Wilful Defaulters are borrowers who default on loans despite having the capacity to pay. These defaulters form a significant percentage of total bad debts written off by banks leading to huge losses to the banks and economy. We explore two recent examples of wilful defaulters and how banks can improve their systems to identify potential frauds and take corrective measures in time.
Non-payment in spite of having repayment capability
Borrowed capital not utilised for the specific purposes for which it was availed
Borrowed capital siphoned off & not utilized for specific purpose nor is it available in form of assets with the entity
Borrower has disposed off or removed the movable fixed assets or immovable property given for securing a term loan without the lender’s knowledge
Where guarantees are furnished by the companies within the Group, then
Guarantee not honoured when invoked by the Banks /FIs, such Group companies should also be reckoned as “wilful defaulters”.
A default made in repayment by the principal debtor, the banker can proceed against the guarantor/surety w/o exhausting the remedies against the principal debtor.
Guarantor’s liability is immediate. In case the said guarantor refuses to comply with the demand, despite having sufficient means to make payment of the dues, such guarantor would also be treated as a wilful defaulter
Introduction of Strategic Debt Restructuring (SDR) power for banks to acquire controlling stake in the companies
Necessitates lenders to have a neutral yet legally strong approach for placing an entity in the default list considering the long term implications.
Necessitate the formation of a neutral centralised body or association to check & classify the status of the entities that deemed as defaulters.
The credit worthiness of individual cos. need to be mapped through a neutral process in order to get a comprehensive feedback and to minimize the risk of associating with a financially unstable entity.
Revised defn. applies to only new cases. A stronger mechanism needs to be in place to trace and recover the current NPAs.
– Playing the systemic & legal loopholes to avoid ‘Wilful Defaulter’ tag
- United Bank, one of the 17 lenders to KFA had an exposure of INR 350Crs. In 2014, it set up a Grievance Redressal Committee which titled Vijay Mallya as a ‘Wilful Defaulter’.
- United Bank became the first from the lenders consortium to initiate such an action.
- Mr. Malaya challenged the tag on technical grounds.
- Bank’s Grievance Redressal Committee had four members instead of three as per RBI guideline.
- Court ruled in favour of Mr. Malaya & the tag was dropped.
- In 2015, SBI declares Vijay Mallya & UB Holdings as Wilful Defaulter.
- Inadequate assets & company equity trading as penny stock make recovery close to impossible.
- United Bank publically admits it has no hope of getting anything from Vijay Mallya.
- The guarantors of KFA would have been approached immediately upon initial payment default by KFA
- In case the guarantors dis-honour the lender request, they too would become liable to be tagged as Wilful Defaulters, cutting them off to all sources of legitimate financing.
- Mr. Vijay Malaya would have been asked to exit any company where he is currently holding the post of a Director
– How lack of a through ground investigation in loan approval is exploited by Wilful defaulters
- Starting March 2013, the group stated problems in repaying the loans.
- Co. promoter Jatin Mehta argued that his gold buyers in the UAE had suffered losses of $1 Billion in derivatives and commodities trading
- Inputs from private investigators and auditors revealed the following:
- Ten of the distributors were incorporated only in 2012, five on the same day.
- The Italian Gold of Abu Obaida was not known as a distributor, nor did it have any known storage facilities in UAE and Saudi Arabia. Italian Gold and other distributors did not seem to have the collective capability to lose a billion dollars
- There are now indications that Winsome may not have provided such large scale credit to its distributors
- The collateral security provided by WSG is approx. INR 250 Crores. There are no significant fixed assets. Group’s operations were run through commercial spaces on rent.
- Group’s promoter Mr. Mehta has flown abroad to avoid the legal process & penalties. The recovery process is now stuck in argument & counter argument between the involved parties.
Use of An Independent 3rd Party For Due Diligence Prior to Loan Disbursement
- Verification & validation of potential borrower a primary defence
- In numerous cases, the process is compromised & exploited by entities with dishonest intentions
- It is recommended that lenders co-opt a professional 3rd party service specialising in due diligence to evaluate the most important “C”- the character of the borrower
– Adopting Mechanisms For Regular Monitoring of Loan Accounts Enabling Timely Decisions
- At any given time, multiple indicators are available to understand the probable trajectory a loan account may take
- Present system limits intelligence to loan sanctioning stage, thereafter following up, more as a regulatory requirement than for insights
- Banks can look at adoption of a mechanism that provides close to real time insights & raises flags at a juncture wherein the balance is still in favour of the lenders
- Actions can be initiated to stop wilful defaulting as well as to ensure the loan account stays completely clear of that path throughout the exposure period
- In spite of all measures, the probability of occurrence of wilful defaulting cannot be made zero
- During due diligence, banks may consider investigating & understanding the structures of the entity as well as promoters/ guarantors to augment the process of check at the first instance of default
- This process is usually initiated post default and in the time spent to collect information, the asset valuation quickly declines, making recovery increasingly difficult
- Absence of swiftness in legal action a key aspect behind growing cases of wilful default. Given the volume of projects coming up in India, the no. of suits being filed too bound to increase in the same proportion
- Setting up courts to specifically deal with large-ticket NPA cases. Currently, such cases are heard across multiple judicial platforms – from debt recovery tribunals to the Supreme Court, prolonging the process & simulataneously leading to asset degradation
- Setting up of additional Debt Recovery Tribunals (DRTs) is key to addressing this problem