Context: The Reserve Bank of India (RBI) has modified its guidelines on the settlement of dues of borrowers by asset reconstruction companies (ARCs). RBI says that ARCs should use the settlement option only after examining all possible ways to recover the dues.
Relevance of the Topic: Prelims: Key facts about the Asset Reconstruction Companies.
What are Asset Reconstruction Companies?
- Rationale: While banks can take legal action against defaulting borrowers, such actions are often economically unfeasible. To minimise losses and to clear their balance sheets, banks can sell their bad debts to Asset Reconstruction Company (ARC).
- ARC is a special type of financial institution that buys debts of the bank at a mutually agreed value and attempts to recover the debts or associated securities independently.
- ARCs take over the debts of the bank that are Non-Performing Assets.
- ARCs are engaged in asset reconstruction, securitisation, or both.
- All the rights that were held by the lender (bank) in respect of the debt are transferred to ARC.
- Funds required to purchase such debts can be raised from Qualified Buyers.
- Registration & Regulation:
- ARCs are registered under the Reserve Bank of India.
- They are regulated under the Securitisation and Reconstruction of Financial Assets and Enforcement of Securities Interest Act, 2002 (SARFAESI Act, 2002).
| TERMS | MEANING |
| Asset Reconstruction | - Acquisition of any right or interest of any bank or financial institution in loans, advances granted, debentures, bonds, guarantees or any other credit facility extended by banks for the purpose of its realisation. |
| Securitisation | - Acquisition of financial assets either by way of issuing security receipts to Qualified Buyers. |
| Qualified Buyers | - Include Financial Institutions, Insurance companies, Banks, State Financial Corporations, State Industrial Development Corporations, trustee or ARCs registered under SARFAESI. - Also include Asset Management Companies (AMCs) registered under SEBI that invest on behalf of mutual funds, pension funds, FIIs, etc. - Qualified Buyers (QBs) are the only persons from whom ARC can raise funds. |
Working Mechanism of ARC
RBI’s New Guidelines on Settlement of Dues of borrowers by ARCs
- Board-approved policy for dues settlement:
- Every ARC shall frame a Board-approved policy for settlement of dues payable by the borrowers.
- This policy shall cover aspects such as:
- cut-off date for one-time settlement eligibility.
- permissible sacrifice for various categories of exposures while arriving at the settlement amount.
- methodology for arriving at the realisable value of the security.
- Settlement as last resort:
- Settlement with the borrower shall be done only after all possible ways to recover the dues have been examined and settlement is considered as the best option available.
- Minimum Net Present Value (NPV):
- NPV of the settlement amount should generally be not less than the realisable value of securities.
- Lump Sum payment:
- The settlement amount should preferably be paid in lump sum.
- Where the settlement does not envisage payment of the entire amount agreed upon in one instalment, the proposals should be in line with and supported by an acceptable business plan, projected earnings and cash flows of the borrower.
- Procedure to be followed when borrower have aggregate value of more than ₹1 crore of outstanding principal:
- Settlement of dues with the borrower shall be done only after the proposal is examined by an Independent Advisory Committee (IAC).
- Board of Directors including at least two independent directors or a Committee of the Board shall deliberate on IAC’s recommendations.
- Procedure to be followed when borrower have aggregate value of ₹1 crore or below of outstanding principal:
- Any official who was part of the acquisition of the concerned financial asset shall not be part of approving the proposal for settlement of the same financial asset.
- A quarterly report on the resolution of these accounts shall be placed before the Board/ Committee of the Board.
- Borrowers classified as frauds or wilful defaulters:
- For settlement of dues payable by the borrowers classified as frauds or wilful defaulters, guidelines are same as that applicable to borrowers of aggregate value of more than ₹1 crore of outstanding principal, irrespective of the amount involved.