Bad debt management at Vietnam Bank for Agriculture and Rural Development

determined before adjusting the debt repayment period, extending the debt. With this regulation, some debts that should be classified as bad debts according to debt classification standards, are still in the "not bad" debt group (normal, group 1, group 2), causing some bad debts to be legally concealed.

Thus, with Circular 02 on asset classification taking effect from June 1, 2014, the “preferential treatment” in debt rating for the group of enterprises facing temporary difficulties according to Decision 780 is expected to no longer exist. The debt of these groups of enterprises will be transferred to the same group as the usual classification criteria (5 groups). This will cause the amount of debt that can be converted to “bad debt” to increase in 2014 - 2015.

(ii) On asset classification.

After more than 8 years of implementing asset classification according to Decision 488/2000/QD-NHNN 5 of the Governor of the State Bank of Vietnam on " Issuing regulations on asset classification "Account", provisioning and reserves to handle risks in banking activities of credit institutions " has brought about tremendous results, helping the Vietnamese commercial banking system to organize well the classification of credit balances to have effective credit management measures, especially helping commercial banks to set up provisions to proactively handle credit risks. However, the issuance of Decision 493/2005/QD-NHNN replacing Decision 488/2000/QD-NHNN still has some issues that need attention in applying the classification of "Yes" assets, setting up and using credit risk reserves in line with current international practices, which is causing difficulties for banking activities as well as the development of the economy, including the branches of the Bank for Agriculture and Rural Development.

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- Regarding loan classification: international practice classifies loans into large value loans and low value loans. Decision 493/2005/QD-NHNN does not base on this classification.

- Regarding the objects to be classified: international practice of classifying on-balance sheet risky assets and off-balance sheet risky assets; Decision 493/2005/QD-NHNN on classifying on-balance sheet risky assets.

- Classification criteria: International practice combines both the "past" and "prospect" criteria; Decision 493/2005/QD-NHNN is only based on the "past" criterion.

- Regarding the classification of risky assets: International practice classifies them into 5 groups: standard, needing attention, substandard, difficult to collect and irrecoverable. Decision 493 also classifies them into 5 groups but is not specific. International practice classifies them according to the list.

In terms of credit categories, Decision 493 does not classify by credit category but classifies by current debt and overdue debt according to the degree of overdue time.

- Regarding the concept of overdue debt in debt classification: International practice considers overdue debt as loans that violate the commitment to repay principal and interest (excluding debt that has been extended or adjusted); Decision 493 considers overdue debt as loans that violate the commitment to repay principal and interest (excluding debt that has been extended or adjusted).

(iii) On valuation of mortgaged assets

Lending with real estate mortgages is becoming an important and regular business in the lending activities of commercial banks in general and the Vietnam Bank for Agriculture and Rural Development in particular. The ratio of real estate mortgage loan reserves in recent years of commercial banks has been increasing and accounting for a large proportion of total outstanding loans. For the Vietnam Bank for Agriculture and Rural Development, the ratio of outstanding real estate mortgage loans in 2007 was 21.88%, in 2009 was 28.07%; in 2011 was 11.6%, in 2012 was 13.8% and

2013 is 14.2% (Source: credit activity report of Vietnam Bank for Agriculture and Rural Development).

Previously, the valuation of mortgaged assets in commercial banks was often undertaken by the credit department, that is, the credit officer was also the appraiser. The real estate price was determined as the basis for borrowing based on the State price framework issued by the Provincial People's Committee on January 1 every year (Decree 163/2006-NHNN on secured asset transactions). However, the State Bank later issued revised regulations in the direction that banks negotiate their own real estate prices to set reasonable lending rates, both ensuring the interests of customers and avoiding risks for banks. And the mortgage loan price that banks currently apply is the real estate price on the market. However, in reality, it is very difficult to apply because most localities do not have real estate services or real estate trading floors, these services are mainly concentrated in large cities such as Hanoi and Ho Chi Minh City. Therefore, in these localities, there cannot be a market price framework to apply the correct calculation of 70% according to regulations. If hiring a specialized agency, due to the regulations binding them with the responsibility for their valuation methods, it will be very difficult for any agency to stand up and take on the task of building a land price framework for banks. Granting the branches the authority to build their own land price framework for lending capital, although seemingly feasible, is also difficult to implement because if so, there will be a situation of both playing football and blowing the whistle, moreover, the branches do not have the legal status to make their own decisions. For the Vietnam Bank for Agriculture and Rural Development, the valuation activity

is not considered an independent activity, but is closely linked to bank credit activities. Therefore, the valuation of real estate as collateral may not be objective and accurate, and when risks arise, it is not possible to recover all debts lent to customers, interest and fees (if any).

