Non-Performing Asset

Also called: NPA, Bad loan · Topic: Banking Regulation, NPAs and Financial Stability · NCERT: Beyond NCERT

Meaning

A Non-Performing Asset (NPA) is a loan or advance on which interest or a principal instalment stays overdue for more than 90 days. This means the borrower has stopped paying, and the loan no longer earns money for the bank [1].

• It matters because a bad loan cuts into the bank's income and its capital. If there are too many NPAs, the bank lends less, needs fresh capital, and puts financial stability at risk.
• Key formulas:
• Gross NPA ratio = Gross NPA ÷ Gross advances
• Net NPA = Gross NPA − Provisions held
• Provisioning Coverage Ratio (PCR) = Provisions ÷ Gross NPA × 100

Explanation

How a loan becomes an NPA: the IRAC ladder

• IRAC norms (Income Recognition and Asset Classification): RBI's safety rules on three things:
• when a bank may count interest as income
• how it must label each loan

• how much money it must set aside against each label [1][2]

• Income recognition rule: if interest or principal is unpaid for more than 90 days, the bank cannot count that interest as income just because it has fallen due. It counts the income only when cash actually comes in [2].

• Why: before these norms, banks could show unpaid interest as "profit". Weak banks then looked healthy.

• Repayment record decides NPA status. A late stock statement, a limit not renewed on time, or a balance briefly above the limit does not by itself make a loan an NPA [2].

• The early-warning stage: Special Mention Accounts (SMA). These are loans showing early signs of stress. They are not yet NPAs [2].

Class	Days overdue
SMA-0	1-30
SMA-1	31-60
SMA-2	61-90
NPA	more than 90

• Special cases:
• Overdraft or cash-credit account (a running credit line, not a fixed loan): it becomes an NPA when it stays "out of order" for more than 90 days [1]. "Out of order" broadly means the balance stays above the sanctioned limit, or too little money comes in to cover the interest.

• Farm loans follow the crop cycle, because a farmer can repay only after harvest:

  • short-duration crops: NPA if overdue for two crop seasons [1]
  • long-duration crops (crop season longer than one year): NPA if overdue for one crop season [1]

• History: the limit was 180 days before 2004. The move to 90 days brought India close to the Basel norms (global banking-safety standards set by the Basel Committee).

Types of NPA: the longer it stays bad, the worse the label

Sub-class	Rule
Sub-standard	NPA for up to 12 months [1]
Doubtful	stayed sub-standard for 12 months; full recovery is "highly questionable and improbable" [1]. Sub-buckets: D1 (up to 1 year as doubtful), D2 (1-3 years), D3 (over 3 years)
Loss	named as uncollectible by the bank, its auditors or RBI inspection, but not yet written off [1]

• Timeline (term loan):
• An instalment due on 1 January 2024 is not paid.
• It moves through SMA-0 → SMA-1 → SMA-2.
• It becomes an NPA (sub-standard) on Day 91, around 1 April 2024.
• It becomes Doubtful D1 from about April 2025, D2 from about April 2026 and D3 from about April 2029.

• It can be moved to Loss at any stage.

• November 2021 tightening:

• NPA status is tagged daily, on the actual date the overdue period is crossed. Earlier, some banks checked only at month-end or quarter-end.
• An NPA goes back to standard only when all arrears of interest and principal are cleared. Paying interest alone is not enough. This stops evergreening, where a borrower pays a small amount so that a bad loan looks healthy.

Provisioning: money set aside against bad loans

• Loan-loss provisioning means keeping part of profits aside in advance to absorb likely losses. The worse the label, the bigger the provision.

Category	Provision (current)
Standard	0.25-1% (general 0.40%; farm/SME 0.25%; commercial real estate 1%)
Sub-standard	15%; unsecured exposures 25%
Doubtful: secured part	D1 25% · D2 40% · D3 100%
Doubtful: unsecured part	100%
Loss	100% [2]

• The norms have become stricter. RBI's July 2011 master circular set 10% for sub-standard assets and 20-100% for the secured part of doubtful assets [1].
• Worked example (doubtful D2 loan):
• Loan = Rs 100 crore. Realisable value of the security (collateral) = Rs 60 crore.
• Secured part: 40% × 60 = Rs 24 crore
• Unsecured part: 100% × 40 = Rs 40 crore

• Total provision = Rs 64 crore. This comes straight out of profit.

• Worked example (metrics):

• Gross NPA = Rs 100 crore and provisions = Rs 75 crore.
• So Net NPA = Rs 25 crore and PCR = 75%.

Why NPAs eat bank capital (NCERT link)

• NCERT Class 12 gives: Assets = Reserves + Loans and Net Worth = Assets − Liabilities.
• Chain of effect:
• A loan goes bad, so the bank's assets fall.
• Deposits (liabilities) do not fall, because the bank still owes depositors in full.

• So the whole loss comes out of net worth (the owners' capital).

