Bank Audit A Complete Study

Lecture 7: Selection of Auditor for Public Sector Bank

In this session, let’s look at the Norms on eligibility, empanelment, and appointment of Statutory Branch Auditors in Public Sector Banks from the year 2020-21 and onwards :

First, let’s look at the Norms for selection of branches of Public Sector Banks (PSBs) for Statutory Audit – Yes! There are norms because not all the branches are going to be subjected to Statutory Audit.

Ok

RBI has issued guidelines for selection of branches of PSBs for statutory audit from the year 2020- 21 onwards.

It says Statutory branch audit of PSBs should cover 90% of funded & non-funded credit exposures of a bank.

So, from an overall bank point of view – 90% of their funded & non-funded credit exposure should be subjected to audit.

Ok. – This is guideline no. 1

The next guideline says, when the bank selects branches for statutory audit, it should include a representative cross-section of rural/semi-urban/urban and metropolitan branches. The guideline also stresses that it should select branches that are predominantly not subjected to concurrent audit.

Even CPUs/LPUs/and other centralised hubs will be included for branch audit every year, let whatever name they are being called/termed.

The selection of branches for a statutory audit cannot be done by bank management on its own. It should be finalized by each PSB with the consent of the Statutory Central Auditor/s.

And the Branches which are subjected to concurrent audit by chartered accountants and if not selected for branch audit, then their LFARs and other certifications should be done by concurrent auditors and they should be submitted to the Managing Director & CEO of the bank.

Banks should in-turn consolidate & compile all LFARs and other certifications submitted by Concurrent Auditors and submit them to Statutory Central Auditor as an internal document of the bank.

Next – let's look at the Procedure for the appointment of Statutory Branch Auditors:

At first, a List of eligible auditors/audit firms will be prepared by ICAI as per the norms laid down by RBI.

This List prepared by ICAI will be scrutinised by RBI – basically for identifying continuing and rested firms and for excluding audit firms that are denied audit.

After this scrutiny, RBI will forward the final list of eligible auditors/audit firms to PSBs for their selection of branch auditors/audit firms.

Each audit firm can now take up audit assignments (branch audit) in one PSB only.

The audit firm should give its consent in writing for appointment as an auditor in the bank for that particular year and subsequent continuing years.

Once they give Consent, it becomes irrevocable and no request for changing the bank after giving consent will be entertained.

After the selection of branch auditors, PSBs should recommend names of both continuing and selected branch auditors to RBI for their prior approval before the actual appointment.

Ok?

Next, let’s look at the general guidelines applicable to the appointment of Statutory Branch Auditors:

SBAs can be appointed for a maximum tenure of four years in a particular bank.

This appointment will be made on an annual basis – because every year the auditor should fulfill the eligibility norms prescribed by RBI from time to time.

In the earlier years, there used to be Compulsory two years rest for audit firms that are located in the specified centres after completion of four years of continuous branch audit. This practice was followed till FY 2019-20. But now, it is done away with.

Instead, when a firm completes four years of continuous branch audit, it will be subjected to the policy and it will be considered for appointment as SBAs in any other PSB.

It means that firms will not be eligible for re-appointment as SBAs IN the same bank for the next cycle of four years.

Banks are advised to select auditors/audit firms who are in close proximity - offices/branches.

Banks should have a suitable mix of categories of auditors/audit firms – i.e., while selecting the branch auditors, they should keep in view the size of the branches.

Banks should allot branches to audit firms only after considering the audit experience of the firm. Specialized and larger branches should be ideally audited by bigger/experienced audit firms

In the case of a Statutory branch audit carried out by SCAs, banks should allot the top 20 branches strictly in order of their level of outstanding advances and it should cover at least 15% of the total gross advances of the bank. i.e., branches audited by SCAs should cover at least 15% of the total gross advances of the bank.

All PSBs should have a Board approved policy for the appointment of statutory auditors and it should be hosted on the bank’s website.

Banks should ensure that the policy framed by the Board for selection of auditors/audit firms and appointment of auditors are strictly adhered to.

