Mumbai: The banking regulator’s move to cap margins of microfinance institutions (MFIs) at 12% and mandate a minimum two-year repayment period for all loans above Rs 15,000 is likely to hurt smaller firms giving out tiny loans to poor borrowers.
The new regulations, spelled out in the Reserve Bank of India’s (RBI) annual monetary policy review on Tuesday, said banks have to ensure MFIs charge customers a maximum interest rate of 26% and operate within a margin of 12% if the loans are to be classified as priority sector loans.
Smaller MFIs, whose operating costs are high, may find it difficult to comply with these rules.
Once the RBI regulations come into force, they are likely to supersede state rules such as the recent Andhra Pradesh law.
The central bank also barred borrowers whose annual household income is above Rs 60,000 from accessing micro-loans and said the total indebtedness of a borrower should not exceed Rs 50,000.
MFIs typically lend at 24-32% interest rates for loans to be repaid in a year, compared with the 9-14% rate they borrow from banks. The Indian MFI industry is estimated to be worth around Rs 22,000 crore.
MFI officials said smaller lenders will now find it difficult to stay afloat and will have to raise large amounts of capital to maintain margins.
Also, giving small-ticket loans to poor borrowers for a minimum period of two years could increase the probability of defaults, they said.
“Smaller MFIs may not be able to survive with the margin cap of 12% and an interest rate cap of 26%,” said Chandra Shekhar Ghosh, chairman and managing director of Bandhan Financial Services Pvt. Ltd. “This would mean that the MFI will be forced to borrow at minimum 14% interest rate from banks even if they get cheaper loans.”
“Some of these MFIs may even be forced to focus on other businesses,” he said. Bandhan has loaned Rs 2,500 crore to 3.6 million borrowers as on 31 March.
Allowing a mandatory two-year repayment tenure could encourage borrowers to use the money for non-productive activities, said Samit Ghosh, managing director of Ujjivan Financial Services Pvt. Ltd.
“If we are financing agriculture loans, it is not practical to recover the loan in two years as the loan is structured for a one-year circle in line with the income of the borrower,” he said. “In the case of the urban poor, they tend to use the amount for non-productive use that again leads to defaults.”
Ujjivan had a loan book of Rs 650 crore and a million customers at end-March.
Prohibiting MFIs from accepting collateral for relatively larger loans also increases the risk of lending, he said.
Announcing the measures, RBI said micro-loans will be classified as priority sector loans provided they comply with the proposed rules. In line with the Malegam Committee recommendations, it will appoint a committee to re-examine existing norms on priority sector lending.
Banks have to extend 40% of loans to agriculture, exports and some other sectors as a priority. When they fall short, they can lend to MFIs to meet this target, making it easier for the latter to borrow.
Vijay Mahajan, president of industry lobby Microfinance Institutions Network and chairman of micro-lender Basix, said a system should be in place to check the credentials of borrowers before giving them loans.
“MFIs should be able to lend to the borrower only after checking his credentials through a credit bureau. Also, the RBI is not talking about how around Rs 10,000 crore worth of loans, which have already been defaulted by around one crore Andhra Pradesh borrowers, can be recovered,” Mahajan said.
However, the overall policy directions will help the sector to restore confidence in the ailing industry, he said.
More than one-fourth of the Indian microfinance industry is located in Andhra Pradesh, which was plunged into a crisis in October when the state government passed a law to control alleged coercive loan recovery practices by MFIs.
The law restricted MFIs from conducting business at doorsteps and made it mandatory for them to get state approval for any second loan to an individual borrower.
Following this, MFIs in the state saw collections falling to 10-20%. Banks stopped lending to the MFIs due to the heightened uncertainty.