

We invite you all to join us at the Indian Securitisation Summit, 2021. You are sure to meet the who’s-who of the Indian structured finance space – the originators, investors, rating agencies, legal counsels, accounting experts, global experts, and of course, regulators. The details can be accessed here

The RBI has consolidated the guidelines with respect to transfer of standard assets as well as stressed assets by regulated financial entities under a common regulation named Reserve Bank of India (Transfer of Loan Exposures) Directions, 2021 (“Directions”).

The Directions divided into five operative chapters- the first one specifying the scope and definitions, the second one laying down general conditions applicable on all loan transfers, the third one specifying the requirements in case of transfer of loans which are not in default, that is standard assets, the fourth one provides the additional requirement for transfer of stressed assets and the fifth chapter is on disclosure and reporting requirements.

Under the said Directions, the following entities are permitted as transferor and transferee to transfer loans-

We bring you this frequently asked questions on Transfer of Loans to assist you better understand the guidelines.

The file can be downloaded at this link: https://mailchi.mp/887939b2f979/qa32ogwo2t

We have also published FAQs on Securitisation of Standard Asset, the contents of FAQs can be accessed here and the file can be downloaded at this link.

FAQs onTLE Framework_content

 

Summary of Scale Based Regulations

A brief highlights of the regulations along with charts summarising classification of NBFCs can be viewed here. Our Youtube elaborating on the subject can be viewed here.

List of Regulatory Provisions
NBFC-NSI NBFC-SI HFC
Without customer interface and public funds With customer interface or public funds Asset size between 500-1000 crores Asset size 1000 crores and above Top 10 or identified as such Not in Top 10 Top 10 or identified as such
Supervisory category BL BL BL ML UL ML UL
NOF No change, that is, Rs 2 crores Rs 5 crores by March 31, 2025
Rs 10 crores by March 31, 2027
No change, that is,
Rs 15 crores by March 31, 2022
Rs 20 crores by March 31, 2023
NPA Norms >150 days overdue By March 31, 2024
>120 days overdue By March 31, 2025
> 90 days By March 31, 2026
No change, that is, > 89 days
Appointment of Director Appoint at least one of the directors having relevant experience of having worked in a bank/ NBFC
IPO funding ceiling, if extending such loans Rs 1 crore per borrower [effective from 1st April, 2021]
Internal Capital Adequacy Assessment Process (ICAAP) NA NA NA Applicable Applicable Applicable Applicable
Maintain Common Equity Tier 1 capital of at least 9 per cent of Risk Weighted Assets NA NA NA NA Applicable NA Applicable
Leverage limits (in addition to CRAR) NA NA NA NA To be prescribed NA To be prescribed
Differential standard asset provisioning NA NA NA NA To be prescribed NA To be prescribed
Limits on Concentration of credit/investment NA NA Merged single exposure limit of 25% for single borrower/ party and 40% for single group of borrowers/ parties Merged single exposure limit of 25% for single borrower/ party and 40% for single group of borrowers/ parties To be followed till Large Exposure Framework is put in place Merged single exposure limit of 25% for single borrower/ party and 40% for single group of borrowers/ parties To be followed till Large Exposure Framework is put in place
Sensitive Sector Exposure (SSE), that is, exposure to commercial real estate and capital markets NA NA NA Fix board-approved internal limits Fix board-approved internal limits Same as existing
Regulatory Restrictions on
1. Loans to directors, senior officers, relatives of directors, entities where directors or their relatives have major shareholding
2. Need for ensuring appropriate permission while appraising real loan proposals
NA NA NA Applicable Applicable Applicable Applicable
Large Exposure Framework NA NA NA NA Applicable NA Applicable
Internal Exposure Limits to be set by the Board on certain specific sectors to which credit is extended NA NA NA NA Applicable; details awaited NA Applicable; details awaited
Risk Management Committee, at board or executive level To be constituted To be constituted To be constituted To be constituted To be constituted To be constituted To be constituted
Disclosures to include types of exposure, related party transactions, loans to Directors/ Senior Officers and customer complaints. Applicable Applicable Applicable Applicable Applicable Applicable Applicable
Board approved policy on grant of loans to directors, senior officers and relatives of directors and to entities where directors or their relatives have major shareholding Applicable Applicable Applicable Applicable Applicable Applicable Applicable
Except for directorship in a subsidiary, KMP shall not hold any office (including directorships) in any other NBFC-ML or NBFC-UL NA NA NA To ensure
compliance by October 1, 2024
To ensure
compliance by October 1, 2024
To ensure
compliance by October 1, 2024
To ensure
compliance by October 1, 2024
Independent director shall not be on the Board of more than three NBFCs (NBFC-ML or NBFC-UL) at the same time NA NA NA To ensure
compliance by October 1, 2024
To ensure
compliance by October 1, 2024
To ensure
compliance by October 1, 2024
To ensure
compliance by October 1, 2024
Additional Disclosures in annal financial statements NA NA NA Applicable with effect from March 31, 2023 Applicable with effect from March 31, 2023 Applicable with effect from March 31, 2023 Applicable with effect from March 31, 2023
Appointment of a Chief Compliance Officer (CCO) NA NA NA To be ensured by October 1, 2022 To be ensured by October 1, 2022 To be ensured by October 1, 2022 To be ensured by October 1, 2022
Composition of the Board should ensure mix of educational qualifications and experience within the Board NA NA NA To be ensured by October 1, 2022 To be ensured by October 1, 2022 To be ensured by October 1, 2022 To be ensured by October 1, 2022
Other Governance matters
i) The Board shall delineate the role of various committees (Audit Committee, Nomination and Remuneration Committee, Risk Management Committee or any other Committee) and lay down a calendar of reviews.
ii) Formulate a whistle blower mechanism for directors and employees to report genuine concerns.
iii) Board shall ensure good corporate governance practices in the subsidiaries of the NBFC.
NA NA NA To be ensured by October 1, 2022 To be ensured by October 1, 2022 To be ensured by October 1, 2022 To be ensured by October 1, 2022
Adoption of Core Banking Solution NA NA NA Applicable if having more than 10 branches Applicable if having more than 10 branches Applicable if having more than 10 branches Applicable if having more than 10 branches
Composition of the Board should ensure mix of educational qualification and experience within the Board NA NA NA NA Applicable NA Applicable
Mandatory listing of equity within 3 years of identification NA NA NA NA Applicable NA Applicable
Reporting removal of Independent Directors before tenure NA NA NA NA Applicable NA Applicable

