UNIVERSITY OF MUMBAI

Banking Companies

A project submitted on behalf of M.Com Courses

Submitted by: Roll No.153 Abhishek Amarnath Tripathi

Under the guidance of: Prof.Dr Paras Jain 2013-14

DECLARATION

I hereby declare that the project work entitled BANKING COMPANIES submitted to the SYDENHAM COLLEGE OF COMMERCE AND ECONOMICS, is a record of original work done by me under the guidance of Prof.Dr Paras Jain my professor and this project work is submitted in the partial fulfilment of the requirements for the award of the degree of master of commerce. I assert that the statement made and conclusion drawn are an outcome of the project work. I further declare that to the best of my knowledge and belief that the project report does not contain any part of any work which has been submitted for the award of any other degree/diploma/certificate in this University or any other University

_____________________________________ ( Abhishek Amarnath Tripathi, Roll No.153 )

CERTIFICATE
This is to certify that MR.ABHISHEK AMARNATH TRIPATHI of M.COM PART-I (Accountancy) has successfully completed the project on BANKING COMPANIES under the guidance of PROF.DR PARAS JAIN

INTERNAL GUIDE

EXTERNAL GUIDE

PRINCIPAL

Certified that the candidate was examined by us in the project work and viva examination held on ________________________ at SYDENHAM COLLEGE , CHURCHGATE, MUMBAI-20

ACKNOWLEDGEMENT

I would like to thank in my own humble way my supervisor for his guidance and supervision, which has played a vital role in the completion of this Project. I would be failing in my duty if I do not thank to the students, teachers and people who cooperated in the the data collection. In addition i am thankful to my family who has been supportive of my work. I am extremely grateful to my parents who always wanted the best for me and encouraged me to persevere

INDEX / CONTENTS

Sr. No. 1

Particulars Overview of the Indian Banking Sector

Page no. 6

2 3

Legal Provisions for Banking Business RBI Prudential Norms

21 26

Basics of the banks financial statement

38

5 6

Conclusion Bibliography

42 43

CHAPTER 1 AN OVERVIEW OF THE INDIAN BANKING SECTOR

1.1 Introduction
A bank is a financial institution that provides banking and other financial services to their customers. A bank is generally understood as an institution which provides fundamental banking services such as accepting deposits and providing loans. There are also nonbanking institutions that provide certain banking services without meeting the legal definition of a bank. Banks are a subset of the financial services industry. A banking system also referred as a system provided by the bank which offers cash management services for customers, reporting the transactions of their accounts and portfolios, through out the day. The banking system in India, should not only be hassle free but it should be able to meet the new challenges posed by the technology and any other external and internal factors. For the past three decades, Indias banking system has several outstanding achievements to its credit. The Banks are the main participants of the financial system in India. The Banking sector offers several facilities and opportunities to their customers. All the banks safeguards the money and valuables and provide loans, credit, and payment services, such as checking accounts, money orders, and cashiers cheques. The banks also offer investment and insurance products. As a variety of models for cooperation and integration among finance industries have emerged, some of the traditional distinctions between banks, insurance companies, and securities firms have diminished. In spite of these changes, banks continue to maintain and perform their primary roleaccepting deposits and lending funds from these deposits.

1.2 Need of the Banks

Before the establishment of banks, the financial activities were handled by money lenders and individuals. At that time the interest rates were very high. Again there were no security of public savings and no uniformity regarding loans. So as to overcome such problems the organized banking sector was established, which was fully regulated by the
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government. The organized banking sector works within the financial system to provide loans, accept deposits and provide other services to their customers. The following functions of the bank explain the need of the bank and its importance: To provide the security to the savings of customers. To control the supply of money and credit To encourage public confidence in the working of the financial system, increase savings speedily and efficiently. To avoid focus of financial powers in the hands of a few individuals and institutions. To set equal norms and conditions (i.e. rate of interest, period of lending etc) to all types of customers

1.3 History of Indian Banking System

The first bank in India, called The General Bank of India was established in the year 1786. The East India Company established The Bank of Bengal/Calcutta (1809), Bank of Bombay (1840) and Bank of Madras (1843). The next bank was Bank of Hindustan which was established in 1870. These three individual units (Bank of Calcutta, Bank of Bombay, and Bank of Madras) were called as Presidency Banks. Allahabad Bank which was established in 1865, was for the first time completely run by Indians. Punjab National Bank Ltd. was set up in 1894 with head quarters at Lahore. Between 1906 and 1913, Bank of India, Central Bank of India, Bank of Baroda, Canara Bank, Indian Bank, and Bank of Mysore were set up. In 1921, all presidency banks were amalgamated to form the Imperial Bank of India which was run by European Shareholders. After that the Reserve Bank of India was established in April 1935. At the time of first phase the growth of banking sector was very slow. Between 1913 and 1948 there were approximately 1100 small banks in India. To streamline the functioning and activities of commercial banks, the Government of India came up with the Banking Companies Act, 1949 which was later changed to Banking Regulation Act 1949 as per amending Act of 1965 (Act No.23 of 1965). Reserve Bank of India was vested with extensive powers for the supervision of banking in India as a Central Banking Authority. After independence, Government has taken most important steps in regard of Indian
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Banking Sector reforms. In 1955, the Imperial Bank of India was nationalized and was given the name "State Bank of India", to act as the principal agent of RBI and to handle banking transactions all over the country. It was established under State Bank of India Act, 1955. Seven banks forming subsidiary of State Bank of India was nationalized in 1960. On 19th July, 1969, major process of nationalization was carried out. At the same time 14 major Indian commercial banks of the country were nationalized. In 1980, another six banks were nationalized, and thus raising the number of nationalized banks to 20. Seven more banks were nationalized with deposits over 200 Crores. Till the year 1980 approximately 80% of the banking segment in India was under governments ownership. On the suggestions of Narsimhan Committee, the Banking Regulation Act was amended in 1993 and thus the gates for the new private sector banks were opened. The following are the major steps taken by the Government of India to Regulate Banking institutions in the country:1949 : Enactment of Banking Regulation Act. 1955 : Nationalisation of State Bank of India. 1959 : Nationalization of SBI subsidiaries. 1961 : Insurance cover extended to deposits. 1969 : Nationalisation of 14 major Banks. 1971 : Creation of credit guarantee corporation. 1975 : Creation of regional rural banks. 1980 : Nationalisation of seven banks with deposits over 200 Crores.

1.3.1 Nationalisation

By the 1960s, the Indian banking industry has become an important tool to facilitate the development of the Indian economy. At the same time, it has emerged as a large employer, and a debate has ensured about the possibility to nationalise the banking industry. Indira Gandhi, the-then Prime Minister of India expressed the intention of the Government of India (GOI) in the annual conference of the All India Congress Meeting in a paper entitled "Stray thoughts on Bank Nationalisation". The paper was received
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with positive enthusiasm. Thereafter, her move was swift and sudden, and the GOI issued an ordinance and nationalised the 14 largest commercial banks with effect from the midnight of July 19, 1969. Jayaprakash Narayan, a national leader of India, described the step as a "Masterstroke of political sagacity" Within two weeks of the issue of the ordinance, the Parliament passed the Banking Companies (Acquisition and Transfer of Undertaking) Bill, and it received the presidential approval on 9 August, 1969. A second step of nationalisation of 6 more commercial banks followed in 1980. The stated reason for the nationalisation was to give the government more control of credit delivery. With the second step of nationalisation, the GOI controlled around 91% of the banking business in India. Later on, in the year 1993, the government merged New Bank of India with Punjab National Bank. It was the only merger between nationalised banks and resulted in the reduction of the number of nationalised banks from 20 to 19. After this, until the 1990s, the nationalised banks grew at a pace of around 4%, closer to the average growth rate of the Indian economy. The nationalised banks were credited by some; including Home minister P. Chidambaram, to have helped the Indian economy withstand the global financial crisis of 2007-2009.