A list of firms that are selected for appointment as statutory branch auditors should be placed before ACB/Board of the bank for concurrence before forwarded to RBI for final approval.

Policy of one audit firm for one PSB will be continued – i.e, an audit firm is eligible to be appointed as a central/branch auditor in only one during a particular year”.

Banks that are making appointments of branch auditors for a continuous period of four years, cannot remove audit firms - during the above period - without prior approval of the Reserve Bank of India. (Of course, subject to the condition that, firm satisfies eligibility norms every year).

If a partner or partners in a Firm, is on the Boards of PSBs, then that firm cannot be appointed as auditor for that particular PSB.

If Audit firms are retiring as Statutory Central Auditors of PSB, then it is not eligible for being appointed as SBAs of the same PSB for the prescribed cooling period for SCAs.

LECTURE 8: Eligibility Norms for empanelment of audit firms as statutory auditors of Public

In this session, let us look into the eligibility norms for empanelment of audit firms for being appointed as statutory branch auditors for public sector banks – these provisions are applicable for the period starting from 2020-21 financial year.

For this purpose, audit firms are divided into 4 categories.

Category No. 1, 2, 3 & 4.

Let's see when a firm will be categorized as the No.1 Category Firm.

At least 5 CAs should be associated with the firm on a full-time basis

of that at least 3 CAs should be partners fulltime and

the firm should have at least 8 staffs and

firms should have 8 years of standing.

Not only this, either the audit firm or at least one partner should have a minimum experience of 8 years in branch audit of nationalized bank or private sector bank.

If all those conditions are satisfied, then that firm is eligible for empanelment under Category 1.

Next

A Firm will be classified as category no.2 firm if,

At Least 3 CAs are associated with the firm on a full-time basis

of that at least 2 CAs are partners fulltime and

the firm has at least 6 staffs and

firms should have 6 years of standing (or at least the partner).

Not only this, either the audit firm or at least one partner should have conducted a branch audit of a nationalized or private sector bank for the last 5 years.

That’s about category 2.

Let's move on to Category 3.

A Firm will be classified as category no.3 firm if,

At Least 2 CAs are associated with the firm on a full-time basis

of that at least 1 CAs is a full-time partner and

the firm has at least 4 staffs and

firms should have 5 years of standing (or at least the partner).

Not only this, either the audit firm or at least one of the CA should have conducted a branch audit of a nationalized or private sector bank for the last 3 years.

OK – That’s about Category No.3

Let’s now move on to the last category – Category No.4

Even Proprietorship concern without bank audit experience are eligible for Bank Audit Empanelment but they come under this Category No.4

Here, the condition is:

Proprietorship firm concern should have at least 2 Professional Staffs of which 1 should be Paid CA and the firm should have 3 years of standing.

Since we are talking about Proprietorship firms without bank audit experience of PSB / Private bank, they will be treated at par with partnership firms after deducting their 3 years of seniority from the date of their establishment.

Lecture 9: Procedure for Appointment of Auditor for Banking Company

In this session, let’s look into the procedures for the Appointment of an Auditor for a Banking Company:

In the case of a Banking company, appointments should be made at the annual general meeting of the Shareholders.

If it is a nationalized bank, then appointments should be made by the bank through its Board of Directors. (Already we have discussed the procedure in-depth in the previous sessions)

Whether is Banking Company or Nationalized Bank - Approval of the Reserve Bank of India is required, before the appointment.

In the case of Auditors of the State Bank of India, an appointment will be made by the Comptroller and Auditor General of India in consultation with the Central Government.

If you take the cases of Regional rural banks, the appointment of Auditors will be made by the bank with the approval of the Central Government.

Lecture 10: How to conduct an audit of bank or its branches - Part 1

How to conduct an audit of a bank or its branches?

We are going to talk at length about the process – so I'll divide this topic into a series of lectures.

This is going to part 1.

In this session, our focus is going to be on Initial Considerations by the Statutory Auditor.

Before being appointed as statutory auditor of a bank or its branches, there are certain initial considerations.

