New project finance norms: Banks seek exemption for smaller loans

Commercial banks are planning to make a representation to the finance ministry and the Reserve Bank of India (RBI) to seek an exclusion for smaller projects, particularly those undertaken by micro, small and medium enterprises (MSMEs), from the new project finance norms that prescribe a higher general provisioning for lenders during the construction phase. 

Lenders are pitching for a threshold of ₹100 crore of aggregate exposure for the higher provisioning norms to kick in.  

On June 19, the RBI announced the final norms for project finance, prescribing a one per cent general provision for all projects, as compared to 0.4 per cent now.  

 

Commercial Real Estate (CRE) projects would attract a general provision of 1.25 per cent, excluding residential housing (CRE-RH) where the provision requirement is one per cent. The new norms, which would be applicable for new projects, come into effect from 1 October, 2025.

 

“According to the norms, all projects irrespective of the size, will attract higher provisions in the construction phase, including small projects by MSMEs and even small residential housing projects,” said a senior official from a large public sector bank. “This needs to be relooked as such a blanket norm could hamper credit flow to the productive sectors of the economy,” the official added.

 

Commenting on the new norms, Crisil Ratings said the provisioning requirements across categories remain de-linked from the credit risk profile of individual projects, as indicated by their credit rating.  

 

“This is unlike the extant capital requirements for bank lending to corporates, which are linked to the credit risk profiles of the latter. The proposed provisioning requirements also remain sector-agnostic, even as various sectors may carry diverse levels of risks, including different levels of ultimate loss-given defaults,” the rating firm noted.

 

 Higher provision requirements will also increase banks’ costs for financing infrastructure projects. Bankers said they would pass on the higher cost to the borrowers.

 

“We have always wanted a definition for what constitutes project finance. Right now, all projects, small and big, are considered as project finance. Banks will certainly charge more once the increase in provisioning kicks in,” said another senior banker from a public sector lender.

 

The impact of incremental provisioning would be 7-10 basis points (bps) in terms of credit cost for public sector banks and 3-5 bps for private sector banks, CareEdge Ratings has estimated.

 

To ensure meaningful lender participation, the new norms also mandate minimum exposure for each lender in a project. For loans up to ₹1,500 crore, each lender must hold at least 10 per cent of the total exposure; for larger projects, the minimum is 5 per cent or ₹150 crore, whichever is higher.

 

“This move aims to ensure all participants have sufficient “skin in the game” to actively monitor and engage in resolutions,” the CareEdge report said.

 

Overall, the final project finance norms set by the central bank still constitute a major breather for lenders compared to the draft norms released last year that had mooted a 5 per cent provisioning during the construction phase for new as well as existing projects.

 

“Compared with the draft of May 2024, the final directions improve the ease in doing business for lenders. The provisioning requirements are significantly lower not only in the case of under-construction projects but also for operational projects. Additionally, the guidelines are applicable only on a prospective basis,” said Subha Sri Narayanan, Director, Crisil Ratings.