Non Performing Assets (NPA)

What is NPA (Non-Performing Assets)?

Non-performing assets (NPA) refer to loans or advances where the borrower has defaulted on payments, either missing due dates or failing to meet financial obligations as per the loan agreement. These assets are classified as non-performing after a specific period of non-payment, commonly 90 days, although this duration may vary depending on the loan terms.

Understanding NPAs

• Role in Financial Statements: NPAs are reflected in the balance sheets of banks and financial institutions.
• Lender's Actions:
  • If payments are overdue, the lender may initiate liquidation of pledged collateral to recover losses.
  • Without adequate collateral, the lender may write off the debt as bad debt and potentially sell it to a collection agency at a discounted rate.
• Standard Classification: Loans typically become non-performing after 90 days of non-payment. However, the duration may differ for specific loan terms.
• Timing: NPAs can arise during the loan term or at maturity if unmet obligations are met.

Types of Non-Performing Assets

1. Term Loans:
   • Standard loans where the borrower fails to make payments for more than 90 days.
2. Overdraft and Cash Credit Accounts:
   • Accounts that are classified as "out-of-order" if they remain inactive or unpaid for more than 90 days.
3. Agricultural Advances:
   • Loans tied to agricultural activities are classified as NPAs under the following conditions:
     • Small Duration Crops: Principal or interest remains overdue for two crop/harvest seasons.
     • Long Duration Crops: Principal or interest is overdue for one crop season.
4. Other Accounts:
   • Any account where expected payments are overdue for more than 90 days.

Advantages of NPA Classification

1. Transparency: NPA classification shows up in banks’ financial statements the loan portfolio and associated risk.
2. Corrective Actions: The bank can take actions like restructuring loans or recovering assets through recognition of NPAs.
3. Strict Regulation and Compliance: Reporting on NPAs is a way to exercise regulatory powers and ensure that banking policies and standards are followed in the industry.
4. Informed Decision Making: Helps investors, regulators and stakeholders to analyze the financial health and risk exposure of a bank or institution.

Challenges Associated with NPAs

• Profitability: Increase in NPAs increases provisioning and reduces the bank’s net income.
• Liquidity: NPAs block funds and restrict the bank from lending to other customers.
• Credit Availability: High NPAs may force institutions to reduce lending and hence credit flow to borrowers.