The Reserve Bank of India (RBI) on Monday proposed to lift the interest rate cap on microfinance institutions (MFIs), and said all micro loans should be regulated by a common set of guidelines irrespective of who gives them.
Proposing a debt-income ratio cap, the RBI said the loans should be given in such a way that the payment of interest and repayment of principal for all outstanding loans of a household at any point of time should not cross 50 per cent of the household income.
This debt-income cap, the RBI felt, would obviate the need for having multiple restrictions being faced by MFIs only.
There are no micro loans-specific strictures for lenders such as banks and non-banking financial institutions (NBFCs), even as they are responsible for extending 70 per cent of the microfinance loans.
In a consultative paper on its website, the RBI, therefore, proposed a uniform set of rules for micro loans. This is also because, even as banks have a much lower cost of funds, they charge the same interest rate for such loans as MFIs do, which has become the industry standard, defeating the purpose of such loans.
The RBI wants to free MFIs from such obligations and create a level playing field. “There would be no ceiling prescribed for the interest rate. However, while doing so they (MFIs) should ensure that usurious interest rates are not charged. The intention is to enable the market mechanism to bring the lending rates downwards for the entire microfinancesector,” the RBI paper said.
Now, all regulated entities must display the minimum, maximum and average interest rates charged by them on microfinance loans. This would be subject to the RBI’s supervisory scrutiny.
P Satish, executive director of Sa-Dhan, a self-regulatory body of MFIs, welcomed the RBI’s willingness to discuss such critical issues after almost a decade.
“Now the onus is on the institutions and their boards to fix up policies for lending and pricing. It means that the RBI feels institutions have matured to such a level that they will be able to make decisions that keep the interest of borrowers in mind. This is a watershed moment as far as the regulatory framework for the microfinance sector is concerned,” Satish said.
Satish said capping the debt-income ratio was a “scientific way” of calculating the indebtedness, and “this itself will restrict the amount that can be given as loans to each borrower by a lender”.
Alok Misra, CEO & director, MFIN, said, “The focus on responsibility of boards for promoting good governance and sound operational policies is a welcome step. We expect the microfinance sector to witness a paradigm shift, triggering a huge fillip to the cause of financial inclusion when it matters the most, especially in these challenging times.”
MFIs are currently barred from lending to a customer a third loan if he or she has already taken loans from two MFIs. However, there are no such restrictions for banks, which go ahead and give further loans, trapping the borrower in indebtedness.
The RBI sought to lift this cap altogether as a cap on indebtedness negates the impact of such multiple lending.
Under the RBI rules for MFIs, a microfinance borrower is identified by annual household income not exceeding Rs 1.25 lakh for rural and Rs 2 lakh for urban and semi-urban areas. The RBI said the same criterion should be extended to all regulated entities for the purpose of the common definition.
“A common definition of microfinance loans for all regulated entities will ensure a level playing field, making it entity-agnostic,” Misra said.
“The intention of the proposed regulation is to ensure that the household is not strained,” the central bank said in its paper. Considering the low savings of these households, at least half of their income should be available to meet their other expenses, it said.
Besides, a debt-income cap of 50 per cent would also mean that earlier restrictions on MFIs such as having a maximum loan limit of Rs 1,25,000, and 24 instalments for any loan above Rs 30,000 can be dispensed with.
This threshold would be applicable from the date of introducing the regulation, but the existing loans that are over 50 per cent of the household income will be allowed to mature. However, no new loans can be given till the limit is complied with.
There would be no collateral allowed for micro loans. All the entities must provide timely and accurate data to credit bureaus.
There can be no prepayment penalty, while all entities have to permit the borrowers to repay weekly, fortnightly or monthly instalments as per their choice. This is to ensure that the repayment pattern is designed to suit the borrower’s repayment capacity and preference.