[Analysis] Decoding RBI’s New Rules | Know How Your EMIs and Loan Eligibilities Would Impact?

Table of Contents

1. Introduction
2. Banks/FIs must assess borrower’s repayment capacity, ensuring responsible lending
3. Clear Communication Mandatory for any changes in EMI-Based Floating Rate Personal Loans
4. Enhancing borrowers’ choice with the option to Switch to Fixed Interest Rates
5. Empowering borrowers’ control by offering flexible loan choices and prepayment options
6. Clear disclosure of charges for Loan Switching thereby enhancing transparency
7. Quarterly Loan Statements for borrower’s clarity and understanding
8. Application of Guidelines to Equated Instalment-Based Loans
9. Conclusion

1. Introduction

Earlier, the RBI had formulated guidelines concerning the Fair Practices Code for lenders, which applied to various types of financial institutions, including Scheduled Commercial Banks (SCBs), Non-Banking Financial Companies (NBFCs), and Housing Finance Companies (HFCs). These guidelines granted Regulated Entities (REs) the freedom to offer various types of advances with either fixed or floating interest rates.

However, issues arose with EMI-based floating-rate personal loans when borrowers’ loan tenure was extended, and their monthly payments increased without proper notification or consent. To tackle this, the RBI issued guidelines directing Regulated Entities to establish an appropriate policy framework.

New guidelines provide for the adjustment of equated monthly instalments (EMIs) for floating-rate personal loans. These guidelines also encompass the provision for borrowers to transition to a fixed interest rate, subject to the approved policies of the bank’s board.
These guidelines apply to both existing and new loans and are effective from December 31, 2023. All existing borrowers must receive communication via appropriate channels, informing them of the available options.

Let’s delve into the core of the RBI’s key instructions for floating interest rates on equated monthly instalments –

2. Banks/FIs must assess borrower’s repayment capacity, ensuring responsible lending

The RBI has introduced a provision wherein regulated entities (REs) must consider the repayment capacity of borrowers. This ensures the availability of sufficient headroom/margin for extending the loan tenor and/ or increasing the EMI, in the case of a potential rise in the external benchmark rate during the tenor of the loan.

Impact

This provision acts as a financial shield for borrowers. It means that if interest rates go up unexpectedly, borrowers won’t have to struggle with sudden higher payments. They can adjust their loan terms to make it manageable, like giving them a financial safety cushion.

3. Clear Communication Mandatory for any changes in EMI-Based Floating Rate Personal Loans

When approving EMI-based floating rate personal loans, REs are obligated to transparently communicate to the borrowers the potential effects of changes in the benchmark interest rate on the loan leading to changes in EMI and/ or tenor or both. Consequently, any increase in the EMI, tenor or both must be communicated to the borrower immediately through the appropriate channels.

Impact

This requirement ensures that borrowers promptly receive notifications about any increases in their EMI, loan tenor, or both, resulting from changes in benchmark interest rates. It underscores the importance of transparent and timely communication in helping borrowers manage their loan commitments effectively.

4. Enhancing borrowers’ choice with the option to Switch to Fixed Interest Rates

At the time of resetting interest rates, REs must offer borrowers the option to switch over to a fixed interest rate in accordance with their board-approved policy. This policy may outline the number of times a borrower is allowed to make such a switch during the loan’s term.

Impact

This directive ensures that borrowers are given the choice to transition to a fixed interest rate and also clarifies the frequency at which borrowers can exercise this option, enhancing transparency and empowering borrowers in managing their loan terms effectively.

5. Empowering borrowers’ control by offering flexible loan choices and prepayment options

Borrowers should have the option to choose between increasing the EMI, extending the loan tenor or a combination of both. Further, borrowers should have the flexibility to make partial or full prepayments at any point during the tenor of the loan.

Impact

This ensures that borrowers have the financial flexibility to tailor their loan obligations to their changing circumstances, promoting borrower satisfaction and financial control. Also, the option for partial or full prepayments empowers borrowers to save on interest costs and expedite the loan repayment process, enhancing their financial well-being.

6. Clear disclosure of charges for Loan Switching thereby enhancing transparency

All charges related to switching loans from floating to fixed rates, as well as any other service charges or administrative costs, must be clearly disclosed both in the sanction letter and also at the time of any revision of such charges/ costs by REs.

Impact

This requirement promotes transparency and fairness by obligating lenders to clearly communicate all charges associated with switching from floating to fixed rates. Borrowers can make informed decisions regarding their loans, preventing surprise costs and fostering trust in the lending process.

7. Quarterly Loan Statements for borrower’s clarity and understanding

At the end of each quarter, borrowers must be provided with a statement containing a detailed breakdown of the accrued principal and interest, the current EMI amount, the number of remaining EMIs, and the annualized interest rate or Annual Percentage Rate (APR) for the entire loan duration. Further, REs must ensure that these statements are straightforward and easily comprehensible for the borrower.

Impact

This quarterly statement enhances borrower transparency, allowing them to track their loan progress and understand key financial details. The provision of clear and easily comprehensible statements fosters trust and financial awareness among borrowers, facilitating better financial planning and decision-making.

8. Application of Guidelines to Equated Instalment-Based Loans

In addition to EMIs, these guidelines will also apply to all instalment-based loans with varying timeframes. For loans linked to an external benchmark under the External Benchmark Lending Rate (EBLR) framework, banks should follow existing instructions and establish effective information systems to monitor the transmission of changes in the benchmark rate to the lending rate.

Expanding these guidelines to encompass all instalment-based loans with varying timeframes ensures consistency and transparency in lending practices across various loan types. This broader application promotes fairness and equity in the lending industry.

9. Conclusion

In conclusion, RBI’s latest guidelines on fair practices for floating-rate personal loans offer much-needed relief to borrowers. These guidelines not only grant borrowers the flexibility to customize their loan terms but also prioritize transparency by ensuring that they are well-informed about any potential changes or charges.

They ensure that borrowers are not left in the dark about potential changes or unexpected charges. By compelling clear and upfront disclosure of any costs tied to modifying loan structures, these guidelines put the steering wheel firmly in the hands of borrowers. It’s a promising step towards making the road to financial security a smoother and more navigable one.