No.1

Before appointing statutory central / branch auditors, banks should obtain a declaration of indebtedness from them, to know how much money they owe to the bank. Because significant borrowing by the auditors in the normal course of business will affect the independence of the auditor in framing his audit opinion.

No. 2

A Firm cannot be appointed as central / branch auditors if they have already undertaken any internal assignments in the bank during the same year like concurrent audits.

Ok – These two are important initial considerations that even disqualify the audit firms.

Now, let's look at the critical aspects.

No.3 is with regard to Planning an Audit:

We have SA 300 “Planning an Audit of Financial Statements”. This standard requires an auditor to undertake certain activities before starting an initial audit – what are they?

Item a:

The auditor should Perform procedures required by SA 220, “Quality Control for Audit Work” is with regard to acceptance of the client relationship and that specific audit engagement; and

Item b:

Auditors should Establish an understanding of terms of engagement as per SA 210, “Agreeing on the Terms of Audit Engagements”.

Let's move onto the next critical aspect under Initial considerations:

No.4 – It is Communication with Previous Auditor:

As per Clause (8) of Part I of the First Schedule to the

Chartered Accountants Act, 1949 insists that a Chartered Accountant in practice cannot accept a position as auditor previously held by another chartered accountant without first communicating with him in writing.

Yes! If you are appointed as an Auditor for an entity, you cannot accept that position without communicating with the previous auditor.

It is not a mere communication.

You should get a NO Objection Certificate (NOC) from the previous auditor through this communication.

Because, only in this process, you will get to know whether the previous auditor has any objections to your appointment, for a valid reason.

Next No.5 It is with regard to Terms of Audit Engagements:

We have SA 210 on “Terms of Audit Engagements” and it requires the auditor should agree on the terms of the audit engagement with the bank before beginning significant portions of fieldwork and it has to be done for

each period to be audited.

These terms of the engagement should be documented

-to prevent any confusion on terms that are agreed between Management and Auditor (at the beginning of assignment with regard to audit)

Ok – Well move on No.6 – It is with regard to Initial Engagements:

We have SA 510 “Initial Audit Engagements-Opening Balances” – Auditor should perform audit procedures as mentioned in this SA.

This standard focuses on Opening Balances.

After performing the procedures prescribed in SA 510, IF auditor comes to a conclusion, that opening balances contain misstatements and if they are going to materially affect the financial statements for the current period and if the effect of the same is not properly accounted and adequately disclosed, then, the auditor should express a qualified opinion or an adverse opinion, as required.

Once again I repeat – As an Auditor, you are performing procedures prescribed in SA 510.

You come to a conclusion that opening balances contains misstatement.

You believe those misstatements are going to materially affect the financial statements for the current period.

But the bank is not making proper accounting for the effects and the bank is also not adequately disclosing them in Financial Statements.

In those cases, as an auditor, you have to express a qualified opinion or an adverse opinion depending on the situation.

No.7 is with regard to the Assessment of Engagement Risk.

This is a critical part of the audit process and it should be done before acceptance of an audit engagement because this will affect the decision of accepting the engagement itself and will also help in planning decisions if the audit is accepted.

No.8 is with regard to Establishing an Engagement Team

We can say, having a Qualified & experienced professional is an important component of managing engagement risk.

The size and composition of the engagement team would actually depend on the size, nature, and complexity of the bank’s operations.

Moving on to the last item – No.9 – It is with regard to Understanding the Bank and its Environment:

We have SA 315 “Identifying and Assessing the Risks of Material Misstatement Through Understanding the Entity and Its Environment”. This SA says, an auditor should get a sufficient understanding of the entity and its environment, including its internal control, so he can identify the risks, assess the risks which can arise on fraud and error and which can cause material misstatement in the financial statements.

With this, the Auditor should be able to design and perform further audit procedures.

Lecture 11: How to conduct an audit of bank or its branches - Part 2

Let’s move on to the second part of our discussion - How to conduct an audit of a bank or its branches?

