State Bank of India

SBI’s FlexiPay Home Loan Basically Looks Like a Marketing Gimmick

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In yesterday’s column I discussed why the State Bank of India(SBI) has launched the FlexiPay home loan. This home loan allows a borrower to borrow up to 120% of what he would have been able to do in the normal scheme of things.

Further, the borrower has the option to pay only interest on the home loan for the first three to five years. The EMI, which will lead to the principal being repaid as well, kicks in only after that.

The question to ask here is, how much will this benefit the borrower. Or is this just a marketing gimmick which the country’s largest bank has come up with in order to issue more home loans. It is clear that SBI wants to give out more home loans, given that they have a very low default rate in comparison to the other kinds of home loans that the bank gives out.

Let’s try and understand whether FlexiPay home loan is a marketing gimmick or does it ‘really’ benefit the borrower. Let’s take the example of a borrower, who in the normal scheme of things, is eligible to take on a loan of Rs 40 lakh. While this number may seem very low to those who live in metropolitan cities, the average home loan given out by HDFC, the largest housing finance company in the country, is around Rs 23.6 lakh. So a home loan amount of Rs 40 lakh is pretty decent by that comparison.

Getting back to the example. Let’s say a borrower is eligible to take on a loan of Rs 40 lakh. In the case of FlexiPay home loan, he will be eligible for a loan of up to Rs 48 lakh (1.2 times Rs 40 lakh). The interest that SBI charges on its home loan is 9.55% (It’s 9.5% for women).

The interest only option of the FlexiPay home loan allows the borrower just to pay interest on the home loan for the first three to five years. As the SBI press release on FlexiPay home loan points out: “Further, to lower the impact of such additional loan amount on monthly repayments in the form of EMIs, the customers availing Home Loan under ‘SBI FlexiPay Home Loan Scheme’ will also be offered the option of paying only interest during the moratorium (pre-EMI) period of 3 to 5 years, and thereafter, pay moderated EMIs.”

The idea, as SBI puts it, is to give the borrower the option to pay a lower amount every month during the initial years. But is this amount really low? Let’s do some maths to understand this point. I had done this in yesterday’s column as well, but on reading it later, I found that the point did not come out as strongly as it should have.

Let’s say the borrower opts for an interest only option for the first five years. He has taken a loan of Rs 48 lakh, as is allowed under the FlexiPay home loan. An interest of 9.55% would amount to a total payment of Rs 4,58,400 during the course of the year.

This means a monthly payment of Rs 38,200 to service the interest on the loan. If the borrower had taken on a normal home loan, he would have got a home loan of Rs 40 lakh. The maximum tenure of an SBI home loan is 30 years. Hence, the EMI on a Rs 40 lakh, 30-year home loan, at an interest rate of 9.55%, would work out to Rs 33,780. This is lower than the monthly payment of Rs 38,200 that needs to be paid as interest on a Rs 48 lakh home loan, if the borrower opts for the interest only option for the first five years.

So there is clearly no moderation in the payment as SBI claims. And that is primarily because the interest to be paid on the FlexiPay home loan is the same as a normal home loan. If the interest were to be lower, then the interest payment would have been lower as well and the moderation claim would have been true to a certain extent. But in that case the bank would have been taking on more risk as well.

Now let’s flip the situation. If the borrower were paying an EMI of Rs 38,200, what is the loan amount he would be able to service. The maximum tenure of an SBI home loan is 30 years. Hence, paying an EMI of Rs 38,200, for a tenure of 30 years, at an interest of 9.55%, the borrower would be able to service a home loan of Rs 45.23 lakh. The EMI for this loan works to around Rs 38,197.

The loan amount of Rs 45.23 lakh is around 5.8% lower than the loan amount of Rs 48 lakh. Hence, is it worth paying only an interest of Rs 38,200 per month for a Rs 48 lakh home loan, when for the same EMI one could get a loan of Rs 45.23 lakh. And that is the question that any borrower should be asking himself.

SBI will not give the borrower a loan of Rs 45.23 lakh under a normal home loan scheme, given the borrower is eligible only for a loan amounting to Rs 40 lakh. But the bank is willing to give a loan of up to Rs 48 lakh under the FlexiPay home loan scheme.