1.3.2 Liberalisation

In the early 1990s, the then Narsimha Rao government embarked on a policy of liberalisation, licensing a small number of private banks. These came to be known as New Generation tech-savvy banks, and included Global Trust Bank (the first of such new generation banks to be set up), which later amalgamated with Oriental Bank of Commerce, Axis Bank(earlier as UTI Bank), ICICI Bank and HDFC Bank. This move along with the rapid growth in the economy of India revolutionized the banking sector in India which has seen rapid growth with strong contribution from all the three sectors of banks, namely, government banks, private banks and foreign banks. The next stage for the Indian banking has been setup with the proposed relaxation in the norms for Foreign Direct Investment, where all Foreign Investors in banks may be given voting rights which could exceed the present cap of 10%, at present it has gone up to 49% with some restrictions.
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The new policy shook the banking sector in India completely. Bankers, till this time, were used to the 4-6-4 method (Borrow at 4%; Lend at 6%; Go home at 4) of functioning. The new wave ushered in a modern outlook and tech-savvy methods of working for the traditional banks. All this led to the retail boom in India. People not just demanded more from their banks but also received more. Currently (2007), banking in India is generally fairly mature in terms of supply, product range and reach-even though reach in rural India still remains a challenge for the private sector and foreign banks. In terms of quality of assets and capital adequacy, Indian banks are considered to have clean, strong and transparent balance sheets as compared to other banks in comparable economies in its region. The Reserve Bank of India is an autonomous body, with minimal pressure from the government. The stated policy of the Bank on the Indian Rupee is to manage volatility but without any fixed exchange rate-and this has mostly been true. With the growth in the Indian economy expected to be strong for quite some time-especially in its services sector-the demand for banking services, especially retail banking, mortgages and investment services are expected to be strong. In March 2006, the Reserve Bank of India allowed Warburg Pincus to increase its stake in Kotak Mahindra Bank (a private sector bank) to 10%. This is the first time an investor has been allowed to hold more than 5% in a private sector bank since the RBI announced norms in 2005 that any stake exceeding 5% in the private sector banks would need to be voted by them. In recent years critics have charged that the non-government owned banks are too aggressive in their loan recovery efforts in connection with housing, vehicle and personal loans. There are press reports that the banks' loan recovery efforts have driven defaulting borrowers to suicide.

1.3.3 Government policy on banking industry (Source:-The federal Reserve Act 1913 and The Banking Act 1933)

Banks operating in most of the countries must contend with heavy regulations, rules
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enforced by Federal and State agencies to govern their operations, service offerings, and the manner in which they grow and expand their facilities to better serve the public. A banker works within the financial system to provide loans, accept deposits, and provide other services to their customers. They must do so within a climate of extensive regulation, designed primarily to protect the public interests. The main reasons why the banks are heavily regulated are as follows: To protect the safety of the publics savings. To control the supply of money and credit in order to achieve a nations broad economic goal. To ensure equal opportunity and fairness in the publics access to credit and other vital financial services. To promote public confidence in the financial system, so that savings are made speedily and efficiently. To avoid concentrations of financial power in the hands of a few individuals and institutions. Provide the Government with credit, tax revenues and other services. To help sectors of the economy that they have special credit needs for eg. Housing, small business and agricultural loans etc.

1.3.4 Law of banking

Banking law is based on a contractual analysis of the relationship between the bank and customerdefined as any entity for which the bank agrees to conduct an account. The law implies rights and obligations into this relationship as follows: The bank account balance is the financial position between the bank and the customer: when the account is in credit, the bank owes the balance to the customer; when the account is overdrawn, the customer owes the balance to the bank. The bank agrees to pay the customer's cheques up to the amount standing to the credit of the customer's account, plus any agreed overdraft limit.
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 The bank may not pay from the customer's account without a mandate from the customer, e.g. cheques drawn by the customer. The bank agrees to promptly collect the cheques deposited to the customer's account as the customer's agent, and to credit the proceeds to the customer's account. The bank has a right to combine the customer's accounts, since each account is just an aspect of the same credit relationship. The bank has a lien on cheques deposited to the customer's account, to the extent that the customer is indebted to the bank. The bank must not disclose details of transactions through the customer's accountunless the customer consents, there is a public duty to disclose, the bank's interests require it, or the law demands it. The bank must not close a customer's account without reasonable notice, since cheques are outstanding in the ordinary course of business for several days. These implied contractual terms may be modified by express agreement between the customer and the bank. The statutes and regulations in force within a particular jurisdiction may also modify the above terms and/or create new rights, obligations or limitations relevant to the bank-customer relationship.

1.3.5 Regulations for Indian banks

Currently in most jurisdictions commercial banks are regulated by government entities and require a special bank license to operate. Usually the definition of the business of banking for the purposes of regulation is extended to include acceptance of deposits, even if they are not repayable to the customer's orderalthough money lending, by itself, is generally not included in the definition. Unlike most other regulated industries, the regulator is typically also a participant in the market, i.e. a government-owned (central) bank. Central banks also typically have a monopoly on the business of issuing banknotes. However, in some countries this is not the case. In UK, for example, the Financial Services Authority licenses banks, and some
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commercial banks (such as the Bank of Scotland) issue their own banknotes in addition to those issued by the Bank of England, the UK government's central bank. Some types of financial institutions, such as building societies and credit unions, may be partly or wholly exempted from bank license requirements, and therefore regulated under separate rules. The requirements for the issue of a bank license vary between jurisdictions but typically include: Minimum capital Minimum capital ratio 'Fit and Proper' requirements for the bank's controllers, owners, directors, and/or senior officers Approval of the bank's business plan as being sufficiently prudent and plausible.

1.4 Classification of Banking Industry in India

Indian banking industry has been divided into two parts, organized and unorganized sectors. The organized sector consists of Reserve Bank of India, Commercial Banks and Co-operative Banks, and Specialized Financial Institutions (IDBI, ICICI, IFC etc). The unorganized sector, which is not homogeneous, is largely made up of money lenders and indigenous bankers. An outline of the Indian Banking structure may be presented as follows:1. Reserve banks of India. 2. Indian Scheduled Commercial Banks. a) State Bank of India and its associate banks. b) Twenty nationalized banks. c) Regional rural banks. d) Other scheduled commercial banks. 3. Foreign Banks 4. Non-scheduled banks.

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5. Co-operative banks.

