The RBI has issued the RBI (Commercial Banks – Asset Classification, Provisioning and Income Recognition) Directions 2026 (‘Directions’) to commercial banks, corresponding new banks, and the State Bank of India (‘SBI’) (but do not apply to small finance banks, payment banks, and local area banks) to take effect from April 1, 2027. The key aspects are as follows:

i. A framework for asset classification under the Expected Credit Loss (‘ECL’) approach has been introduced which requires banks to estimate, at each reporting date, the credit loss that they expect to incur over the future life of every in-scope financial instrument;

ii. The ECL framework is applicable to: (a) loans; (b) debt securities, which have not been measured at fair value through profit or loss; (c) trade receivables; (d) lease receivables; (e) loan commitments, including undrawn commitments; (f) off-balance sheet credit exposures; and (g) other financial assets with a contractual right to receive cash;

iii. Assets covered in the scope of the Directions are classified basis changes in credit risk since initial recognition, and whether credit-impaired at the reporting date, as follows:

1. 1. Stage 1: covers assets that have not witnessed a significant increase in credit risk since initial recognition. In respect of such assets, a 12-month ECL will be recognised;
   2. Stage 2: covers assets that have witnessed a significant increase in credit risk since initial recognition but are not considered to be credit-impaired. Lifetime ECL will be recognised for such assets;
   3. Stage 3: covers assets that are credit-impaired as at the reporting date. Lifetime ECL will be recognised for such assets;

When contractual payments are more than 30 days past due, there is a rebuttable presumption that the credit risk on a financial instrument has increased since initial recognition; and

iv. A ‘credit impaired’ financial asset is one characterised by objective evidence of impairment, resulting from events that materially reduce the likelihood of recovering the asset’s contractual cash flows in full and/or on time and such events include non-performing status, borrower financial distress, lender concessions, high probability of insolvency and acquisition at discount.

v. For financial instruments originating or invested on or after April 1, 2027, ECL is to be computed using the Effective Interest Rate (‘EIR’) method determined at initial recognition, and a credit-adjusted EIR is to be used for computing ECL for credit-impaired financial assets. Further, the opening ECL as on April 1, 2027 (computed based on balance sheet position as on March 31, 2027) may be calculated using the contractual interest rate as the discounting factor in the interim.