A layered approach to NBFC Regulation:

A summary of the regulations can be viewed here. Our Youtube elaborating on the subject can be viewed here.

A layered approach to NBFC Regulation_ICSI

 

FAQs on Securitisation of Standard Assets

We invite you all to join us at the Indian Securitisation Summit, 2021. You are sure to meet the who’s-who of the Indian structured finance space – the originators, investors, rating agencies, legal counsels, accounting experts, global experts, and of course, regulators. The details can be accessed here

On September 24, 2021, the RBI released Master Direction – Reserve Bank of India Securitisation of Standard Assets) Directions, 2021. The same has been released after almost 15 months of the comment period on the draft framework issued on June 08, 2020. This culminates the process that started with Dr. Harsh Vardhan committee report in 2019.

It is said that capital markets are fast changing, and regulations aim to capture a dynamic market which quite often leads the regulation than follow it. However, the just-repealed Guidelines continued to shape and support the securitisation market in the country for a good 15 years, with the 2012 supplements mainly incorporating the response to the Global Financial Crisis.

We bring you this frequently asked questions on Securitisation to assist you better understand the Directions.

The file can downloaded at this link: https://mailchi.mp/607563e4f4d0/faq-on-sec-guidelines

We have also published FAQs on Transfer of loan exposures, the contents of FAQs can be accessed here and the file can be downloaded at this link.

Securitisation-FAQ-contents

 

Participation in loan exposure by lenders

Anita Baid | anita@vinodkothari.com

Introduction 

The Reserve Bank of India (RBI) has issued the new guidelines, viz. Master Directions- Reserve Bank of India (Transfer of Loan Exposures) Directions, 2021 and Master Directions- Reserve Bank of India (Securitisation of Standard Assets) Directions, 2021, on September 4, 2021, that replaces and supersedes the existing regulations on securitisation and direct assignment (DA) of loan exposures. The new directions have been made effective immediately which introduces several new concepts and compliance requirements.

The TLE Directionshave consolidated the guidelines with respect to the transfer of standard assets as well as stressed assets by regulated financial entities in one place. Further, the scope of TLE Directions covers any “transfer” of loan exposure by lenders either as transferer or as transferees/acquirers. In fact, the scope contains an outright bar on any sale or acquisition other than under the TLE Directions, and outside permitted transferors and transferees, apart from securitisation transactions.

Notably, the TLE Directions refer to all types of loan transfers, including sale, assignment, novation and loan participation. While the loan market in India is quite familiar[1] with assignments and novations, ‘loan participation’ to some, might appear to be an innovation by TLE Directions.  However, loan participation is not a new concept, and is quite popular in international loan markets, as we discuss below.

This article discusses the general concept of loan transfer and specifically delves into the ‘loan participation as a mode of such transfer. 

Loan Transfers: Assignment vs. Novation vs. Loan Participation

One of the important amendments under the TLE Directions has been the insertion of the definition of “transfer”, which is reproduced herein below- 

“transfer” means a transfer of economic interest in loan exposures by the transferor to the transferee(s), with or without the transfer of the underlying loan contract, in the manner permitted in these directions; 

Explanation: Consequently, the transferee(s) shall “acquire” the loan exposures following a loan transfer.  

This definition is customised to suit the objectives of the TLE Directions – that is, the TLE Directions would cover all forms of transfers where “economic interest” is transferred, but the legal ownership may or may not be transferred. This definition is specific to these Directions intended essentially to cover the transfer of economic interest, and is different from the common law definition of ‘transfer’. 

The provisions of TLE Directions are applicable to all forms of transfer of loans, irrespective of whether the loan exposures are in default or not. However, the TLE Directions limit the mode of transfer of stressed assets. Novation and assignment are the only ways of transferring stressed assets, whereas, in case of loans not in default, loan participation is also a mode of transfer. The said modes of loan transfers that have been permitted are not new and have existed even before. 

By inclusion of “loan participation” in the TLE Directions for the transfer of loans not in default means that the loans could be transferred by transferring an economic interest even without the transfer of legal title. However, in cases of loan transfers other than loan participation, legal ownership of the loan has to mandatorily be transferred. 

