Composite Loan for a Grinding Unit with Weak Collateral
Kiran Devi, 38, runs a masala and flour grinding unit in Jhansi from rented premises - monthly rent ₹9,000, on an 11-month lease deed that is unregistered. She applies for a ₹15 lakh composite loan: ₹9 lakh term loan for an automatic grinder and packing machine, and ₹6 lakh cash credit for working capital. Her ITR for FY 2024-25 shows net profit of ₹4.20 lakh after charging depreciation of ₹1.05 lakh and interest of ₹0.36 lakh on an existing term loan with an EMI of ₹8,400 (₹0.648 lakh principal and ₹0.36 lakh interest a year, ₹3.2 lakh outstanding). The proposed term loan runs five years at 11%: first-year interest ₹0.95 lakh, principal ₹1.45 lakh. Cash credit at 12%, fully drawn, would cost about ₹0.72 lakh a year. Her CIBIL score is 690; a ₹12,000 credit card balance was 35 days past due eight months ago and was cleared a fortnight later. She offers her father-in-law's 1.2-hectare agricultural land as mortgage.
1. Compute the DSCR for the proposal, stating clearly what you include and exclude, and give your view on viability.
Read the worked answer
Numerator (funds available for debt service) = PAT 4.20 + depreciation 1.05 + existing term loan interest 0.36 + proposed term loan interest 0.95 = ₹6.56 lakh. Denominator (debt service) = existing term loan (0.36 + 0.648) + proposed term loan (0.95 + 1.45) = ₹3.408 lakh. DSCR = 6.56 / 3.408 = 1.92, comfortably above the 1.50 threshold usually applied to small term loans.
Why cash credit is excluded. Working capital is repaid out of the operating cycle - stock turning into receivables into cash - not out of profit, and its interest is a business expense. Mixing it into the DSCR double-counts the burden. What must be checked separately is whether the ₹6 lakh CC limit is justified by turnover: under the Nayak committee's turnover method, a borrower needs roughly 20–25% of projected turnover as working capital margin, and Kiran has not supplied a projected turnover. The branch must ask for it before fixing the limit.
Stress check. The CC interest of ₹0.72 lakh is not yet in the current PAT. If it is charged, PAT falls to ₹3.48 lakh and the DSCR drops to (3.48 + 1.05 + 0.36 + 0.95) / 3.408 = 1.71. A further 80% PAT stress gives about 1.50. The proposal still services its term debt, but only just under stress, so a five-year tenor is safer than a three-year one.
2. Can the bank accept the father-in-law's agricultural land as security? Set out the alternatives you would put to the sanctioning authority.
Read the worked answer
No - not as primary security. Agricultural land is ordinarily excluded as collateral for non-agricultural loans: state land-revenue laws restrict transfer of agricultural land to non-agriculturists, and enforced sale through a tribunal or civil court is slow and often unmarketable. Taking it would give the bank a security that looks good on paper and is close to unrealisable in practice. The father-in-law is also a third party to the borrower, so his title, mutation record and consent would each need independent legal scrutiny. Decline the offer politely and record the reason.
Alternatives to place before the sanctioning authority:
- CGTMSE guarantee as a collateral substitute - the scheme covers MSE credit facilities up to ₹5 crore, with the guarantee percentage varying by loan size and category. This is the natural route for a ₹15 lakh composite loan with no acceptable mortgage.
- Hypothecation of the grinder and packing machine, with the charge registered with the ROC (for a proprietorship, the charge is registered in the borrower's name) and noted in the loan agreement.
- Hypothecation of stock and book debts for the CC limit, with a stock statement and periodic inspection.
- Personal guarantee of the husband or another solvent family member, backed by a statement of assets.
- Premises proof: an unregistered 11-month lease is weak. Obtain rent receipts, a utility bill and a declaration from the landlord confirming occupancy.
The sanction should be structured as term loan plus CC with the CGTMSE cover, and a condition subsequent to register the charge within 30 days.
3. How should the branch treat the 690 CIBIL score and the 35-day credit card delinquency from eight months ago?
Read the worked answer
Treat it as an explainable, technical delinquency, not as a rejection. The card balance was small (₹12,000, about 8% of the proposed loan), the overdue was 35 days, it was cleared a fortnight later, and there has been no repeat in eight months. A 690 score is not a bar; it is a caution that raises the pricing or the margin rather than killing the file. The mistake would be either to ignore the score or to reject the file mechanically.
What the branch should actually do:
- Pull a fresh CIBIL report on the day of processing, not the one in the file from three months ago, and check the current status of the card - paid, settled or written off. "Settled" is materially worse than "paid" and needs a written explanation.
- Obtain a written declaration from Kiran explaining the delay - typically a missed payment date rather than distress - and note it in the appraisal.
- Check the repayment track of the existing term loan in the bank's own records. If her EMI record with this bank is clean, that is stronger evidence than an external score.
- If the case is within the branch manager's delegated power, sanction with a slightly higher margin and a clear note; if the score sits below the bank's cut-off for the product, refer it upward with the explanation rather than rejecting it.
- Do not report or describe her as a wilful defaulter - that has a specific legal meaning and this case does not come near it.
Finally, the bank must keep the credit information it reports accurate; a wrong or delayed update to the bureaus now carries a compensation obligation.