(iv) On handling secured assets.

According to current regulations, when a customer is no longer able to repay the loan, the commercial bank has the full right to sell the customer's loan collateral at the commercial bank for settlement. This content has been specifically stipulated in the loan contract and loan guarantee contract. In case the guarantor does not voluntarily hand over the property, the commercial bank has the right to request relevant agencies in the area to coordinate enforcement. However, in reality, the Vietnam Bank for Agriculture and Rural Development still cannot decide to auction the loan collateral to recover the debt for many reasons: the procedure for transferring the name before the land use right when the bank handles the loan collateral requires the consent of the property owner, so the relevant agencies will not be able to carry out the registration transfer procedure for the bank when the property owner does not agree to auction the property. Or the assets of state-owned enterprises are often very difficult to auction because these are assets assigned by the State to enterprises, so to recover debts, commercial banks must go through the management levels or through the court to get a decision to auction... On the other hand, in the mortgage contract for borrowing capital that has been confirmed by the notary office, there is the content: " If the borrower does not repay the debt on time, the bank will automatically auction the assets to recover capital ". However, when auctioning the assets, the notary office does not notarize the purchase and sale contract, so it cannot complete the procedures to transfer ownership of the assets to the buyer, forcing the Vietnam Bank for Agriculture and Rural Development to file a lawsuit. Moreover, once a lawsuit is filed, the time is prolonged, both time-consuming and costly. Even when the court's judgment has come into legal effect, enforcement is still a difficult problem.

Furthermore, the possibility of selling assets is not high. For real estate assets, due to the market slowdown, the value of assets is low. Assets such as machinery and equipment are mostly industry-specific, so the possibility of selling them is also very low. For mortgaged assets such as circulating inventories, it is also difficult to sell them when the economy is stagnant, and businesses themselves, with greater understanding and industry relationships than banks, cannot sell their goods.

In Vietnam, the real estate market has not developed sustainably and stably according to market principles. The coordination between sectors is not tight, in many places local authorities have not really supported banks in seizing and auctioning off assets securing loans. The cooperation of law enforcement agencies is still ineffective. In many cases, the judgment has come into legal effect but customers do not voluntarily execute the judgment, and law enforcement agencies have not taken measures to enforce the judgment to help banks recover capital.

Although there are regulations: for bad debt collateral assets retained by commercial banks for use, there must be corresponding capital sources according to the provisions of law, but currently, the charter capital of many Vietnamese commercial banks is still low, especially state-owned commercial banks and joint stock commercial banks, which have not increased their charter capital to 3,000 billion VND according to regulations, so there are no conditions to handle collateral assets in this direction.

( v) On the use of reserve funds to handle risks.

According to current regulations on the use of reserve funds to handle risks: Commercial banks must sell off assets securing loans, apply all measures but still cannot recover the debt, then they can use the risk reserve fund to handle. Although this regulation is strict, limiting the widespread handling of risks, it also causes great difficulties for banks in the application process. Specifically, although guiding the conditions, the regulation does not indicate what the final debt handling measures are. On the other hand, according to the instructions, the selling price of assets securing loans can be higher or lower than the value of outstanding debt, the difference is handled by the risk reserve of commercial banks. In fact, bad debts of many Vietnamese commercial banks have existed for a long time, are of large value, and have not been handled, while the bank's reserve resources are limited, so implementing the above regulation is very difficult. A large part of the reason is due to inaccurate identification, risk assessment, and debt classification, leading to insufficient provisions to handle risks. On the other hand, there is still a mentality of cost burden, so provisions are not really followed.

( vi) On handling outstanding debts of state-owned enterprises.

When applying Decree No. 69/2002/ND-CP dated July 12, 2002 on handling outstanding debts of state-owned enterprises, Vietnam Bank for Agriculture and Rural Development encountered some difficulties:

-According to regulations, for state-owned enterprises that have decided to carry out the conversion but have difficulty balancing the resources to pay overdue debts, the General Director of the Vietnam Bank for Agriculture and Rural Development shall consider and decide to allow the enterprise to extend the payment period.

