Non-Performing Assets (NPAs)

A Non-Performing Asset (NPA) is a loan that has stopped "performing", meaning the borrower has stopped paying interest or instalments for a long time. In India, a loan usually becomes an NPA when interest or principal is overdue for more than 90 days. For a bank, a loan is an asset because it earns interest. When that income stops, the asset is "non-performing". A high level of NPAs makes banks weak, cuts their profits and reduces their ability to give new loans.

Why does it matter?

Banks lend out the money that people keep as deposits. If many borrowers do not repay, the bank loses money. It then has to set aside its own profits to cover the expected loss. This leaves less money for new loans to farmers, small businesses and home buyers. So high NPAs slow down the whole economy, not just the bank.

How is a loan classified? Step by step

The RBI first watches for early warning signs through Special Mention Accounts (SMA):

• SMA-0: Payment overdue for up to 30 days.
• SMA-1: Overdue for 31 to 60 days.
• SMA-2: Overdue for 61 to 90 days.

After 90 days, the loan becomes an NPA. NPAs are then placed in three groups:

• Substandard asset: An NPA for up to 12 months.
• Doubtful asset: Has stayed in the substandard group for 12 months.
• Loss asset: A loan that the bank, its auditors or the RBI consider unrecoverable, even if not yet fully written off.

As a loan moves from substandard to doubtful to loss, the bank must keep aside a larger share as provisions (money set aside to cover losses).

How is it measured?

• Gross NPA (GNPA) ratio: Total NPAs as a percentage of total loans.
• Net NPA (NNPA) ratio: NPAs after subtracting the provisions already made, as a percentage of net loans. It shows the loss not yet covered.
• Provision Coverage Ratio (PCR): How much of the bad loans has already been covered by provisions.
• Slippage ratio: The share of good loans that turned bad during a year.

Where did India's NPA problem come from?

In the mid-2000s, the economy was growing fast. Banks, especially public sector banks, lent heavily to big companies for steel, power, roads and telecom projects. Many projects got stuck because of delays in land, environment clearances and falling global prices. Companies could not repay. For years, many such loans were restructured (repayment terms were eased), so they did not show up as NPAs.

• In 2015, the RBI carried out an Asset Quality Review (AQR). It made banks recognise hidden bad loans honestly and ended the relaxed treatment of restructured loans.
• As a result, the GNPA ratio of scheduled commercial banks rose to about 11.2% in March 2018, the peak. For public sector banks, it reached about 14.6%.
• The Economic Survey 2016-17 called this the Twin Balance Sheet problem: both banks (full of bad loans) and companies (full of debt) were in trouble at the same time, so neither could invest or lend.

How was it fixed?

• SARFAESI Act, 2002: Lets banks take over and sell a defaulter's secured property without going to court, after a 60-day notice.
• Insolvency and Bankruptcy Code (IBC), 2016: A time-bound process to either rescue a failing company or close it down. The resolution should be done in 180 days, extendable once by 90 days, with an outer limit of 330 days including court time (set in 2019).
• Prompt Corrective Action (PCA) framework: Puts restrictions on weak banks. For example, the first trigger is hit if net NPA goes above 6% or capital falls below the required level.
• Recapitalisation: The government put fresh capital into public sector banks.
• National Asset Reconstruction Company Ltd (NARCL): A "bad bank" incorporated in July 2021 to take over large bad loans from banks.

By March 2026, the GNPA ratio had fallen to 1.8%, a multi-decade low.

What is changing next?

The RBI has issued final rules to move banks to an Expected Credit Loss (ECL) system from 1 April 2027. Today, banks set aside money mostly after a loan goes bad (the "incurred loss" method). Under ECL, banks must set aside money in advance, based on the expected chance of default. This makes banks prepare earlier.

Commonly confused concepts

• NPA vs write-off: A write-off removes a bad loan from the bank's books for accounting. The borrower still owes the money, and the bank can keep trying to recover it. A write-off is not a waiver.
• Write-off vs loan waiver: In a waiver (like a farm loan waiver), the borrower no longer has to pay; usually the government pays the bank.
• Gross NPA vs Net NPA: Gross is all bad loans; net is bad loans minus provisions.
• SMA vs NPA: SMA is an early warning stage (up to 90 days overdue); NPA starts after 90 days.

Issues, criticism and the way forward

• Slow recovery: IBC cases often take far longer than 330 days, and lenders often recover only a part of their money.
• New pockets of stress: Unsecured personal loans, credit cards and microfinance loans have shown rising defaults in some periods.
• Governance in public sector banks: Experts argue that better board-level decision-making and less outside interference in lending would prevent another NPA cycle.
• Way forward: Early recognition of stress, ECL-based provisioning, stronger credit appraisal, and quick use of the IBC.

Concepts to Know

• Principal: The original amount of money borrowed, not counting interest.
• Provisions: Money a bank keeps aside from its profits to cover expected losses on bad loans.
• Restructuring: Changing the terms of a loan (longer time, lower interest) to help a struggling borrower repay.
• Recapitalisation: Putting fresh capital into a bank so that it can absorb losses and continue lending.
• Asset Reconstruction Company (ARC): A company that buys bad loans from banks at a discount and tries to recover money from them.