Under the extant RBI’s pointers, lending establishments have the operational autonomy to formulate board-approved coverage for levy of penal charges of curiosity.
“Penal interest/charges are not meant to be used as a revenue enhancement tool over and above the contracted rate of interest,” the draft mentioned.
The Reserve Bank of India on Wednesday proposed to ban capitalisation of penal prices and extra curiosity levied by banks on prospects for mortgage defaults, in a bid to streamline divergent practices adopted by lenders.
The quantum of penal prices ought to be proportional to the defaults/non-compliance of fabric phrases and situations of mortgage contract as much as a threshold, mentioned its draft round on ‘Fair Lending Practice – Penal Charges in Loan Accounts’.
Under the extant RBI’s pointers, lending establishments have the operational autonomy to formulate board-approved coverage for levy of penal charges of curiosity.
However, many RBI regulated entities (REs) use penal charges of curiosity, over and above the relevant rates of interest, in case of defaults/non-compliance by the borrower with the phrases on which credit score amenities have been sanctioned.
Now, the central financial institution has issued drafts on ‘Fair Lending Practice – Penal Charges in Loan Accounts’ to streamline the practices.
“The intent of levying penal curiosity/prices is basically to inculcate a way of credit score self-discipline amongst debtors by adverse incentives and to make sure truthful compensation to the lender.
“Penal curiosity/prices will not be meant for use as a income enhancement software over and above the contracted price of curiosity,” the draft said.
However, it added supervisory reviews have indicated divergent practices amongst the REs with regard to levy of penal interest/charges are leading to customer grievances and disputes.
The draft says: “Determination of interest rates on credit facilities, including conditions for reset of interest rates, will be strictly governed by the relevant regulatory instructions issued in this regard. REs shall not introduce any additional component to rate of interest.” Penalty, if charged, for default/non-compliance of fabric phrases and situations of mortgage contract by the borrower ought to be handled as ‘penal charges’ and shouldn’t be levied within the type of ‘penal interest’ that’s added to the speed of curiosity charged on the advances, it mentioned.
“There shall be no capitalisation of penal prices, i.e, no additional curiosity computed on such prices. However, this won’t have an effect on the traditional procedures for compounding of curiosity within the mortgage account,” the draft added.
RBI further said it needs to be recognised that the rate of interest on a loan includes appropriate credit risk premium reflecting the credit risk profile of the borrower.
“If the credit risk profile of the borrower undergoes change, REs will be free to alter credit risk premium as per the contracted terms and conditions, in terms of extant instructions,” it mentioned.
Also, the penal prices in case of loans sanctioned to particular person debtors, for functions apart from enterprise, shouldn’t be greater than the penal prices relevant to non-individual debtors.
“Whenever reminders for cost of instalments are despatched to debtors, the relevant penal prices shall even be communicated,” it stressed.
The proposed instructions would not apply to credit cards which are covered under product specific directions, the draft added.
The RBI has invited comments from the stakeholders by May 15.
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