[Analysis] A Deeper Dive into RBI’s Proposed Norms for Dealing with Wilful Defaulters

Table of Contents

1. Applicability of the draft master directions on treatment of ‘Wilful Defaulters’
2. Mechanism for identification & classification of wilful defaulters
3. Criteria for classification of non-whole-time directors as Wilful Defaulters!
4. Lender to examine ‘wilful default’ in all accounts exceeding o/s amount of Rs 25 lakhs and above
5. Introduction of stringent measures against wilful defaulters
6. Lender to establish a transparent mechanism for identification of wilful defaulters
7. Strengthening oversight and preventing wilful default: Responsibilities of Internal Audit and Audit Committees
8. Reporting & Disclosure of Large Defaulters’ information to CICs
9. Treatment of compromise settlements
10. Treatment of defaulted loans sold to the other lenders and ARCs
11. Treatment of accounts where resolution is done under IBC/Resolution framework guidelines issued by the Reserve Bank
12. Prospective impact of the directions

The Reserve Bank of India (RBI) introduced a scheme to address wilful defaulters starting from April 1, 1999. The bank has recently issued the revised instructions after reviewing existing guidelines and taking into account various rulings from the Hon’ble Supreme Court and High Courts, as well as suggestions/representations received from banks and other stakeholders.

The revised instructions are contained in the ‘Draft Master Direction on Treatment of Wilful Defaulters and Large Defaulters’. The draft Master Direction expands the scope for Regulated Entities that can classify borrowers as wilful defaulters, broadens the definition of wilful default, refines the identification process and mandates a review and finalisation on wilful default aspects within 6 months of an account being classified as a non-performing asset (NPA). The key highlights are discussed in detail below –

1. Applicability of the draft master directions on treatment of ‘Wilful Defaulters’

The provisions regarding wilful defaulters shall apply to the ‘lenders’ as defined in these Directions. Asset Reconstruction Companies (ARCs), and Credit Information Companies (CICs) shall be bound by these directions only with regard to the reporting requirements.

As per para 3(1)(m), the term “lender” means an AIFI, a bank, or NBFC which has granted a credit facility to the borrower.

2. Mechanism for identification & classification of wilful defaulters

As per para 3(1)(u), the term “wilful defaulter” means –

(a) a borrower or a guarantor who has committed wilful default and the outstanding amount is Rs. 25 lakh and above, or as may be notified by the Reserve Bank of India from time to time, and

(b) where the borrower committing the wilful default is a company, its promoters and the director(s) associated at the time of default, and in the case of entity (other than companies), persons who are in charge and responsible for the management of the affairs of the entity.

A lender must identify and classify a person as a ‘wilful defaulter’ by following the procedure:

(a) The evidence of wilful default must be examined by an Identification Committee. Further, if the Identification Committee is satisfied that an event of wilful default has occurred, it shall issue a show-cause notice to the borrower/guarantor/promoter/director/persons who are in charge and responsible for the management of the affairs of the entity, and call for the submissions.

(b) Once the submissions are reviewed and approved, the Identification Committee must make a proposal to the review committee for classification as a wilful defaulter, providing written explanations for the decision.

(c) The borrower/guarantor/promoter/director/persons who are in charge and responsible for the management of the affairs of the entity must be informed about the proposal to label them as wilful defaulters along with the reasons.

(d) An opportunity must be provided to the borrower, guarantor, promoter, director, or responsible individuals to submit a written response within a reasonable period to the Review Committee.

(e) The Review Committee will evaluate the proposal from the Identification Committee along with any written representations received before making a decision.

(f) The Review Committee must provide an opportunity for a personal hearing to the borrower, guarantor, promoter, director, and those responsible for managing the entity’s affairs. However, if they choose not to attend or don’t avail themselves of this opportunity, the Review Committee must assess all facts or available information, and then take a decision based on the Identification Committee’s proposal.

(g) The Review Committee shall pass a well-explained order and the same must be communicated to the wilful defaulter.

3. Criteria for classification of non-whole-time directors as Wilful Defaulters!

A non-whole-time director, including an independent director/nominee director, shall not be considered a wilful defaulter unless it is conclusively established that:

(a) The wilful default by the borrower or the guarantor has taken place with their consent or connivance or

(b) He/she was aware of the wilful default by the borrower or the guarantor, as revealed from the proceedings recorded in the minutes of the meeting of the Board or a Committee of the Board, but failed to record his/her objections to the same.

4. Lender to examine ‘wilful default’ in all accounts exceeding o/s amount of Rs 25 lakhs and above

The lender must assess the ‘wilful default’ aspect in all accounts with an outstanding amount of Rs. 25 lakhs and above or as may be notified by the RBI, and complete the process of classification/declaration of the borrower as a wilful defaulter within a period of 6 months of the account being classified as NPA.

