The willful defaulter syndrome in banks

“When virtue is lost, benevolence appears, when benevolence is lost right conduct appears, when right conduct is lost, expedience appears. Expediency is the mere shadow of right and truth; it is the beginning of disorder”.A good and faithful banker ever prefers honourable settlement to expedient action and expediency cannot be a policy for the banks to come out of their problems which is not keeping with the professional ethics of banking.

Reserve Bank of India introduced the scheme of willful defaulter in pursuant of the instructions of Central Vigilance Commission during the year 1999 and subsequently modified as per the recommendations of the Working Group constituted by RBI in consultation with the Government in the year 2002 and subsequent modifications have been announced through their circulars. As per their circular DBR.No.CID.BC.22/20.16.003/2015-16 dated July 1, 2015, “2.1.3 Wilful Default: A ‘wilful default’ would be deemed to have occurred if any of the following events is noted:

(a) The unit has defaulted in meeting its payment / repayment obligations to the lender even when it has the capacity to honour the said obligations.

(b) The unit has defaulted in meeting its payment / repayment obligations to the lender and has not utilised the finance from the lender for the specific purposes for which finance was availed of but has diverted the funds for other purposes.

(c) The unit has defaulted in meeting its payment / repayment obligations to the lender and has siphoned off the funds so that the funds have not been utilised for the specific purpose for which finance was availed of, nor are the funds available with the unit in the form of other assets.

(d) The unit has defaulted in meeting its payment / repayment obligations to the lender and has also disposed off or removed the movable fixed assets or immovable property given for the purpose of securing a term loan without the knowledge of the bank / lender”.

But the most important part of the circular states, “The identification of the wilful default should be made keeping in view the track record of the borrowers and should not be decided on the basis of isolated transactions / incidents. The default to be categorised as wilful must be intentional, deliberate and calculated”.

The aforesaid circular is a very important aspect of customer behaviour and conduct of account in the matter of recovery of debts which if followed diligently would result in speedy recover of debts due from such borrowers. But the most unfortunately the banks use the circular as an easy way to surmount the various directions of Reserve Bank of India and cumbersome procedures of restructuring, repeated rehabilitations and other directions of RBI to take advantage of the penal measures envisaged under the said circular of RBI on wilful defaulter. As per the penal measures, the wilful defaulter is not entitled to any remedy under any Act or relief under any norms of RBI and can be charged under criminal law.

RBI directions clearly indicate as to how to identify the wilful defaulter while narrating the norms under which the borrower can be considered as wilful defaulter. Banks/FIs should take the following measures in identifying and reporting instances of wilful default:

“(i) With a view to imparting more objectivity in identifying cases of wilful default, decisions to classify the borrower as wilful defaulter should be entrusted to a Committee of higher functionaries headed by the Executive Director and consisting of two GMs/DGMs as decided by the Board of the concerned bank/FI.

(ii) The decision taken on classification of wilful defaulters should be well documented and supported by requisite evidence.The decision should clearly spell out the reasons for which the borrower has been declared as wilful defaulter vis-à-vis RBI guidelines.

(iii) The borrower should thereafter be suitably advised about the proposal to classify him as wilful defaulter along with the reasons therefor. The concerned borrower should be provided reasonable time (say 15 days) for making representation against such decision, if he so desires, to a Committee headed by the Chairman and Managing Director.

(iv) A final declaration as ‘wilful defaulter’ should be made after a view is taken by the Committee on the representation and the borrower should be suitably advised”.

In practice the issue of notice to the borrower narrating the circumstances and furnishing the evidences under which the borrower being branded as wilful defaulter is being undertaken as a ritual without satisfactorily proving the following facts.

1. The capacity of the borrower to repay the loan is to be proved with evidences and based on the periodical reviews made by the bank as part of credit monitoring.
2. Proof of diversion of funds for other purposes other than for the purpose for which the finance was made is to be established by way of banking transactions made date wise through the accounts maintained with the bank.
3. Siphoning of the funds should be proved by the transactions made in the account date wise through relevant entries in the account.

RBI through their circular DBOD No.DL.BC.12928/20.16.003/2007-08 dated July 2, 2007 made it clear to the banks and financial institutions, “The identification of the wilful default should be made keeping in view the track record of the borrowers and should not be decided on the basis of isolated transactions/incidents. The default to be categorised as wilful must be intentional, deliberate and calculated”.

Many times, it is found that a borrower of many years of standing is branded as a wilful defaulter all of a sudden when his account is classified as Non-Performing Asset (NPA) based on the transactions conducted much before the classification of the account as NPA. The bank is subjected to many audits via internal audit, statutory audit, RBI audit, Special audit, periodical inspection by officers of the bank, periodical review of account etc. Some of the bigger branches have concurrent audit also. What is the purpose of having so many audits, inspection and reviews if they cannot identify such activities attributing to wilful defaulter at the right time? In this connection RBI states, “With a view to monitoring the end-use of funds, if the lenders desire a specific certification from the borrowers’ auditors regarding diversion / siphoning of funds by the borrower, the lender should award a separate mandate to the auditors for the purpose. To facilitate such certification by the auditors, the banks and FIs will also need to ensure that appropriate covenants in the loan agreements are incorporated to enable award of such a mandate by the lenders to the borrowers / auditors.

In addition to the above, banks are advised that with a view to ensuring proper end-use of funds and preventing diversion / siphoning of funds by the borrowers, lenders could consider engaging their own auditors for such specific certification purpose without relying on certification given by borrower’s auditors. However, this cannot substitute a bank’s basic minimum own diligence in the matter”. Besides, “Role of Internal Audit / Inspection: The aspect of diversion of funds by the borrowers should be adequately looked into while conducting internal audit / inspection of their offices / branches and periodical reviews on cases of wilful defaults should be submitted to the Audit Committee of the bank”. Whether such reporting is being done and follow up actions are being undertaken are speculations because if such actions are undertaken at the right time, it would have prevented the defaulter syndrome much early and would have saved the situations of NPA creations.

Indian management system, from experience, is found to adopt the method of fixing responsibility and punishing rather than analysing the problem and solving it. In our banking system all too often our bankers shrink from their responsibilities and choose to do what is officially expedient.The concept of wilful defaulter is very essential but to make it effective, the implementation should be on a proven basis not on the basis of speculations and as a policy of expediency. It should follow the legal dictum “Let hundred culprits escape but not one innocent be punished”.