Definition
Contingency Provision (Banking)
A contingency provision is a buffer banks and NBFCs hold against unforeseen risks, such as a macroeconomic shock, beyond provisions for identified bad loans.
Lenders built large contingency provisions during the COVID-19 period to guard against expected stress that had not yet crystallised into NPAs. These buffers cushion the profit and loss account when defaults eventually materialise.
Contingency provisions reflect prudent, forward-looking management. When the anticipated stress does not fully appear, banks may write back part of these provisions, boosting reported profit, so analysts track changes in contingency buffers to understand the quality of earnings.
Related terms
- Provision Coverage Ratio (PCR)The Provision Coverage Ratio is the proportion of a bank's gross non-performing assets covered by provisions, showing how well it is buffered against loan losses.
- Credit CostCredit cost is the provisioning a bank or NBFC books for bad and doubtful loans during a period, usually expressed as a percentage of average advances.
- Expected Credit Loss (ECL)Expected Credit Loss is a forward-looking provisioning model under Ind AS 109 that estimates likely loan losses based on probability of default, not just incurred defaults.
- Floating ProvisionsFloating provisions are general buffers banks set aside over and above specific loan-loss provisions, usable against future contingencies with regulatory approval.
Plain-English explainer from The Dispatch Investors Encyclopedia. General information, not financial advice.