The next important approach is about Identifying and Assessing the Risks of Material Misstatements

We have SA 315 and it requires the auditor to identify and assess the risks of material misstatement at two levels.

1. at the financial statement level

2. at the assertion level

This should be done for

classes of transactions,

account balances and

disclosures

Only by doing this way, the Auditor will get an idea for designing and performing further audit procedures.

The next approach is Understanding the Bank, its Environment and Internal Control:

Only by understanding the bank, its environment, and internal controls, the auditor will be able to

-identify and assess risk;

And only then, Auditor will be able to

-develop an audit plan.

With this, the auditor will be able to determine the operating effectiveness of the controls and he will be in a position to address specific risks.

The next approach is Understanding the Bank’s Accounting Process:

This is the most important process – here the auditor should take all steps and efforts to understand the accounting process adopted by the bank because it only produces financial and operational information for management’s use and it only contributes to the bank’s internal control.

So, understanding the accounting process is a very important part and it will enable the auditor to

-to identify the risks

-to assess the risks

of material misstatement which can arise on account of fraud

and it will also enable the auditor to design and perform further audit procedures.

Lecture 12: How to conduct an audit of bank or its branches - Part 3

Let’s move on to the third part of our discussion on How to conduct an audit of a bank or its branches?

In this session, we are going to discuss exclusively Understanding the Risk Management Process.

i.e., the Auditor should develop an understanding of How the Bank has deployed various processes to manage its risks.

For Risk Management, the Management team will be generally deploying various controls and they will be using various performance indicators – These controls and indicators will be helping them in managing key business risks and financial risks.

Ok,

In order to manage the risks in an effective way, banks will be requiring certain processes and I'll take you through them one by one. So, as an Auditor, you can develop an understanding of the risk management process.

No.1

Oversight and involvement in the control process by those charged with governance:

Yes! People who are charged with governance (Board of Directors/Managing Director) should approve written risk management policies.

When I say, People who are charged with governance, it's basically the Board of Directors / Managing Director – I mean.

And that Risk Management Policy should be consistent, with the bank’s business objectives and strategies.

It should take care of

capital strength of the bank,

The expertise of Management,

Regulatory requirements

Types and amounts of risk that are considered as acceptable.

The second process which banks should adopt to manage risk is

Identification, measurement, and monitoring of risks:

There will be certain risks that could significantly affect the achievement of the bank's goals.

Those risks should be identified, measured, and monitored against pre-approved limits and criteria.

The third way through which banks can manage risk is through Control Activities:

Banks should have appropriate controls in place to mitigate their risks.

It should have effective segregation of duties (especially between front and back offices).

It should have controls for accurate measurement and reporting of positions.

It should have controls for verification and approval of transactions.

It should have controls for

1. reconciliation of positions and results

2. setting up limits

3. reporting and approval of exceptions

4. physical security

5. and also for contingency planning.

Let's move onto the next – i.e., 4th process in Risk Management – It is by Monitoring activities:

Banks will be having Risk management models, methodologies, and assumptions. Using these only they will be measuring and mitigating risks. These should be regularly assessed and updated and this function can be done by an independent risk management unit. Generally, banks will be having a Risk Management Department for this purpose.

The next way to Manage Risk is by having a Reliable information system:

Banks would need reliable information systems.

Those Information Systems should provide 3 types of information on a timely and consistent basis.

What are they?

They are financial information, operational information, and compliance information.

All these should be made available on a regular basis and it should be easily understandable.

Only then, people who are charged with governance and management will be able to understand the changing nature of the bank's risk profile and take necessary appropriate actions.

How to conduct an audit of bank or its branches - Part 4

Let’s move on to the 4th part of our discussion on How to conduct an audit of a bank or its branches?

In this session, we are going to discuss several matters.

To start with,

Engagement Team Discussions

Already we touched on this – as to What is Engagement Team & Engagement Team Discussions.

This discussion should happen to get a better picture & understanding of

bank

its environment

its internal control

and also to assess the potential/possibilities for material misstatements in the financial statements.

