TMT LawsRBI Master Direction on Microfinance Loans in India – will it help Empower the Rural Sector of India?

INTRODUCTION

Microfinance is an economic tool designed to promote financial inclusion, and empower poor and low-income households to come out of poverty, increase their income levels, and improve their overall living standards.

In simple words it is a concept introduced for the people who faces difficulty in accessing formal financial framework of India. Under this concept financial services such as small loans, setting up bank accounts, micro-insurance products, pensions and other financial services are provided to poor and low-income households to empower them in a consistent and legitimate way.

In the recent past, the microfinance sector of India has witnessed phenomenal growth. However, the focus for developing the microfinance sector has largely remained on expanding the outreach of microfinance programme with little attention to the regulatory framework of the microfinance sector in India.

The Reserve Bank of India (“RBI”) considering the constantly evolving milieu in the financial sector, and the high need for a regulatory framework introduced the Master Directions for Microfinance Institutions (“MFIs”) termed as the Reserve Bank of India (Regulatory Framework for Microfinance Loans) Directions, 2022 (“Master Direction”), which shall be applicable to  all entities (banks, small finance banks and NBFCs) from 01.04.2022.

In this article we attempt to discuss about the Regulatory Framework introduced for the MFIs in India and how it will help strengthen the Rural Sector of India. 

APPLICABILITY

The RBI Master Direction will be applicable to all the institutions referred as Regulated Entities (“REs”), which includes –

• • All Commercial Banks (including Small Finance Banks, Local Area Banks, and Regional Rural Banks) excluding Payments Banks;

• • All Primary (Urban) Co-operative Banks/ State Co-operative Banks/ District Central Co-operative Banks; and

• • All Non-Banking Financial Companies (including Microfinance Institutions and Housing Finance Companies).

NET OWNED FUND REQUIREMENT

QUALIFYING ASSET CRITERIA 

The Reserve Bank has revised the maximum limit for which an NBFC excluding NBFC-MFIs and NBFC-MFIs can grant microfinance loan that is –

• NBFC other than NBFC-MFI can issue Microfinance Loans up to 25% of their total assets.

• The NBFC-MFI can issue Microfinance Loans up to 75 per cent of the total assets.

THE CHANGES

A. Definition of Microfinance Loans

Initially the upper limit for microfinance to be availed by a Rural borrower was Rs. 1.2 Lakh and for Urban borrowers was Rs. 2 Lakh.

However, the RBI in order to widen the scope of microfinance loans in India revised the definition of a microfinance loan. Now as per the revised definition, a collateral-free loan given to a household having annual income of up to Rs. 3 lakh irrespective of end use and mode of application/ processing/ disbursal will fall within the ambit of Microfinance loan in India.

B. Assessment of Household Income

The RBI has made it mandatory for the Board of Directors of the regulated entities to put in place a board-approved indicative assessment methodology for assessment of household income, which cover areas like composition of household, source of incomes etc.

The methodology specifies following parameters to be taken into consideration while construing Income of Household –

• • Household profile – includes information about earning members and non-earning members, amenities, assets of household, type of accommodation (owned/rented)

• • Household income – Primary and other sources of Income

• • Household expenses – Regular and irregular expenses (over last one year)

C. Compliances for Regulated Entities

1. All REs engaged in micro finance mandatorily have to submit the household income information to the Credit Information Companies after assessing details such as declaration by borrower(s), their bank accounts and local enquiries to ensure compliance with the level of indebtedness.

2. REs should put in place a board-approved policy regarding pricing of microfinance loans, a ceiling on interest rate and all other charges applicable to microfinance loan

3. REs are required to disclose pricing related information to a prospective borrower in a standardized and simplified factsheet.

4. Each RE shall prominently display the minimum, maximum and average interest rates charged on microfinance loans in all its offices, in the literature and details on its website.

5. REs shall communicate any change in interest rate or any other charge to the borrower well in advance.

D. Guidelines for Loans

1. No prepayment penalty can be charged on microfinance loans and any penalty if any, for delayed payment shall be applied on the overdue amount and not on the entire loan amount.

2. REs shall have in place a mechanism for identifying borrowers facing repayment related difficulties, and thereafter shall engage with such borrowers and providing them necessary guidance about the recourse available.

3. REs shall undertake recovery of loan at a designated/central designated place decided mutually by the borrower and the RE.

4. REs or its agent shall not engage in any harsh methods towards recovery.

5. REs shall have a dedicated mechanism for redressal of recovery related grievances and the details of this mechanism shall be provided to the borrower at the time of loan disbursal.

AMLEGALS REMARKS 

The guidelines are positive for NBFC-MFIs because it levels the playing field for them and it allows the board to create a policy that prices the credit risk adequately. The RBI has made very specific provisions for borrowers/consumers of Money Market which seems to be similar under every other Regulation/Master Direction issued, such as provisions for conduct of recovery agent, reporting to Credit Information Companies, Fair Practice Code etc.

The new framework will help to scale the industry and harmonize the regulatory framework for different types of lenders which ultimately will encourage healthy competition. It will safeguard the interests of the borrowers and help the sector to cater the needy borrowers.

– Team AMLEGALS assisted by Mr. Prakhar Gupta (Intern)

For any queries or feedback, feel free to get in touch with tanmay.banthia@amlegals.com or himanshi.patwa@amlegals.com.