The graphic below summarises the various modes permissible mode of transfer of loans not in default, as per the TLE Directions:

In the case of assignments and novations, the assignee or transferee becomes the lender on record either by virtue of the assignment agreement (along with notice to the borrower) or by becoming a party to the underlying agreement itself. On the contrary, in the case of loan participation, the transfer is solely between the originator and the participant or transferee and thus creates no privity between the participant and the ultimate borrower. Under the participation arrangement, it is an understanding that the originator or lender on record passes to the participant whatever amount it receives from the borrower. Hence, by virtue of the transfer of the economic interest, there is a trust relationship created between the originator and the participant. 

The concept of Loan Participation

It is important to understand participation as a mode of transfer of economic interest under the TLE Directions. TLE Directions define loan participation as –

loan participation” means a transaction through which the transferor transfers all or part of its economic interest in a loan exposure to transferee(s) without the actual transfer of the loan contract, and the transferee(s) fund the transferor to the extent of the economic interest transferred which may be equal to the principal, interest, fees and other payments, if any, under the transfer agreement; 

Provided that the transfer of economic interest under a loan participation shall only be through a contractual transfer agreement between the transferor and transferee(s) with the transferor remaining as the lender on record

Provided further that in case of loan participation, the exposure of the transferee(s) shall be to the underlying borrower and not to the transferor. Accordingly, the transferor and transferee(s) shall maintain capital according to the exposure to the underlying borrower calculated based on the economic interest held by each post such transfer. The applicable prudential norms, including the provisioning requirements, post the transfer, shall be based on the above exposure treatment and the consequent outstanding.

Based on the aforesaid definition, it is essential to note the following-

  1. A loan exposure can be said to consist of two components- economic interest and legal title
  2. The economic interest in a loan exposure is not dependent on the legal title and can be transferred without a change in the lender on record
  3. In case of transfer of economic interest without legal title, the borrower interface shall be maintained entirely with the lender on record- hence, one of the benefits of loan participation would be that any amendments to the terms of the loan or restructuring could be done by the lender on record without involving the transferee
  4. The loan participation cannot be structured with priorities since the same may lead to credit enhancement- which is prohibited
  5. To the extent of loan participation based on the economic interest held post the transfer, income recognition, asset classification and provisioning must be done by the transferor and transferee, respectively

Note also, that para 12 of TLE Directions states that in loan participations, “by design”, the legal ownership remains with the originator (referred to as ‘grantor’ under TLE Directions), while whole or part of economic interest is passed on to the transferee (referred to as “participant” under TLE Directions). 

The following is therefore understood as regards loan participation –

  • Legal ownership is necessarily retained by the grantor, while it is only the ‘economic interest’ or a part of it, which is transferred to the participant.
  • As such, the originator remains the ‘face’ for the borrower, and is, therefore, called “lender on record”.
  • The TLE Directions do not prescribe any proportion (maximum/minimum) for which participation can happen. Though the Directions say that “all or part” of economic interest can be transferred. Also, the law seems flexible enough not to put any kind of restrictions on the categories or limits of economic interest which can be transferred. For instance, economic interest involves the right to receive repayments of principal as well as payments of interest (among others). The grantor can simply delineate these rights and grant participation for one but retain the other. 
  • The participant shall fund the grantor only to the extent of economic interest transferred in the former’s favour and nothing more. 
  • The participation has to be backed by a formal arrangement (agreement) between the parties

Post the “transfer”, the participant has no recourse on the grantor for the transferred interest. The recourse of both the grantor and the participant lies on the underlying borrower. Both these parties are required to maintain capital accordingly.

Essentially, the loan participation agreement, setting forth in detail the arrangement between the original lender and the participant, should specify the following- 

  1. that the transaction is a purchase of a specified percentage of a loan exposure by the participant, 
  2. the terms of the purchase of such participation, 
  3. the rights and duties of both parties, 
  4. the mechanism of holding and disbursing funds received from the borrower, 
  5. the extent of information to be shared with the participant, 
  6. the extent of right on collateral in the participated loan provided by the borrower, and
  7. procedures for exercising remedies and in the event of insolvency by any party, and clarification that the relationship is that of seller/purchaser as opposed to debtor/creditor

Is Loan Participation a True Sale?

The essential feature of loan participation is that the lender originating the loan remains in its role as the nominal lender and continues to manage the loan notwithstanding the fact that it may have sold off most or even all of its credit exposure. True Sale means that a sale truly achieves the objective of a sale, and being respected as such in bankruptcy or a similar situation. Securitisation and direct assignment transactions have inherently been driven by financing motives but they are structured as sale transactions. 

Essentially, the TLE Directions are entirely based on this crucial definition of ‘transfer’ which is stressing on the transfer of an economic interest in a loan exposure. Accordingly, even without transferring the legal title, the loan exposure could be transferred. Hence, the age-old concept of ensuring true sale in case of direct assignment transaction seems to have been done away with. 

However, the question that arises is whether in the case of secured loans, loan participation arrangements would transfer the right to collateral with the original lender or is it merely creating a contractual right against the originator towards proceeds of the collateral. This issue of the characterization of loan participation and when participations are true sales of loan interests has been discussed by the Iowa Supreme Courtin the case of Central  Bank and Real Estate Owned, L.L.C. v. Timothy C. Hogan, as Trustee of the Liberty and Liquidating Trust et. al., 891 N.W.2d 197 (Iowa 2017)

In this case, Liberty Bank extended loans between 2008 and 2009 to Iowa Great Lakes Holding, L.L.C. secured by the real estate and related personal property of a resort hotel and conference center. Liberty entered into participation agreements with five banks covering an aggregate of 41% (approximately) of its interest in these loans. The participation agreements were identical in terms; each provided that Liberty sold and the participant purchased a “participation interest” in the loans. It was held that Liberty had transferred an undivided interest in the underlying property, including the mortgage created on the property, pursuant to the participation agreements. The court ruled against Liberty Bank, reasoning that the participation agreements transferred “all legal and equitable title in Liberty’s share of the loan and collateral” to the participating banks. The participants were given undivided interests in the loan documents. In addition, the court noted that the default provisions emphasized that the participants shared in any of the collateral for the loan. 

