Resolution Framework for COVID-19 related Stress

Ashish M. Shaji

16 Nov, 2020

The Reserve Bank of India issued a principle-based resolution framework for addressing defaults from borrowers owing to Covid-19 related stress. The resolution framework for Covid-19 related stress is formed as a special window under the 7 June 2019 RBI guidelines for restructuring.

What was the need for this Resolution Framework?

The economic fallout due to the Covid-19 pandemic has caused significant financial stress for borrowers. The resultant stress can potentially impact the long term viability of many firms. It can impair the entire recovery process, thus posing significant financial stability risks.

With an intent to facilitate the revival of real sector activities and mitigate the impact of the ultimate borrowers, the RBI decided to provide a window under the Prudential Framework to allow lenders to implement the resolution plan in respect of the eligible corporate exposures and personal loans. 

Who are not eligible for a resolution plan under the framework?

The following categories of borrowers/credit facilities would not be eligible for a resolution plan:

• MSME borrowers whose aggregate exposure to the lending institutions is 25 crore rupees or less as on 1^st March 2020. 
• Farm credit as listed in para 6.1 of Master Direction dated 7^th July 2016 (as updated) or other relevant instruction as applicable to the specific category of lending institutions. 
•  Loans to Primary Agricultural Credit Societies, Farmers Service Societies, and Large Sized Adivasi Multi-Purpose Societies for on lending to agriculture. 
• Exposures of lending institutions to financial service providers.
• Exposures of lending institutions to Central Government and State Government, Local Government Bodies and body corporate established by the Act of Parliament or by State Legislature.
• Exposures of Housing finance Companies where the account has been rescheduled.

Resolution Framework: Resolution of stress in personal loans

This part will be applicable to the resolution of personal loans sanctioned to the individual borrowers by lending institutions. However, credit facilities provided by the lending institutions to their own personal/staff will not be eligible for resolution under the Resolution Framework.

Those borrower accounts shall be eligible only for resolution, which were standard but not in default for more than 30 days with the lending institution as on 1^st March 2020. The lenders would be required to classify such accounts as standard till the date of invocation of resolution.

The resolution under the framework may be invoked not later than 31^st December 2020 and should be implemented in 90 days from the date of invocation.  

Resolution Framework: Resolution of Other Exposures

In the case of only one lender with exposure to the borrower, the lender can take the decision about the request for resolution by such a borrower according to its board approved policy.

In case there are multiple lending institutions with exposure to the borrower, the resolution process will be treated as invoked in respect of any borrower in case lending institutions representing 75 % by value of total outstanding credit facilities, and not less than 60% of lending institutions by number agree to invoke it.

An Inter Creditor Agreement must be signed by all the lenders within 30 days from the date of the invocation of the resolution process. In the case where the lenders representing 75% by value and not less than 60% by number, don’t sign the Inter Creditor Agreement within 30 days, then the invocation will lapse. It may be noted that the resolution process cannot be invoked again with respect to such borrowers.

Lenders to the borrower other than the lending institutions may also sign the Inter Creditor Agreement if they want. In case they sign, they will be fully bound by the stipulations of the Inter Creditor Agreement.

Constitution of an Expert Committee

The Reserve Bank shall constitute an Expert Committee which shall recommend the financial parameters needed to be factored into the assumptions that are part of each resolution plan and also the sector-specific benchmark ranges for such parameters. The parameters shall cover aspects relating to leverage, liquidity, debt serviceability, etc.

Features of the Resolution Plan

The resolution plan may involve any action, including the sale of exposure to other entities, change in ownership, and restructuring except for compromise settlements. The resolution plan can include sanctioning of additional credit facilities with a view to addressing the financial stress due to Covid-19, even if there is no renegotiation of existing debt.

It may be noted that lending institutions can allow an extension of the residual tenor of loan with/without payment moratorium by a period not more than two years. Such moratorium period will come into effect immediately upon the implementation of the resolution plan.

Further, the revised assumptions that go into the plan should at least factor in the financial parameters decided by the Expert Committee.

Conversion of debt into other securities

The resolution may provide for conversion of a portion of the debt to equity or other marketable, non-convertible debt securities issued by a borrower but in this, the amortization schedule and the coupon on such debt securities must be similar to the terms of the debt held on the books of the lenders after the implementation of the resolution plan.

The valuation of equity instruments issued by the borrower upon conversion shall be governed by the Prudential Framework, and debt securities shall be valued according to the Master Circular- Prudential Norms for Classification, Valuation, and Operation of Investment Portfolio by Banks dated 1^st July 2015 or other relevant instruction as applicable to a specific category of lenders. Where the lenders convert the portion of the debt into any other security, it shall be collectively be valued at Re.1. 

Asset classification and Provisioning

In the case where the Resolution Plan is implemented, the asset classification of loan accounts classified as standards may be retained as such upon implementation, whereas borrower’s accounts that have slipped to NPA between invocation and implementation can be upgraded as Standard, on the date of plan implementation.

After the implementation, an additional provision of 10% must be maintained by the lender part of the Inter Creditor Agreement. The loss provision (10%, as the case may be) provided for moratorium accounts can be used for meeting the additional provision required under the framework.

Disclosure requirements

The lenders are required to make quarterly, half-yearly and annual disclosures in the financial statements in the format prescribed until all exposures on which resolution plan was implemented is fully extinguished or completely slips into NPA, whichever is earlier. 

Conclusion

Read our article:Understanding various aspects of Insolvency Resolution Plan under IBC 2016