BAFIA ch 8 all needed and collateral wise class ification of loan in unified directives

Credit department: concerned with providing loans and advances (credit)

“C redit” can be defined as a sum of money granted to a cer tain person or an inst itution, with
an expectat ion to get it back after a cer tain per iod of t ime along with agreed rate of interest.

f un c t i on s of c r ed i t m a r k et i n g
This unit works towards market ing the loan products and services of the FI

I t makes calls on the potent ial and exist ing customers to sel l its products

In an ideal st ructure, the personnel in the market ing unit is only responsible to bring the
potential customer to the FI. He should not be responsible for conducting appraisals,
monitor ing and recovery act ivit ies.

f un c t i on s of c r ed i t app r a is a l

This unit is solely responsible for evaluating the applications received from the clients.

I t is a very crucial and specialized function and hence requi res high cal iber personnel with
significant knowledge and exper ience.

Another key cr iter ion for personnel of credit appraisal is high degree of integri ty and
ethics.

The phi losophy of “prevent ion is better than cure” prevails.

F un c t i on of c r ed i t ad m i n is t r a t io n
This unit carr ies out a whole lot of activi ties like
 Execut ing credit documentat ion
Making disbursements
Making regular visi ts
Obtaining requi red documents per iodically
An effect ive credit administ rat ion provides a pi llar of st rength to the ent ire credit
management of the FI.
I t should be independent of the credit market ing and appraisal function in order to
provide check and balance mechanism.

f un c t i on of c r ed i t r ecov er y
Ideally, very problemat ic cases are handled by this unit.

This is a very specialized task and hence personnel in this unit should possess special
qualit ies.

In order to have an effect ive credit recovery system, the support of the board and the
senior management is a must.

c r ed i t m a n a ge m e n t
1. Screening the creditworthiness of the client
2. Providing loans
3. Recovery of loans

1. Screening the creditworthiness of the clien t

In order to ensure that the client is genuine and will pay back the loan, the bank will
make credit appraisal. Every bank has a credit policy based on which credit appraisal is
made.

Generally credit appraisal is made based on 5 Cs.

The system weighs five characterist ics of the borrower, at tempt ing to gauge the chance of
default.

The five Cs of credit are:

Character

Capacity

Capital

Collateral

Condit ions
 This method of evaluat ing a bor rower incorporates both quali tative and quant itative
measures.
The fi rst factor is character, which refers to a borrower's reputat ion.

Capacity measures a borrower's abi lity to repay a loan by comparing income against
recurr ing debts.
The lender wil l consider any capital the bor rower puts toward a potent ial
investment, because a large cont ribut ion by the borrower will lessen the chance of default.
Collateral, such as proper ty or large assets, helps to secure the loan.

Final ly, the condit ions of the loan, such as the interest rate and amount of principal, will
influence the lender's desire to finance the borrower.

2. Providing loans
After screening the creditworthiness of the client, the bank will either approve or reject
the loan. If bank finds the client has the capacity to pay the loan, the bank will sanct ions
the loan.

The bank will prepare various legal documents prior to disbursement of the loans.

3. Recovery of loans
This is the post credit disbursement act ivity . I t involves frequent visi t to the client and
client’s business in order to ensure that the client is ut il izing the loan as per the agreed
term and the client pays interest and principle on t ime.

This steps also involve various recovery act ions that the bank will take in order to recover
the loan if client fai ls to repay.
S.57 provides the provisions regarding loan recovering:
The bank may recover the loan from breacher party by selling the security,
The bank may recover the loan from breacher party by selling other property of the debtor,
The remaining amount from paying loan is to be returned back to the debtor,
The bank may correspond to transfer the property to the purchaser party,
The bank may accept the property if nobody accepts it, and govt. has to support it,
The bank may correspond to Debt Info office.
The bank may correspond to recover from property abroad,
The bank may request NRB to hold passport/prevent to Govt. service.

Legal provisions on lending

S.2(aa) has defined the term ‘credit’.

Ch. 8 (ss.56 and 57) provide provisions in this regard:

" Bank lending must be as per NRB directives,
" Bank lending must be against adequate security
" Bank lending after holding property in concerned office,
" the concern office must hold the property
" Bank must follow the NRB directives in lending to particular types of community.

N R B un ified directives

Altogether 22 direct ives

Major ones for credi t depar tment are:Di rect ive no. 2, 3, 11, 12 and 17

Sales
Markets the credit product

Brings in potential customer

Prepares credit proposal and forwards

Appraisal
Does a comprehensive and independent credit assessment

sees bankabil ity and r iskiness

Compl iance with the internal pol icies, regulatory provisions

Leads to a yes/no decision

C redit Administration

Work star ts after the approval of the loan

Preparat ion and execut ion of documents

Limi t set ting in the system

Loan disbursement

Monitor ing of loan through inspection, per iodic informat ion from client, repayment t rackin
g,

Monitor ing of approval terms

Monitor ing of secur ity

The job of a bank does not end with assessment, sanct ion and disbursement of credit of
loan. In fact, the job of a banker star ts after disbursing the loan in the form of cont inuous
post disbursal supervision and monitoring.

Credi t Administ rat ion is the process which begins upon sanction of credit l imi ts and
remains in pract ice on an ongoing basis unt il the loan is fully paid.

The main object ive of credit administrat ion depar tment is to ensure that the credit given
to any customer remains standard (of high quality) dur ing the enti re life of the credit and
repayments are made on due dates.

