Understanding the Moratorium Scheme
Who could have known that the sluggish growth witnessed by our country during the previous fiscal was not the end of this economic cataclysm, and merely the beginning of testing times? The outbreak of the novel coronavirus has rendered businesses into temporary rattraps and liquidity crunches to an extent that could not have ever been thought of, predicted, or imagined! Without a doubt, our government is on top of things and is functioning at its best to restore relaxation in the country at the earliest.
Amidst the chaos, the Central Bank, on 27th March 2020, issued a ‘COVID-19 Regulatory Package’ wherein RBI has allowed all lending institutions to offer a 3-month moratorium on payment of instalments falling due between 1st March 2020 and 31st May 2020. It may be noted that the term ‘instalment’ here is inclusive of principal payments, interest payments, EMIs, credit card dues and eligible borrowers include both retail and wholesale sectors. In layman terms, the moratorium can be understood as a ‘temporary suspension’ or ‘EMI holiday’. Till date, the common practice was moratorium being granted only before the commencement of scheduled repayments- but as aforementioned, this one-of-a-kind virus is forcing us to function in unique ways! The idea underlying the package is duo-fold:
- Making certain that viable businesses are not forced to shut down on account of disruptions brought about by the pandemic.
- Attenuate the burden of debt servicing to ensure that entities/households are capable of meeting their other fixed routine expenses.
The Fine Print…
One must not forget that nothing in the world is free- everything comes bearing a cost. Likewise, this so-called ‘relief’ package has to be paid for, in the form of accrual of interest on the outstanding amount which shall continue to be compounded over the 3-month period. (More like A-CRUEL, right?) Yes, the INTEREST-METER does not go off and this grace period should NOT be confused with a WAIVER. Let us take a look at how the policy shall work for different credit categories:
|Term Loans (Corporate/Housing/Auto/Personal)||Working Capital|
|Interest shall continue to accrue on the outstanding portion||Interest shall continue to accrue on the outstanding portion|
|For EMI based TLs, tenure shall be extended by 3 months OR a higher EMI may be stipulated keeping the residual tenor unchanged, as per the Bank’s internal policy.||Accumulated interest on CC/OD facilities shall be recovered post expiry of moratorium.|
|For Non-EMI based TLs, rescheduling of principal can be done, say for e.g., a quarterly instalment due on 30th April shall be deferred to 30th July, and accordingly, the tenure shall shift across the board by 3 months.||There will be re-calculation of drawing power by reducing margins and re-assessing the WC cycle.|
|Note : CIBIL/Credit Score & NPA/SME classification of borrowers shall remain on hold (NOT unchanged) on availing the deferment option.|
For Credit Card,
Interest shall be accumulated on the amount already due PLUS purchases made during the next 2 months. P.S.: The settlement amount could turn out to be exceedingly high given that credit card interest rates range between 25-40% p.a.
Which Borrowers should opt for the Scheme?
- Borrowers who are genuinely facing cash flow mismatches and are not in a position to meet their financial obligations should be the first ones to take cover of the scheme. The cost of deferment can turn out to be considerably high, hence it is advisable not to opt for it until push comes to shove. For e.g., salaried individuals should continue to pay their EMIs.
- Borrowers, where the instalment falling during the 3-month period is towards the end of the scheduled repayment tenure are also likely to opt for the scheme due to a relatively lower interest burden when compared to a longer tenor loan. This can apply to borrowers who believe in adopting a conservative approach and are uncertain of the financial difficulties that the future entails.
- Borrowers who can dig into their reserves and are financially sound to pay their dues today BUT belong to an industry which is likely to bleed during the entire fiscal and is amongst the worst H.I.T. (Hotels/ IT & Tech/Travel & Tourism) They should take advantage of the scheme and opt to postpone their instalment.
Just theoretically, for argument sake, could a borrower be in a position to negotiate with the bank and waive his interest liability during the moratorium?
Say, our friend, Mr. X is a reputed client in the hospitality industry. His 5 Cr TL instalment was recovered in March, prior to the issue of RBI Circular. So, he requests his bank to reverse the instalment account, credit his current account and defer his instalment to June under the moratorium scheme. However, he also offers the Bank to place a lien on his current account to the extent of 5 Cr. i.e. the borrower cannot withdraw the said amount and it basically belongs to the Bank. By doing this, the bank has secured the instalment for June which is a good thing, given the precarious condition of the hospitality industry and the significant amount of 5 Cr. Simply put, the bank is trying to protect its books by ensuring that a default is not made in the month of June.
