Shift To ECL Norms To Hit Banks' Core Capital by 1.20%, Says Crisil

Transition to the expected credit loss (ECL)-based system of provisioning for assets will lead to an one-time impact of 1.20 % on banks' core capital buffers, Crisil Ratings said on Friday.

Banks get to defray this cost across four fiscals, while additional advance provisioning can also reduce the impact, the rating agency said in a note released days after the RBI released the final norms for the transition.

Capital buffers at banks are healthy and their credit profiles are unlikely to be affected, it said, adding that as per the norms, the banking system has to migrate to ECL from April 1, 2027, onward.

It explained that RBI's directions lay out a three-stage asset classification structure for provisioning based on probability of default (PD), loss given default (LGD) and exposure at default (EAD), and also prescribe minimum thresholds of provisioning across asset classes to ensure prudence.

"As banks migrate from the existing incurred-loss-based model to a forward looking ECL framework for provisioning, the gross impact on their CET-1 ratio is expected to be up to 1.70% for most, varying based on portfolio composition, past asset quality track record and existing provisioning levels," its director Subha Sri Narayanan said.

A few large banks have built sizeable contingency provisioning for the transition, while some others bolstering theirs, the official added.

Hence, the net impact factoring in provisions made till date is expected to be significantly lower at up to 1.20%.

For stage 1 assets, while the minimum provision thresholds in the new directions are broadly similar to the existing IRAC norms, they define only a floor and the actual requirement of provisioning could be higher, it said.

On the other hand, the biggest impact would be on Stage II assets, which are unpaid for over a month, where the increment from the current requirements is 4.6 percentage points even at the floor, it said.

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ECL provisioning will also extend to off-balance-sheet exposures and sanctioned but undisbursed limits, leading to a higher provisioning requirement for that as well.

Its associate director Vani Ojasvi said the ECL will also a structural increase in credit costs for the banking system to some extent, as because banks will have to provide more for incremental Stage III assets compared to the current 15 per cent mandate for sub-standard assets and they will also have to make higher provisions for delinquent assets that haven't yet reached Stage III.

"While banks are currently in an improved profitability cycle, they will need to proactively focus on bolstering their net interest margins and controlling operating expenses to mitigate this impact," Ojasvi said.

The agency said that overall, the final ECL guidelines would enhance the resilience of banks to unforeseen shocks and expects banks' credit profiles to remain stable. 

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