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Securitisation of stressed loans: Opportunities and structures

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Comments on RBI’s Discussion Paper on Securitisation of Stressed Assets Framework (SSAF) dated January 25, 2023

Timothy Lopes, Manager | Vinod Kothari Consultants Pvt. Ltd.

finserv@vinodkothari.com

Background

At present, in India, there exists a framework for securitisation of standard assets only. in September, 2021 the RBI issued the ‘Master Direction – Reserve Bank of India (Securitisation of Standard Assets) Directions, 2021’ (‘SSA Directions’)[1], which deals with standard asset securitisation. Under the SSA Directions, the definition of standard assets does not include non-performing loans, i.e., only those assets with a delinquency up to 89 days, would qualify for securitisation under the SSA directions.

For assets that turn non-performing, i.e., 89+ days-past-due (‘DPD’), including those that retain the classification as the borrower has not been able to clear all his past arrears, the  same can, at present, be sold under the Master Direction – Reserve Bank of India (Transfer of Loan Exposures) Directions, 2021 (‘TLE Directions’)[2], which has a framework for sale of stressed assets (which includes non-performing assets).  Technically, there is a process of “securitisation” of non-performing loans (‘NPLs’), by issuing “security receipts” (‘SRs’) against the same; however, the framework for issue and investing in SRs is quite different, and is normally not captured as a part of securitisation in the industry parlance[3].

Assets sold through the TLE route require a complete arm’s length sale, without any credit support from the seller and there is typically no tranching. This results in substantial haircuts on these stressed loan pools. Further, most of the NPLs that face a problem in the current scenario are retail loans or re-performing loans (see discussion on re-performing loans later). These retail pools are not normally sold under the ARC route since ARCs lack the capability in this specific asset class and are more suited towards wholesale transactions.

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Tweezing out for dormancy: RBI intends to intensify regulatory audits of NBFCs

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  • By CS Anita Baid, Vice President, Vinod Kothari Consultants P. Ltd.

As per reports available on public domain[1], the RBI intends to intensify regulatory audits of non-banking finance companies, to find dormancy, non-compliance, non clarity of business models, or other risks that the regulator may wish to check. The intent seems to be weed out the truant ones out of the crowd of over 9000 NBFCs that exist. It is a fact that in the recent years, the RBI has been granting lesser new registrations, and canceling more of existing registrations, causing the number to come down. It is also important to note that if the number of NBFCs looks overwhelming, it is not because so many companies are into real operation: it is because the regulations currently define a company investing its owned capital into financial investments, with absolutely no access to either public funds or customer interface, as an NBFC, by imputing the public interest that actually does not exist. The number would have been a lot lesser had the regulator had the realisation that if there are no public funds, no customer interface and investment of owned funds being done, there is no reason for the regulator to interfere, as the intent of the country’s Central Bank cannot be to regulate investment activity that one does with one’s own money.

While this issue remains to be advocated for a potential reform, in the meantime, it is important for NBFCs to brace up for the RBI’s inquisitorial interest.

This article is intended to help NBFCs to be better prepared for such regulatory interface.

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Three significant changes in Securitisation Directions

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Loans with less than 1 year to go cannot be securitised; Minimum holding period norms tweaked, may impact home loan securitisation

– Vinod Kothari | finserv@vinodkothari.com

On December 5, 2022, the RBI silently made some significant changes and updated the RBI (Securitisation of Standard Assets) Directions, 2021 (‘SSA Directions’). It is difficult to understand if these amendments are pursuant to some consultation, or feedback gathered from supervisory experience. The three significant changes seem to be mutually disconnected, though some of the amendments are related to the amendments made, on the same date, to the RBI (Transfer of Loan Exposures) Directions, 2021 (‘TLE Directions’) too.

We deal with the three amendments, and their implications, below:

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IFSC Banking Units allowed to deal in Structured Finance Products

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– Kanakprabha Jethani | finserv@vinodkothari.com

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Draft Master Direction on IT Governance, Risk, Controls and Assurance Practices

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An analysis of its impact on NBFCs

– Team Finserv, Vinod Kothari Consultants | finserv@vinodkothari.com

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Our recent write-ups on financial services: https://vinodkothari.com/category/financial-services/

RBI introduces corporate governance norms for Asset Reconstruction Companies

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Timothy Lopes | Manager | finserv@vinodkothari.com

The RBI has, on October 11, 2022, issued a circular[1], amending the extant regulatory framework for Asset Reconstruction Companies (‘ARCs’) and introducing corporate governance norms and other aspects through this circular.