1.4.1 Reserve bank of India

The reserve bank of India is a central bank and was established in April 1, 1935 in accordance with the provisions of reserve bank of India act 1934. The central office of RBI is located at Mumbai since inception. Though originally the reserve bank of India was privately owned, since nationalization in 1949, RBI is fully owned by the Government of India. It was inaugurated with share capital of Rs. 5 Crores divided into shares of Rs. 100 each fully paid up. RBI is governed by a central board (headed by a governor) appointed by the central government of India. RBI has 22 regional offices across India. The reserve bank of India was nationalized in the year 1949. The general superintendence and direction of the bank is entrusted to central board of directors of 20 members, the Governor and four deputy Governors, one Governmental official from the ministry of Finance, ten nominated directors by the government to give representation to important elements in the economic life of the country, and the four nominated director by the Central Government to represent the four local boards with the headquarters at Mumbai, Kolkata, Chennai and New Delhi. Local Board consists of five members each central government appointed for a term of four years to represent territorial and economic interests and the interests of cooperative and indigenous banks. The RBI Act 1934 was commenced on April 1, 1935. The Act, 1934 provides the statutory basis of the functioning of the bank. The bank was constituted for the need of following: - To regulate the issues of banknotes. - To maintain reserves with a view to securing monetary stability - To operate the credit and currency system of the country to its advantage. Functions of RBI as a central bank of India are explained briefly as follows: Bank of Issue: The RBI formulates, implements, and monitors the monitory policy. Its
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main objective is maintaining price stability and ensuring adequate flow of credit to productive sector. Regulator-Supervisor of the financial system: RBI prescribes broad parameters of banking operations within which the countrys banking and financial system functions. Their main objective is to maintain public confidence in the system, protect depositors interest and provide cost effective banking services to the public. Manager of exchange control: The manager of exchange control department manages the foreign exchange, according to the foreign exchange management act, 1999. The managers main objective is to facilitate external trade and payment and promote orderly development and maintenance of foreign exchange market in India. Issuer of currency: A person who works as an issuer, issues and exchanges or destroys the currency and coins that are not fit for circulation. His main objective is to give the public adequate quantity of supplies of currency notes and coins and in good quality. Developmental role: The RBI performs the wide range of promotional functions to support national objectives such as contests, coupons maintaining good public relations and many more. Related functions: There are also some of the related functions to the above mentioned main functions. They are such as, banker to the government, banker to banks etc. Banker to government performs merchant banking function for the central and the state governments; also acts as their banker. Banker to banks maintains banking accounts to all scheduled banks. Controller of Credit: RBI performs the following tasks: It holds the cash reserves of all the scheduled banks. It controls the credit operations of banks through quantitative and qualitative controls. It controls the banking system through the system of licensing, inspection and calling for information. It acts as the lender of the last resort by providing rediscount facilities to scheduled banks. Supervisory Functions: In addition to its traditional central banking functions, the Reserve Bank performs certain non-monetary functions of the nature of supervision of banks and promotion of sound banking in India. The Reserve Bank Act 1934 and the banking regulation act 1949 have given the RBI wide powers of supervision and control over commercial and co-operative banks, relating to licensing and establishments, branch
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expansion, liquidity of their assets, management and methods of working, amalgamation, reconstruction and liquidation. The RBI is authorized to carry out periodical inspections of the banks and to call for returns and necessary information from them. The nationalisation of 14 major Indian scheduled banks in July 1969 has imposed new responsibilities on the RBI for directing the growth of banking and credit policies towards more rapid development of the economy and realisation of certain desired social objectives. The supervisory functions of the RBI have helped a great deal in improving the standard of banking in India to develop on sound lines and to improve the methods of their operation. Promotional Functions: With economic growth assuming a new urgency since independence, the range of the Reserve Banks functions has steadily widened. The bank now performs a variety of developmental and promotional functions, which, at one time, were regarded as outside the normal scope of central banking. The Reserve bank was asked to promote banking habit, extend banking facilities to rural and semi-urban areas, and establish and promote new specialized financing agencies.

1.4.2 Indian Scheduled Commercial Banks

The commercial banking structure in India consists of scheduled commercial banks, and unscheduled banks. Scheduled Banks: Scheduled Banks in India constitute those banks which have been included in the second schedule of RBI act 1934. RBI in turn includes only those banks in this schedule which satisfy the criteria laid down vide section 42(6a) of the Act. Scheduled banks in India means the State Bank of India constituted under the State Bank of India Act, 1955 (23 of 1955), a subsidiary bank as defined in the s State Bank of India (subsidiary banks) Act, 1959 (38 of 1959), a corresponding new bank constituted under section 3 of the Banking companies (Acquisition and Transfer of Undertakings) Act, 1980 (40 of 1980), or any other bank being a bank included in the Second Schedule to the Reserve bank of India Act, 1934 (2 of 1934), but does not include a co-operative bank. For the purpose of assessment of performance of banks, the Reserve Bank of India
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categories those banks as public sector banks, old private sector banks, new private sector banks and foreign banks, i.e. private sector, public sector, and foreign banks come under the umbrella of scheduled commercial banks. Regional Rural Bank: The government of India set up Regional Rural Banks (RRBs) on October 2, 1975 [10]. The banks provide credit to the weaker sections of the rural areas, particularly the small and marginal farmers, agricultural labourers, and small enterpreneurs. Initially, five RRBs were set up on October 2, 1975 which was sponsored by Syndicate Bank, State Bank of India, Punjab National Bank, United Commercial Bank and United Bank of India. The total authorized capital was fixed at Rs. 1 Crore which has since been raised to Rs. 5 Crores. There are several concessions enjoyed by the RRBs by Reserve Bank of India such as lower interest rates and refinancing facilities from NABARD like lower cash ratio, lower statutory liquidity ratio, lower rate of interest on loans taken from sponsoring banks, managerial and staff assistance from the sponsoring bank and reimbursement of the expenses on staff training. The RRBs are under the control of NABARD. NABARD has the responsibility of laying down the policies for the RRBs, to oversee their operations, provide refinance facilities, to monitor their performance and to attend their problems. Unscheduled Banks: Unscheduled Bank in India means a banking company as defined in clause (c) of section 5 of the Banking Regulation Act, 1949 (10 of 1949), which is not a scheduled bank.

1.4.3 NABARD

NABARD is an apex development bank with an authorization for facilitating credit flow for promotion and development of agriculture, small-scale industries, cottage and village industries, handicrafts and other rural crafts. It also has the mandate to support all other allied economic activities in rural areas, promote integrated and sustainable rural development and secure prosperity of rural areas. In discharging its role as a facilitator for rural prosperity, NABARD is entrusted with:
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1. Providing refinance to lending institutions in rural areas 2. Bringing about or promoting institutions development and 3. Evaluating, monitoring and inspecting the client banks Besides this fundamental role, NABARD also: Act as a coordinator in the operations of rural credit institutions To help sectors of the economy that they have special credit needs for eg. Housing, small business and agricultural loans etc.

1.4.4 Co-operative Banks

Co-operative banks are explained in detail in Section II of this chapter Banking Regulation Act in India, 1949 defines banking as Accepting for the purpose of lending or investment of deposits of money from the public, repayable on demand and withdrawable by cheques, drafts, orders etc. as per the above definition a bank essentially performs the following functions: Accepting Deposits or savings functions from customers or public by providing bank account, current account, fixed deposit account, recurring accounts etc. The payment transactions like lending money to the public. Bank provides an effective credit delivery system for loanable transactions. Provide the facility of transferring of money from one place to another place. For performing this operation, bank issues demand drafts, bankers cheques, money orders etc. for transferring the money. Bank also provides the facility of Telegraphic transfer or tele- cash orders for quick transfer of money. A bank performs a trustworthy business for various purposes. A bank also provides the safe custody facility to the money and valuables of the general public. Bank offers various types of deposit schemes for security of money. For keeping valuables bank provides locker facility. The lockers are small compartments with dual locking system built into strong cupboards. These are stored in the banks strong room and are fully secured. Banks act on behalf of the Govt. to accept its tax and non-tax receipt. Most of the government disbursements like pension payments and tax refunds also take place through banks. There are several types of banks, which differ in the number of services they provide and
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the clientele (Customers) they serve. Although some of the differences between these types of banks have lessened as they have begun to expand the range of products and services they offer, there are still key distinguishing traits. These banks are as follows: Commercial banks, which dominate this industry, offer a full range of services for individuals, businesses, and governments. These banks come in a wide range of sizes, from large global banks to regional and community banks. Global banks are involved in international lending and foreign currency trading, in addition to the more typical banking services. Regional banks have numerous branches and automated teller machine (ATM) locations throughout a multi-state area that provide banking services to individuals. Banks have become more oriented toward marketing and sales. As a result, employees need to know about all types of products and services offered by banks. Community banks are based locally and offer more personal attention, which many individuals and small businesses prefer. In recent years, online bankswhich provide all services entirely over the Internethave entered the market, with some success. However, many traditional banks have also expanded to offer online banking, and some formerly Internet-only banks are opting to open branches. Savings banks and savings and loan associations, sometimes called thrift institutions, are the second largest group of depository institutions. They were first established as community-based institutions to finance mortgages for people to buy homes and still cater mostly to the savings and lending needs of individuals. Credit unions are another kind of depository institution. Most credit unions are formed by people with a common bond, such as those who work for the same company or belong to the same labour union or church. Members pool their savings and, when they need money, they may borrow from the credit union, often at a lower interest rate than that demanded by other financial institutions. Federal Reserve banks are Government agencies that perform many financial services for the Government. Their chief responsibilities are to regulate the banking industry and to help implement our Nations monetary policy so our economy can run more efficiently by controlling the Nations money supplythe total quantity of money in the country, including cash and bank deposits. For example, during slower periods of economic activity, the Federal Reserve may purchase government securities from commercial banks, giving them more money to lend, thus expanding the economy. Federal Reserve banks also perform a variety of services for other banks. For example, they may make
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emergency loans to banks that are short of cash, and clear checks that are drawn and paid out by different banks. The money banks lend, comes primarily from deposits in checking and savings accounts, certificates of deposit, money market accounts, and other deposit accounts that consumers and businesses set up with the bank. These deposits often earn interest for their owners, and accounts that offer checking, provide owners with an easy method for making payments safely without using cash. Deposits in many banks are insured by the Federal Deposit Insurance Corporation, which guarantees that depositors will get their money back, up to a stated limit, if a bank should fail.