Hence, the borrower should take this opportunity of taking on a higher loan amount of Rs 45.23 lakh, if the need be, under the FlexiPay home loan scheme. But at the same time ensure that he does not opt for the interest only option but repay an EMI. Why do I say that? If the borrower takes on a loan of Rs 48 lakh and opts for the interest only option, he has to pay an interest of Rs 38,200 per month.

Over a period of five years this amounts to Rs 22.92 lakh, close to half the loan he has borrowed. Further, at the end of five years, not a single paisa of the loan amount has been repaid and he has to start repaying the loan. The borrower will have to repay the loan over a period of the next 25 years. For this, he needs to pay an EMI of Rs 42,104 per month, which is 10.2% more.

Now what would have happened if the borrower had opted to pay an EMI of Rs 38,200 per month on a home loan of Rs 45.23 lakh, and repaid it over thirty years. At the end of five years, he would have repaid around Rs 2.03 lakh of the loan already. In the interest only option, not a single paisa would have repaid. Also, it is worth pointing out here that the difference between a loan of Rs 45.23 lakh and Rs 48 lakh is not huge. Further, when a borrower pays an EMI, the principal amount of the EMI is allowed as a deduction under Section 80C of the Income Tax Act. And this deduction will not be available if interest only option is chosen.

What these numbers tell us very clearly is that the FlexiPay home loan looks more like a marketing gimmick to lure in prospective home loan borrowers. The borrowers are better off opting for the EMI option rather than the interest only option.

The column originally appeared on the Vivek Kaul Diary on February 3, 2016

 

Why SBI is Launching a Home Loan that Caused the Financial Crisis

 

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In August 2015, Arundhati Bhattacharya the Chairman of the State Bank of India (SBI), had suggested that the country’s largest bank be allowed to launch teaser rate home loans. As she had said back then: “In fact, the first suggestion that I made (was) that, for a limited period, home loans could be given at below base rate for the already heavy stock of housing.” Base rate is the minimum interest rate a bank charges to its customers.

The bank had first launched teaser rate home loans in 2009. These loans are essentially home loans in which the interest rate is fixed in the initial years and is lower than the normal floating interest rate on a home loan. The lower interest rate is limited only to the first two-three years, after which the loan is priced at the prevailing interest rate on the home loans. Hence, the EMIs for the borrower during the first few years are lower than they would have been in the normal scheme of things.

Yesterday (i.e. February 1, 2016), SBI went a step further, and launched a home loan in which the monthly payments initially will be even lower than the EMIs paid in case of teaser rate home loans. It launched what it calls the SBI FlexiPay Home Loan.

As the press release of the announcement of this home loan points out: “The new offering, ‘SBI FlexiPay Home Loan’, will enable young working professionals / executives to get higher loan amount compared to their loan eligibility under normal Home Loan schemes. The additional loan amount will help such professionals in acquiring better and spacious living spaces for themselves and their families, taking into account their future needs.”

Hence, anyone applying for a FlexiPay Home Loan will get a higher amount of home loan than his or her loan eligibility would permit under normal circumstances. And there is more to this as well. As the SBI press release points out: “Further, to lower the impact of such additional loan amount on monthly repayments in the form of EMIs, the customers availing Home Loan under ‘SBI FlexiPay Home Loan Scheme’ will also be offered the option of paying only interest during the moratorium (pre-EMI) period of 3 to 5 years, and thereafter, pay moderated EMIs. The EMIs will be stepped-up during the subsequent years.”

So, other than getting a higher loan amount, the loan also comes with the option of the borrower only paying the interest on the loan during the first few years. And this makes things very interesting.

As the SBI press release points out: “Soaring aspiration levels and rising awareness about the impact of quality living spaces on healthy and harmonious living are resulting in our newer generation of working professionals to show greater preference for better and larger homes. But they are constrained from purchasing their dream homes due to the relatively lower income available at early stage of their career.”

Hence, the FlexiPay home loan will essentially allow people buy a home which they otherwise wouldn’t have been able to afford given their current level of income. As SBI puts it, the loan tries to “to bridge the gap between affordability and demand for quality residential spaces in the country”.

There are multiple questions that arise here. Let me try and answer them one by one.

a) Why is SBI doing this? The answer lies in the numbers. The bank like other public sector banks has significantly lower bad loans when it lends to retail consumers than when it lends to corporates. As on September 30, 2015, the bad loans when it came to lending to retail sector (i.e. home loans, auto loans, personal loans etc.) were at 1.03% of the total lending carried out to the sector. This number had been at 1.37% as on September 30, 2014.