• Example:

• Assets = Rs 1,000 crore and liabilities = Rs 920 crore, so net worth = Rs 80 crore.
• Rs 50 crore of loans turns bad and is fully provided for.
• Net worth falls to Rs 30 crore, which means 62.5% of the capital is gone.
• This is why high NPAs lead to recapitalisation (owners, often the government, putting in fresh capital).

In India

• The rulebook: RBI's IRAC prudential norms, set out in its master circulars [1][2] and tightened in November 2021.
• CRILC (Central Repository of Information on Large Credits): RBI's database of big loans.
• Banks must report every borrower with total exposure of Rs 5 crore and above, along with the borrower's SMA status.

• Why: stress at one bank becomes visible to all the others.

• Clean-up path:

• Asset Quality Review (AQR), 2015: RBI forced banks to show their hidden bad loans [4].

• The Government then followed a 4R strategy: Recognition, Resolution (including through the IBC, 2016), Recapitalisation and Reform [4].

• Data (scheduled commercial banks):

• Gross NPA peaked at about 11.2% (March 2018).
• It fell to 2.31% (end-March 2025), the lowest in 20 years [4].
• It then fell to 2.15% (end-September 2025, provisional), a historic low [3].

• By bank group in September 2025: PSBs 2.50%, private banks 1.73%, foreign banks 0.80%.

• PCR has risen:

• All scheduled commercial banks: 48.3% (March 2018) → 60.6% (March 2019) [5]

• Public sector banks: up from 46.0% to 89.9% (December 2022) [6]

• Next reform, the Expected Credit Loss (ECL) model: banks would provide for likely losses from the day a loan is made, instead of waiting for a default. It follows IFRS 9 / Ind AS 109.

• RBI released a discussion paper on 16 January 2023 [7].
• On 1 October 2025, RBI proposed draft directions for ECL "subject to a prudential floor" (a minimum provision set by RBI). The current asset-classification norms stay, and the change will be phased in gradually (a glide-path) [8].

Don't confuse with

• SMA (Special Mention Account): a loan 1-90 days overdue. It shows early stress but is not an NPA. It becomes an NPA only after 90 days.
• Loss asset vs written-off loan: a loss asset is uncollectible but still on the books (100% provision). A written-off loan has been removed from the books. Removal does not mean the debt is waived.
• Gross NPA vs Net NPA: Gross NPA is the total of all bad loans. Net NPA is Gross NPA minus provisions, which is the part not yet covered.
• Stressed assets: a wider measure = Gross NPA + restructured standard advances + written-off loans. Restructuring (changing the loan terms) or writing off a loan removes it from the NPA count, but the stress is still there.

Prelims Hooks

• NPA = interest or principal overdue for more than 90 days [1]. The limit was 180 days before 2004.
• Farm loans: short-duration crops become NPA after 2 crop seasons; long-duration crops (season longer than 1 year) after 1 crop season [1].
• Order: Sub-standard (up to 12 months) → Doubtful (D1 <1 yr, D2 1-3 yrs, D3 >3 yrs) → Loss (uncollectible, not yet written off) [1].
• Trap: the unsecured part of a doubtful loan needs 100% provision at D1, D2 and D3 alike. The secured part needs 25% / 40% / 100%.
• Trap: when provisions rise, PCR goes up and Net NPA goes down.
• Since November 2021, an NPA is upgraded only after all arrears are cleared, and NPA status is tagged daily.

Mains Points

• Recognition comes before resolution.
• Soft rules (180 days, easy restructuring, upgrade on interest-only payment) let banks hide stress and evergreen loans.
• The AQR (2015), the 2021 IRAC tightening, the IBC (2016) and recapitalisation together cut Gross NPA from about 11.2% (March 2018) to 2.15% (September 2025) [3].

• This is useful for GS-III answers on the twin balance-sheet problem (companies and banks under debt stress at the same time).

• The incurred-loss model makes provisioning procyclical (it moves with the business cycle and makes swings worse).

• Defaults bunch up in a downturn.
• Banks then set aside large provisions all at once, and their capital shrinks.
• They lend less just when credit is most needed.

• ECL spreads this cost over the life of the loan, but it needs good data and models, and it may cause a one-time hit to capital [7][8].

• Trade-off: strict recognition vs credit flow.

• The 90-day rule and daily tagging protect depositors and financial stability, but they can hurt seasonal and small borrowers such as farmers and MSMEs. Hence the crop-season rules.
• Too much forbearance (relaxing the rules for borrowers) brings back hidden NPAs, and those end up as a fiscal cost through recapitalisation of public sector banks.

Related concepts

• Standard asset
• Special Mention Account
• Sub-standard asset
• Doubtful asset
• Loss asset
• Gross and net NPA
• Loan loss provisioning
• Provisioning Coverage Ratio
• Stressed assets
• Expected Credit Loss provisioning

Read more

• Recognising bad loans: SMA, NPA classification and provisioning (IRAC norms)