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CHAPTER 2: LEGAL PROVISIONS FOR BANKING BUSINESS

BACKGROUND:Prior to the enactment of Banking Regulation Act, 1949 which aims to consolidate the law relating to banking and to provide for the nature of transactions which can be carried on by banks in India, the provisions of law relating to banking companies formed a part of the general law applicable to companies and were contained in Part XA of the Indian Companies Act, 1913. These provisions were first introduced in 1936, and underwent two subsequent modifications, which proved inadequate and difficult to administer. Moreover, it was recognised that while the primary objective of company law is to safeguard the interests of the share holder, that of banking legislation should be the protection of the interests of the depositor. It was therefore felt that a separate legislation was necessary for regulation of banking in India. With this objective in view, a Bill to amend the law relating to Banking Companies was introduced in the Legislative Assembly in November, 1944 and was passed on 10th March, 1949 as the Banking Companies Act, 1949. By Section 11 of the Banking Laws (Application to Cooperative Societies) Act, 1965, the nomenclature was changed to the Banking Regulation Act, 1949.

INDIAN BANKING SYSTEM :The Indian financial system currently consists of commercial banks, co-operative banks, financial institutions and non-banking financial companies ( NBFCs). The commercial banks can be divided into categories depending on the ownership pattern, viz. public sector banks, private sector banks, foreign banks. While the State bank of India and its associates, nationalized banks and Regional Rural Banks are constituted under respective enactments of the Parliament, the private sector banks are banking companies as defined in the Banking Regulation Act. The cooperative credit institutions are broadly classified into urban credit cooperatives and rural credit cooperatives.

POWERS AND RESPONSIBILITIES OF RBI IN RESPECT OF REGULATION OF BANKS:The Reserve Bank of India has been entrusted with the responsibility under the Banking Regulation Act, 1949 to regulate and supervise banks activities in India and their branches abroad. While the regulatory provisions of this Act prescribe the policy framework to be followed by banks, the supervisory framework provides the mechanism to ensure banks compliance with the policy prescription.

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GENERAL FRAMEWORK OF REGULATION:The existing regulatory framework under the Banking Regulations Act 1949 can be categorised as follows : a) b) c) d) e) f) Business of Banking Companies Licensing of banking companies Control over Management Acquisition of the Undertakings of banking companies in certain cases Restructuring and Resolution including winding up operation Penal Provisions

LICENSING OF BANKS:In terms of Sec 22 of the B.R.Act,(Banking regulation Act,1949) no company shall carry on banking business in India, unless it holds a licence issued in that behalf by Reserve Bank and any such licence may be issued subject to such conditions as the Reserve Bank may think fit to impose. Before granting any licence, RBI may require to be satisfied that the following conditions are fulfilled: i) that the company is or will be in a position to pay its present or future depositors in full as their claims accrue; ii) that the affairs of the company are not being , or are not likely to be, conducted in a manner detrimental to the interests of its present or future depositors; iii) that the general character of the proposed management of the proposed bank will not be prejudicial to the public interest or the interest of its depositors; iv) that the company has adequate capital structure and earning prospects;

v) that having regard to the banking facilities available in the proposed principal area of operations of the company, the potential scope for expansion of banks already in existence in the area and other relevant factors the grant of the licence would not be prejudicial to the operation and consolidation of the banking system consistent with monetary stability and economic growth. BUSINESS BANKING:As per Section 5 (b) of Banking Regulation Act, 1949 banking means the accepting , for the purpose of lending or investment, of deposits of money from the public, repayable on demand or otherwise and withdraw able by cheque, draft, order or otherwise. PERMISSIBLE ACTIVITIES OF A BANKING COMPANY:Section 6 of B.R. Act, 1949 gives the details of forms of business in which a banking company may engage. However, it is a long list and banks may carry out one or more activities permitted in the section
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The policy framework for issuing licenses to private sector and foreign banks are discussed below 1. PRIVATE SECTOR BANKS:The guidelines for licensing of new banks in the private sector were issued by the Reserve Bank of India (RBI) on January 22, 1993. The revised guidelines for entry of new banks in private sector were issued on January 3, 2001. The foreign investment limit from all the sources in private banks was raised from a maximum of 49 per cent to 74 per cent in March 2004. In consultation with the Government of India, the Reserve Bank released a roadmap on February 28, 2005, detailing the norms for the presence of foreign banks in India. The Reserve Bank also issued comprehensive guidelines on Ownership and Governance in private sector banks. The broad principles underlying the policy framework were to ensure that the ultimate ownership and control of private sector banks is well diversified. Further, the fit and proper criteria have to be the over-riding consideration in the path of ensuring adequate investments, appropriate restructuring and consolidation in the banking sector. No single entity or group of related entities would have shareholding or control, directly or indirectly, in any bank in excess of 10 per cent of the paid up capital of the private sector bank. Any higher level of acquisition will be with the prior approval of RBI and in accordance with guidelines issued by RBI for grant of acknowledge ment for acquisition of shares. These measures were intended to further enhance the efficiency of the banking system by increasing competition. The initial minimum paid-up capital for a new bank was kept at Rs. 200 crore. The initial capital was required to be to Rs.300 crore within three years of commencement of business. The aggregate foreign investment in private banks from all sources ( FDI, FII, NRI) cannot exceed 74 per cent. Mergers and amalgamations are a common strategy adopted for restructuring and strengthening banks internationally. Although the consolidation process through mergers and acquisitions of banks in India has been going for several years it gained momentum in late 1990s. With increased liberalisation, globalisation and technological advancement, the consolidation process of Indian banking sector is likely to intensify in the future, thereby imparting greater resilience to the financial system. The Reserve Bank ensures that mergers and amalgamation enhance the stability of the banking system. Thus, the guidelines issued by RBI on May 11, 2005 laid down the process of merger and determination of swap ratio 2. LICENSING OF FOREIGN BANKS:India issues a single class of banking licence to banks and hence does not place any undue restrictions on their operations merely on the ground that in some countries there are requirements of multiple licences for dealing in local currency and foreign currencies with different categories of clientele. Banks in India, both Indian and foreign, enjoy full and equal access to the payments and settlement systems and are full members of the clearing houses and payments system. Procedurally, foreign banks are required to apply to RBI for opening their branches in India. Foreign banks application for opening their maiden branch is considered under the provisions of Sec 22 of the BR Act, 1949. Before granting any licence under this section, RBI may require to be satisfied that the Government or the law of the country in which it is incorporated does not discriminate in any way against banks fromIndia.
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Unlike the restrictive practices of certain foreign countries,Indiais liberal in respect of the licensing and operation of the foreign bank branches as illustrated by the following :

India issues a single class of banking licence to foreign banks and does not place any limitations on their operations. All banks can carry on both retail and wholesale banking. Deposit insurance cover is uniformly available to all foreign banks at a nondiscriminatory rate of premium. The norms for capital adequacy, income recognition and asset classification are by and large the same. Other prudential norms such as exposure limits are the same as those applicable to Indian banks.

