Query No. 22 Subject: Accounting treatment of interest on Non-Performing Assets (NPAs) of a co-operative bank.[1] (Rupees in Crores)
Particulars % At the outset, the querist has stated that it wishes to seek the opinion of the Expert Advisory Committee on treatment of interest on Non-Performing Asset (NPA) and its presentation in its financial statements vis-à-vis regulatory validity and effect on Gross NPA. 3. (A) At present the bank is accounting for monthly interest on Non-Performing Assets (NPAs) as under: At the time of recovery of interest in NPA Accounts, the following book entries are passed: Debit - Actual Inflow (Cash/Clearing/Transfer) and Debit - Overdue Interest Reserve However, interest portion of NPA accounts will not be considered as income and hence, will not be taken into the profit and loss account and the same would simply form contra entries (Interest Receivable and Overdue Interest Reserve). The querist has also clarified the above entries by way of an example illustrated at Annexure A.
4. The querist has stated that Interest Receivable Account and Overdue Interest Reserve Account consist of overdue interest recovery in NPA accounts and standard advances for one month or in excess of one month’s interest. However, the majority amount of overdue interest is of NPA advances. 6. In view of the above, the querist has sought the opinion of the Expert Advisory Committee on correctness of the above accounting treatment or the alternative treatment, if any, suggested by the Committee. C. Points considered by the Committee 7. The Committee notes that the basic issue raised in the query relates to accounting treatment of interest on NPA and the presentation thereof in the bank’s financial statements. The Committee, therefore, restricts itself to this issue and has not examined any other issue that may arise from the Facts of the Case such as, accounting for interest on performing advances or standard accounts, the reasonability of the balance in the ‘Overdue Interest Reserve’ Account vis-à-vis the aggregate balance of the advances, the manner and tenure of computation of the interest on non-performing advances, accounting for bank charges, correctness of various accounting entries passed by the bank, etc. At the outset, the Committee also wishes to point out that the Committee has expressed its opinion purely from accounting perspective and not from legal perspective, such as legal interpretation of RBI guidelines, etc. The Committee has, therefore, presumed that the accounting treatment being presently followed by the company is in line with the RBI guidelines issued from time to time. 8. The Committee notes from the Facts of the Case that interest due on Non-Performing Assets (NPA) is accounted by the bank on a monthly basis by debiting ‘Interest Receivable Account’ and crediting ‘Overdue Interest Reserve Account’, which is not routed through its profit and loss account. On receipt of interest on such NPA, the aforesaid entry is reversed to the extent of the interest received and the amount received is credited to the profit and loss account. 9. The Committee further notes that the Reserve Bank of India Master Circular No. RBI/2004-05/286/UBD.BSD.IP.MC.No.15/12.05.05/2004-05 dated December 2, 2004 on Prudential Norms on Income Recognition, Asset Classification, Provisioning & Other Related Matters, as referred to by the querist in the extant case has been updated by Master Circular No. RBI/2014-15/74/DBOD.NO.BP.BC.9/21.04.048/2014-15 dated July 1, 2014. However, since the financial year 2012-13 has been referred to in the Facts of the Case, the Committee has considered Master Circular No. RBI/2012-13/64/ UBD.BPD.(PCB) MC No.3 /09.14.000/2012-13 dated July 2, 2012 in the extant case. In terms of paragraph 4.5.3 of both the Master Circulars dated December 2, 2004 and July 2, 2012, “With a view to ensuring uniformity in accounting the accrued interest in respect of both the performing and non-performing assets, the following guidelines may be adopted notwithstanding the existing provisions in the respective State Co-operative Societies Act: (i) interest accrued in respect of non-performing advances should not be debited to borrowal accounts but shown separately under ‘Interest Receivable Account’ on the ‘Property and Assets’ side of the balance sheet and corresponding amount shown under ‘Overdue Interest Reserve Account’ on the ‘Capital and Liabilities’ side of the balance sheet.” The Committee also notes that the balance sheet format prescribed under the Third Schedule to the Banking Regulation Act, 1949 (as applicable to co-operative banks) also requires these accounts to be presented in the similar way on the face of the balance sheet. Further, paragraph 4.1.1 of the Master Circular states that “the policy of income recognition has to be objective and based on the record of recovery. Income from non-performing assets (NPA) is not recognised on accrual basis but is booked as income only when it is actually received. Therefore, banks should not take to income account interest on non-performing assets on accrual basis”. 