Effect of Non-performing Loans on Interest Income of Commercial Banks in Kenya

Abstract

Non-performing loans (NPLs) are not only argued to adversely affect the financial performance of financial institutions, but they also have other far reaching implications. This is due to the fact that, other potential borrowers may fail to access credit facilities since part of the funds that could be extended as loans by financial institutions are still tied to Non-performing loans. Banks in Kenya have had a high rate of loan default from the borrowers which have caused significant losses to the banks in terms of interest income. Weak net interest income is of particular concern for the long term viability of commercial banks. The heart of the banks’ business model is lending to local businesses and households, which makes net interest income the largest source of core operating revenue. This study was therefore guided by objective that sought to; determine the effect of non-performing loans on the interest income of commercial banks in Kenya. Data was collected from secondary sources such as published financial statements of commercial banks between years 2011 to 2014. The researcher adopted a descriptive research design and data was analyzed using quantitative methods. Non-performing loans have been found to influence banks annual interest on income which in turn results to poor financial performance by commercial bank institutions in Kenya. Credit reference bureaus were introduced and have significantly resulted to reduction levels of non-performing loans. It has been however noted that increase in the rate of non-performing loans increases risks of banks being put under statutory management. Computed MLR statistics showed that 93.3% of interest on income was directly influenced by increase in non-performing loans rate. This showed that performance of commercial banks relied on the total interest rate paid through loans.