Moving to the borrower’s point of view- Since the bank has a lien on the said amount, the borrower cannot be charged interest on that amount. Now one may ask, why place a lien on the current account and not an FD instead? To answer this, if a lien is created on a PRODUCTIVE ASSET, it will reinforce the bank’s right to charge interest, which the borrower is trying to avoid in the first place. Looks like a WIN-WIN, doesn’t it? The burden of ‘default’ is off the bank’s shoulders and the burden of ‘interest’ is off the borrowers’.
However, this is just an example in theory and usually, such a scenario will be driven by many other factors. Not all banks will adopt a conservative and cautious approach to secure their instalments and forego interest payments for 90 days.
At the end of the day, it is the execution that matters and not just the idea- no matter how visionary it may be! Unfortunately, our government today is better known for developing perfect strategies but struggles on the execution front. The regulatory relief package may distantly seem attractive, but is facing numerous challenges today-
- Branches are facing operational hindrances in implementing the scheme w.r.t collation of documentation from customers and the bare-bone infrastructure that is available ‘working from home’.
- RBI has not yet given a crystal clarification on whether the deployment of the scheme is at the discretion of the bank or the customer. Public sector banks have decided to provide a blanket moratorium cover to all its customers to avoid any mayhem altogether, whereas private banks are still struggling with the decision.
- Frauds are on the rise and customers are being asked to share OTPs in order to defer their obligations.
COVID-19 has impacted businesses all across the globe, and banks are NOT going to be an exception. Various stimulus initiatives from RBI to inject liquidity in the system, primarily with the intention to extend a helping hand to the needy borrowers, may eventually hurt the banking system. RBI has mandated all the banks to provide for 10% incremental provisioning towards moratorium accounts, to avoid a sudden hit to financials in the event of an unexpected rise in the level of defaults. Even though these provisions are reversible, at least the first 2 quarters of FY21 are going to look gloomy.
The harsh reality remains that, despite being flushed with liquidity, lending money to the right set of borrowers still remains a challenge. We are well aware that the banking industry is being battered for its countless scandals and skyrocketing NPA levels over the years. Sadly, even after being the ‘Good Samaritans’ during this pandemic, yet another hurdle is now seen in their possible path to recovery.
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Excellent insight in to moratorium
Very Good Insight!
Can you please explain from “The burden of ‘default’ is off the bank’s shoulders and the burden of ‘interest’ is off the borrowers’.”, how is the burden of interest “off” the borrower? Can banks legally forgo the interest collection from large clients without affecting their credit score?
Hi! Thanks Vaibhav! Under a normal scenario where the borrower opts for moratorium, interest would continue to accrue on the borrower’s instalment of 5 Cr for another 3 months! But since in our theoretical example here, the bank has placed a lien on the said amount after reversal in his current account, this amount basically belongs to the Bank and not the borrower since he won’t be able to use it! Thus, the bank has no right to charge interest on the said amount. No, I have not seen such an arrangement happen IRL, and it seems quite unlikely too… Read more »
Very well structured….fully clarified!
Well crafted and insightful…
Nicely explain and easy to understand about impact of Covid 19.
Excellent decoding of myth
Crystal clear explanation on moratorium
Very nice … Hope it’s implemented unanimously
I have a question regarding theoratical example that as we mentioned to crete lien on current account balance so the amount would be technically in hands of bank. So what is the use of this he can also pay the installment as both apparently seems similar. In both cases money is with bank
Hi Janam! If we talk w.r.t the bank’s point of view, the underlying purpose is to protect their books from reflecting an NPA of 5 Cr in June. Our borrower belongs to the hotel industry and there is a good chance that things might not stabilise for him even after 3 months. So he tells the bank ‘I can honour this instalment now but I’m not sure how things would be in June and whether or not I’d be able to honor the obligation. So it’s better if we take advantage of the scheme and defer my tenure.’ To which… Read more »
Very well explained. More banks should implement this if needed, else we will see disastrous Q2 results.
Very well written Shourya! Great insight!
Very well written Shourya!
327 of 500 top firms have applied for moratorium and now I know it was for ‘obvious reasons l’ 😂