Due Diligence. Know your co-operative bank

In March this year, the RBI had placed The Kapol Co-operative Bank Ltd under directions, limiting withdrawals from deposit accounts to ₹3,000. The RBI also imposed restrictions on the bank’s lending activity. The curbs were imposed until the bank’s financials improved.

Kapol Co-operative Bank is not an isolated case. While it may not be right to paint all co-operative banks with the same brush, there are a few points to know before parking money in your friendly neighbourhood co-operative bank.

Co-operative banks are registered under the Co-operative Societies Act. Thankfully, banking laws were made applicable to cooperative societies in 1966. Since then, banking-related functions are regulated by the RBI and management-related functions by the respective State Governments/Central Government. However, Primary Agricultural Credit Societies fall outside the purview of the Banking Regulation Act, 1949 and, hence, are not regulated by the RBI.

Many of the regulatory norms applicable to a commercial bank also apply to cooperative banks, which is comforting. For instance, cooperative banks too have to set aside 4 per cent of their total deposits as cash reserve ratio (CRR) with the regulator. They also need to invest another 20 per cent (now) of their total deposits in government securities, which are highly liquid and can be easily pledged (or sold) to raise money.

Despite the regulatory checks in place, weak corporate governance has been one of the major factors that has led to bank failures. The RBI does not have adequate control on the management of these banks.

At present, no powers are available with the RBI for constituting boards of Urban Co-operative Banks (UCBs), removal of directors, supersession of BoDs, auditing of UCBs and winding up and liquidation of UCBs.

However, such powers for commercial banks are vested with the RBI, according to the Malegam Committee report on UCBs.

So, what you can do as a depositor is to avoid being caught by sudden curbs imposed by the RBI on your bank.

One of the biggest draws for people to park money in co-operative banks is the relatively higher rates offered on deposits by these banks than commercial banks. Let’s take the case of Kapol Bank.

According to the information on the website (as on April 2016), the bank offered 8 per cent on deposits for one to two years, when other leading commercial banks offered about 50 basis points lower at 7.5 per cent. Before getting swayed by attractive rates, it may be wise to look at some key financial metrics to gauge the soundness of your bank.

Most websites of these co-operative banks do disclose financial statements. For UCBs, the RBI provides bank-wise data every year on certain key metrics which makes it even easier to filter the good co-operative banks or at least the ones that can be avoided due to weak financials.

The first key parameter to watch out for is the capital position of the bank. The key aspect of a bank’s capital is its ability to absorb losses in the normal course of operations.

Since much of the banks’ activities are funded by deposits, and have to be repaid at a future date, it is imperative that a bank carries sufficient amount of capital to remain viable. Co-operative banks have to maintain a minimum capital adequacy ratio (CRAR) of 9 per cent. According to the data put out by the RBI, as of March 2016, three UCBs — Amanath Co-operative Bank Bangalore, The Kapol Co-operative Bank Mumbai and Mapusa Urban Co-operative Bank of Goa, Mapusa — had negative CRAR. This could serve as a warning signal for depositors.

Second, profitability, which can be measured by the return on assets (ROA) and is disclosed by the RBI as one of the financial metrics, can also give an indication of the state of affairs at your bank.

Aside from Kapol, Rupee Co-operative and Akola Urban Co-operative Bank had negative ROA as of March 2016. A reading of 1 per cent and above is usually considered sound (after considering all other parameters).

Finally, bad loans too can have far reaching implications on the financial health of your bank. These are loans where a borrower is unable to repay what he or she owes to the bank. Technically, a bank classifies such loans as non-performing assets (NPAs), and is then required to set aside a portion of its earnings as provisions. Hence, a sharp rise in NPAs can erode a bank’s profits.

One of the many safety nets in place to protect depositors is the deposit insurance under the Deposit Insurance and Credit Guarantee Corporation of India (DICGC).

All State, Central and UCBs are covered under the DICGC. But it is important to remember that each depositor is insured only up to ₹1 lakh (for both principal and interest).

Hence, ensure you apportion your deposits in different banks, instead of putting all eggs in one basket.

So far in India, beneficiaries of the deposit insurance system have mainly been the urban co-operative banks, many of which fail every year.

During 2015-16, DICGC settled claims for ₹47 crore in respect of 17 co-operative banks.

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