Movable assets as collateral against bank loans

Many countries across the world use movable properties and assets as collaterals against bank loans. The logic behind this is that it widens the opportunity for a small or medium enterprise to access bank credit.

Movable property or asset is one of the prime securities for banks and financial institutions in many countries. Countries like Bhutan, Sri Lanka and Pakistan in South Asia and Kenya and Zimbabwe in Africa have already introduced necessary legal structures in this regard by implementing various Acts.

In Bangladesh, this is a new concept although banks and financial institutions can take movable security in some cases. The banks and financial institutions in the country normally take immovable properties and assets as collaterals against the loans they disburse. Now, there is an initiative to introduce a comprehensive legal framework to make the movable assets as valid collaterals against loans. With the financial support from Japan International Cooperation Agency (JICA), Bangladesh Bank has prepared a draft Act. So, it is the right time to shed some light on the issue and start wider debate and discussion.

SOME BASIC CONCEPTS: Collateral is a property or an asset that a borrower generally offers as a security to a lender. If the borrower fails to repay the instalment of the loan or the entire loan, the lender is authorised to confiscate the collateralised property or asset to recover the loan or loan-related losses.

Now, there is a difference between property and asset. Properties are owned by persons. These could be both movable and immovable. Movable properties are those which can be moved from one place to another - however large they may be (i.e. heavy machinery). The only immovable properties are land and buildings.

Properties used in the course of business would become assets. If a house is built and used for living in it, it would be a property. But if the same house is used as an office, it would become an asset. So, a motor vehicle or a computer could be a property or an asset, depending on whether they are used for personal purposes or for business or professional uses.

Assets can be fixed or current as well as tangible or intangible. Fixed assets are those that are held for use in course of generating income. Current assets, on the other hand, are the assets a business owns which are either cash, cash equivalents, or are expected to be turned into cash during the next one year. Cash and bank balances or account receivables are examples of current assets.

Fixed assets do not necessarily mean immovable assets. They can be both movable and immovable. While land and buildings constitute immovable assets, plant and machinery, furniture, equipment, prefabricated building etc constitute movable assets. All of these are also fixed assets.

Tangible assets are those which can be touched, seen and felt. These assets have physical existence. Intangible assets are those which do not have physical existence but have a high commercial value. Patents, copyrights, licences, rights over waterways etc are intangible assets.

Both the properties and the assets are eligible for collateral.

BANGLADESH SITUATION: Senior bankers and financial market experts, while discussing with the authors on the subject, mentioned that banks in Bangladesh now disburse collateral-free loans like personal loans, consumer loans, SME loans, women entrepreneur loans etc. Again, financial institutions are now accepting Fixed Deposit Receipt (FDR), vehicles, equipment and machinery as collateral security in financing. The title of the property is deemed to be liquid security since it is transferred to the financial institutions for the entire term of the lease or credit finance.

Thus, the use of movable asset or property as collateral is not a unique idea in the financial sector of the country. What's important is to strengthen the legal framework to repossess these assets and liquidate to recover loans.

Some senior bankers also argue that under the socio-economic and financial system of Bangladesh, banks in the country accept two types of securities: (I) primary and (II) collateral. Movable properties generally fall into the primary security category, and the immovable properties fall under the collateral category. The latter is taken as additional coverage for realising bank loans. So, both types of securities are well in place in Bangladesh. They also argue that as both types of the securities are already prevalent as cover against the loan, it is not needed to be introduced afresh.

RISKS & OPPORTUNITIES: The core idea behind the proposed Act to make movable asset as collateral is to widen and diversify the securities and collaterals for formal financing. It is also likely to facilitate widening the portfolio of the loans and make it an effective tool for financial inclusion.  However, it is also not devoid of risks. When the areas of portfolio loans come up for discussion, it also brings the issue of growing default loans in the banking sector.

The banking system has already faced increased non-performing loans (NPL), especially by the state-owned commercial banks. According to the central bank statistics, gross NPL stood at 10.7 per cent of the total outstanding loan of the banking sector at the end of September 2017 which was 8.8 per cent at the end of 2015 and 9.2 per cent at the end of 2016. The ratio in the state-owned commercial banks reached 29.3 per cent at the end of September 2017. The ratio was 25.2 per cent at the same period of 2016 and 25.1 per cent at the end of 2016.

Moreover, the country's banking sector has been suffering from a series of misappropriation of funds and loan scam for the last couple of years. Financial governance has become very week now and the whole financial sector has turned vulnerable.

In such a situation, the important question is whether movable assets as collateral against the loans will further worsen the current fragile banking sector.

Using movable assets as collateral against loans has some risks. For example, the real valuation of intangible assets is difficult and is likely to be overstated. It could be tough to find out a buyer in case of default borrowing. Again, realisation of intangible assets also requires extra expense.

Nevertheless, many bankers believe that this will widen the opportunities and help utilise the idle funds. What's important is a proper and clear guideline on getting intangible assets as collateral security, uniformity in the valuation of intangibles such as goodwill. Goodwill or a patent cannot be converted into cash. Only when the entire organisation is valued, goodwill and patent can be termed as assets. In that sense, these assets are ambiguous. It is because physically movable assets are visible, non-physical or intangible assets are not visible per se.

The above discussion makes it clear that movable asset as collateral against bank loan is neither risk-free, nor impossible to introduce in Bangladesh. However, discussions and debate will help better understanding of the subject. The central bank may go for an extensive study to find out the possible impact on the overall loan portfolio of the banking sector as well as on the economy. Experiences from other countries may also be taken into consideration prior to finalising the Act.

Asjadul Kibria is available at [email protected] and Jasim Uddin Haroon at [email protected]