Ensuring Fairness in Lending: RBI’s Directive on Loan Disbursement and Interest Practices

The Reserve Bank of India (RBI) recently addressed concerns regarding certain unfair practices observed among lenders, particularly in the charging of excess interest from borrowers. During its onsite examinations of banks and Non-Banking Financial Corporations (NBFCs) for the period ending March 31, 2023, the RBI noted several instances of unfair practices.

One such practice involved charging interest from the date of loan sanction or execution of the loan agreement, rather than from the actual disbursement of funds to the customer. Additionally, in cases where loans were disbursed by cheque, interest was sometimes charged from the date of the cheque issuance, even if the cheque was handed over to the customer several days later.
Another issue highlighted by the RBI was the charging of interest for the entire month in cases of loan disbursal or repayment, instead of only for the period during which the loan was outstanding. Furthermore, some banks were found to collect one or more installments in advance while still reckoning the full loan amount for interest calculations.

To address these concerns, the RBI issued a circular on April 29’2024 instructing banks and NBFCs to review their loan disbursal practices and interest charging mechanisms. They were directed to take corrective action, including system-level changes, to ensure fairness and transparency in their dealings with customers. The RBI emphasized the importance of adhering to the Fair Practices Code guidelines, which advocate fairness and transparency in interest charging while allowing banks the freedom to set loan pricing policies.

The RBI also urged banks to inform borrowers about changes in interest rates, particularly at the time of loan sanction. Borrowers should be made aware of the potential impact of changes in benchmark interest rates on their EMIs and loan tenor. Additionally, borrowers should be given the option to switch to a fixed interest rate according to the bank’s policy. However, these norms are not consistently practiced by banks, according to industry sources.
In conclusion, the RBI’s directive aims to ensure fairness and transparency in lending practices, and banks are urged to comply with these guidelines to protect the interests of borrowers.

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