Part 06 — Collections & Recovery

Settlements OTS

Settlement is not the same as restructuring. Restructuring changes loan terms because the borrower is under financial difficulty but the lender believes the business can remain viable. A one-time settlement (OTS) accepts less than contractual dues, usually because recovery in full is unlikely, slow or uneconomic. Both affect credit history, provisioning and governance; neither should be used to hide a bad underwriting decision.

Restructuring Versus Settlement

Restructuring may include tenor extension, moratorium, revised instalments, funded interest term loan (FITL), conversion of overdue interest, additional working capital or covenant reset. RBI’s stressed-asset framework requires lenders to recognise stress early and treat restructuring as a resolution plan with prudential consequences; it is not a collection shortcut. RBI’s Prudential Framework for Resolution of Stressed Assets, June 7, 2019 is embedded into the 2025 IRAC master circular for banks.

OTS is a recovery decision. The lender agrees to close the account on payment of a negotiated amount by a defined date. The borrower does not become “standard” merely because an OTS letter is issued. If the account is NPA, upgrade to standard under IRAC occurs only when required arrears are fully paid; where a compromise settlement closes the loan with waiver, the remaining contractual dues are waived or written off per policy, and the borrower’s credit record should reflect settlement/write-off as applicable. RBI’s Treatment of Wilful Defaulters and Large Defaulters Directions, July 30, 2024 also requires transparent procedure for compromise settlements and says legal action should be initiated expeditiously where warranted.

When OTS Makes Sense

OTS is most defensible when net present recovery through litigation or enforcement is worse than a negotiated payment. Practical triggers:

Situation	OTS logic
Unsecured loan, 180+ DPD, borrower business closed	Cash now may beat years of civil/arbitration execution.
LAP with title/possession complication	Discount may be cheaper than contested SARFAESI/DRT route.
Machinery finance where asset value collapsed	Auction may fetch scrap value after repossession cost.
Deceased proprietor with cooperative heirs	Settlement avoids prolonged estate recovery.
Fraud or wilful default indicators	OTS may be restricted; legal/fraud route may take priority.

For a ₹22 lakh unsecured business loan with contractual outstanding of ₹27 lakh including interest and charges, a ₹14 lakh OTS paid within 30 days may be economically rational if the borrower has no attachable assets, no running business and the expected legal recovery after three years is ₹6-8 lakh. For a ₹1.5 crore LAP account with a readily saleable property at 65% loan-to-value (LTV), a deep OTS before SARFAESI action is harder to justify unless there is a serious title, tenancy or litigation issue.

OTS Workflow

The workflow should be documented and auditable:

Collections identifies eligible account and obtains updated dues: principal, interest, penal charges, legal cost, repo/valuation cost and unapplied payments.
Field/legal team records borrower status: running/closed business, collateral value, guarantor capacity, litigation, fraud flags, death/insolvency issues.
Recovery estimate compares OTS amount against expected recovery through normal collections, arbitration, SARFAESI, DRT, Lok Adalat or asset sale.
Borrower submits written offer or accepts lender’s offer, with source of funds and payment schedule.
Maker prepares OTS note: dues, proposed waiver, net present value rationale, prior recoveries, bureau impact, security release conditions and tax/accounting treatment.
Approval authority sanctions the compromise within delegation.
OTS letter states amount, due dates, mode of payment, no-dues/security release conditions, consequences of default and reporting treatment.
Closure happens only after funds are realised, not on cheque deposit or screenshot.

Typical OTS letters give 15-90 days for payment. Retailised SME NBFCs often insist on 10-25% upfront token before approval; banks may require earnest money deposit with the proposal. For larger secured exposures, approvals may insist that legal proceedings continue until full settlement amount is received.

Approval Matrix

Actual delegations differ by lender, but a realistic matrix looks like this:

Exposure / waiver	Approver	Common conditions
Waiver of penal charges up to ₹50,000	Collections manager / branch credit	Account below 30 DPD or service issue.
OTS up to ₹10 lakh outstanding or waiver up to ₹2 lakh	Regional collections head	No fraud flag, full payment within 30 days.
₹10-50 lakh outstanding or waiver up to 25% of dues	Zonal credit/collections committee	Legal opinion and recovery estimate mandatory.
₹50 lakh-₹5 crore or waiver 25-50%	Credit committee / stressed asset committee	Updated valuation, guarantor review, finance sign-off.
Above ₹5 crore or deep haircut	Board committee / delegated Board-level committee	Independent valuation/legal note, auditor visibility.

The matrix should use both rupee waiver and percentage haircut. A 40% waiver on a ₹6 lakh digital loan and a 12% waiver on a ₹6 crore LAP loan have different risk. Maker-checker is essential: the person negotiating with the borrower should not be the sole approver of the waiver.

Waiver Accounting

Collections language often mixes “write-off”, “waive-off” and “settlement”. They are different:

Term	Meaning
Waiver	Lender gives up contractual right to collect specified charges/interest/principal from borrower under approved compromise.
Write-off	Accounting removal of unrecovered exposure from books, with recovery efforts possibly continuing.
Technical write-off	Written off at head office/book level while branch/recovery team still pursues borrower.
Settlement	Contractual closure for agreed amount; may include waiver and write-off.

If a standard asset receives a small charge waiver due to service failure, it may simply reduce income/fees. If an NPA is settled below carrying value, the shortfall hits profit and loss (P&L) through existing provisions and additional write-off. Interest already reversed on NPA is not “lost income” a second time; it may sit in memorandum records. For accounting mechanics see provisioning P&L impact.

Ind AS lenders compute expected credit loss (ECL) and derecognition/modification impact under accounting standards, while RBI prudential norms set regulatory discipline. A system should therefore store gross contractual dues, carrying value, provision held, settlement amount, waiver split by principal/interest/charges, write-off amount, tax flag and recovery-after-write-off ledger.

Borrower Communication And Credit Reporting

The OTS letter should avoid vague phrases like “final settlement subject to management approval” once approved. It should identify loan accounts, borrower and guarantors, settlement amount, exact payment schedule, validity date, payment account, security release timing, CERSAI/ROC charge release steps where applicable, and the reporting consequence. If the lender will report “settled” to Credit Information Companies (CICs), say so. Many borrowers mistakenly assume OTS cleans their bureau record; it does not.

Security release should be conditional. Original property documents, no-dues certificate, hypothecation termination, Form CHG-4 for company charge satisfaction, CERSAI satisfaction and NOC to insurer/RTO should occur only after full settlement realisation and internal closure. For co-lending, both regulated entities must agree because each has a funded share and separate books. The Co-Lending Arrangements Directions, August 6, 2025 require each RE to maintain its share, route transactions through escrow and disclose roles to the borrower; a unilateral OTS by the customer-interface RE without partner consent is an operational and accounting failure.

Failure Of OTS

Broken OTS should have automatic consequences: settlement revoked, contractual dues reinstated less payments received, legal route resumed, and borrower/guarantor notified. Payments already received may be appropriated as per the OTS letter or original agreement. A common control is “no second OTS within 12 months without higher approval”, because repeat settlements train borrowers to delay.

OTS is effective when it is treated as a disciplined recovery product: priced against realistic recovery value, approved by independent authority, booked correctly and communicated honestly.