With the slowdown caused by the COVID-19 pandemic, businesses have, among other things, faced challenges in managing sufficient cash flow to service their debts. The Reserve Bank of India ("RBI") announced a slew of measures to mitigate the concerns of borrowers through itsCircular No. RBI/2019-20/186 dated March 27, 2020 ("Circular") entitled the "COVID-19 Regulatory Package", placing a moratorium on repayments for a period of 3 months.

Contents of the Circular:

The Circular provides the following instructions:

i (i) Loan Moratorium: Commercial banks, co-operative banks, All India Financial Institutions like EXIM Bank, NABARD etc., and NBFCs (collectively called "Lending Institutions") are permitted to offer a moratorium of 3 months on the payment of all term loan instalments due between March and May 2020 ("Deferment Period"). However, the Circular states that interest on such term loans would continue to accrue during this Deferment Period.

i (ii) Working Capital Facilities: With respect to working capital facilities, the Lending Institutions are permitted to defer the interest payable, to revise the margins required for such facilities downwards or to adjust the payment cycle for the same, during the Deferment Period.

i (iii) Accounting Treatment: With regard to asset classification downgrades, the RBI has provided for recognition of imminent stress through RBI Circular No. RBI/2018-19/203 dated June 7, 2019. This 'Prudential Framework' classifies loan

i accounts with payments overdue up to 90 days as 'Special Mention Accounts' or an 'SMA'. Any loan account or advance which is overdue beyond 90 days is classified as a 'Non-Performing Asset' or an 'NPA'. This asset classification also requires Lending Institutions to make provisions for any contingent losses that may arise from such NPAs. Under the Regulatory Package Circular however, the RBI states that the moratorium will not be considered an event which requires asset re-classification. Any downgrades of loans and advances to SMAs or NPAs shall be made only after completion of the Deferment Period.

The Circular further provides that any non-payment during the Deferment Period shall not qualify for reporting to credit bureaus, and correspondingly, the credit history of borrowers shall not be affected during such time.

Responses to the Circular:

While the Circular acknowledged the effect of the pandemic on the loan servicing capabilities of borrowers, the interpretation of certain aspects of the Circular have been subject to resolution in courts. These aspects include the following:

i (i) Accrual of interest:

Among the earliest grounds of opposition to the Circular was the continuing accrual of interest even during the Deferment Period. The rationale for such opposition was that the relief provided in such a moratorium would not be meaningful to borrowers in the event additional interest continued to accrue on the total amounts payable by them. A consequence of this would be a de facto penalty for any borrower who did not make repayments in this Deferment Period.

APIL was filed by advocate Amit Sahni in the Supreme Court seeking the relief of interest relaxation in addition to the other measures outlined in the Circular. While this PIL was not entertained by the SC on the grounds that the petitioner was not an afflicted party, the question remains whether the efficacy of the Circular is compromised by the accrual of unpaid interest.

i (ii) Discretion of Lending Institutions to effect the moratorium:

The wording of the Circular clearly states that Lending Institutions shall be 'permitted to offer' a moratorium for the Deferment Period to the borrowers of its term loan facilities. This suggests that the implementation of the Circular is optional, and at the discretion of the Lending Institutions and their Boards.

However, multiple borrowers have approached the courts seeking relief against payment notices issued by Lending Institutions between March and May 2020.

This reading of the Circular was upheld by an interim order of the Delhi High Court while hearing a petition made by Indiabulls Housing Finance Limited, against a payment demand of INR 90 crores raised by HDFC Bank. The Delhi HC did not stay the payment demand issued by HDFC, and acknowledged that the lender had the right to deduct INR 90 crores from the fixed deposit receipt provided by Indiabulls as security for the facility. The implication of this order is that all Lending Institutions are not mandated to implement the Circular, and may do so at their discretion.

Conversely, a Supreme Court bench in the case of Kamal Kumar Kalia vs. Union of India noted that the Circular was not implemented by banks, and directed the RBI to ensure implementation of the Circular in its letter and spirit. This judgment indicates that the Circular shall apply to all borrowers, and further, that Lending Institutions do not have discretion on whether or not to implement the Circular.

i (iii) Treatment of accounts with overdue payments prior to the Deferment Period:

While the Circular provided that any loan accounts or advances which became overdue between March 1 and May 31, 2020, would not be subject to any asset classification downgrade, it did not explicitly specify how the Circular would affect those loan accounts which were already overdue prior to March 1, 2020.

This question was addressed by the Delhi High Court in the case of Anant Raj Limited vs. Yes Bank Limited, where the petitioner had been in default of its repayment obligations prior to March 1, 2020. Yes Bank declared the petitioner's account as an NPA on March 31, 2020, i.e. 90 days from the date since the petitioner's repayments were overdue. However, the Delhi HC held that the intent of the Circular was to maintain status quo over the course of the Deferment Period, and therefore, Yes Bank must restore the asset classification status of the petitioner to the position in which it stood on March 1, 2020.

In response to the numerous cases similar to Anant Raj, seeking clarity on the same question, the RBI issued Circular No. RBI/2019-20/220 dated 17th April 2020 ("New Circular"). The New Circular states that as long as an account is standard as on 29 February 2020 (any account that is not overdue for more than 89 days), then the Lending Institution may exclude the Deferment Period while

calculating the number of days past-due for such accounts. The New Circular, however, provides that even with regard to accounts to which the above benefit is extended, the Lending Institution must make provisions of at least 10% of the amounts outstanding under such accounts.

Author's Take

The RBI has been proactive in addressing the question of asset classification which was raised in various judicial fora as soon as the Circular was issued. The issues which remain include whether the Circular shall proceed to bind all Lending Institutions, as directed by the SC, and whether the RBI shall revisit the continued accrual of interest even if loan repayments have been deferred.

A crucial aspect the RBI has remained silent on, and has left to the decision-making powers of a Lending Institution's Board is the contractual triggering of payment defaults. Defining and provision of consequences upon a payment default is a standard provision in loan documentation. These consequences may include a lender right to enforce securities, termination of contract, and restrictions on changing the composition of the Board, amending the charter documents, etc., without the prior consent of the lender. The lender may also deem a sustained inability to repay loan instalments as a material adverse effect. Further, another standard event of default in loan documentation is cross-default. Such a clause allows for a lender to call for a default under its own documents, even if a payment default has occurred with respect to another lender's facility. The scope of the present Circular, even if made applicable to a borrower by one of the Lending Institutions it has borrowed from, will not protect it from the contractual consequences of payment default recorded in its loan documentation.

As mentioned above, the RBI has responded to the issues raised in litigation by issuing the New Circular, clarifying the treatment of loan accounts with overdue payments which pre-dated March 1, 2020. Similarly, a clarificatory circular addressing the other issues raised in the course of litigation will save judicial time, while also better managing the expectations placed on both Lending Institutions and their borrowers in this unprecedented environment.

Originally published 19 May 2020

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