Deferring overdue debts up to the time of deciding to convert within a period of 3 to 5 years. For enterprises that are carrying out procedures for equitization, transfer, and sale, in addition to the above-mentioned debt deferral and debt cancellation measures, enterprises shall coordinate with creditor banks and organizations with the function of buying and selling debts to handle the remaining overdue principal debt by buying or reselling debts or converting debts into bank capital contributions to joint-stock enterprises according to the provisions of law on capital contribution ratios. With such provisions, state-owned enterprises seek every way to prove that they cannot balance their payment sources to request debt deferral, extension, and non-payment of bank debts.

- Lack of a mechanism to handle cases where enterprises change their ownership form (equitization) but the new unit does not receive enough debt (excluding bank interest, only calculating principal debt) and the old management agencies after the enterprise is equitized consider it to have no more responsibility; or some cases where the enterprise does not meet the conditions for equitization (due to large unpaid bank loans, business losses) but still carries out equitization.

Difficulties in enforcement also greatly affect the effectiveness of bad debt settlement of commercial banks. According to current regulations, land belongs to the State. Accordingly, organizations and individuals are not allowed to buy or sell land. Therefore, courts at all levels only declare that the part of the assets on the land belongs to the bank's disposal, the rest belongs to the State. Therefore, when the bank holds land as collateral for a loan, the bank must carry out procedures to lease back the land use rights and sign an annual contract. Under such conditions, the assets on the land often fall into a state of depreciation and are difficult or difficult to transfer. On the other hand, in many cases when filing a lawsuit, the court declares the bank the winner and forces the debtors to fulfill their loan repayment obligations to the bank, but the bank finds it very difficult to recover the debt because the enforcement agency does not enforce the judgment, or cannot enforce the judgment because the debtor is completely incapable of repaying the debt.

- The legal framework related to bad debt classification and credit risk reserve fund provisioning still has many shortcomings.

According to the provisions of Article 18 of Decree No. 138/2007/ND-CP, funds shall classify debts and set up reserve funds to handle risks for investment lending activities like credit institutions, that is, applying the current regulations of the State Bank in the following documents:

- Decision No. 493/2005/QD-NHNN dated April 22, 2005 of the Governor of the State Bank of Vietnam on promulgating regulations on debt classification and provisioning and use of reserves to handle credit risks in banking activities of credit institutions.

- Decision No. 18/2007/QD-NHNN dated April 25, 2007 of the Governor of the State Bank of Vietnam on amending and supplementing a number of articles of Decision 493/2005/QD-NHNN.

However, with the current regulations mentioned above, it can be seen that the provisioning does not ensure the recovery of investment capital if credit risks occur.

Formula for specific provision levels according to current regulations:

R = max {0, (A - C)} xr

In there:

R: Specific provision amount to be set aside. A: Principal balance of the loan.

C: Deductible value of collateral. r: Specific provisioning ratio

The C value is determined by the product of the market value of the collateral and the prescribed maximum discount rate.

The specific provision calculation method shows that the specific provision level at a point in time is fixed at a rate without a time correlation to compare with the actual initial investment. In other words, the “loaned capital” and “received capital” at the same point in time have not been converted to have a comparison to determine the provision level.

(vii) The debt trading market in Vietnam is underdeveloped.

Bad debts have arisen a lot in recent years, but the debt buying and selling market has not developed. In Vietnam, the debt buying and selling market is still in the formation stage, quite new to sellers, buyers and the State's operating and management mechanism. The demand for buying back debts from companies is also increasing. In Vietnam today, besides VATC and DATC, there are about 20 asset management and exploitation companies established and managed by commercial banks. However, the scale of these companies is mostly very small, not commensurate with the volume of bad debts in Vietnam. In fact, since its establishment, DATC has implemented 118 debt settlement plans with a book value of more than 7,400 billion VND. Thus, on average, the company handles 928 billion VND of debt each year. However, with the current sharp increase in bad bank debt, the processing speed of the national debt buying and selling company must increase its capital many times to meet the demand. As for VAMC, its current operations are considered ineffective. As of August 2014, VAMC has purchased 60,000 billion VND of bad debt from credit institutions.

