RBI's Regulatory Framework for Microfinance Loans

• 15 Mar 2022

For Prelims: Reserve Bank of India, Small finance banks, Non-Government Organisations, NGOs, self-help groups, Non Banking Finance Company, Reserve Bank of India, Microfinance institutions

For Mains: RBI's Regulatory Framework for Microfinance Loans and its benefits, Microfinance institutions and its functions

Why 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.

• The guidelines will take effect 1^st April 02022.
• Earlier in 2021, the RBI proposed to lift the interest rate cap on MFI.

What are the Highlights of the Guidelines?

• Definition of a Microfinance Loan:
  • The RBI revised the definition of a microfinance loan to indicate a collateral-free loan given to a household having annual income of up to Rs. 3 lakh.
    • Earlier, the upper limits were Rs.1.2 lakh for rural borrowers and Rs.2 lakh for urban borrowers.
• For Regulated Entities (REs):
  • As per the revised norms, Regulated Entities (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 loans.
  • Each RE shall disclose pricing-related information to a prospective borrower in a standardised, simplified factsheet.
• Penalty on Microfinance Loans:
  • There shall be no prepayment penalty on microfinance loans.
  • Penalty, if any, for delayed payment shall be applied on the overdue amount and not on the entire loan amount.
  • Any change in interest rate or any other charge shall be informed to the borrower well in advance and these changes shall be effective only prospectively.
• Recovery of Loans:
  • RE would have to put in place a mechanism for identification of the borrowers facing repayment-related difficulties, engagement with such borrowers and providing them necessary guidance about the recourse available.
    • To ensure due notice and appropriate authorisation, the RE will provide the details of recovery agents to the borrower while initiating the process of recovery.

What will be the Applicability of the Guidelines?

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

PYQ

In India, which of the following have the highest share in the disbursement of credit to agriculture and allied activities? (2011)

(a) Commercial Banks
(b) Cooperative Banks
(c) Regional Rural Banks
(d) Microfinance Institutions

Ans: (a)

What will be the Benefits?

• Expand Market Opportunity: The revision of the income cap to Rs. 3 lakh will expand the market opportunity and interest rate cap removal will promote risk-based underwriting.
• Encourage Healthy Competition: It will go a long way in harmonising the regulatory framework for different types of lenders, encouraging healthy competition and enabling customers to make an informed choice regarding their credit needs.
• Financial Inclusion: The new framework will help scale the industry further, ensure better risk mitigation and financial inclusion.
• Level Playing Field: It will create a level playing field and both borrowers and lenders will now have options.
• Cater the Needy: It will safeguard the interests of the borrowers and help the sector to cater to the needy borrowers.

What is a Microfinance Institution?

• MFI is an organisation that offers financial services to low income populations.
  • These services include microloans, microsavings and microinsurance.
• MFIs are financial companies that provide small loans to people who do not have any access to banking facilities.
• In most cases the so-called interest rates are lower than those charged by normal banks, certain rivals of this concept accuse microfinance entities of creating gain by manipulating the poor people’s money.
• Microfinance sector has grown rapidly over the past few decades and currently it is serving around 102 million accounts (including banks and small finance banks) of the poor population of India.
• Different types of financial services providers for poor people have emerged - Non-Government Organisations (NGOs), cooperatives, community-based development institutions like self-help groups and credit unions, commercial and state banks, insurance and credit card companies, telecommunications and wire services, post offices, and other points of sale - offering new possibilities.
• NBFC-MFIs in India are regulated by the Non-Banking Financial Company -Micro Finance Institutions (Reserve Bank) Directions, 2011 of the Reserve Bank of India (RBI).

PYQ

Microfinance is the provision of financial services to people of low-income groups. This includes both the consumers and the self-employed. The service/ services rendered under microfinance is/are (2011)

1. Credit facilities
2. Savings facilities
3. Insurance facilities
4. Fund Transfer facilities

Select the correct answer using the codes given below the lists:

(a) 1 only
(b) 1 and 4 only
(c) 2 and 3 only
(d) 1, 2, 3 and 4

Ans: (d)

Source: TH