Evergreening in the Lending Ecosystem in India: Understanding the Practice and its Implications

In the lending ecosystem of India, there are various practices and strategies employed by financial institutions to manage their loan portfolios. One such practice that has garnered attention is “evergreening.” Evergreening refers to a process wherein lenders extend new credit or provide additional funds to borrowers who are struggling to repay existing loans, primarily to maintain the appearance of a performing loan. In this article, we will explore the concept of evergreening in the Indian lending ecosystem, its implications, and the regulatory measures in place to address this practice.

Understanding Evergreening

It involves granting additional credit or restructuring existing loans to borrowers who are facing financial distress, often without addressing the underlying issues causing the borrower’s inability to repay. The primary objective of evergreening is to avoid classifying loans as non-performing assets (NPAs) and maintain a healthy loan portfolio.

The Reserve Bank of India (RBI), which is the regulatory authority for NBFCs in India, has been actively working to address the issue of evergreening loans and has implemented measures to discourage such practices. The RBI has introduced stricter guidelines and enhanced supervision to ensure that NBFCs adhere to prudent lending practices and maintain the quality of their loan portfolios.

Reasons for Evergreening:
Financial institutions engage in evergreening for various reasons, including:

1. Protecting Financial Health: Lenders may resort to evergreening to maintain the appearance of a healthy loan portfolio and avoid the negative consequences associated with a high NPA ratio.
2. Regulatory Compliance: Evergreening can be employed to comply with regulatory requirements that mandate a certain percentage of performing assets in the loan portfolio.

Implications:
While evergreening may temporarily conceal the true state of a borrower’s financial health and present a positive image for the lender, it has several potential implications:

1. Risk Accumulation: By extending additional credit without addressing the borrower’s underlying financial distress, lenders accumulate risk within their loan portfolio. This can lead to a higher probability of defaults in the future.
2. Misleading Financial Statements: Evergreening can distort the true financial position of the lending institution, as the loans being extended may not reflect the actual creditworthiness of the borrowers.
3. Systemic Risk: Widespread evergreening practices can pose systemic risks to the financial sector, affecting overall financial stability and investor confidence.

Regulatory Measures to Address Evergreening
Recognizing the potential risks associated with evergreening, regulatory authorities in India have taken several measures to curb this practice:

1. Asset Classification Norms: The Reserve Bank of India (RBI) has established strict guidelines for the classification of loans as non-performing assets (NPAs). These norms ensure that lenders accurately reflect the quality of their loan portfolios.
2. Provisioning Requirements: The RBI mandates that lenders make adequate provisions for NPAs based on the extent of the default. This ensures that lenders have sufficient reserves to absorb potential losses arising from defaults.
3. Enhanced Disclosure and Reporting: Financial institutions are required to provide transparent and accurate information about their loan portfolios, including details about restructured loans, in their financial statements and regulatory filings.
4. Stringent Supervision and Audits: Regulatory authorities conduct regular inspections and audits of financial institutions to ensure compliance with regulations and identify any instances of evergreening or other irregularities.
5. Insolvency and Bankruptcy Code (IBC): The introduction of the IBC provides a robust framework for resolving insolvencies and restructuring debts. This helps address the root causes of financial distress and discourages the practice of evergreening.

Also Read: Building Trust and Confidence: The Regulatory Ecosystem of Lending in India

Evergreening in the lending ecosystem of India poses significant challenges to financial stability and transparency. While lenders may resort to evergreening as a short-term solution, it can lead to long-term repercussions for both the lenders and the borrowers. Regulatory measures, such as stringent asset classification norms, provisioning requirements, enhanced disclosure, and the implementation of the IBC, aim to address evergreening practices and promote prudent lending practices. By fostering a transparent and accountable lending environment, stakeholders can work together to ensure the soundness of the lending ecosystem and sustain the country’s economic growth.