The Reserve Bank of India (RBI) said in a series of FAQs (Frequently Asked Questions) on June 20 that it has not introduced a “new clause” when it comes to allowing lenders to enter into a “compromise settlement” with borrowers, as “fraud or willful debtor” and that this regulatory stance has existed for over 15 years.

The central bank said this enabler is available to banks through its 2007, 2015 and 2016 letters, circulars and instructions respectively. RBI’s circular dated June 12, 2023 had issued a circular framework for all banks and other financial institutions on compromise agreements and technical write-offs to “give further impetus to and streamline and harmonize the settlement of strained assets in the system”. the instructions for all regulated entities”.

Will RBI’s latest circular “water down” penalties for borrowers deemed “willful borrowers or fraudsters”? The RBI said the penalties currently in place for such borrowers remain “unchanged” and will continue to apply in cases where the banks settle with such borrowers.

“Such punitive measures include, among other things, that no bank/FI should grant additional relief to borrowers listed as willful defaulters and that such companies (including their entrepreneurs/sponsors) be exempted from institutional funding for the establishment of new ones for a period of five years Enterprises will be barred. Years after the date of removing her name from the willful debtor list,” the central bank said.

Regarding the 12-month minimum cooling period required by the RBI circular, Apex Bank said such borrowers would be unable to borrow new funds from lenders after the cooling period.

To ensure that the terms of a settlement agreement involving fraudsters or willful debtors are not abused, the RBI said: “A settlement agreement is not available to borrowers by operation of law; rather, it is at the discretion of lenders, on the basis of which they may exercise “their commercial judgement”.

Regulatory guidelines provide sufficient safeguards against such settlements being considered by banks, RBI says, adding that any such decisions must be made by lenders according to their board-approved guidelines, rather than an ad hoc approach in any case to track .

The circular further strengthens regulatory guidance by requiring that all such cases of settlement agreements involving the named borrowers must be approved by the board, RBI said.

Where recovery proceedings are pending before a court, any settlement reached with the borrower is subject to obtaining a consent decision from the relevant judicial authorities, it said. In addition, lender boards are monitoring general trends in the approval of all settlement agreements.

As for the reasons that allow lenders to enter into a settlement agreement in such cases, RBI says that it aims to provide lenders with multiple ways to recover the defaulted money without much delay. “Apart from loss of fair value, excessive delays lead to asset deterioration, which hinders ultimate recovery. The Compromise Resolution is recognized as a valid resolution mechanism under the Prudential Framework on Resolution of Stressed Assets of 7 June 2019.”

With this circular, RBI stated that it wanted to rationalize the existing regulatory guidelines for banks on compromise agreements; allow other regulated entities, particularly credit unions, to execute settlement agreements; and provide clarity on the definition of a technical depreciation.

In order to deter both lenders and borrowers, the concept of a cooling-off period is introduced for normal cases of a compromise solution, in which the lender making the settlement does not take on any new risk to the borrower company, RBI said.