IRDA Chairman TS Vijayan at an event in Mumbai. (Photographer: Harsunit Pal Chauhan)

IRDA Frowns On Plan To Set Up LIC-Led Credit Guarantee Fund

  • IRDA sees conflict of interest in LIC-led credit guarantee fund
  • IIFCL likely to lead fund with LIC and banks holding minority interest

The government’s plan to set up a credit guarantee fund led by the Life Insurance Corporation of India (LIC) has failed to take off, said two people familiar with the development. The plan is now being reworked to ensure that India’s largest insurer only has a minority stake in the venture.

As part of the Union Budget announced earlier this year, the government had said that LIC will set up a “dedicated fund to provide credit enhancement to infrastructure projects.” The fund was intended to help raise the credit rating of bonds floated by infrastructure companies and make it easier for investors to invest in such bonds.

The insurance regulator, however, has raised concerns as it sees a conflict of interest in LIC providing credit enhancement to bonds that it may itself invest in, said the first person quoted above.

Credit enhancement is a process through which a highly-rated entity provides part guarantee to a bond issue being floated by another firm in a return for a fee. This guarantee helps companies improve their rating and raise funds at a cheaper rate.

In this case, the LIC-led entity would use its AAA-rating to help improve the rating of infrastructure companies for a fee. However, LIC is also a large investor in infrastructure bonds. As such, a credit enhancement provided by the LIC-led entity would stand to benefit the investment portfolio of LIC which would be a clear conflict of interest.

Emails sent to IRDA and LIC on Tuesday seeking comments were not answered.

According to the second person quoted above, the government is now working on a different plan as part of which LIC would only have a minority share in the credit guarantee firm which is likely to be led by India Infrastructure Finance Company Ltd (IIFCL). In addition, a number of banks may also hold minority stake in the venture.

The shareholding will have to be structured in a way to ensure that the entity is AAA-rated which would needed for meaningful credit enhancement, said the first person.

Shareholding would not necessarily be a hindrance to the rating. Since IIFCL is a AAA rated entity, the fund could still enjoy the highest rating. 
Amit Tandon, Founder and Managing Director, IiAS

Will A Credit Guarantee Fund Finally Take Off?

This is not the first time that India has attempted to put in a place a credit guarantee or bond guarantee fund.

The idea of such a fund has been in the works in different forms since at least 2012 when the Asian Development Bank submitted a technical assistance report on how such a fund should be structured. A final report prepared by Crisil Infrastructure Advisory and ADB was submitted in April 2015.

At present IIFCL and banks can provide partial credit guarantees to bond issues. However, the product hasn’t picked up in a big way. Last month, the RBI increased the limit upto which banks can provide partial credit enhancement to bond issues to 50 percent from the previous limit of 20 percent. Each individual bank, however, can still guarantee only upto 20 percent of the issue size.

A credit guarantee fund would add to the availability of such credit enhancement services in the market.

“On paper, such a fund would be very useful particularly at the project execution stage when you need to access cheaper financing. Whether it works on the ground will depend on how the fund is structured and managed,” said Tandon.