The next important process is the conduct of Audit is Establishing an Overall Audit Strategy

We have SA 300 “Planning an Audit of Financial Statements’’.

As per this standard, an auditor should plan his audit in such a way, so that audit can be performed in an effective way.

For that, the auditor should establish the overall audit strategy before the commencement of the audit.

While establishing the overall audit strategy,

he has to involve

key engagement team members

and if required, he should also engage appropriate specialists depending on the characteristics of the audit engagement.

Next comes the Development of Audit Plan:

Just now, I stressed SA 300 which deals with the auditor’s responsibility to plan an audit of financial statements in an effective manner.

This standard requires the involvement of all the key members of the engagement team while planning an audit.

Next, we’ll move on to Audit Planning Memorandum:

Having made the Audit Plan, the Auditor should summarize it by preparing an audit planning memorandum.

No. 1

The audit planning memorandum should

Describe what is the expected scope of the audit and to what extent audit procedures should be performed by the auditor.

No. 2

The auditor / Audit team would have identified various issues and risks during their planning & risk assessment activities. They also would have made certain discussions on to what extent they can place reliance on controls.

So, the Audit Planning Memorandum should highlight all those significant issues and risks that are identified during their planning and risk assessment activities, as well as the decisions concerning reliance on controls.

No. 3

Appropriate Planning of Audit Engagement is an important area.

Let’s say, after the audit, some issue has arisen with respect to the audit, and the auditor is called to explain his part.

In such a situation, the auditor should be in a position to provide evidence that they have planned Audit Engagement appropriately and have taken care of different types of risks and matters affecting audit engagement.

So, Audit Planning Memorandum should Provide evidence that they have planned the audit engagement appropriately and have responded to engagement risk, pervasive risks, specific risks, and other matters affecting the audit engagement.

How to conduct an audit of bank or its branches - Part 5

Let’s move on to the 5th part of our discussion on How to conduct an audit of a bank or its branches?

First, our focus is on determining audit materiality

the auditor should see the relationship between audit materiality and audit risk while conducting his audit.

It's because immaterial items may not lead to significant audit risk And material items should not be missed out because they lead to significant audit risk.

so the question is how to quantify the materiality?

it is basically a matter of professional judgment

the auditor should come to this judgment based on his professional expertise based on his assessment of the engagement risk and it should also be based on reporting requirements for the financial statements

meaning - what can be a material item in one situation or for one set of a client may not be material for some other client or some other set of situation

so it's here auditor should make a professional judgment he should use his professional expertise

and already he would have assessed what kind of risk he may come across in this particular audit engagement - he should frame his opinion about materiality by factoring in this element as well

And on various occasions, reporting requirements for financial statements will insist certain items to be disclosed despite being of small value. so that aspect should also be kept in mind

The next auditor should also consider whether the bank will continue as a going concern or not?

For that, the Auditor should see whether there are any events, conditions that are likely to affect the going concern of the bank?

If the answer is yes, he should approach his audit accordingly.

The Next area is the Assessment of the Risk of Fraud including Money Laundering.

With regard to this, we have SA 240 “The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements”.

As per the standard, it is the objective of the auditor to identify and assess the risk of material misstatement in the financial statements which can arise on account of fraud.

so the auditor should keep this element, that is the possibility of fraud and its consequent impact on the financial statements.

and if he comes across an occurrence of fraud, then he should collect sufficient - I can say - sufficient appropriate audit evidence on those matters which are causing misstatement in the financial statement and he should respond appropriately on those issues.

As already mentioned in one of the earlier lectures, the auditor should not take anything for granted - rather he should maintain his professional skepticism throughout the audit - only then he will be able to recognize the possibilities of misstatements that can arise in financial statements because of fraud.

Here, the auditor should not only be guided by SA 240, but he should also take into account various guidelines that are issued by RBI from time to time with regard to money laundering with regard to KYC norms.

actually, there is a guideline called

know your customer guideline - anti-money laundering standards

This guideline requires banks to establish policies, procedures, and controls so that they will Deter money laundering activities.

but in some cases despite all this money laundering will take place right?

so in those cases, their procedures and controls should be able to recognize and report those money laundering activities.

the auditor should go through that as well.