Considering the importance of ARCs, a need was felt to review the extant regulatory framework. Through the Statement on Developmental and Regulatory Policies released along with the Monetary Policy Statement on April 7, 2021, the RBI had set up a committee to “undertake a comprehensive review of the working of ARCs in the financial sector ecosystem and recommend suitable measures for enabling such entities to meet the growing requirements of the financial sector.” The committee, constituted on April 19, 2021[2], had submitted its report to RBI and the same was placed on the website of RBI on November 02, 2021[3] and many recommendations have been implemented since. The circular comes pursuant to the recommendations of the said committee.

This circular is in addition to the extant regulatory framework governing ARCs and come into effect immediately or as otherwise indicated specifically therein.

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Group NBFCs’ assets to be aggregated for middle layer classification: RBI clarification

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– Aanchal Kaur Nagpal, Manager | aanchal@vinodkothari.com

RBI vide notification dated October 11, 2022, has clarified that the assets of NBFCs forming part of a group will be aggregated for determination of the “middle layer” status of NBFCs. This clarification dates back to the 1st of October and therefore, as on the effective date of the SBR framework, NBFCs which, on a consolidated basis, have assets of Rs 1000 crores or above, will have to start adhering to the  SBR framework as applicable to NBFC-ML.

Effective date

The Circular will be effective retrospectively from the date of applicability of the SBR Framework i.e. October 01, 2022.

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Stressed for reform: RBI proposes stressed assets securitisation and loss provisioning

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– Team Finserv (finserv@vinodkothari.com)

Rating agency Standard and Poor’s recently noted that at least 60 percent of the world’s economies are either into recession already or heading towards the same. The same report notes that 29 of the 33 countries covered by the study have disorderly inflation above the targets set by the respective central banks[1]. OECD’s interim report of September, 2022 says that despite a boost in activity as COVID-19 infections drop worldwide, global growth is projected to remain subdued in the second half of 2022, before slowing further in 2023 to an annual growth of just 2.2%. This is accompanied by inflationary pressures in most countries[2]. India is one of the two countries projected to have a growth rate of more than 6%.

The RBI’s monetary policy, September, 2022, as expected, has announced an interest rate hike of 50 bps in the policy rates.

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Lost in Layers: lower threshold for subsidiaries under ODI norms raises concern

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Vinita Nair, Senior Partner | Vinod Kothari & Company | corplaw@vinodkothari.com

It is quite common for entities to have subsidiaries in India and outside India in order to undertake business activities. The norms for incorporating a subsidiary in India is mainly governed by provisions of Companies Act, 2013 (‘CA, 2013’) and also the FDI norms for investment in the non-debt instruments, where the investment is being made by a person resident outside India. Similarly, the norms for incorporating a subsidiary outside India is mainly governed by provisions of CA, 2013 and also ODI norms for investment in the non-debt instruments. Additionally, there is a concept of restriction on layers of subsidiaries, prescribed under CA, 2013 and also under the new regime, which has raised cause of concern as well as confusion among India Inc., which is intended to be addressed by the author in this article. 

RBI, effective from August 22, 2022 notified norms on Overseas Investment (‘OI’) in the form of OI Rules, OI Regulations and OI Directions. Read our article on the overview of the OI norms here. Our presentation can be accessed here.

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Revised ODI Norms: A step towards greater clarity & liberalization?

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FCS Vinita Nair | Senior Partner, Vinod Kothari & Company | corplaw@vinodkothari.com

Investments by Indian entities outside India is a very common phenomenon and several companies have presence outside India by virtue of forming a Joint Venture (‘JV’) and Wholly Owned Subsidiaries (‘WOS’). While the intent is to permit investment overseas, however, with reasonable fetters to ensure that money is not siphoned outside India. Hence, the prescribed limits along with approval and reporting requirements.

With the enforcement of amendment proposed in Finance Act, 2015 in October, 2019[1] powers vested with Central Government (CG) and Reserve Bank of India (RBI) with respect to permissible Capital Account Transaction were revisited. Power to frame rules relating to Non-Debt instruments (‘NDI’) were vested with CG and to frame regulations relating to debt instruments were vested with RBI. The scope of NDI inter alia covers all investment in equity instruments in incorporated entities: public, private, listed and unlisted; acquisition, sale or dealing directly in immoveable property.

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