Based on the discussion, the court suggested that participants should use the language of ownership, undivided fractional interest and trust, as well as avoid risk dilution devices to ensure that their interest is treated as an ownership and not a mere loan.

Loan Participation in US and UK

In the international financial market, loan participation has been a predominant component for a long time. The reason for favouring loan participation is that it allows participants to limit its exposure upto a particular credit and enable diversification of a portfolio without being involved in the servicing of loans.

The English law (prevalent in the UK) has widely adopted the Loan Market Association (LMA) recommendation that states- the lender of record (or grantor of the participation) must undertake to pay to the participant a percentage of amounts received from the borrower. This explicitly provides that the relationship between the grantor and the participant is that of debtor and creditor, provided the right of the participant to receive monies would be restricted to the extent of the assigned portion of any money received from any obligor. Hence, in case the grantor becomes insolvent, the participant would not enjoy any preferred status as a creditor of the grantor with respect to funds received from the borrower than any other unsecured creditor of the grantor. There are methods to structure transactions that enable participants to mitigate the risk of insolvency of the guarantor, as provided in the LMA’s paper ‘Funded Participations – Mitigation of Grantor Credit Risk’, however, these methods add complexity to what many regard as routine trades and are not generally adopted. 

In US banking parlance, these instruments are known simply as “participations”. The Loan Syndications and Trading Association (LSTA) had proposed that the relationship between grantor and participant shall be that of seller and buyer. Neither is a trustee or agent for the other, nor does either have any fiduciary obligations to the other. This Agreement shall not be construed to create a partnership or joint venture between the Parties. In no event shall the Participation be construed as a loan from participant to grantor. There have also been cases to draw a distinction between ‘true participation’ and ‘financing’. In a true participation, the participant acquires a beneficial ownership interest in the underlying loan. This means that the participant is entitled to its share of payments from the borrower notwithstanding the insolvency of the grantor (so the participant does not have to share those payments with the grantor’s other creditors) even though the beneficial ownership does not create privity between the participant and the borrower. On the other hand, a participation that is characterised as financing would have the same consequences as discussed above, which is to be considered at par with any other unsecured creditor of the grantor.

The following four factors typically indicate that a transaction is a financing rather than true participation: 

  1. the grantor guarantees repayment to the participant; failure by a participant to take the full risk of ownership of the underlying loan is a crucial indication of financing rather than a true participation
  2. the participation lasts for a shorter or longer-term than the underlying loan that is the subject of the participation; 
  3. there are different payment arrangements between the borrower and the grantor, on the one hand, and the grantor and the participant, on the other hand; and 
  4. there is a discrepancy between the interest rate due on the underlying loan and the interest rate specified in the participation. 

Apart from the similarity in the basic structure and business impetus for participation, the legal characterisation of these arrangements and some of their structural elements are different under UK and US law.

Conclusion

The recognition of this concept of loan participation would expand the scope for direct assignment arrangements and hence, there seems a likely increase in the numbers as well. However, it must be ensured that such arrangements are structured with care and keeping in mind the learnings from precedents in the markets outside India, to avoid any discrepancies and disputes in the future between the originator and the participant.

________________________________________________________________________________________________________________________________

[1] In India, during Q1 2020-21, DA transactions were around Rs.5250 crore, which was 70% of the total securitisation and DA volumes. With a growth of 2.3 times in the total volume of securitisation and DA transactions (due to the pandemic the number may be an outlier), in Q1 2021-22, the DA transactions aggregated to Rs.9116 crores, with a reduced share of 53% [Source: ICRA Research]

We invite you all to join us at the Indian Securitisation Summit, 2021. You are sure to meet the who’s-who of the Indian structured finance space – the originators, investors, rating agencies, legal counsels, accounting experts, global experts, and of course, regulators. The details can be accessed here

 

Workshop on RBI Master Directions on Securitisation and Transfer of loans

We invite you all to join us at the Indian Securitisation Summit, 2021. You are sure to meet the who’s-who of the Indian structured finance space – the originators, investors, rating agencies, legal counsels, accounting experts, global experts, and of course, regulators. The details can be accessed here

Our workshop on 28th and 29th September, went full and, hence we are coming up with this repeat workshop.

Please do register your interest here: https://forms.gle/vwM2G7boj4uvyiqM6

Details would be announced shorlty

Workshop-MasterDirection-8th

Our Write-ups on the topic:

After 15 years: New Securitisation regulatory framework takes effect

-Financial Services Division (finserv@vinodkothari.com)

[This version dated 24th September, 2021. We are continuing to develop the write-up further – please do come back]

We invite you all to join us at the Indian Securitisation Summit, 2021. The details can be accessed here

On September 24, 2021, the RBI released Master Direction – Reserve Bank of India Securitisation of Standard Assets) Directions, 2021 (‘Directions’)[1]. The same has been released after almost 15 months of the comment period on the draft framework issued on June 08, 2020[2]. This culminates the process that started with Dr. Harsh Vardhan committee report in 2019[3].