5. Introduction of stringent measures against wilful defaulters

There are certain measures which can be taken by the lenders. Such measures are as follows:

(a) Criminal action by the lenders: Based on the facts and circumstances of each case, lenders can examine whether criminal action against wilful defaulters under the provisions of the applicable law, is warranted.

(b) Publishing of photographs of wilful defaulters: The lenders must formulate a non-discriminatory board-approved policy that clearly sets out the criteria based on which the photographs of persons classified and declared as wilful defaulters shall be published.

(c) Penal and other measures against wilful defaulters: The penal provisions must be implemented by the lenders:

(d) Debarment from institutional finance: No additional credit facility must be granted by any lender to a wilful defaulter or any entity with which a wilful defaulter is associated. Further, the bar on additional credit facility shall be effective up to a period of one year after the name of the wilful defaulter has been removed from the List of Wilful Defaulters (LWD) by the lender.

(e) Ineligible for restructuring: Wilful defaulters will not be eligible for restructuring of credit facility.

(f) Incorporation of covenant: The lender must incorporate a covenant in the agreement while extending credit facility to a borrower that it shall not induct on its board a person whose name appears in the List of Wilful Defaulters.

(g) Initiation of legal action: The lender must, wherever warranted, initiate legal action against the borrowers/guarantors for foreclosure/recovery of dues expeditiously.

6. Lender to establish a transparent mechanism for identification of wilful defaulters

The lender must put in place a transparent mechanism for the entire process of identifying wilful defaulters to ensure the fair application of penal provisions and eliminate the scope for discretion.

7. Strengthening oversight and preventing wilful default: Responsibilities of Internal Audit and Audit Committees

The lender shall require their internal auditors to specifically look into adherence to instructions for classifying a borrower as a wilful defaulter. Further, the Audit Committee of the lender shall periodically review the cases of wilful default and recommend steps to be taken to prevent such occurrences and their early detection should these occur.

8. Reporting & Disclosure of Large Defaulters’ information to CICs

The provisions regarding large defaulters shall be applicable to all entities regulated by the Reserve Bank, regardless of whether they are considered ‘lenders’ or not under these Directions.

All regulated entities, including ‘lenders,’ must regularly share information with credit information companies (CICs) about large defaulters. This information includes a list of accounts with pending lawsuits from large defaulters and a list of accounts from large defaulters where lawsuits have not been filed.

Further, all lenders are required to submit at monthly intervals, information to all CICs in respect of the wilful defaulters:

a) A List of Wilful Defaulters (LWD) of suit-filed accounts

b) A List of Wilful Defaulters (LWD) of non-suit filed accounts

9. Treatment of compromise settlements

Any account included in LWD, where the lender has entered into a compromise settlement with the borrower, shall be removed from the LWD only when the borrower has fully paid the compromise amount.

Till such time as only part payment is made, the name of the borrower shall not be removed from the LWD even if the outstanding amount becomes less than the threshold of Rs. 25 lakh or as notified by the Reserve Bank of India from time to time.

10. Treatment of defaulted loans sold to the other lenders and ARCs

The sale to other lenders/ARCs must not be treated as recovery, as the loan amount is not yet recovered. The “transferee” lenders/ARCs must continue to report the account as a wilful defaulter until the balance remaining to be recovered in their account plus the amount written off by the “transferor” lender falls below the threshold of Rs. 25 lakh or as notified by the Reserve Bank of India from time to time.

11. Treatment of accounts where resolution is done under IBC/Resolution framework guidelines issued by the Reserve Bank

In case an account is included in LWD and has subsequently undergone a resolution, the name of such a wilful defaulter must be removed from the LWD after implementation of the resolution plan under IBC or aforesaid prudential framework.

12. Prospective impact of the directions

The recent proposed revisions by the RBI to the ‘Treatment of Wilful Defaulters and Large Defaulters’ guidelines mark a significant step towards enhancing accountability and transparency in managing defaulters within the financial sector.

The updated framework introduces a meticulous process for identifying and classifying wilful defaulters, involving various committees and opportunities for the accused to present their case.

Further, it grants lenders the authority to take punitive measures against defaulters, including the initiation of criminal proceedings, public disclosure of their photographs, and the imposition of restrictions on their access to additional credit facilities.

This move not only enhances the RBI’s ability to address financial misconduct but also sends a strong message that wilful defaulters will face severe consequences, fostering a culture of greater discipline and responsibility in the lending ecosystem.