By Chander Gupta
Having retired from a Public Sector Bank after rendering service for 35 years as an officer, I am privileged to have grasped some of the fundamental concepts related to banking and finance. One such concept worth discussing about, for the benefit of even a layman, is ‘Non-Earning Asset’.
We are somewhat familiar with the nomenclature Non-Performing Assets (NPA), having commonly heard and read about the term. NPAs are those loans and advances where instalments and interest remain in default continuously for 90 days. In other words, when a loan/advances account stays irregular continuously for 90 days, it is classified as a Non-Performing Asset (NPA) by the lender bank.
It will be pertinent to elucidate here that loans and advances portfolio of a bank is reflected on the asset side in the balance sheet. A balance sheet has two sides: liabilities and assets. Liabilities are sources of funds and assets are uses of funds. Capital from promoters/investors and deposits from the public are main sources of funds for a bank. On the other hand, loans & advances, and cash to some extent, are the main uses of funds.
Therefore, when a loan/advances account remains irregular for the specified period of time (90 days) it is classified as Non-Performing Asset (NPA). It is classified as NPA because the borrower stops servicing interest/instalment commitments as per repayment schedule. It is an early warning system requiring the bank to step up follow-up and vigilance.
A skewed practice needs to be touched upon here before I come to the topic of Non-Earning Asset. In the banking sector, interest on loans and advances is applied at monthly rests, while interest on deposits is applied at quarterly rests. In other words, interest gets compounded at monthly intervals in the case of loans and advances and at quarterly intervals in the case of deposits.
A borrower is supposed to pay interest every month at the contracted rate. If the interest is required to be paid at monthly rests, banks should prescribe/quote the rate of interest in monthly terms rather than annual terms. For example, when a bank quotes 12% per annum rate of interest on a loan, it is misleading. It is actually levied 1% per month. If interest of 1% is applied on an amount per month and compounded for 12 months, the total interest will be more than 12% at the end of one year.
Having looked at what is a non-performing asset, let us now finally come to the term ‘non-earning asset’. Cash is a non-earning asset. Cash lying with you at your home does not earn any interest. Suppose you are keeping a cash amount of Rs 1 lac for one year at your home. At the end of one year, it will remain just 1 lac only. Had you kept this amount in fixed deposit in a bank, you would have earned about Rupees seven to eight thousand as interest. Rather, cash lying idle loses its value over a period of time, assuming inflation in the economy.
Banks, therefore, keep minimum possible cash balances in their branches at the end of each day. At the end of every working day, bank branches try to transfer surplus cash to RBI’s currency chests as efficiently as possible. Unnecessary cash lying at bank branches not only increases non-earning assets but there is also exposure to burglary risks. The same principle applies to individuals also. One should keep minimum of cash in hand as far as possible.
The writer is a retired banker