According to the RBI, the practice of providing for default only after it is incurred has proved to be inadequate. This is because the rules are pro-cyclical — they require banks to set aside funds when they are going through a tough phase. Expected credit loss provisions require banks to make provisions earlier.
The central bank will bring in a discussion paper on the various aspects of the transition on expected credit loss provisioning. The move will be a step towards converging with globally accepted prudential norms. Incidentally, the expected credit loss provision is a requirement of the Ind-As accounting system. Although banks were expected to migrate to the new accounting standards, the move has been delayed for several years.
“As a stepping stone towards Ind-As, expected credit loss (ECL) based provisioning approach is expected to be implemented for banks. While we await the draft guidelines from the RBI, with improved capital position along with high provision cover on NPAs, the banks are likely to be well-positioned to take an incremental hit, if any, on their capital because of an increase in provisions on their standard as well as overdue loans,” said Anil Gupta, senior VP, ICRA.