What changed
Earlier, all bills discounted under LC were treated as exposure on the borrower constituent, attracting 100% risk weight. Now, clean negotiations (not 'under reserve') are treated as exposure on the LC issuing bank with inter-bank risk weight. Negotiations 'under reserve' continue to be treated as borrower exposure.
What it means for you
For UCBs, this reduces capital requirements on clean LC bill purchases since inter-bank risk weights are typically lower than 100%. It shifts credit risk assessment from the borrower to the LC issuing bank. Banks must carefully classify transactions as 'under reserve' or not to apply correct risk weights.
What you must do
- Update internal policies to classify LC bill purchases as clean or 'under reserve' for risk weighting.
- Train staff on the new distinction between clean and 'under reserve' negotiations.
- Review existing LC bill portfolios to reclassify exposures and adjust capital adequacy calculations.
- Ensure acknowledgment of this circular is sent to the concerned RBI Regional Office.
Who it affects
All Primary (Urban) Co-operative Banks, Treasury and credit risk management teams, Branches handling LC discounting and negotiation
What is the key change in risk weight for bills discounted under LC?
Clean negotiations (not 'under reserve') are now treated as exposure on the LC issuing bank with inter-bank risk weight, not on the borrower. Negotiations 'under reserve' still attract borrower risk weight.
Does this circular apply to all UCBs?
Yes, it applies to all Primary (Urban) Co-operative Banks as addressed by RBI.
When does this circular take effect?
It came into operation with immediate effect from April 19, 2006.