Why in News?

• The SC order quashing a circular issued by the RBI on resolution of bad loans is a set back to the evolving process for debt resolution. The circular had forced banks to recognise defaults by large borrowers with dues of over ₹2,000 crore within a day after an instalment fell due; and if not resolved within six months after that, they had no choice but to refer these accounts for resolution under the Insolvency and Bankruptcy Code.

Background:

What was Feb 12 circular?

• The RBI circular issued on February 12, 2018 is essentially a revised framework for the resolution of stressed assets.
• The circular went into effect on the same day that it was issued.
• All existing schemes for stressed asset resolution were withdrawn with immediate effect, which included the –
• Framework for Revitalizing Distressed Assets
• Corporate Debt Restructuring Scheme
• Flexible Structuring of Existing Long-Term Project Loans
• Strategic Debt Restructuring Scheme (SDR)
• Change in Ownership outside SDR
• Scheme for Sustainable Structuring of Stressed Assets (S4A)
• All these schemes allowed more lenient terms of resolution than the February 12 circular.
• As per the circular, banks were required to immediately start working on a resolution plan for accounts over Rs 2,000 crore.
• It prescribes insolvency proceedings under the Insolvency and Bankruptcy Code (IBC), for a debt servicing default beyond 180 days.
• Also, banks have to recognise loans as non-performing even if the repayment was delayed by just one day. Not adhering to the timelines in the circular would attract stringent supervisory and enforcement actions. The RBI argued that the circular had been issued in the public interest, with a view to ensure the timely resolution of stressed assets.
• It was intended to stop the “evergreening” of bad loans.

What is the Supreme Court’s present order?

• The Supreme Court held the February 12 circular “ultra vires as a whole”.
• This means that the RBI had gone beyond its powers and thus the circular is “of no effect in law”. The order provides immediate relief to companies that have defaulted in repayments, especially those in power, shipping and sugar sectors.

What are Bad loans and NPA?

• A loan where repayments are not being made as originally agreed between the borrower and the lender, and which may never be repaid.
• Under the present NPA concept, there are four categories of accounts.
• Standard assets or performing assets – the accounts in which the instalments are promptly paid without any delay. Substandard assets – the loan accounts where the principal/interest or principal and interest are not forthcoming for more than 90 days.
• Doubtful assets – no repayments for more than twelve months in the case of loans already categorised as substandard assets and for such loan accounts, the realisable value of securities is more than the liability in the account.
• Loss assets – no repayments for more than twelve months in the case of loans already categorised as substandard assets and for such loan accounts, the realisable value of securities is less than the liability in the account or there are no securities available for the loan accounts.

What measures can be taken?

• The right place for this work is a private equity fund. A private equity fund is fully private, is not hindered by regulation, is able to make sound decisions quickly owing to the absence of bureaucracy, and has strong financial incentives for the decision makers.
• The right way forward is for banks to sell bad assets to private equity funds.
• The basics of a regulator is the three process manuals that govern the legislative, executive, and quasi-judicial branches.

What was IBC, 2016?

• The code covers individuals, companies, Limited Liability Partnerships and partnership firms. The insolvency resolution process can be initiated by any of the stakeholders: business/ debtors, creditors & employees
• When firm defaults, a committee of its creditors will decide whether to revive the company or liquidate it. This has to be completed within 180 days. It can be extended by 90 days if the case is complex.
• The bodies which are already existing have been chosen as adjudicating authority (the authority who make judgement) for cases on insolvency namely National Company Law Tribunal (NCLT) for corporate and Debt Recovery Tribunal (DRT) for individuals
• The code will also address cross-border insolvency through bilateral agreements with other countries. Insolvency professionals have been created to do the process of insolvency resolution. They will specialize in helping sick companies.
• Insolvency professionals will be members of Insolvency Professional Agencies created under the code. These agencies will certify the professionals.
• Information utilities have also been created to collect, collate and disseminate all information about debtors to make a database about serial defaulters.
• Insolvency & Bankruptcy Board will be set up to regulate insolvency professionals, insolvency professional agencies and information utilities.

What are the potential benefits of the Act?

• Ease of doing business is not just about easy entry but also easy exit. To ensure the survival of fittest in a market economy, ease of exit is also very important. The ancillary benefits of the code are: It will improve India’s ranking in the ease of doing business index. On the parameter of resolving insolvency, India is ranked 136th among 189 countries. The code is expected to improve this ranking. It will promote investment and entrepreneurship in the economy. It will address India’s bad debts problems. Banks will be able to recover their loans from the bankrupt companies in a timely manner. The code could reduce the chances of another Kingfisher like incident in India
• Timely resolution of companies will free up bank’s resources and also increase credit
• availability in the economy. Productive resources of the economy will be put to best use.