Small Businesses And Non-Performing Assets

Small businesses need funds as capital for investment, or to handle expenditures or for further expansion of the business. Most often banks are the primary source for procuring funds and also for handling accounts. However when a business defaults on the loan repayments, the banks bear the brunt too.

Functioning Of Banks

As a primary function, banks accept deposits for the purpose of lending and investment. Banks offer loans for various purposes and interest income on these loans is their main source of income. All loans are ‘Assets’ of the bank. The source of funds for a bank include the deposits accepted of the loans granted previously as well as those funds which are available out of recovery of loans granted earlier.
In spite of best efforts, some loans pose problems in recovery or become irrecoverable. Such loans are termed as ‘’bad debts.’’ Banks have to make provision (keeping aside portion of profit) for bad debts out of profits generated by the bank out of business. The Reserve Bank of India has issued guidelines to banks as to how to identify a loan account as a bad debt and how much provision should be made against it. These guidelines are called prudential norms for IRAC i.e.,’ Income Recognition and Asset Classification’ norms.