In comparison, the bad loans while lending to mid-level corporates were at 10.62%. Bad loans while lending to small and medium enterprises were at 8.72%. Also, while the overall bad loan rate in case of retail loans is 1.03%, it is safe to say that the bad loans rate while giving out home loans would be lower.

One explanation for this lies in the fact that it is easy to unleash legal proceedings (or the threat of) against retail borrowers and get them to pay up than it is to do against corporates. Hence, it makes sense for the bank to give out home loans in comparison to other loans, where recovery is difficult.

In fact, between September 2014 and September 2015, 25% of all domestic lending carried out by the bank was in the form of home loans.

b) Should SBI be doing this? It is clear that SBI wants to give out more home loans. The trouble with the FlexiPay home loan is that it relaxes the lending standards while giving out a home loan. As the press release points out that the loan will help the borrower “to get higher loan amount compared to their loan eligibility under normal Home Loan scheme”.

While this will allow the bank to lend more, relaxing lending standards in order to lend more is not always the best way to expand the loan book. As the SBI press release further says the loan will help “to bridge the gap between affordability and demand for quality residential spaces in the country”.

The function of any bank is to give loans and to give them out to those people and institutions who are likely to return it. It is not the function of a bank to improve the real estate scenario in a country by lowering its lending standards.

Further, in the interest only version of the loan the EMI is likely to jump up once the principal repayment (through the EMI) also kicks in after a period of three to five years. In fact, even after three to five years, when EMIs kick-in, the borrowers will have to “pay moderated EMIs”.

The bank is essentially working with the assumption that the income of the borrower will go up during the period and he will be in a position to pay the higher EMI. But is that likely to be the case?

Let’s try and understand this through an example. The scheme allows for upto 1.2 times higher loan eligibility compared to the loan eligibility under the normal home loan scheme. The loan amount has to be Rs 20 lakh or higher. What this means is that anyone with a loan eligibility of Rs 50 lakh under normal conditions, can take a loan of upto Rs 60 lakh.

Over and above this he can choose only to pay interest on it for the first five years. The current rate of interest on an SBI home loan is 9.55% (9.5% for women). Hence, the monthly payment for the first five years will come to Rs 47,750 (9.55% of Rs 60 lakh divided by 12).

The question is if the borrower chooses to pay this amount as an EMI what loan amount will he be eligible for? SBI offers a tenure of up to 30 years on its home loans. At an interest of 9.55% and a tenure of 30 years, an EMI of Rs 47,750, is good enough to repay a loan of Rs 56.55 lakh, which isn’t very different from Rs 60 lakh. (The EMI for a Rs 56.55 lakh home loan to be repaid over 30 years and at an interest of 9.55% comes to Rs 47,757).

The trouble is the eligibility of the borrower under the normal home loan is only Rs 50 lakh and he won’t get a loan of Rs 56.55 lakh. By structuring the loan the way it has, SBI gets to collect interest longer than it actually would have.

What happens once the EMI kicks in after five years? The bank talks about moderated EMIs. It does not define what it means by it. Assuming that principal repayment starts after five years, the EMI will jump to around Rs 52,630.5. This means that the borrower will repay the home loan over the next 25 years, making the total tenure of the loan repayment 30 years. The scheme allows for repayment period of 25 to 30 years.

If the repayment is made over the next 20 years, meaning a tenure of 25 years, the EMI jumps to Rs 56,124. The EMI does not increase significantly in comparison to the earlier monthly payment. The reason for this lies in the fact that SBI has limited the loan eligibility under this scheme to just 20% more than the normal home loan scheme. Hence, to that extent SBI is not making a very risky loan, even though it is taking on some more risk than it currently is.

Also, it is important to understand here that once SBI launches a product, other banks and housing finance companies will have follow. If they stick to 1.2 times the normal loan amount, they will not be giving out very risky loans. If they get aggressive and up the ante, that will mean the lowering of home loan lending standards throughout the system. Hence, the RBI will have to keep a watch on this.

c) What can we learn from the American experience? Interest only home loans were a big reason behind the home loan bubble in the United States between 2000 and 2007. In the American context they were referred to as the option adjustable-rate mortgage (ARM). An option ARM was a 30-year home loan in which the borrower had the option of paying a lower EMI initially. One version of the product was called 5/1 interest-only option ARM.
In this, the interest rate was reset after the first five years and then every year after that. Also, for the first five years, the bor­rower needed to pay back only interest on the home loan. In the American case, the interest rate in case of an interest only home loan was significantly lower than the normal home loan.