3. OPENING OF BRANCHES IN INDIA BY FOREIGN BANKS:The policy for approving foreign banks applications to open maiden branch and further expand their branch presence has been incorporated in the Roadmap for presence of Foreign banks in India indicated in the Press Release dated February 28, 2005 as well as in the liberalized branch authorisation policy issued on September 8, 2005. The branch authorisation policy for Indian banks has been made applicable to foreign banks subject to the following:

Foreign banks are required to bring an assigned capital of US $25 million up front at the time of opening the first branch in India. Existing foreign banks having only one branch would have to comply with the above requirement before their request for opening of second branch is considered. Foreign banks may submit their branch expansion plan on an annual basis. In addition to the parameters laid down for Indian banks, the following parameters would also be considered for foreign banks : o Foreign banks and its groups track record of compliance and functioning in the global markets would be considered. Reports from home country supervisors will be sought, wherever necessary. o Weightage would be given to even distribution of home countries of foreign banks having presence in India. o The treatment extended to Indian banks in the home country of the applicant foreign bank would be considered. o Due consideration would be given to the bilateral and diplomatic relations between India and the home country. o The branch expansion of foreign banks would be considered keeping in view Indias commitments at World Trade Organisation (WTO). Licences issued for off-site ATMs installed by foreign banks are not included in the ceiling of 12

In terms of Indias commitment to WTO, as a part of market access, India is committed to permit opening of 12 branches of foreign banks every year. As against these commitments, Reserve Bank of India has permitted upto 17- 18 branches in the past. The Bank follows a liberal policy where the branches are sought to be opened in unbanked/under-banked areas. Off-site ATMs are not counted in the above limit. Including off-site ATMs, foreign banks are having ( as on October 15, 2007) place of business at 933 locations ( 273 branches + 660 off site ATMs).

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The procedure regarding approval of proposals for opening branches of foreign banks in India has been simplified and streamlined for the sake of expeditious disposal. A licence under the provisions of B.R. Act, 1949 enables the foreign banks to carry out any activity which is permissible to a bank in India. This is in contrast with practices adopted in many countries, where foreign banks can carry out only a limited menu of activities. As against the requirements of achieving 40 per cent of net bank credit as target for lending to priority sector in case of domestic banks, it has been made mandatory for the foreign banks to achieve the minimum target of 32% of net bank credit for priority sector lending. Within the target of 32%, two sub targets in respect of advances (a) to small scale sector (minimum of 10%), and (b) exports (minimum of 12%) have been fixed. The foreign banks are not mandated for targeted credit in respect of agricultural advances. There is no regulatory prescription in respect of foreign banks to open branches in rural and semi-urban centers.

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CHAPTER 3: RBI PRUDENTIAL NORMS

PRUDENTIAL NORMS ON INCOME RECOGNITION, ASSET CLASSIFICATION Out of orderstatus An out of order account is one in which the outstanding balance remains continuously in excess of the sanctioned limit/drawing power or the outstanding balance is less than the sanctioned limit/drawing power, but there are no credits continuously for 90 days as on the date of Balance Sheet or credits are not enough to cover the interest debited during the same period. Overdue Overdue is the unpaid amount due to the bank under any credit facility on due date. Non-performing Assets An asset (including a leased asset) ceases to generate income is treated as non performing asset (NPA). A Loan or an advance is classified as NPA as under:Nature of Facility Term Loan Parameters

Interest and/or instalment of principal remain overdue beyond 90 days Overdraft/Cash Credit Remains out of order as indicated above Bill Purchased/discounted Remains overdue beyond 90 days Crop Loans (short duration Instalment of principal or interest thereon crops) remains overdue for 2 crop seasons Crop Loans (Long duration Instalment of principal or interest thereon crops) remains overdue for 1 crop season Securitization transactions Amount of liquidity facility remains outstanding beyond 90 days Derivative transactions Overdue receivables representing positive mark-to-market value of a derivative contract which remains unpaid beyond 90 days from specified due date for payment Banks are required to classify an account as NPA wherein the interest due and charged during any quarter is not serviced fully within 90 days from the end of the quarter. INCOME RECOGNITION On an account (incl. bills purchased and discounted and Government guaranteed accounts) turning NPA, banks should reverse the interest already charged and not collected by debiting Profit and Loss account, and stop further application of interest. Likewise fees, commission and similar income in respect of past periods, if uncollected, need to be reversed.
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Interest realized on NPAs may be taken to income account provided the credits in the accounts towards interest are not out of fresh/ additional credit facilities sanctioned to the borrower concerned. Banks may continue to record such accrued interest, but not realized, in a Memorandum account in their books which should not be taken into account for computing Gross Advances,

ASSET CLASSIFICATION NPAs are being classified, based on the period for which the asset has remained nonperforming and realisability of the dues, into three categories as under:No. 01. Category Substandard Assets Parameters * Remained NPA for a period not less than or equal to one year. *In such cases, the current net worth of the borrower/guarantor or market value of the security charged is not enough to ensure recovery of the banks dues; * Likely to sustain some loss if deficiencies are not corrected. 02. Doubtful Assets *Remained in substandard category beyond 1 year; *Recovery improbable. 03. Loss Assets highly questionable and

*Asset considered uncollectible and of little value but not written off wholly by the bank. *Continuance as bankable assets although it may have some salvage or recovery value.

Guidelines for Classification NPA classification should be done taking into account the degree of credit weaknesses and availability of collateral security for realization of dues. Banks should avoid the tendency to delay or postpone identification of NPAs especially in respect of high value accounts; Availability of security/net worth of the borrower/guarantor should not be taken into account while identifying the NPA; Banks should not classify an advance account as NPA merely due to existence of some temporary aberration/deficiency such non-availability of adequate Drawing Power based on latest stock statement, over limit, non-submission of stock statement, renewal of account, etc. A working capital account would become NPA, if the irregularity continues beyond 90 days even though the unit would be working and its financial position is satisfactory. Regular and ad hoc limits are required to reviewed/regularized within 180 days from the
27

due date/date of sanction; else, it is to be classified as NPA. A NPA Loan account, other than restructured and rescheduled, can be upgraded to standard assets upon payment of arrears of interest and principal. Asset classification should be on borrower-wise and not facility wise. In case one facility/investment of the borrower causes problem, all the facilities granted to the borrower are to be treated as NPA. Bills discounted facility under LC favouring a borrower need not be classified as NPA in case any other facility is NPA. However, in case of non-payment of bills under the LC on due date by the LC issuing bank and the borrower fails to make good the amount immediately, the outstanding under the Bills discounted is also to be classified as NPA. In account where there is potential threat of recovery on account of erosion in value of security(50%/10% of value assessed earlier or outstanding), non-availability of security, existence of other factors such as frauds committed by borrowers, etc. such asset should straightaway be classified as doubtful or loss asset as appropriate: Finance granted to PACS/FSS under the on-lending system, only that particular portion of credit in default to be classified as NPA. Advances against paper securities such as TDRs, NSCs eligible for surrender, IVPs, KVPs and life policies need not be treated as NPAs, provided adequate margin is available in the accounts. Loan with moratorium for payment of interest, the amount of interest would become overdue after the due date for payment of interest, if uncollected. In staff housing loan or similar other accounts where the interest is to be recovered after repayment of principal, such accounts would become NPA only when there is default in repayment of principal or interest on respective due dates. Advances backed by guarantee of Central Government though overdue may be treated as NPA only when the Government repudiates its guarantee when invoked. However, State Government guaranteed advances and investments in State Government guaranteed securities would attract asset classification and provisioning norms if interest and/or principal or any other amount due to the bank remains overdue for more than 90 days.

