Fintech lenders align business model with RBI's digital lending norms

With the Reserve Bank of India’s (RBI’s) digital lending guidelines kicking in, players operating in this space have made the requisite operational changes, and in some cases, tweaked their business model to align with the norms prescribed by the regulator. 

The RBI came out with the guidelines on digital lending in September and gave time until November 30 for players to comply with the ‘existing loan’ category. 

The norms mandated that all loan disbursements and repayments are required to be executed only between the bank accounts of the borrower and the regulated entity (RE), without any pass-through/pool account of the lending service provider (LSP) or any third party.

The central bank had clarified that disbursements have to always be made into the bank account of the borrower, except for disbursements covered exclusively under the statutory or regulatory mandate, the flow of money between REs for co-lending transactions and disbursements for specific end-use, provided the loan is disbursed directly into the bank account of the end-beneficiary.

This resulted in digital lending financial technology (fintech) companies making either operational changes to their business model or completely tweaking their model, so that they are not in contravention of the norms prescribed. 

For example, weeks after the central bank came out with the guidelines, Uni Cards suspended its products – Uni Pay 1/3rd and Uni Pay 1/2 - as a consequence of the guidelines. A few other fintech lenders, whose business model was based on extending credit through prepaid cards, also made similar changes to their business model, with many tying up with banks to bring out co-branded credit cards.

Similarly, players whose business model was such that funds disbursed from the lenders’ account went into their account and then disbursed to the customers’ account had to make operational changes, such that the money flows directly from the source account into the customer’s account.

“More than 50 per cent of our fintech members were required to change workflow tack as a result of these guidelines. However, the changes were designed to maintain continuity in business and firms are back on track,” said a representative from the Digital Lenders Association of India.

Sugandh Saxena, chief executive officer (CEO), FACE (Fintech Association for Consumer Empowerment), said, “Our members have been making changes to implement the guidelines fully. Lenders with card lending are transitioning to models that are in line with the regulations. It is for the first time we have had such expansive rules on digital lending and hence, some interpretational issues are bound to arise.”

“We were able to comply with the guidelines immediately and business growth is showing an upswing. Our co-lending platform and partnerships are also live across the board, helping us to upscale our lending capabilities further,” said Akshay Mehrotra, co-founder and CEO, Fibe (earlier known as EarlySalary).  

Anurag Jain, founder and executive director, KredX, said from a business perspective, there is no existential risk to anybody. This does change some of the workflows for fintech firms. Hence, operationally these players have had to do a few different things than what they were accustomed to doing earlier. But none of the players has reached out to industry associations, saying this will halt business. 

“There will be some impact on the business. The approach is changing as even the regulated entities have had to make some alterations. Everybody is realigned to the guidelines and it will be business as usual,” said Jain.

According to Avinash Godkhindi, managing director and CEO, Zaggle, the primary business model of fintech start-ups has altered. 

“Players whose business models called for giving loans into prepaid cards are trying to dispense loans straight into customer bank accounts, albeit with limited success. The companies in the fintech space looking to operate in the ‘grey area’ have been significantly impacted, but other fintech players not so much,” he said.

While there is clarity on a majority of the norms prescribed by the regulator in its guidelines for the sector, the RBI’s stance on first loss default guarantee (FLDG) has put the fintech players, who used this model extensively, in a spot of bother.

The guidelines say when it comes to the industry practice of offering financial products involving contractual agreements, such as FLDG, the regulated entities must adhere to the provisions of the master direction on the securitisation of standard assets, especially synthetic securitisation. 

The RBI has defined ‘synthetic securitisation’ as a structure where the credit risk of an underlying pool of exposures is transferred, in whole or in part, through the use of credit derivatives or credit guarantees that serve to hedge the credit risk of the portfolio which remains on the balance sheet of the lender.

According to experts, the RBI’s stance on FLDG says that any form of risk transfer in a pool of loans by any lender to a third party is not permitted.

“We hope for greater clarity on the FLDG stance. While it may lead to a few months of disruption in terms of a changing business model, the overall industry may not have a massive impact,” said Anubhav Jain, co-founder and CEO, Rupifi.

Rather than banning it outright, the RBI should look at formalising it. If there is some sort of risk-sharing that is allowed, it will give clarity on how some of the arrangements will work and how the entities can participate, said an industry official.

Essentially, FLDG is a lending model wherein third-party guarantees, which can be an LSP, compensate up to a certain percentage of default in a loan portfolio of the regulated entity. 

Under this, the LSP provides certain credit enhancement features, such as a first loss guarantee up to a pre-decided percentage of loans generated by it. From the LSP’s perspective, offering FLDG acts as a demonstration of its underwriting skills, whereas from the lender’s perspective, it ensures the platform’s skin in the game.

The market is looking forward to clarity and further guidelines from the RBI on FLDG, observed Saxena. 

PAYING THE PRICE FOR COMPLIANCE

·         Fintech lenders have made operational changes to comply with RBI norms 

·         The cost of compliance for these firms has gone up 

·         Companies operating in ‘grey area’ of regulations have been impacted 

·         These regulations will bring discipline into the sector 

·         Industry associations are still seeking clarity on some issues 

·         Guidelines on FLDG are awaited by players for further clarity