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RBI regulates penal charges on loans to ensure fair lending

BNE News Desk


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Mumbai: The Reserve Bank of India (RBI) has issued a draft circular for regulated entities to ensure transparency in the disclosure of penal charges and interest rates in loan accounts.

The circular has been floated to ensure fair lending practices and prevent these regulated entities from using penal interest and charges as revenue enhancement tools over and above the contracted rate of interest.

RBI, in its draft circular, said, “Penal charges and interest are essentially negative incentives used by lenders to ensure credit discipline among borrowers and to ensure fair compensation for the lender. However, supervisory reviews have revealed that many regulated entities have been using divergent practices when it comes to charging penal interest and charges, leading to customer grievances and disputes.”

The new rules would be applicable to all banking entities regulated by RBI. These rules will not apply to credit cards that are covered under product-specific directions, RBI said.

Some of the highlights in the draft circular are:

  1. RBI has observed that many Regulated Entities use penal rates of interest, over and above the applicable interest rates, in case of defaults/non-compliance by the borrower with the terms on which credit facilities were sanctioned.
  2. RBI says that the “intent of levying penal interest/charges is essentially to inculcate a sense of credit discipline among borrowers through negative incentives and to ensure fair compensation to the lender. Penal interest/charges are not meant to be used as a revenue enhancement tool over and above the contracted rate of interest.”
  3. It noted that supervisory reviews have indicated divergent practices amongst the REs with regard to levy of penal interest/charges leading to customer grievances and disputes.
    At present, all registered lending institutions have the operational autonomy to formulate board-approved policies for levy of penal rates of interest. If a loan borrower misses an instalment or delays repayments of EMIs, or if a cheque bounces, these charges are levied. These charges vary from bank to bank, and other private lenders.
    RBI has noted before that “many REs use penal rates of interest, over and above the applicable interest rates, in case of defaults or non-compliance by the borrower with the terms on which credit facilities were sanctioned.”

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BNE News Desk