March 27, 2023

The Reserve Bank of India took the first significant step towards moving banks on the Ind-AS accounting standards on Friday after it indicated that it would soon release a discussion paper on expected loss based loan loss provisioning by banks.

“As a further step towards converging with globally accepted prudential norms, it is proposed to adopt expected loss approach for loss allowances required to be maintained by banks in respect of their exposures,” RBI governor Shaktikanta Das said. “As a first step, a discussion paper on the various aspects of the transition will be issued shortly.”

The central bank has in the past conducted an impact assessment on the implementation of Ind-AS, India’s version of International Financial Reporting Standard (IFRS). In March 2019, the RBI had announced deferral of IndAS till further notice. Non-bank financing companies already follow this model.

The IFRS 9 moves away from the incurred credit loss model to expected credit loss model and which would mean that the timing of recognition of loss could be preponed. Due to this the provisioning have to be increased and could in turn impact the capital adequacy ratio.

Experts point out that as banks have strengthened their capital position in the last two years, this is an opportune time to implement these rules.

“We see that the central bank gradually bringing in a roadmap of transitioning towards Ind-AS, and this is a very good time because their is a lot of headroom as banks have strong balance sheets,” said Anil Gupta, Sector Head – Financial Sector Ratings, ICRA Ratings. “Even if there is a capital hit due to this banks will be able to recover in a much better manner.”

The incur credit loss model used by banks presently is based on the guidelines by the RBI where it takes into account by how many days the loan is delayed before classifying it as a stressed asset.

On the other hand banks would be expected to factor in economic cycles, whether there is a potential bubble forming and then factor in while arriving at the health of a loan under the expected credit loss model.

This would mean that banks would have to calculate probability of a loan getting bad, before there are any indications of it going bad.

If this model is followed it would lead to banks having to provision for these stressed loans much in advance and would impact the timing of recognition.

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