The next part is assessing specific risks.

that is, should identify whether there is any risk of material misstatement at the financial statement level?

if yes he should assess that risk - Because the risk of material misstatement at the financial statement level is a pervasive risk and it will affect financial statements as a whole and it will also potentially affect many assertions made.

Next

the auditor should focus on risk associated with Outsourcing activities

In our initial discussions, we have understood that banking operations involve extensive use of Technology and it requires various levels of expertise.

all this expertise may not be available internally.

so banks may Resort to outsourcing various activities.

when they outsource activities, it comes with various risks - so it is essential for the Bank to effectively manage those risks and the auditor should check what steps are taken by the banks to manage those risks.

The next aspect is auditors response to assessed risk:

for this, we have SA 330 “The Auditor’s Responses to Assessed Risks”

This standard requires the auditor to design and implement overall responses to address the assessed risk of material misstatement at the financial statement level.

That is, when the audit process identifies material misstatement, what kind of response auditor should give or react to those statements - that's what I mean by saying the auditor should design and implement overall responses.

The material misstatement identified by the auditor will help him to design and perform further audit procedures.

what should be the nature of those procedures, how long Audit should be conducted on those items, extent of it everything will be based on the assessed risk of material misstatement at the assertion level.

The next area is stress testing:

it is basically a software testing activity

This will help the auditors to determine the robustness of the software by testing beyond the limits of normal operation.

The Reserve Bank of India has already mandated all commercial banks to have a stress testing framework - that Framework has to be approved by the board and it should be in place for all commercial banks - so we can say this stress testing is basically a part of the risk management system - and the auditor should also go through this.

Next is Reliance/review of other reports:

Generally, banks will be subjected to different types of audits in a year.

they will have a concurrent audit

they will have their own credit audit/inspections/income leakage audits

then Reserve Bank will also be conducting an inspection

so the auditor should take into account adverse comments in all those Audit and inspection reports.

in particular, he should look for adverse comments in

l Previous year’s audit reports.

l Latest internal inspection reports of bank officials.

l Reserve Bank’s latest inspection report.

l Concurrent / Internal audit report.

l Report on verification of security.

l Any other internal reports especially related to particular accounts.

l Manager’s charge-handing-over report when the incumbent is changed.

so all the above reports have to be reviewed in detail by the auditors.

Central auditors, in particular, should review the annual financial Inspection Report of Reserve Bank of India and whatever the variations in provisions reported by Reserve Bank of India should have been properly considered by the bank management and account for - the auditor should check whether it is reflecting correctly in financial statements.

with regard to substantive procedures,

the auditor should audit all large advances without exception

Other advances and small advances can be checked on a sampling basis - but even in other advances if accounts are found to be a problem account, then that should be verified in detail.

Now the question arises how to select the sample accounts

for that answer is auditor's assessment of the efficacy of internal controls

if internal controls are strong auditor can go for a smaller number of units

if internal controls are weak auditor should go for a higher number of units for verification

again another question will arise: how to consider and advance as large an advance?

the answer for this will be linked to the volume of operations of the branch.

If the year-end balance in the advance account is greater than Rs.2 Cr or 5% of aggregate year-end advances of the branch, whichever is less, then that advance can be called a large advance.

ok with this we have come to the end of how to approach Bank audit

what we discussed in the section so far is only the broader layout

will go item by item in depth in the following sessions

Classification of Advances

In the session let's look at the classification of advances

from the bank's point of your advances can be classified on the basis of

Sector

Security

Prudential norms

first, let's look into the sector-wise classification

sectors can be further subdivided into

priority sector

non-priority sector

Reserve Bank of India has issued common guidelines with respect to priority sector lending.

These guidelines have to be followed by all the banks

guidelines are with reference to

rate of interest

service charges

Receipt

Sanction

Rejection

disbursement register

issue of the loan application

acknowledgment et cetera

Reserve Bank has also issued targets for banks for priority sector lending

lending for agriculture, m s m e, education, housing, and all comes under priority sector lending.