Consortium Arrangement
Asset classification of accounts under consortium is to be based on the record of recovery of the individual member banks and other aspects having a bearing on the recoverability of the advances. Where the remittances by the borrower under consortium lending arrangements are pooled with one bank and/or where the bank receiving remittances is not parting with the

share of other member banks, the account will be treated as not serviced in the books of the other member banks and therefore, be treated as NPA. Projects under implementation (Classification of NPA) Project Loans are classified into 2 categories viz. Project Loans for infrastructure sector and Project Loans for non-infrastructure sector. An infrastructure project loan would be classified as NPA before the date of commencement of commercial operations (DCCO) as per record of recovery (90 days) unless it is restructured and eligible for classification as standard asset. An infrastructure project would be classified as NPA if it fails to commence commercial
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operations within 2 years from the original DCCO. If a project loan classified as standard asset is restructured any time during the period up to two years from the original date of DCCO, it can be retained as a standard asset if the fresh DCCO is fixed and the account continues to be serviced as per the restructured terms subject to the application for restructuring should be received before the expiry of period of two years from the original DCCO and when the account is still standard as per record of recovery. Delay in infrastructure projects involving court cases and projects in other than court cases, extension of DCCO up to another 2 years (beyond the existing extended period of 2 years i.e. total extension of 4 years) and up to another 1 year (beyond the existing extended period of 2 years i.e. total extension of 3 years) respectively is considered for treating them as NPA. A loan for a non-infrastructure project will be classified as NPA during any time before commencement of commercial operations as per record of recovery (90 days overdue). If the non-infrastructure project fails to commence commercial operations within 6 months from the original DCCO, it is to be treated as NPA, etc.

Other Issues Any change in the repayment schedule of a project loan caused due to an increase in the project outlay on account of increase in scope and size of the project, would not be treated as restructuring if: The increase in scope and size of the project takes place before commencement of commercial operations of the existing project. The rise in cost excluding any cost-overrun in respect of the original project is 25% or more of the original outlay. The bank re-assesses the viability of the project before approving the enhancement of scope and fixing a fresh DCCO. On re-rating, (if already rated) the new rating is not below the previous rating by more than one notch. These guidelines would apply to those cases where the modification to terms of existing loans, as indicated above, are approved by banks from now onwards. Income Recognition Banks may recognize income on accrual basis in respect of standard projects under implementation and may not recognize income in respect of substandard projects. Banks are required to reverse the interest recognized in past wrongly. Full provision should be made in respect of Funded Interest in respect of NPA projects recognized as income. If the amount of interest dues is converted into equity or any other instrument, and income is recognised in consequence, full provision should be made for the amount of income so recognised to offset the effect of such income recognition. However, if the conversion of interest is into equity which is quoted, interest income can be recognised at market value of equity, as on the date of conversion, not exceeding the amount of interest converted to equity. Take out Finance Under Take out Finance, possibility of default, in view of the time-lag involved in taking29

over, cannot be ruled out. The norms of asset classification will have to be followed by the concerned lending bank/financial institution and they should not recognize income on accrual basis, but only on actual receipt. Bank/FI should also make suitable provision pending the takeover by other institution. Upon takeover of the account, the provision could be reversed. But the taking over institution is required to make provision in its books treating it as NPA from the actual date of becoming NPA even though the account was not in its books as on that date. Post-shipment Supplier's Credit Post shipment Suppliers Credit under the EXIM Bank Guarantee-cum-refinance programme, the extent payment has been received from the EXIM Bank, may not be treated as a nonperforming asset for asset classification and provisioning purposes. Export Project Finance In the event of the export proceeds in respect of export project finance is held up due to political developments in the importers country, the asset classification may be made after a period of one year from the date the amount was deposited by the importer in the bank abroad. Advances under rehabilitation approved by BIFR/ TLI In case of a unit under rehabilitation package approved by BIFR/Term Lending Institution, the existing credit facilities continue to be classified as substandard or doubtful as the case may be. Asset classification norms would be applicable in respect of additional facilities sanctioned under the package after a period of one year from the date of disbursement. PROVISIONING NORMS In conformity with the prudential norms, and on the basis of classification of assets, etc. banks are required to make provisions on funded outstanding on global loan portfolio basis as under:No. 01. Category Standard Assets Provision requirement *Agriculture & SMEs *0.25% of funded outstanding *Commercial Real Estate *1.00% of funded (CRE) Outstanding *Housing Loans at teaser *2.00% during teaser Rates and restructured rate period and advances 0.40% after 1 year of rate reset. *For restructured advances 2.00% for first 2 years from date of restructuring. *NPA restructured account @2.00% in the first 5 years from the date of upgradation. *2%in first 2 years *Restructured Accounts from date of restructuring Sector

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*under moratorium 02. Substandard Assets *All sectors

*Unsecured Advances

03.

Doubtful Assets

*All sectors

*Covered by ECGC

04.

Loss Assets

All sectors

2% for moratorium period and further 2 years (total 4 years) *15%of o/stg. without making any allowance for ECGC and security available. *Additional 10% i.e. total 25% and for infrastructure loans & total 20% provided Escrow mechanism is available. *Secured portion 25/40/100% upto 1year/1-3 years/more than 3 years respectively. *Unsecured portion 100% *Net of ECGC guaranteed & realizable value of security at the above rates. To be written off or 100% of the outstanding.

Provisioning Coverage Ratio (PCR) is essentially the ratio of provisioning to gross nonperforming assets and indicates the extent of funds a bank has kept aside to cover loan losses. Banks are required to maintain their total provisioning coverage ratio, including floating provisions, at not less than 70% by September 2010. Provision under Special Circumstances a) Advances under rehabilitation package approved by BIFR/TL institutions Provision should continue to be made as per classification of assets as substandard or doubtful. Additional facilities sanctioned as per package, provision on additional facilities sanctioned be made for a period of one year from the date of disbursement including that of SSI units identified as sick and put under rehabilitation programme by banks.

b) Provision requirements based on assets classification status are applicable in respect of TDRs, NSC eligible for surrender, IVPs, KVPs, gold ornaments, government and other securities and LIC policies. c) Amount held in Interest Suspense Account should be deducted from the relative advances and thereafter provisioning as per norms may be made on the net balance. Amount held in Interest Suspense account should not be reckoned as part of provisions
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d) ECGC guaranteed doubtful assets, provision need only to be made on the balance in excess of the guaranteed amount by ECGC. While arriving the provision requirement, the realizable value of the security is first deducted from the outstanding balance. SALE OF FINANCIAL ASSETS TO SC/RC Under the SARFAESI Act 2002, banks/FIs are permitted to sell financial assets to Securitization Companies (SC) and Reconstruction Companies (RC). A financial asset which can be sold to the SC/RC by any bank/ FI is:-

a) A NPA, including a non-performing bond/ debenture, and b) A Standard Asset where: i) The asset is under consortium/multiple banking arrangements; ii) At least 75% of value of the asset is classified as NPA in the books of other banks/FIs; and
At least 75% (by value) of the banks/FIs who are under the consortium/multiple banking arrangements agree to the sale of the asset to SC/RC.

iii)

The prudential guidelines have been grouped under various heads as under:-

a) Financial assets which can be sold. b) Procedure for sale of banks/ valuation and pricing aspects.

FIs

financial assets

to

SC/ RC, including

c) Prudential norms, in the following areas, for banks/ FIs for sale of their financial assets to SC/ RC and for investing in bonds/debentures/ security receipts and any other securities offered by the SC/RC as compensation consequent upon sale of financial assets: i) Provisioning / Valuation norms The financial assets when sold to SC/RC, the same will be removed from its books. If the sale price is below the Net Book Value (NBV) (i.e. book value less provision held), the shortfall should be debited to the profit and loss account of that year. It the sale is for a value higher than the NBV, the excess provision will not be reversed but will be utilized to meet the shortfall/loss on account of sale of other financial assets to SC/RC etc.

The securities (bonds/debentures) offered by SC/RC should satisfy the following conditions viz. The securities must not have a term in excess of six years. The securities must carry a rate of interest which is not lower than 1.5% above the Bank Rate in force at the time of issue. The securities must be secured by an appropriate charge on the assets transferred.
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The securities must provide for part or full prepayment in the event the SC / RC sell the asset securing the security before the maturity date of the security. The commitment of the SC / RC to redeem the securities must be unconditional and not linked to the realization of the assets. Whenever the security is transferred to any other party, notice of transfer should be issued to the SC/ RC

Investment in debentures/bonds/security receipts/Pass-through certificates issued by SC/RC The valuation, classification and other norms applicable to investment in non-SLR instruments prescribed by RBI from time to time would be applicable to banks/ FIs investment in debentures/ bonds/ security receipts/PTCs issued by SC/ RC.

