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In any group of loans, banks expects there can be some loans that do not perform as expected. These loans may be delinquent on their repaymeStants repayments or default of the entire loan. This can create a loss to the bank on expected income. Therefore, banks can set aside a portion of the expected repayments from all loans in its portfolio to cover all or a portion of the loss. In the event of loss or in critical situations banks can use the amount set aside to cover the loss instead of taking a loss in its cash flow. This loan loss reserve acts as an internal insurance fund.
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