Banks will have to unload bad loans to ARCs by FY07

With Basel II and the more stringent Reserve Bank of India's (RBI) provisioning norms, banks will be compelled to sell their bad loans to asset reconstruction companies by 2006-07.

With Basel II coming into force in FY 06-07, keeping bad loans on the balance sheet will prove very expensive even for the weaker banks and they will be forced to sell them to asset reconstruction companies, said Rajendra Kakker, managing director of India's only asset reconstruction company, the Asset Reconstruction Company of India Ltd (Arcil).

So far only six out of the total of 19 nationalised banks in the country have sold bad loans to Arcil.

"Some of the weaker banks prefer not to sell assets to Arcil because it takes a toll on their profits. But with Basel II even the weaker banks will find it more feasible to sell off bad loans than to hold them in their books," say bankers.

Arcil has bought out 362 loan accounts worth close to Rs 15,000 crore so far which was far behind what was initially intended.

One of the primary reasons was that banks with weaker capital bases and low provisioning coverage prefer to keep the bad loans in their own books rather than sell it to Arcil.

This is because when a bank sells a loan to Arcil it has to provide for the difference between the asset's book value and the value at which Arcil buys it.

Arcil has so far recovered Rs 35 crore in cash from its accounts. According to a recent Arcil publication, "Eleven cases have been settled with the borrowers." Arcil has sent out notices under the Sarfaesi Act to 23 borrowers and it has taken possession of six assets.

In the Rs 15,000 crore of bad loans acquired so far, 68 per cent of the units are operating ones.

Textile units form the largest chunk of assets required at Rs 3,500 crore followed by pharma at just over Rs 1,500 crore, consumer products at Rs 1,500 crore and iron and steel units at about Rs 1,200 crore.