The Reserve Bank of India (RBI) has removed pricing caps on microfinance loans given by financial institutions and has laid down other new guidelines that will bring banks and non-bank microfinance lenders on a level playing field.

The interest rates and other charges, however, must not be usurious in nature. These charges are subject to RBI supervision.

“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 microfinance,” the RBI said in a circular issued on Monday. 

The RBI has raised the annual household income to Rs 3 lakh for a collateral-free loan to fall under the microfinance category. This was earlier for annual incomes of Rs 1.25 lakh in rural India and Rs 2 lakh in urban and semi-urban areas. A household is defined as consisting of husband, wife and their unmarried children. The loan shall not be linked to a lien on deposits held by the borrower.

In order to ease the monthly repayment burden of borrowers, the RBI has fixed a debt-to-income ratio cap. Borrowers will need to repay a monthly amount which is not more than 50% of their monthly household income. The 50% repayment limit shall account for principal and interest payments of all loans, including the loan under consideration. This is expected to reduce instances of overlending to borrowers.

“The guidelines ensure uniformity across regulated entities, irrespective of their legal status. The fact that loans given to households with income up to Rs 3 lakh are considered as MFI loan is useful. Also, limiting the maximum repayment value to 50% of the monthly household income will ensure the financial safety of the customers. It will guard against over indebtedness. SROs can come up with a common framework for assessing household income,” said ESAF Small Finance Bank managing director and CEO K Paul Thomas.

There will be no pre-payment penalty on microfinance loans. Penalty for delayed payment shall be applied on the overdue amount and not on the entire loan amount, the RBI said.

As per the new guidelines issued by the RBI on Monday, all microfinance lenders will have to set up a board-approved policy for pricing of loans.

This policy must contain the following:

. A well-documented interest rate model or approach for arriving at the all-inclusive interest rate 

. A description of all the components of the interest rate, such as cost of funds, risk premium and margin

.The range of spread of each component for a given category of borrowers

.A ceiling on the interest rate and all other charges applicable to the micro and all other charges applicable to the microfinance loans

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.

Lenders must describe the details of the interest rate and other charges levied to borrowers through a simple fact sheet. Charges not detailed in the fact sheet must not be levied on the customers, the RBI said.

Under the earlier guideline, microfinance lenders had to adhere to a margin cap of 10% if they had assets of Rs 100 crore and above. Other microfinance lenders were required to follow a margin cap of 12%.

 The new guidelines will come into effect from 1 April.

“This new framework, which is a result of a comprehensive review, will help the industry scale further, and ensure better risk mitigation and stronger financial inclusion,” said Bandhan Bank managing director and CEO Chandra Sekhar Ghosh.

Lenders and their agents must not engage in any harsh recovery measures against the borrowers, the RBI said. 

Micro-financiers must also not engage in using abusive language; persistently calling borrowers before 9 am or after 6 pm; harassment of coworkers, friends and family of the borrowers; publishing names of borrowers; and misleading borrowers on extent of debt and consequences of non-repayment.

A lender, qualifying as a Non-Bank Finance Company-Micro Finance Institution can extend up to 25% of the loan book to borrowers outside the microfinance category. Earlier, this limit was set at 15%. Lenders not classified as NBFC-MFI can extend up to 25% of their loan book to microfinance borrowers, from the earlier cap of 10%.

The RBI has 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. “Mandatorily submitting household incomes to credit bureaus will improve data quality. Bringing Rs 100-crore plus not-for-profit companies on par with other players will bridge the regulatory gaps. The Reserve Bank has taken a holistic approach to regulate the sector, irrespective of the legal status or mode of operations,” said Thomas.