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Draft Guidelines Issued on Prudential Framework for Project Loan Advances

The Reserve Bank of India (RBI) released a draft guideline on May 3, 2024, detailing the prudential framework for financing project loans. The new guidelines aim to provide a comprehensive framework for regulated entities to manage the complexities and risks associated with project finance.

These guidelines will apply to Scheduled Commercial Banks (SCBs), Non-Banking Finance Companies (NBFCs), Primary (Urban) Cooperative Banks, and All India Financial Institutions (AIFIs). RBI stressed the importance of fulfilling all mandatory prerequisites before financial closure of any project, such as encumbrance-free land, environmental clearance, and legal clearance.

In consortium-financed projects, lenders’ exposure rules are defined based on the total exposure amount:

  • For projects with an aggregate exposure up to Rs 1,500 crores, no individual lender’s exposure should be less than 10% of the total.
  • For projects with aggregate exposure exceeding Rs 1,500 crores, the minimum exposure for any lender should be 5% of the total or Rs 150 crores, whichever is higher.

Lenders must have a board-approved policy for resolving stress in projects when a credit event occurs. Continuous monitoring and early resolution plans are required for projects showing signs of stress.

A positive net present value (NPV) is essential for any financed project. Any reduction in NPV during construction due to various factors must be treated as a credit event, necessitating annual independent re-evaluation of the project’s NPV.

The draft guidelines have stirred anxiety among lenders, who are preparing to submit feedback to the RBI suggesting modifications. Banks are particularly concerned about the draft’s provisioning proposal, which requires a general provision of 5% on exposures to projects in the construction phase, for both existing and new exposures on portfolio basis. This is a significant increase from the current 0.40% provision requirement. While banks argue that the 5% provision is excessively high, the extent to which RBI might adjust this is yet to be determined. Additionally, banks seek changes to the moratorium provision for projects.

The draft guidelines state that financing agreements should generally not allow a moratorium on repayments beyond the date of commencement of commercial operations (DCCO). Provided that, in cases where a moratorium on repayments beyond DCCO is granted, the same shall not exceed six months from the commencement of commercial operations. Banks propose extending this moratorium to at least one year for non-infrastructure projects and two years for infrastructure projects, arguing that six months is insufficient for cash flow stabilization.