Banks/FIs investment in SC/RC in debentures/bonds/security receipts/PTCs issued by SC/RC will constitute exposure on the SC/RC. As only a few SC/RC are being set up now, banks/ FIs will be allowed, in the initial years, to exceed prudential exposure ceiling on a case-to-case basis. PURCHASE & SALE OF NPAs Guidelines have been framed for undertaking purchase and sale of NPAs without involving SC/RC, as an option available, to develop a healthy secondary market NPAs. The option would be conducted within the financial system and has to be initiated with due diligence and care. The guidelines are applicable to banks, FIs and NBFCs purchasing/ selling non performing financial assets, from/ to other banks/FIs/NBFCs (excluding SCs/RCs). A financial asset, including assets under multiple/consortium banking arrangements, would be eligible for purchase/sale in terms of the guidelines if it is a NPA/NPI in the books of the selling bank. The guidelines have been grouped under the following headings:

a) Procedure for purchase/ sale of non performing financial assets by banks, including valuation and pricing aspects. b) Prudential norms for banks for purchase/ sale of non performing financial assets in areas viz. i) ii) iii) iv) iv) Asset classification norms Provisioning norms Accounting of recoveries Capital adequacy norms Exposure norms

c) Disclosure requirements The guidelines, procedure, prudential norms, exposure norms, disclosure requirements, etc. are detailed in the RBI Master Circular dt. 02.07.2012.

WRITE OFF OF NPAs In terms of Section 43(D) of the Income Tax Act 1961, interest income of NPAs shall be
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chargeable to tax in the previous year in which it is credited to the banks profit and loss account or received, whichever is earlier. Banks may either make full provision as per the guidelines or write off such advances or claim such tax benefits as are applicable. Recoveries made in such accounts should be offered for tax purposes as per the rules. PRUDENTIAL GUIDELINES ON RESTRUCTURING OF ADVANCES A restructured account is one where the bank grants concessions, which would not otherwise consider, taking into account the borrowers financial difficulty. Restructuring involves modification of terms of advance/securities, which would generally include, among others, alteration of repayment period / repayable amount/ the amount of instalments / rate of interest, etc. Specified Period means a period of one year from the date when the first payment of interest or instalment of principal falls due under the terms of restructuring package.

The guidelines on restructuring issued by RBI are grouped in four categories as under:-

i)

Restructuring of advances extended to industrial units.

ii) Restructuring of advances extended to industrial units under the Corporate Debt Restructuring (CDR) Mechanism iii) Restructuring of advances extended to Small and Medium Enterprises (SME) iv) Restructuring of all other advances. Eligibility Accounts classified under Standard, Substandard and doubtful categories. Banks cannot reschedule / restructure / renegotiate borrowal accounts with retrospective effect. While a restructuring proposal is under consideration, the usual asset classification norms would continue to apply. No account is taken up for restructuring by the banks unless the financial viability is established and there is a reasonable certainty of repayment from the borrower, as per the terms of restructuring package. Borrowers indulged in frauds and malfeasance is ineligible for restructuring. BIFR cases are not eligible for restructuring without their express approval. CDR Core Group in the case of advances restructured under CDR Mechanism / the lead bank in the case of SME Debt Restructuring Mechanism and the individual banks in other cases, may consider the proposals for restructuring in such cases, after ensuring that all the formalities in seeking the approval from BIFR are completed before implementing the package.

Asset classification norms Restructuring of advances could take place in the following stages: (a) Before commencement of commercial production / operation;

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(b) After commencement of commercial production / operation but before the asset has been classified as 'sub-standard'; (c) After commencement of commercial production / operation and the asset has been classified as 'sub-standard' or 'doubtful'. Upon restructuring: 'Standard assets' should be reclassified as 'sub-standard assets' NPAs would continue asset classification as prior to restructuring and may slip into further lower asset classification categories with reference to the pre-restructuring repayment schedule. All NPA accounts would be eligible for being reclassified as standard category after observation of satisfactory performance during the specified period. Thereafter, the account would be governed as per the existing prudential norms with reference to repayment schedule. Additional finance considered may be treated as standard asset during the specified period. Any Interest income should be recognized only on cash basis in respect of accounts classified as substandard or doubtful at pre-restructuring stage. A restructured standard asset is subjected to restructuring on a subsequent occasion; it should be classified as substandard. Similarly, a sub-standard or a doubtful restructured asset which is subjected to restructuring on a subsequent occasion, its asset classification will be reckoned from the date when it became NPA on the first occasion.
Interest income in respect of restructured standard asset can be recognized on accrual basis In case part of the outstanding principal amount is converted into debt or equity instruments as per the restructuring package, the asset so created will be classified in the same asset classification category in which the restructured advance has been classified. The FITL / debt or equity instrument created by conversion of unpaid interest will be classified in the same asset classification category in which the restructured advance has been classified.

Banks will hold provision in respect of restructured assets as per existing provisioning norms Asset classification benefits are available to banks subject to: The dues of the banks are fully secured except SSI borrowers where the outstanding is upto Rs.25 Lakh Infrastructure projects provided the cash flows generated from these projects are adequate for repayment of the advance, escrow mechanism for the cash flows available, and banks have a clear and legal first claim on these cash flows. The unit becomes viable in 10 years, if it is engaged in infrastructure activities, and in 7 years in the case of other units. The repayment period of the restructured advance including the moratorium, if any, does not exceed 15 years in the case of infrastructure advances and 10 years in the case of other advances other than restructured home loans. Promoters' sacrifice (contribution) and additional funds brought by them should be a minimum of 15% of banks' sacrifice upfront. However, if the banks are convinced that
35

the promoters face genuine difficulty in bringing the share of sacrifice immediately, the promoters could be allowed to bring in 50% of their sacrifice i.e. 50% of 15% upfront and the balance within a period of one year. OBJECTIVE OF RESTRUCTURING It may be observed that the basic objective of restructuring is to preserve economic value of units and not ever greening of problem accounts. This can be achieved by banks and the borrowers only by careful assessment of the viability, quick detection of weaknesses in accounts and a time-bound implementation of restructuring packages.

The entire Corporate Debt Restructuring (CDR) Mechanism and SME Debt Restructuring Mechanism are detailed in RBI Master Circular. 6. AGRICULTURAL DEBT WAIVER AND DEBT RELIEF SCHEME 2008 (ADWDRS) The guidelines pertaining to Income Recognition, Asset Classification and Provisioning, and Capital Adequacy as applicable to the loans covered by the debt waiver and debt relief scheme for farmers are as under:Norms for accounts under Debt Waiver The small and marginal farmers eligible for debt waiver, the eligible amount for waiver may be transferred by the banks to a separate account named "Amount receivable from Government of India under Agricultural Debt Waiver Scheme 2008" and the balance amount be as a "performing" asset. No provision for standard assets as per current norms is required to be made in respect of the balance amount, etc.

Norms for accounts under Debt Relief Under the scheme, the 'other' farmers, are given a rebate of 25% of the "eligible amount", by the Government by credit to his account and the balance (75%) is to be paid by the farmer in three instalments as detailed in the scheme. Upon payment of the entire share of 75%, banks may open an account for Debt Relief Scheme, similar to the one opened for the receivables from GOI under the Debt Waiver Scheme, and bearing the nomenclature "Amount receivable from Government of India under Agricultural Debt Relief Scheme 2008".

Asset Classification Farmers covered under Debt Relief Scheme and given undertaking to pay their share under One Time Settlement Scheme, the relevant amount can be treated as "standard" / "performing" provided adequate provision is made by the banks and the farmers pay their share of settlement with one month of the due dates.

Provisioning
36

Accounts under Debt Relief Scheme are classified as standard assets and attract the prudential provisioning as applicable to such assets.
In case default/delay in making their share under OTS by farmers by the due dates (within one month), the outstanding amount in the relevant accounts shall be treated as NPA with reference to the original date of NPA and provisioning is to be made as applicable, etc.