In case any symptoms of i rregulari ties are seen or reflected through the E arly W arning
Signals (E WS), take/suggest the cor rect ive act ions as soon as possible to ensure the good
health of the credit.

ensure that the pol icies/procedures laid down by the bank itself and by the regulator are
fol lowed in the credit process.

c r ed i t po li c y
“Pol icy”-A pol icy is a course of act ion or a guidel ine that influences our decisions. Pol icies are
the resul t of underlying values and beliefs.

“Credit Pol icy” is an impor tant document in a bank that lays down a broader framework of
rules and procedures within which lending is to be done in a bank.

I t reflects bank’s values and beliefs towards credit and also determines bank’s credit culture.

3 types of credit culture of a Bank

Value Driven: focus on quality of loans

Earning Driven: focus on short term earnings
Volume Driven: focus on increasing market share

A bank can have different credit culture at different per iod of t ime depending on its st rategy.

Credit Pol icy needs to be updated per iodically based on the changed scenario in the regulatory
envi ronment, market and banking indust ry.

Objectives of a sound credit pol icy:

4. Credit volumes
5. Earnings
6. Asset Quali ty

C redit Policy G uidelines high ligh ts on following areas:

Areas of credit in which the bank plans to lend and does not lend (acceptable and
unacceptable lines of credit).
These areas can be on the basis of credit facil it ies, type of collateral secur ity, types of
borrowers, or geographic sectors on which the bank may focus;

Types of Credit such as Term Loan, Working Capital loan, Non Funded loan ( e.g L/ C,
Guarantee) etc.

Clear guidelines for each of the var ious types of credi ts.

Bank's formal credi t approval process.

Detailed and formalized credi t evaluation/ appraisal process, administ ration and
documentat ion.

Credi t approval author ity at var ious levels.

Concent rat ion limits on single par ty and group of related part ies, part icular indust ries or
economic sectors, geographic regions and specific products.
 Credi t Pr icing- I t is the process of pricing the loans ( i.e charging the interest rate). The
r isk of the client is the primary factor for credit pricing. The higher the r isk, The higher
the interest rate and vice versa

Roles and responsibili ties of uni ts/staff involved in credi t.

Collateral Guideline: Evaluating and acceptability; valuation

Guidel ines on regular monitor ing and report ing system.

Guidel ines on management of problem loans.

Internal rat ing (Risk grading) systems including definit ion of each r isk grade and clear
demarcat ion for each r isk grade.
Every bank has to develop C redit Policies G u idelines (C PG) that clear ly outl ine the bank's
view of business development prior it ies and the terms and condit ions that should be
adhered to for loans to be approved.
Credi t policies establ ish framework for lending decisions and reflect bank’s tolerance for
credit r isk.
Should be updated at a regular interval to reflect changes in the economic out look and the
evolut ion of the bank’s loan por tfol io.
Should be communicated timely and should be implemented by all levels of the bank
through appropr iate procedures.
Should be dist ributed to al l lending authori ties and credit officers.

Any significant deviat ion to these pol icies must be communicated to the Senior
Management/Board and cor rect ive measures should be taken.

Principles of lending
The following are the basic principles, which are the fundamental norms for making good quality of
loan and also the basis of minimizing risks associated with lending, to be followed by banks and
FIs: -
" Principle of Safety and Security

" Principle of Liquidity

" Principle of Risk Diversification

" Principle of Profitability

" Principle of Loan Purpose

Legal provision to recovery

S.57 provides the provisions regarding loan recovering:

The bank may recover the loan from breacher party by selling the security,
The bank may recover the loan from breacher party by selling other property of the debtor,
The remaining amount from paying loan is to be returned back to the debtor,
The bank may correspond to transfer the property to the purchaser party,
The bank may accept the property if nobody accepts it, and govt. has to support it,
The bank may correspond to Debt Info office.
The bank may correspond to recover from property abroad,
The bank may request NRB to hold passport/prevent to Govt. service.
 Security Documents:
Security documents are the documents having financial values which are executed by customers in the
Bank's prescribed formats as well as regulatory formats e.g. mortgage deed, loan deed, personal
gurantee, pledge deed, land ownership certificate etc. which strengthen the Bank's position to recover
the loans & advances extended to customers in distress situation.

C. Credit Facility Offer Letter (CFOL)

D. Promissory Note
E. Loan Deed
F. Pledge Deed
G.Lien/ Letter of Lien
H. Hypothecation
I. Hypothecation Deed (Letter of Hypothecation)
J. Mortgage Deed
J.1 First Party Mortgage/Collateral
J.2 Third Party Mortgage/Collateral
K. Personal Guarantee
L. Corporate Guarantee
M. Cross Guarantee/Collateral
N. Subordination Agreement:
O. Letter of Set Off
P. Disbursement Request
Q. Consent Letter (Manjurinama)
R. Purchase/Sale Order and Share Seller Deed
S. Debit Instruction Slip (DIS):
R. Approval Sheet:
S. Repayment Schedule:
T. Pari Passu Deed:
U. Consent Deed:
V. Vehicle Sale Consent Deed:
W. Power of Attorney:
X.Tirpartite Agreement:
Y. Debit Authority:

Credit sanction limit and authority

Sec. 79 of the NRB Act has given instructions/guidelines for the A, B, C classes of Banks/FIs, as
follows: -
1)Limitation of Lending
2)Lending for Transmission Line and Cable-Car
3)Exemption/Concession in the Limitation

4)Lending on Guarantee/Counter-Guarantee
5)Customers having mutual-relationship to be regarded as a single entity/group
6)Customers regarded as separate entity

7)Large Debtors have to submit loan particulars

8)Lending on Certain Areas, etc.