It is said that capital markets are fast changing, and regulations aim to capture a dynamic market which quite often leads the regulation than follow it. However, the just-repealed Guidelines continued to shape and support the securitisation market in the country for a good 15 years, with the 2012 supplements mainly incorporating the response to the Global Financial Crisis (GFC).

Considering the fact that securitisation, along with its regulatory alternative (direct assignment) has become a very important channel of inter-connectivity and bridging between the non-banking finance companies and the banking sector, and since the ILFS crisis, has been almost existential for NBFCs, it is very important to examine how the new regulatory framework will support securitisation market in India.

By way of highlights:

  • The bar on securitisation of purchased loans has been removed; there is a holding period requirement for acquired loans, after which the same may be securitised.
  • The risk retention requirement for residential mortgage backed transactions has been reduced to 5%.
  • Minimum holding period reduced to 6 months maximum, whereas it will be 3 months in case of loans with a tenure of upto 2 years.
  • In line with EU and other markets, there is a new framework for simple, transparent and comparable (STC) securitisations, which will qualify for lower capital requirements for investors.
  • Ratings-based risk weights introduced for securitisation transactions, adopting the ERB approach of global regulators.
  • Direct assignments continue to be subjected to the familiar criteria – no credit enhancement or liquidity facility, adherence to MHP, etc. However, risk retention criteria in case of direct assignments, called Transfer of Loan Exposures, have been removed, except where the buyer does not do a due diligence for all the loans he buys.
  • By defining who all could be permitted transferees of loans, the fledgling market for sale of loans through electronic platforms, to permit retail investors to participate in the loan market, completely nipped in its bud.

Scope of Applicability

Effective date:

The Directions are applicable with immediate effect. This should mean, any transaction done or after the date of the notification of the Directions must be in compliance therewith. Para 4 of the Directions clearly provides that any transaction of securitisation “undertaken” subsequent to the notification of the Directions will have to comply with the same. This implies that 24th September is the last date for any securitisation transaction under the erstwhile Guidelines.

The immediate implementation of the new Directions may create difficulties for transactions which are mid-way. Para 4 refers to transactions undertaken after the notification date. What is the date of “undertaking” a transaction for determining the cut-off date? Quite often, securitization transactions involve a process which may be spread over a period of time. The signing of the deed of assignment is mostly the culmination of the process. In our view, if the transaction is already mid-way, and effective term sheets have been signed with investors within the 24th September, it will be improper to disrupt that which has already been structured.

Lending entities covered:

As proposed in the Draft Directions, the Directions are applicable to banks and small finance banks (excluding RRBs), all India Term financing institutions (NABARD, NHB, EXIM Bank, and SIDBI), NBFCs and HFCs. These institutions are referred to as Lenders (or Originators) herein.

Eligible Assets

What is not eligible:

The Directions provide a negative list i.e. list of the assets that cannot be securitised. These are:

  1. Re-securitisation exposures;
  2. Structures in which short term instruments such as commercial paper, which are periodically rolled over, are issued against long term assets held by a SPE. Thus, what is globally prevalent as “asset backed commercial paper” (ABCP) has been ruled out. ABCP transactions were seen as responsible for a substantial liquidity crisis during the GFC regime, and Indian regulators seem to have shunned the same.
  3. Synthetic securitisation; and
  4. Securitisation with the following assets as underlying:
    1. revolving credit facilities
    2. Restructured loans and advances which are in the specified period; [Notably, the Directions do not seem to define what is the “specified period” during which restructured facilities will have to stay off from the transaction. It appears that the bar will stay till the facility comes out of the “substandard” tag. This becomes clear from para 8 of the Directions.
    3. Exposures to other lending institutions;
    4. Refinance exposures of AIFIs; and
    5. Loans with bullet payments of both principal and interest as underlying;

The draft guidelines did not exclude 2, 3, 4(b), (c) and (d) above. It is noteworthy that the exposure to other lending institutions has also been put in the negative list. Further, synthetic securitisation, on which several transactions are based, also seems to be disallowed.

Apart from the above, all other on-balance sheet exposures in the nature of loans and advances and classified as ‘standard’ will be eligible to be securitised under the new guidelines.

With respect to agricultural loans, there are additional requirements, as prescribed in the draft directions. Further, MHP restrictions shall not be applicable on such loans.

What is not not eligible, that is, what is eligible:

It is also important to note that the bar on securitisation of loans that have been purchased by the originator goes away. On the contrary, Explanation below para 5 (l) [definition of Originator] clearly states that that the originator need not be the original lender; loans which were acquired from other lenders may also be the part of a securitisation transaction. Further, Para 9 provides that the respective originators of the said assets transferred to the instant originator should have complied with the MHP requirements, as per the TLE Directions.

At the same time, a re-securitisation is still negative listed. That is, a pool may consist of loans which have been acquired from others (obviously, in compliance with TLE Directions), but may not consist of a securitisation exposure.

Another notable structure which is possible is securitisation of a single loan. This comes from proviso to para 5 (s). This proposal was there in the draft Directions too. While, going by the very economics of structured finance, a single loan securitisation does not make sense, and reminds one of the “loan sell off” transactions prior to the 2006 Guidelines, yet, it is interesting to find this clear provision in the Directions.