Hence, this product allowed borrowers to buy homes which were significantly more expensive than they could afford. In the Indian case, the interest on the interest only home loan is the same as the normal home loan.

Also, in the United States, after a point there was a race among banks and financial institutions to give out these loans. As more such loans were given, home prices went up, leading to a huge real estate bubble.

Once the higher EMIs started kicking in, the borrowers started defaulting on their loans. This eventually led to the start of the financial crisis that the world is currently battling. Given this, the lessons from the American experience are very clear. Interest only home loans are pretty risky if the interest rate differential between a normal home loan and an interest only home loan is high. That is clearly not the case with the new SBI FlexiPay home loan and this brings us back to the original question.

d) Why is the SBI doing this? From what the RBI governor Raghuram Rajan has been saying, it doesn’t seem that this home loan scheme would have had a total buy-in from him. Given this, I think SBI may have been nudged to launch this scheme by the finance ministry, in order to get the real estate sector going in this country. Given that I have no evidence for this, to that extent this remains a conspiracy theory.

Nevertheless, if this scheme and other such schemes launched by other banks and housing finance companies gain some traction, they will prolong the real estate bubble in the country even more. Hence, instead of reviving real estate, it will make purchasing a home even more difficult. At the same time, I don’t think SBI is taking on an undue risk by launching this scheme. But it remains to be seen how other banks enter this space. If they lower lending standards by increasing the loan eligibility further, we may have a problem.

The column originally appeared on the Vivek Kaul Diary on February 2, 2016

Why EMIs and interest rates fall more on front pages of newspapers than real life

newspaperRegular readers of The Daily Reckoning would know that I am not a great believer in the repo rate cuts leading to an increase in home buying and as well as consumption, with people borrowing and spending more, at lower interest rates. Repo rate is the rate at which the Reserve Bank of India (RBI) lends to banks and acts as a sort of a benchmark to the interest rates that banks pay for their deposits and in turn charge on their loans.

A basic reason is that the difference in EMIs after the rate cut is not significant enough to prod people to borrow and buy things. Further, they should be able to afford paying the EMI in the first place, which many of them can’t these days, at least when it comes to home loan EMIs.

These reasons apart there is another problem, which the mainstream media doesn’t talk about enough. All they seem to come up with are fancy tables on how interest rates and EMIs are going to fall and how this is going to revive the economy. And how acche din are almost here. Now only if it was as simple as that.

A cut in the repo rate is not translated into exact cuts in bank lending rates. After any repo rate cut, banks quickly cut their deposit rates. They cut their lending rates as well, but not by the same quantum.

As a recent study carried out by India Ratings and Research points out: “In the recent policy cycle, RBI has cut policy rates since January 2015 by a cumulative 125 basis points, banks have cut one year deposit rates by an average 130 basis points and lending by 50 basis points, which includes the base rate cuts in the last one week. Base rate is the rate below which a bank cannot lend. In the last 18 months three-month commercial paper and certificate of deposit rates have fallen by 150 basis points. Thus transmission of policy rates has been more through market rates and banks deposit rates in the last one year.” One basis point is one hundredth of a percentage.

In an ideal world, a 125 basis points cut in the repo rate by the RBI should have led to a 125 basis points cut in the lending as well as deposit rates. But that doesn’t seem to have happened. While the one-year deposit rates have been cut by 130 basis points, the lending rates have gone down by just 50 basis points.

And this is a trend which is not just limited to the current spate of rate cuts by the RBI. This is how things have played out in the past as well. As Crisil Research had pointed out in a report released in February 2015: “Lending rates show upward flexibility during monetary tightening but downward rigidity during easing. Between 2002 and 2004, while the policy rate declined by 200 basis points, lending rates dropped by just 90-100 basis points. Conversely, in 2011-12, when the policy rate rose by 170 basis points, lending rates surged 150 basis points.”

So, the point being that when the RBI starts to raise the repo rate, banks are quick to pass on the rate increase to their borrowers, but the vice-versa is not true.