Capital Adequacy Amount outstanding under Amount receivable from GOI attract zero risk weight for the purpose of capital adequacy norms and amount outstanding in the accounts covered under the Scheme is to be treated as a claim on the borrowers and risk weighted as per extant norms. Grant of Fresh Loans to the Borrowers covered under the ADWDRS A small or marginal farmer is eligible for fresh agricultural loans upon the eligible amount being waived and the fresh loan may be treated as "performing asset", regardless of the asset classification of the loan subjected to the Debt Waiver. Similarly fresh short-term production loans and investment loans to other farmers" may be treated as "performing assets", regardless of the asset classification of the loan subjected to the Debt Relief, and its subsequent asset classification should be governed by the extant IRAC norms.

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CHAPTER 4: BASICS OF THE BANKS FINANCIAL STATEMENT

The Bank Balance Sheet

A balance sheet is a statement that shows an individuals or a firms financial position on a particular day. Learn more about Balance Sheet under General Ledger Tutorials. Balance sheet sheets show monetary values for each entry expressed in terms of currency of the market in which bank is registered. The typical layout of a balance sheet has liabilities on one site and assets shown on the other side and is based on the following accounting equation: Assets = Liabilities + Shareholders equity The accounting equation tells us that the left side of a firms balance sheet must always have the same value as the right side. We can think of a banks liabilities and its capital as the sources of its funds, and we can think of a banks assets as the uses of its funds.

The Banks Equity:

Shareholders equity is the difference between the value of a firms assets and the value of its liabilities. Bank capital, also called shareholders equity, or bank net worth, is the difference between the value of a banks assets and the value of its liabilities. Shareholders equity represents the dollar amount the owners of the firm would be left with if the firm were to be closed, its assets sold, and its liabilities paid off. For a public firm, the owners are the shareholders. Shareholders equity is also referred to as the firms net worth. In banking, shareholders equity is usually called bank capital. Bank capital is the funds contributed by the shareholders through their purchases of the banks stock plus the banks accumulated, retained profits.

The Banks Liabilities:

A liability is something that an individual or a firm owes, or, in other words, a claim on an individual or a firm. A liability, in financial terms, is a cash obligation. The most important
38

bank liabilities are the funds a bank acquires from savers. Have you ever wondered if these deposit a form of bank income? Actually not, as the money received as deposits, does not really belong to the bank. For banks, deposits are liabilities. Depositors have the right to request their funds, and the bank must pay them. The bank is liable to pay this money back to the depositors on demand. The bank uses the funds to makes investments or loans to borrowers. Banks offer a variety of deposit accounts because savers have different needs. Money the bank borrowed is also a liability, a debt to be paid. Note: You may not like to think of your savings account as a problem for the bank, but it is one in theory. As explained below, all the deposits are payable on demand, means, depositors can ask for payback of their money at any time and if depositors simultaneously want all their money from all their accounts, banks would be in trouble. In such a case, the bank must either break its promise to depositors or pay until its reserves are gone. If the bank fails, unpaid depositors lose their money. The bank's liquidity depends on this principle and is based on the assumption that depositors will not demand their money quickly. A bank's liabilities exceed its reserves. The money is loaned out, and the reserves do not match the total of deposits (liabilities). However, the money is out working, financing businesses and expanding the economy.

The Bank Assets:

An asset is anything of value. An asset is something of value that an individual or a firm owns. In financial terms, that usually means money. A liquid asset is anything that can readily be exchanged, like cash. A bank's assets are its loans and investments, which may be less liquid by contract than deposits. Deposits may have to be returned any time, but assets can arrive in small amounts over a long period. Banks, like people and other corporations, make money on investments. They invest in stock markets and some types of securities and government bonds. While investing their money in instruments other than government bonds, they face the same risks as other investors. They hire professional investment staff to maximize their return on investments. Investments are assets for the banks.
39

A bank's liabilities are more liquid than its assets. A bank must give depositors their money if they request it. The bank's assets, however, may be less liquid because they are tied up in longer-term loans or investments, so the bank cannot get them as quickly. - Learn more at www.technofunc.com. Your online source for free professional tutorials.

Accepting Deposits:
We begin our discussion of the business of banking by looking at a banks sources of funds, which are primarily deposits. People who put money into banks are called depositors. Banks encourage deposits by protecting the money and by paying the depositor interest. Interest is a payout, a percentage of revenue earned on the principal over a period. The depositor thus earns some money from the deposits. Depositors are liability to banks and they are the sources for funds.

Providing Funds to Borrowers:

Using the accumulated funds of many depositors, the bank makes loans to customers it considers likely to repay. When banks lend money, they put it to work. The money that people borrow goes to buy products or services, to manufacture goods, and to start businesses. In this way, the money that banks lend works to keep the economy going. The bank charges more interest on the money it lends than it pays depositors, so when the money is repaid; more comes in than went out. Loans are the application of funds for banking industry. It sourced funds from depositors and have applied these funds by providing loans to borrowers.

Banks Income The Interest Spread:

To earn a profit, a bank needs to pay less for the funds it receives from depositors than it earns on the loans it makes. The difference between what a bank pays in interest and what it receives in interest is the spread, or net interest income. The spread is not pure profit. The spread is income, or revenue, but bank incur a lot of other costs to get this income. To arrive at the figure for profit we need to deduct to all such costs.

Expenditure- The Banking Costs:

Banks incurs a large number of costs/expenditures to procure business, safeguard money and keep its operations going. Some example of costs includes maintaining the security of your money, personnel expenses, building maintenance costs, and so forth. Profit, or net income, is what is left of revenue after costs are deducted.

Other Income Sources:

Banking today is not as simple as earning interest on the spread. Rapidly changing conditions, complex factors, a 24-hour-a-day global economy, and financial interdependency
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among nations set the banking climate. Some of the activities banks have adopted in response to competition from other financial firms. Banks have additional income sources. In addition to loan income, including credit-card interest, they also charge for various services. Charges include fees for rental of safe-deposit boxes, checking account maintenance, online bill payment, and ATM transactions. It is important to note that banks do not earn interest on money kept on hand for services such as ATM transactions. Thus, banks charge fees to offset lost interest. To keep pace with the rising cost of servicing accounts, fees for services have increased significantly. These service fees provide substantial revenues for banks.- Learn more at www.technofunc.com. Your online source for free professional tutorials.

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CHAPTER 5: CONCLUSION
In general, what banks do is pretty easy to figure out. For the average person banks accept deposits, make loans, provide a safe place for money and valuables, and act as payment agents between merchants and banks.

Banks are quite important to the economy and are involved in such economic activities as issuing money, settling payments, credit intermediation, maturity transformation and money creation in the form of fractional reserve banking.

To make money, banks use deposits and whole sale deposits, share equity and fees and interest from debt, loans and consumer lending, such as credit cards and bank fees.

In addition to fees and loans, banks are also involved in various other types of lending and operations including, buy/hold securities, non-interest income, insurance and leasing and payment treasury services.

History has proven banks to be vulnerable to many risks, however, including credit, liquidity, market, operating, interesting rate and legal risks. Many global crises have been the result of such vulnerabilities and this has led to the strict regulation of state and national banks.

However, other financial institutions exist that are not restricted by such regulations. Such institutions include: savings and loans, credit unions, investment and merchant banks, shadow banks, Islamic banks and industrial banks.

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BIBLIOGRAPHY Wibliography:
1. http://www.investopedia.com/university/banking-system/bankingsystem12.asp 2. http://www.investopedia.com/terms/b/business-banking.asp 3. http://rbidocs.rbi.org.in/rdocs/notification/PDFs/39IR010712FN.pdf 4. http://www2.bot.or.th/fipcs/Documents/FPG/2551/EngPDF/25510360 .pdf 5. http://shodhganga.inflibnet.ac.in/bitstream/10603/2031/10/10_chapter %201.pdf

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