10. The Committee notes from the above that in the extant case, considering the RBI Circular, the bank is not charging interest on NPA on accrual basis, i.e., when interest becomes due; rather, it is charging interest on receipt basis. The Committee further notes that in terms of the requirements of the RBI Circular, the ‘Interest Receivable Account’ and the ‘Overdue Interest Reserve Account’ in respect of interest receivable from NPA accounts, are reflected by the bank on the ‘Property and Assets’ side and ‘Capital and Liabilities’ side of the balance sheet, respectively. The Committee is of the view that ‘Interest Receivable Account’ and ‘Overdue Interest reserve account’ are of the nature of memorandum accounts, which should not be reflected in the balance sheet. In this regard, the Committee also notes that the similar RBI Circular in respect of commercial banks also recognises that accrued interest account in respect of NPA is a memorandum account and the interest receivable from NPA accounts should not be reflected in the balance sheet. Accordingly, the Committee is of the view that though treatment followed by the bank in the extant case to incorporate these memorandum accounts in the balance sheet is in compliance with RBI Circular, the same is not appropriate from the accounting principles perspective. 12. The Committee also notes that as per paragraph 13 of Accounting Standard (AS) 9 ‘Revenue Recognition’, issued by the ICAI, “Revenue arising from the use by others of enterprise resources yielding interest, royalties and dividends should only be recognised when no significant uncertainty as to measurability or collectability exists”. Accordingly, as per AS 9, to the extent and till the time such uncertainty of collection exists, revenue recognition should be postponed. The revenue needs to be recongised when it is reasonably certain that the ultimate collection will be made. The Committee also notes that paragraph 2.1.2 of the Reserve Bank of India Master Circular dated July 2, 2012 on Prudential Norms on Income Recognition, Asset Classification, Provisioning & Other Related Matters, inter alia, states that “with effect from March 31, 2004, a non-performing asset shall be a loan or an advance where: (i) Interest and / or installment of principal remain overdue for a period of more than 90 days in respect of a Term Loan”. Therefore, the Committee is of the view that when an advance becomes an NPA, it means that recoveries of dues (including interest) in respect of such NPA is not as per the agreed terms. Thus, in case of NPAs, there is an uncertainty of collection of interest as well as principal amount of the advance. The Committee also notes that as per paragraph 4.1.1 of the Master Circular, a bank cannot recognise income (interest) on any advance which has become a Non-Performing Asset. The Committee is of the view that similar principle is laid down in paragraph 13 of AS 9 for recognition of revenue by way of interest while requiring not to recognise revenue when significant uncertainty as to its collectability exists. Accordingly, the Committee is of the view that the accounting treatment for recognition of revenue followed by the bank referred to in paragraph 10 above considering the guidelines of the Reserve Bank of India is in compliance with the provisions of AS 9. As far as the manner of appropriation of recoveries to interest portion, bank charges and to principal amount of advance is concerned, the Committee is of the view that appropriation/allocation is an internal matter of the bank and does not have any accounting considerations. The same should be decided by the bank keeping in view its regulatory environment. 13. As far as presentation and disclosures in the financial statements are concerned, the Committee is of the view that apart from the disclosure requirements as per the RBI guidelines and Banking Regulation Act, where the revenue recognition is postponed, disclosures should also be made as per paragraph 14 of AS 9 which is reproduced below:
D. Opinion 14. On the basis of the above, Committee is of the view that although treatment followed by the bank to incorporate the ‘Interest Receivable Account’ and ‘Overdue Interest Reserve’ Account which are memorandum accounts in the balance sheet is in compliance with the RBI circular, same is not appropriate from the accounting perspective, as discussed in paragraph 10 above. The accounting treatment for recognition of revenue followed by the bank referred to in paragraph 10 above considering the guidelines of the Reserve Bank of India is in compliance with the provisions of AS 9, as discussed in paragraphs 11 and 12 above. Further, the Committee is of the view that apart from the disclosure requirements as per the RBI guidelines and Banking Regulation Act, disclosures should also be made as per paragraph 14 of AS 9, as discussed in paragraph 13 above.
Annexure A
1st April, 2009 30th April, 2009 5th May, 2009 Overdue Interest Reserve Account Dr. 4,55,000.00 31st May, 2009 31st May, 2009 3rd June, 2009 5th June, 2009 Overdue Interest Reserve Account Dr. 4,74,000.00 30th June, 2009 5th July, 2009 Overdue Interest Reserve Account Dr. 5,40,000.00 31st July, 2009 31st August, 2009 31st August, 2009 30th September, 2009 1st October, 2009
_________________________ [1]Opinion finalised by the Committee on 24.7.2014.
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