As India Ratings and Research points out: “The policy cycle is being used by banks to their advantage. A study of the last 10 years shows, that in most cases when policy rates have reduced, deposit rates have comedown faster and the quantum has also been higher compared to lending rates. The same was also true when policy rates were hiked, where lending rates went up and the quantum was also higher compared to deposit rates.”

Also, this time around banks have been quick to cut their base rates, the minimum interest rate a bank charges its customers, after the RBI cut the repo rate by 50 basis points to 6.75%, in September. Having cut their base rates, banks have increased their spreads, and negated the cut in base rate to some extent.
Take the case of the State bank of India. The country’s largest bank cut its base rate by 40 basis points to 9.3%, in response to RBI cutting the repo rate by 40 basis points.

This meant that the interest rate on home loans should have fallen by 40 basis points as well. Nevertheless, the interest rate on an SBI home loan will fall by only 20 basis points. Why is that? Earlier, the bank gave out home loans to men at five basis points above its base rate (or what is known as the spread). To women, the bank gave out home loans at the base rate. Now it has decided to give out home loans to men at 25 basis points above the base rate. In case of women it is 20 basis points.

Hence, interest rate on a SBI home loan taken by a man will be now be 9.55% (9.3% base rate plus 25 basis points). Earlier, the interest rate was 9.75%. This means a fall in interest rate of 20 basis points only and not 40 basis points, as should have been the case.
ICICI Bank has done something along similar lines as well. And this step has essentially negated the cut in the base rate to some extent.

Further, the public sector banks have a problem of huge bad loans, which are piling on. Given this, they are using this opportunity to ensure that they are able to increase the spread between the interest they charge on their loans and the interest they pay on their deposits. This extra spread will translate into extra profit which can hopefully take care of the bad loans that are piling up.

The bad loans will also limit the ability of banks to cut their lending rates. As Crisil Research points out: “High non-performing assets [NPAs] curb the pace at which benefits of lower policy rate are passed on to borrowers. Data shows periods of high NPAs – such as between 2002 and 2004 (when NPAs were at 8.8% of gross advances) – are accompanied by weaker transmission of policy rate cuts. This time around, NPA levels are not as high as witnessed back then, but still remain in the zone of discomfort.”

Another reason banks often give for not cutting interest rates is the presence of small savings scheme which continue to give high interest when banks are expected to cut interest rates. As India Research and Ratings points out: “In the last decade small saving deposit schemes have offered rates between 8-9.3% unrelated to the up-cycle or down-cycle in policy rates. These rates are also politically sensitive since a bulk of this saving is made by elders, farmers and low income groups. In fact in 2009 when repo rates were at a low of 4.75%, PPF and NSC both continued to offer 8% return and in 2012 when the repo rate moved up to 8.5%, PPF offered 8.8% and NSC offered 8.6% return.”

Nevertheless, this time around banks have cut interest rates on their one year deposits by 130 basis points. This is more than the 125 basis points repo rate cut carried out by the RBI during the course of this year.

A more informed conclusion could have been drawn here if there was data available on the kind of interest rate cuts that banks have carried out on their fixed deposits of five years or more. This would have allowed us to carry out a comparison with small savings scheme which typically tend to attract long term savings.

Long story short—EMIs and interest rates fall more on the front pages of business newspapers than they do in real life.

The column originally appeared on The Daily Reckoning on October 8, 2015

SBI’s property e-auction: Why not show same aggression to corporate defaulters?