Of the total 150,000 billion VND of bad debt, VAMC has only handled 1,200 billion VND of bad debt, equivalent to . VAMC depends heavily on the State Bank from policy mechanisms to personnel. Furthermore, VAMC has not been given a special mechanism to be able to quickly handle problems in handling purchased bad debt.

Second, due to the impact of the financial crisis and global economic recession, production and business activities of enterprises encountered many difficulties, so bad debt of banks increased.

Due to the unstable macroeconomic environment. Since the end of 2008, the Vietnamese economy has been affected by the global financial crisis and economic recession, followed by high inflation and a decline in domestic economic growth, which has led to difficulties in the business operations of enterprises and banks, and an increase in bad debts of banks. At its peak in 2011, bank interest rates continued to increase while other markets were experiencing fluctuations: gold prices and input material prices increased continuously at a dizzying rate; stock indexes continuously hit rock bottom while the USD fluctuated abnormally, which would reduce the competitiveness of each part of the economy as a whole. The implementation of too tight monetary policy has not achieved the goal of controlling inflation effectively, but the impact on production and economic growth is clearly visible.

Due to the economic crisis, many enterprises have weak financial capacity, mainly rely on bank loans, small equity capital and poor ability to respond to changes in the business environment. Therefore, when the business environment deteriorates, macroeconomic policies tighten, interest rates increase, enterprises will have difficulty in repaying debts. According to the monitoring results of the Banking Inspection and Supervision Agency, by the end of March 2012, out of more than 1 million customers selected for survey at 57 credit institutions in Vietnam, there were 10,782 customers with a debt/equity ratio of 3 times or more.

Third, due to the instability of the real estate market.

An important area that can have a strong impact on the balance of assets including bad debts and liquidity of Vietnamese commercial banks is the real estate market. In previous years, along with the massive foreign capital inflow into the asset market, a large capital flow has been invested in the real estate market. In addition, macroeconomic instability, especially inflation, has also caused people to increase speculation in this market. As a result, real estate prices have increased, and demand has pushed up real estate prices.

The price of real estate does not serve the purpose of living and residing, but is for investment to gain profit from the price difference at the two times of buying and selling. This is essentially an asset bubble, causing a huge amount of capital of the economy to be stuck in the real estate market, not going into the production sector.

When the monetary policy tightened, combined with the requirements in Directive 01/CT-NHNN/2011 to reduce the proportion of non-production loans to 16% by the end of 2011 and to consider the non-production sector (including real estate) as not a priority credit area, the real estate bubble was clearly identified, the market became frozen, and real estate prices fell sharply. Real estate businesses encountered difficulties and suffered losses, while the collateral assets themselves (mostly real estate) fell sharply in value, causing bank debts to gradually become bad debts.

On the other hand, due to the lax management of the real estate market. Localities and related sectors let this market develop too hotly, hundreds of housing and office projects... were granted land for construction and were licensed for implementation. Other regulations of state management agencies on capital mobilization for project owners were also neglected. Real estate prices were also pushed up too high, attracting people and investors to compete to buy, sell, speculate, and surf with capital from many different sources, mainly commercial bank loans. When commercial banks tightened real estate lending, capital for speculation and surfing was blocked, real estate prices fell, the real estate market froze, and bad debts of commercial banks were exposed.

In addition, a series of projects to build industrial parks, export processing zones, border economic zones, ports, airports... are being implemented by localities with capital from many different sources, including indirect and direct capital with a large proportion of commercial bank loans, focusing on loans from construction units, contractors... Up to now, a large proportion of those projects are ineffective, overdue debts of commercial banks have arisen.

Fourth, due to high inflation and interest rates.

The State Bank of Vietnam controls credit limits. Many projects of enterprises and borrowers cannot continue to borrow capital to implement, or the interest rate is too high to dare to borrow. This is also an important reason for the emergence of bad debts of commercial banks. In fact, in the period of 2009 - 2012, interbank interest rates and lending interest rates at times reached over 20%. Many investment projects that were previously in a state of severe capital shortage due to restrictions and sudden increases in interest rates had to stop and their ability to repay debts was inevitably affected.

Bad debt management at Vietnam Bank for Agriculture and Rural Development - 17

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