RBI’s Regulatory Framework for Microfinance

In News

• Recently, the Reserve Bank of India (RBI) allowed Microfinance Institutions(MFI) the freedom to set interest rates they charge borrowers, with a caveat that the rates should not be usurious.
  • These guidelines will take effect 1st April 02022.
  • Earlier in 2021, the RBI proposed to lift the interest rate cap on MFI.

About

• Banks remain the largest microfinance lenders with an about 40% market share, followed by NBFC-MFIs, small finance banks, other NBFCs and NGOs.

Changes Made by RBI

• The margin cap on lending rates was introduced a decade back to stop NBFC-MFIs from charging usurious rates.
  • The RBI now offered freedom in fixing board-approved lending rates, but warned that those should not be usurious and that the rates would come under its supervisory scrutiny.
• Revised the definition: The RBI raised the annual household income to Rs 3 lakh for a collateral-free loan to be classified as microfinance loan.
  • So far, such loans given to households with an annual income of Rs 1.25 lakh in rural India and Rs 2 lakh in urban and semi-urban areas were classified as microfinance loans.
  • The RBI has revised the minimum requirement for microfinance loans for NBFC-MFIs to 75 per cent assets from 85 per cent earlier.
• Unsecured loans: by several other non-banking finance companies will also be considered as micro loans now.
  • All such loans, irrespective of the end-use, will come under this classification.
• It capped the monthly loan repayment of borrowers that should not exceed half the monthly household income.
  • The move is aimed to protect borrowers from falling into a debt-trap.
• No penalty: No loan can be linked to a lien on the deposit account of the borrower. There will be no prepayment penalty on microfinance loans.
• RBI removed certain exemptions applied to not-for-profit entities with Rs 100 crore and directed them to register as NBFC-MFIs within three months to bring them within its ambit.
• RBI has asked the lenders to prominently display the minimum, maximum, and average interest rates charged on loans in all its offices.
• Increased the maximum limit: The RBI has revised the criteria for NBFCs who do not qualify as NBFC-MFIs to extend microfinance loans up to 25 per cent of their total assets from 10 per cent earlier.

What was the need? / Significance of the move

• Uniform regulatory platform: Changes are made to put all microfinance lenders including banks, small finance banks, and NBFC and not-for-profit companies on a uniform regulatory platform.
• Reducing the pressure: The rule of a 50% fixed obligation to income ratio being applied uniformly to all categories of borrowers will reduce the pressure, lower delinquency and lower credit costs for the industry.
• Risk-based pricing: The removal of the interest rate cap would allow these lenders to go for risk-based pricing.
• Increasing the outreach: Raising the household income threshold will help MFIs reach many more households. With a level playing field and increased competition, the end customers will benefit.
• Credit history: Lending rate henceforth may be a little higher for new lenders without credit history, while lenders with robust repayment track record may enjoy softer rates.
• Over-indebtedness: The harmonized regulations will address concerns related to the over-indebtedness of microfinance borrowers.

Source: ET