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The Motihari born George Orwell wrote a lot of sensible things during his lifetime. One of them was a book called Animal Farm. My favourite sentence in the book is: “All animals are equal, but some animals are more equal than others”.
More than a sentence this is a phenomenon which is visible at various points of time in the society that we live in. Currently this phenomenon is at play at the State Bank of India(SBI), which has made a decision to e-auction 350 repossessed residential and commercial properties amounting to a total of Rs 1,000-Rs 1,200 crore.
The repossessed properties had been pledged as collateral for housing and other business loans taken from SBI. Reuters reports that “many of” these properties “were put up as collateral by fledgling entrepreneurs.” They were taken over by SBI under the the Security and Reconstruction of Financial Assets and Enforcement of Security Interest (Sarfaesi) Act for non payment of dues.
“The SBI auction will be the biggest nationwide online sale to date,” Reuters reports. “We are now a lot more aggressive,” Parveen Kumar Malhotra, a deputy managing director at SBI, who leads a special unit managing stressed assets, told Reuters.
Commercially this makes immense sense and SBI should have been aggressive about defaults from day one. A bank is not in the business of losing money it lends out. It has a certain responsibility towards depositors whose money it is lending out. It needs to ensure that returns are generated on this money that is loaned to those who need it.
Nevertheless, India’s largest bank has not shown the same aggression when it comes to recovering money from big defaulters. In that sense the entire thing is very Orwellian—all animals are equal, but some animals are more equal than others.
As of December 31, 2014, the gross non-performing assets (NPAs) of the State Bank of India stood at Rs 61,991 crore or 4.9% of the total loans given by the bank. Of these gross NPAs of large and mid-corporates accounted for Rs 27,504 crore. The large corporates accounted for Rs 1,074 crore whereas the mid-corporates accounted for Rs 26,430 crore of bad loans.
The gross NPAs accounted for by large corporates has fallen from Rs 3,658 crore to Rs 1,074 crore between December 2013 and December 2014. On the other hand gross NPAs accounted for by mid-corporates grew from Rs 26,191 crore to Rs 26,430 crore, during the same period.
Gross NPAs from retail loans fell from Rs 4,103 crore to Rs 3,082 crore. Gross NPAs accounted for by small and medium enterprises fell from Rs 17,382 crore to Rs 16,427 crore. In fact, the gross NPAs accounted for by agriculture and international lending have also fallen between December 2013 and December 2014. Interestingly, the gross NPAs of every form of lending other than lending to mid-corporates has come down, data from the bank shows.
What this tells us very clearly is that the bank has been going aggressively after all forms of bad loans. The total gross NPAs have come down from Rs 67,799 crore or 5.73% of total loans to Rs 61,991 crore or 4.9% of total loans. But SBI hasn’t shown the same aggression when it comes to recovering loans from mid-corporates. Why is such special treatment being given out to corporates?
This is something that the Reserve Bank of India governor Raghuram Rajan had clearly pointed out in a speech he made in November last year. As Rajan said, India is “a country where we have many sick companies but no “sick” promoters.” “In India, too many large borrowers insist on their divine right to stay in control despite their unwillingness to put in new money. The firm and its many workers, as well as past bank loans, are the hostages in this game of chicken — the promoter threatens to run the enterprise into the ground unless the government, banks, and regulators make the concessions that are necessary to keep it alive. And if the enterprise regains health, the promoter retains all the upside, forgetting the help he got from the government or the banks – after all, banks should be happy they got some of their money back!”
And since banks can’t and don’t do much about corporate loans that have gone bad, they go with all guns blazing to recover loans from their smaller defaulters. As Rajan put it “The SARFAESI (Securitization and Reconstruction of Financial Assets and Enforcement of Security Interests) Act of 2002 is, by the standards of most countries, very pro-creditor as it is written. This was probably an attempt by legislators to reduce the burden on debt-recovery tribunals and force promoters to pay. But its full force is felt by the small entrepreneur who does not have the wherewithal to hire expensive lawyers or move the courts, even while the influential promoter once again escapes its rigour. The small entrepreneur’s assets are repossessed quickly and sold, extinguishing many a promising business that could do with a little support from bankers.”
This is precisely how SBI’s decision to auction 350 residential and commercial properties in order to recover bad loans is playing out. And George Orwell saw it coming.

The column originally appeared on www.firstpost.com on Mar 16, 2015

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek) 