Rights of underlying obligors

Obligors are borrowers that owe payments to the originator/ lender. Securitisation transactions must ensure that rights of these obligors are not affected. Contracts must have suitable clauses safeguarding the same and all necessary consent from such obligors must be obtained.

MRR Requirements

Underlying Loans MRR Manner of maintaining MRR
Original maturity of 24 months or less 5% Upto 5%-

●      First loss facility, if available;

●      If first loss facility not available/ retention of the entire first loss facility is less than 5%- balance through equity tranche;

●      Retention of entire first loss facility + equity tranche  < 5%- balance pari passu in remaining tranches sold to investors

 

Above 5%

●      First loss facility, or

●      equity tranche or

●      any other tranche sold to investors

●      combination thereof

In essence, the MRR may be a horizontal tranche, vertical tranche and a combination of the two (L tranche]. If the first loss tranche is within 5%, the first loss tranche has to be originator-retained, and cannot be sold to external investors. However, if the first loss tranche is more than 5%, it is only 5% that needs to be regulatorily retained by the originator.

 

 

Original maturity of more than 24 months

 

10%
Loans with bullet repayments
RMBS (irrespective of maturity) 5%

Para 14, laying down the MRR requirements, uses two terms – equity tranche and “first loss facility”. While the word “first loss facility” is defined, equity tranche is not. Para 5(h) defines “first loss facility” to include first level of financial support provided by the originator or a third party to improve the creditworthiness of the securitisation notes issued by the SPE such that the provider of the facility bears the part or all of the risks associated with the assets held by the SPE .

However, Explanation below para 14 may be the source of a substantial confusion as it says OC shall not be counted as a part of the first loss facility for this purpose.

What might be the possible interpretation of this (euphemistically termed as) Explanation? OC is  certainly a form of originator support to the transaction, and economically, is a part of the first loss support. However, first loss support may come in different ways, such as originator guarantee, guarantee from a third party, cash collateral, etc. Equity tranche, deriving from the meaning of the word “tranche” which includes both the notes as also other forms of enhancement. Therefore, what the Explanation is possibly trying to convey is that in capturing the equity or first loss tranche, which, upto 5%, has to be  originator-retained, the OC shall not be included.

This, however, does not mean that the OC will not qualify for MRR purposes. OC is very much a part of the originator’s risk retention; however, in constructuring the horizontal, vertical and L tranche of transactions, the OC shall not be considered.

To give examples:

  • A transaction has 15% OC, and then a AAA rated tranche: In this case, the original has the 15% OC which meets the MRR requirement. He does not need to have any share of the senior tranches. This point, looking at the language of the Explanation, may be unclear and may, therefore, reduce the popularity of OC as a form of credit enhancement.
  • A transaction as 5% OC, 5% junior tranche, and remaining 95% as senior tranche. The originator needs to hold the entire 5% junior tranche (assuming original maturity > 24 months).
  • A transaction has 5% OC, 2% junior tranche, and 98% senior tranche. The originator needs to hold the entire 2% junior tranche, and 3% of the 98% senior tranche.

Para 16 first clarifies what is though clear from the 2006 Guidelines as well – that the requirement of retention of MRR through the life of the transaction does not bar amoritisation of the MRR. However, if MRR comes in forms such as cash collateral, it cannot be reduced over the tenure, except by way of absorption of losses or by way of reset of credit enhancements as per the Directions.

Listing Requirements

The Directions specify a minimum ticket size of Rs. 1 crore for issuance of securitisation notes. This would mean an investor has to put in a minimum of Rs 1 crore in the transaction. Further, the Directions also state that in case securitisation notes are offered to 50 or more persons, the issuance shall mandatorily be listed on stock exchange.

Interestingly, the limit of 50 persons seems to be coming from the pre-2013 rules on private placements; the number, now, is 200. It is typically unlikely that securitisation transactions have 50 or more investors to begin with. However, recently, there are several portals which try to rope in non-traditional investors for investing in securitisation transactions. These portals may still do a resale to more than 50; it is just that the number of investors at the inception of the transaction cannot be more than 49. Also, if there are multiple issuances, the number applies to each issuance. The number, of course, has to be added for multiple tranches.

The Draft Directions stated a issuance size based listing requirement in case of RMBS, as against the investor group size based requirement prescribed in the Directions.

SPE requirements

SPE requirements are largely routine. There is one point in para 30 (d) which may cause some confusion – about the minimum number of directors on the board of the SPE. This is applicable only where the originator has the right of nominating a board member. If the originator has no such right, there is no minimum requirement as to the board of directors of the SPE. In any case, it is hard to think of SPEs incorporated in corporate form in India.

Accounting provisions

The Directions give primacy to accounting standards, as far as NBFCs adopting IndAs are concerned. In such cases, upfront recognition of profit, as per “gain on sale” method, is explicitly permitted now. As for other lenders too, if the gain on sale is realised, it may be booked upfront.