Lending to sectors other than the priority sector will be called non-priority sector lending

Let's go to the second category

that is a classification of advances on the basis of security

Here advances can be classified as

secured advance

unsecured advance

if a bank takes security for giving advance, then that will be called a secured advance

if no security is taken then it will be called an unsecured advance

security can be further classified as

primary security

Collateral security

So what is primary security?

It is the security offered by the borrower as principal security for the advance.

that is in the event, It is this security which will be enforced first.

generally, it is the security against which the advance will be given by the bank or it is a security that is created out of the advance.

the next classification of security was Collateral security

security is basically additional security and it can be in any forms like

tangible asset

intangible asset

moveable asset

immovable asset

let me also list out some of the common types of securities that are accepted by the banks:

They are

personal security of guarantor

immovable property

third party guarantee

goods stocks debtors trade receivables

gold ornaments and Bullion

bankers general lien

Life insurance policies

stock exchange securities and other instruments

plantations in case of Agricultural advances

let us move on to the third classification that is based on Prudential norms

here advances can be classified as

standard advance

NPAs

Standard advances are those advances that are not NPAs.

It means, standard advances still generate income for the bank, interest, and principal are either serviced regularly or the delay / overdue has not yet touched 90 days from the due date in case of term loans.

Then a question arises

What is NPA?

An asset will become NPA if it ceases to generate income for the bank.

if you take a term loan for example:

If Interest is not paid for more than 90 days from the due date, then that TL becomes NPA.

Similarly, if the principal is not paid for more than 90 days from the due date, then that TL will become NPA.

if both interest and principal are not paid for more than 90 days from the due date, then also that TL will become NPA.

when a term loan of a particular borrower becomes a non-performing asset, then all other credit facilities availed by that borrower will also become a non-performing asset for the bank.

it means non-performance asset classification is with respect to borrowers and not just confined to a facility.

Let me give you another example

let's take the case of overdraft or cash credit facility

if this overdraft or cash credit facility remains out of order then that account will become a non-performing asset.

This will give rise to a further question: what is out of order?

If the outstanding balance continuously exceeds the sanctioned limit or drawing power for a period of 90 days, then we say the account is out of order.

That means if the outstanding balance in cash credit or overdraft is greater than the sanctioned limit or drawing power for a period greater than 90 days then that account has become out of order and as a result it becomes NPA.

this is one aspect of out-of-order.

In some cases, outstanding balance in cash credit or overdraft may be within the sanctioned limit or drawing power but there would have been no credit continuously for 90 days or more as on the date of the balance sheet- in that case, also the account will be treated as out of order and will be classified as a non-performing asset.

In some cases, there will be credits in the account but those credits would not have been sufficient enough to cover the interest debited during the same period - in those cases also the account will be treated as out of order and eventually classified as a non-performing asset.

let me give you an example:

a company was sanctioned at a cash credit facility of rupees 50 lacs but as per the stock statement furnished for the last quarter, drawing power is only 42 lacs.

in this scenario, this account can be termed as out of order,

if the outstanding balance continuously exceeds Rupees 42 lacs ( in this case 42 lacs is the drawing power) even though the customer is having a sanctioned limit of 50 lacs, he is eligible to draw only 42 lacs and any outstanding beyond 42 lacs will render this account to be irregular and if that irregularity continues for 90 days account will become out of order and get classified as NPA.

let's continue with the same example

Let's say the outstanding balance in this account is rupees 42 lacs only.

That is it is exactly matching with the drawing power.

but for the past 90 days or more, there are no credits into this account as of the date of the balance sheet.

Then for this reason also this account can be termed as out of order and get classified as a non-performing asset.

let's continue with the same example.

it scenario 3

let say Rupees 5 lacs is the interest debited during the period.

but only Rupees 200000 has been credited so far.

So here there are some credits but they are not sufficient enough to cover the interest debited during the same period.

so because of this reason also accounts can be termed as out of order and can get classified as non-performing assets.