I wish banks had treated my default in the same way as Vijay Mallya’s


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The inspiration to write this piece came from a news report which appeared in the Mumbai edition of the Daily News and Analysis (DNA) a few days back. Before I get into that I would like to recount something, which I am really not proud of.
One of my bigger mistakes(I am still debating if it was my biggest mistake) in life was to do an MBA (actually a post graduate diploma in management(PGDM), but calling it an MBA is a simpler way to talk about it). By the time three-fourths of the course got over, I came to the conclusion that I was wasting my time and this is not what I wanted to do with my life. Nevertheless, it was too late to pull out. I completed the course, got the diploma and a job, and then quit my job, to try and figure out what to do with my life.
At this point of time I was in Delhi. My days used to be spent either watching new Hindi films or reading books at the four storied Crossword Book Shop at South Extension, which has since shut-down. To be honest I was never more happy with my life. The only problem was I had no money. And I did not want to ask my father for any more money, given that he had already spent quite a lot on my MBA.
But I had just become too addicted to books and movies by then. I was reading one book on an average per day and also buying them to ensure that Crossword does not throw me out. The money to buy books and watch movies came from my student credit card. Those were the days(I guess it still happens) where if you managed to get through a good business school, one of the first things you would end up with is a credit card from a foreign bank. The banks wanted to catch the future moneybags, young.
I knew that this wouldn’t last forever. Nevertheless, I continued using my credit card, having made up my mind to default on the outstanding payment. My confidence came from the fact that the residential address that I had given to the bank had changed because my parents had moved to a different city. Hence, the chances of collection agents landing up were slim.
This personal bubble did not last forever. And soon a lawyer representing the bank sent a legal notice threatening to initiate criminal or civil proceedings (he did not specify which) to my old residential address, unless a certain amount of money was paid to settle the debt I had accumulated.
A concerned neighbour decided to accept the notice and call up my father and inform him about it. My father then decided to settle the amount with the lawyer and that was where it ended.
The one result of this entire experience has been that I have never had a credit card. The only time I applied for a credit card from a new generation private sector bank, my application was rejected, given that my name would have been on the defaulter databases that banks now use. Also, I haven’t gotten around to taking any loans from banks either. In that sense, I have almost no credit history other than the credit card default.
Now you must be wondering why have I been going on and on about my credit card default. I just remembered the entire experience after reading a news report in the Daily News and Analysis about Vijay Mallya, one of the biggest defaulters of this day and age.
This news report suggests that of the Rs 7,000 crore that various banks had lent to Kingfisher Airlines, they can now recover only Rs 6 crore. As the report points out: “The State Bank of India (SBI), the major lender to Mallya’s airline, till now has managed to recover only Rs 155 crore out of the Rs 1,623 crore due from it. dna has learnt from official SBI sources that the value of Kingfisher Airlines pledged to the bank has now plummeted from Rs 4,000 crore to Rs 6 crore! SBI is unable to find a single buyer for the ‘Kingfisher’ trademarks.”
Some of the other assets that the company offered as a collateral to banks are now stuck in litigation. This includes the Kingfisher House in Andheri, Mumbai and the Kingfisher Villa in Goa. As a recent report in The Financial Express said: “Bankers’ attempts to take possession of Kingfisher Villa in Goa have been thwarted by United Spirits (USL), which claims it has been a tenant since 2005 and, therefore, has the first right to buy the property.”
The banks waited for too long in the hope that Mallya will repay. And now they are not in a position to recover any of the money that they had lent. As Raghuram Rajan, governor of the Reserve Bank of India(RBI) had said in a speech in November 2014: “The longer the delay in dealing with the borrower’s financial distress, the greater the loss in enterprise value.”
Further, banks gave loans to Mallya even when their board members protested. As the DNA reports: “CBI sources reveal that IDBI had extended loans to Kingfisher despite being warned by some board members not to do so.”
Mallya exemplifies in the best possible manner what has gone wrong with the Indian banking system. Public sector banks have lent a lot of money to crony capitalists who are now no longer in a position to return that money. But they are in a position to hire the best possible lawyers to ensure that when banks move in to recover the money they had lent, the process gets endlessly delayed in the courts.
This has led banks to go after small and medium enterprises which are unable to repay their loans, with a vengeance. These enterprises are not in a position to hire expensive lawyers ike Mallya is. As Rajan put it in his speech: “[The] full force is felt by the small entrepreneur who does not have the wherewithal to hire expensive lawyers or move the courts, even while the influential promoter once again escapes its rigour. The small entrepreneur’s assets are repossessed quickly and sold, extinguishing many a promising business that could do with a little support from bankers.”
The case of banks going after small and medium enterprises is similar to my case. When it comes to recovering their loans, the banks go with full force behind people who are not in a position to hire expensive lawyers and do not have the wherewithal to get stuck with the legal system. The bigger defaulters they just let go. As George Orwell wrote in the Animal Farm: “All animals are equal, but some animals are more equal than others.”

The column originally appeared on www.equitymaster.com as a part of The Daily Reckoning on Feb 18, 2015