Unrealised gains, if any, should be accounted for in the following manner:

  1. The unrealised gains should not be recognised in Profit and Loss account; instead the lenders shall hold the unrealised profit under an accounting head styled as “Unrealised Gain on Loan Transfer Transactions”.
  2. The profit may be recognised in Profit and Loss Account only when such unrealised gains associated with expected future margin income is redeemed in cash. However, if the unrealised gains associated with expected future margin income is credit enhancing (for example, in the form of credit enhancing interest-only strip), the balance in this account may be treated as a provision against potential losses incurred.
  3. In the case of amortising credit-enhancing interest-only strip, a lender would periodically receive in cash, only the amount which is left after absorbing losses, if any, supported by the credit-enhancing interest-only strip. On receipt, this amount may be credited to Profit and Loss account and the amount equivalent to the amortisation due may be written-off against the “Unrealised Gain on Loan Transfer Transactions” account bringing down the book value of the credit-enhancing interest-only strip in the lender’s books.
  4. In the case of a non-amortising credit-enhancing interest-only strip, as and when the lender receives intimation of charging-off of losses by the SPE against the credit-enhancing interest-only strip, it may write-off equivalent amount against “Unrealised Gain on Loan Transfer Transactions” account and bring down the book value of the credit-enhancing interest-only strip in the lender’s books. The amount received in the final redemption value of the credit-enhancing interest-only strip received in cash may be taken to the Profit and Loss account.

STC securitisations

Having a simple, transparent and comparable (STC) label for a securitisation transaction is a very important factor, particularly for investors’ acceptability of the transaction. Securitisation transactions are structured finance transactions –the structure may be fairly complicated. The transaction may be bespoke – created with a particular investor in mind; hence, the transaction may not be standard. Also, the transaction terms may not have requisite transparency.[4]

Simple transparent and comparable securitisations qualify for relaxed capital requirements. STC structures are currently prevalent and recognised for lower capital requirements in several European countries. The transactions are required to comply with specific guidelines in order to obtain a STC label. The Basel III guidelines set the STC criteria for the purpose of alternative capital treatment.

The STC criteria inter-alia provides for conditions based on asset homogeneity, past performance of the asset, consistency of underwriting etc.The Para 37 of the Directions provides that securitisations that additionally satisfy all the criteria laid out in Annex 1 of the Directions can be subject to the alternative capital treatment. The criteria mentioned in the Directions are at par with requirements of Basel III regulations.

Investors to the STC compliant securitisation are allowed relaxed risk-weights on the investment made by them.

The Directions further require, originator to disclose to investors all necessary information at the transaction level to allow investors to determine whether the securitisation is STC compliant.

STC criteria need to be met at all times. Checking the compliance with some of the criteria might only be necessary at origination. .In cases where the criteria refer to underlying, and the pool is dynamic, the compliance with the criteria will be subject to dynamic checks every time that assets are added to the pool.

Facilities supporting securitisation structures

A securitisation transaction may have multiple elements – like credit enhancement, liquidity support, underwriting support, servicing support. These are either provided by the originator itself or by third parties. The Directions aim to regulate all such support providers (“Facility Providers”).  The Directions require the Facility Providers to be regulated by at least one financial sector regulator. For this purpose, in our view, RBI, IRDAI, NHB, SEBI etc. may be considered as financial sector regulators.

Common conditions for all Facilities

For provision of any of the aforesaid facilities, the facility provider must fulfill the following conditions:

  • Proper documentation of the nature, purpose, extent of the facility, duration, amount and standards of performance
  • Facilities to be clearly demarcated from each other
  • On arm’s length basis
  • The fee of the Facility Provider should not be subject to subordination/waiver
  • No recourse to Facility Provider beyond the obligations fixed in the contract
  • Facility Provider to obtain legal opinion that the contract does not expose it to any liability to the investors

Credit Enhancement Facilities

In addition to the above mentioned conditions, following conditions must be fulfilled by the Facility Provider:

  • To be provided only at initiation of transaction
  • Must be available to SPV at all times
  • Draw downs to eb immediately written-off

Liquidity facilities

The provisions about liquidity facilities are substantially similar to what they have been in the 2006 Guidelines. However, the provisions of 2006 Guidelines and the Draft Directions requiring co-provision of liquidity facility to the extent of 25% by an independent party have been omitted. This would mean, the originator itself may now be able to provide for the liquidity facility if an independent party could not be identified or in any other case.

Underwriting facilities

Underwriting is hardly common in case of securitisations, as most issuances are done on bespoke, OTC basis. Again, most of the provisions in the Directions relating to underwriting are similar to the 2006 Guidelines with one difference. The 2006 Guidelines required Originators (providing underwriting facilities) to reduce Tier 1 and Tier 2 capital by the amount of holdings (if it is in excess of 10% of the issue size) in 50-50 proportion.

The Directions are silent on the same.

Servicing facilities

Third party service providers have started emerging in India, particularly by way of  necessity (forced by events of default  of certain originators) rather than commercial expediency.

The provisions of the Directions in para 59-60 are applicable even to proprietary servicing, that is, the originator acting as a servicer, as well as a third party servicer.

It is important to note that arms’ length precondition [Para 45 (b) ] is applicable to originator servicing too. Hence, if the servicing fees are on non-arms’ length terms, this may certainly amount to a breach of the Directions. The other requirement of para 45 (e) seems also critical – the payment of servicing fee should not be subordinated. There should not be any bar on structuring a servicing fee in two components – a fixed and senior component, and an additional subordinated component. This is common in case of third party servicers as well.

Lenders who are investors

The meaning of “lenders” who are investors, in Chapter V, should relate to the entities covered by the Directions, that is, banks, NBFCs, HFCs and term lending institutions, who are investing money into securitisation notes. Obviously, the RBI is not meant to regulate other investors who are outside RBI’s regulatory ambit. The part relating to stress testing was there in the earlier Guidelines too – this finds place in the Directions.

It is also made clear that the investors’ exposure is not on the SPE, but on the underlying pools. Hence, the see-through treatment as given in Large Exposures Framework applies in this case.

Capital requirements

Capital has to be maintained in all securitisation exposures, irrespective of the nature of the exposure an entity is exposed to. If the securitisation transaction leads to any realised or unrealised gain, the same must be excluded from the Common Equity Tier 1 or Net owned Funds, and the same must be deferred till the maturity of the assets.

Further, if an entity has overlapping exposures, and if one exposure precludes the other one by fulfilment of obligations of the former, then the entity need not maintain capital on the latter. For example, if an entity holds a junior tranche which provides full credit support to a senior tranche, and also holds a part of the senior tranche, then its exposure in the junior tranche precludes any loss from the senior tranche. In such a situation, the entity does not have to assign risk-weights to the senior tranche.

Liquidity facilities

For the liquidity facilities extended in accordance with Chapter IV of the Directions, capital can be maintained as per the External Rating Based Approach (which has been discussed later on). For liquidity facilities not extended in accordance with Chapter IV of the Directions, capital charge on the actual amount after applying a 100% CCF will have to be considered.

Derecognition of transferred assets for the purpose of Capital Adequacy

 The Directions has laid down clear guidelines on derecognition of transferred assets for capital adequacy, and has no correlation with accounting derecognition under Ind AS 109. Therefore, irrespective of whether a transaction achieves accounting derecognition or not, the originator will still be able to enjoy regulatory capital relief so long as the Directions are complied with.

There is a long list of conditions which have to be satisfied in order achieve derecognition, which includes:

  1. There should complete surrender of control over the transferred exposures. The originator shall be deemed to have retained effective control over the exposures if:
    • It is able to repurchase the exposures from the SPE in order to realise the benefits, or
    • It is obligated to retain the risk of the transferred exposures.
  2. The originator should not be able to repurchase the exposure, except for clean-up calls.
  3. The transferred exposures are legally taken isolated such that they are put beyond the reach of the creditors in case of bankruptcy or otherwise.
  4. The securitisation notes issued by SPE are not obligations of the originator.
  5. The holders of the securitisation notes issued by the SPE against the transferred exposures have the right to pledge or trade them without any restriction, unless the restriction is imposed by a statutory or regulatory risk retention requirement
  6. Clean-up call
    • The threshold at which clean-up calls become exercisable shall not be more than 10% of the original value of the underlying exposures or securitisation notes.
    • Exercise of clean-up calls should not be mandatory.
    • The clean-up call options, if any, should not be structured to avoid allocating losses to credit enhancements or positions held by investors or otherwise structured to provide credit enhancements
  7. The originators must not be obligated to replace loans in the pool in case of deterioration of the underlying exposures to improve the credit quality
  8. The originator should not be allowed to increase the credit enhancement provided at the inception of the transaction, after its commencement.
  9. The securitisation does not contain clauses that increase the yield payable to parties other than the originator such as investors and third-party providers of credit enhancements, in response to a deterioration in the credit quality of the underlying pool
  10. There must be no termination options or triggers to the securitisation exposures except eligible clean-up call options or termination provisions for specific changes in tax and regulation

Further, a legal opinion has to be obtained confirming the fulfilment of the aforesaid conditions.

The draft directions issued some quantitative conditions as well, which have been dropped from the final Directions.

Securitisation External Ratings Based Approach

 The Directions require the lenders to maintain capital as per the ERBA methodology. Where the exposures are unrated, capital charge has to be maintained in the actual exposure.

Para 85 signifies that the maximum capital computed as per the ERBA methodology will still be subject to a cap of the capital against the loan pool, had the pool not been securitised.

The maximum risk weight prescribed in the ERBA approach is 1250%, which holds good for banks, as they are required to maintain a capital of 8%. For NBFCs, the capital required is 15%, so the maximum risk weight should not have been more that 667%. However, para 85 should take care of this anomaly which limits the capital charge to the capital against the loan pool, had the pool not been securitised.

Investor disclosures

Disclosures, both at the time of the issuance, and subsequent thereto, form an important part of the Directions. A complete Chapter (Chapter VII) is dedicated to the same. The disclosures as laid in Annexure 2 are to be made at least on half yearly basis throughout the tenure of the transaction.

This includes substantial pool- level data- such as a matrix of % of the pool composition and corresponding maturities, weighted average, minimum and maximum MHP, MRR and its composition broken down into types of retention, credit quality of the pool (covering overdue, security related details, rating, distribution matrix of LTVs, Debt-to-Income ratios, prepayments etc.), distribution of underlying loan assets based on industry, geography etc.

 

[1] https://rbidocs.rbi.org.in/rdocs/notification/PDFs/85MDSTANDARDASSETSBE149B86CD3A4B368A5D24471DAD2300.PDF

[2] https://rbidocs.rbi.org.in/rdocs/PublicationReport/Pdfs/STANDARDASSETS1600647F054448CB8CCEC47F8888FC78.PDF

[3] https://www.rbi.org.in/Scripts/BS_PressReleaseDisplay.aspx?prid=48106

[4] Our write-up on STC criteria can be viewed here; https://vinodkothari.com/2020/01/basel-iii-requirements-for-simple-transparent-and-comparable-stc-securitisation/

 

Refer our write-up on guidelines for transfer of loan exposures here- https://vinodkothari.com/2021/09/rbi-norms-on-transfer-of-loan-exposures/