Be ‘transparent’ on EMI interest rate change: RBI tells banks

The Reserve Bank of India (RBI) today issued detailed guidelines to reset floating interest rates on equated monthly instalments (EMI)-based personal loans. The latest guidelines come in the wake of increasing personal loan EMI amount in the cases of floating-rate personal loans.

The guidelines come after the MPC policy announcement on August 10, 2023, in which the RBI called for "responsible conduct in lending", while seeking greater transparency in interest rate reset of EMI-based floating interest loans.

As per the latest guidelines, regulated entities must "clearly communicate" to the borrowers about the "possible impact of change in benchmark interest rate" on the loan leading to changes in EMI or tenor, says the central bank. Subsequently, if there is any increase in EMI or tenor, banks also need to "communicate" to the borrower immediately.

The RBI says all regulated entities, including banks and non-banking financial companies, and housing finance companies, must put in place an appropriate policy framework to address this issue.

If there is a reset of interest rates, banks, and other entities must provide the "option to the borrowers to switch" over to a fixed rate as per their board-approved policy. The policy may also specify the number of times a borrower will be allowed to switch during the tenor of the loan, the guidelines suggest.

"The borrowers shall also be given the choice to opt for (i) enhancement in EMI or elongation of tenor or for a combination of both options; and, (ii) to prepay, either in part or in full, at any point during the tenor of the loan. Levy of foreclosure charges/pre-payment penalty shall be subject to extant instructions."

With regards to applicable charges for switching loans from floating to fixed rate and any other service charges or administrative costs also needs to be "transparently disclosed" in the sanction letter, and also at the time of revision of such charges by such entities, says the central bank. "REs shall ensure that the elongation of tenor in case of floating rate loan does not result in negative amortisation."

The RBI says the regulated entities also need to share or make accessible to the borrowers, through appropriate channels, a statement at the end of each quarter that will ascertain the principal and interest recovered to date, EMI amount, number of EMIs left and annualised rate of interest or annual percentage rate (APR) for the entire tenor of the loan.

These statements should be "simple" and "easily to understood" by the borrower, the central bank adds.

These instructions will also apply to "all equated instalment based loans of different periodicities". In the case of loans linked to an external benchmark, under the External Benchmark Lending Rate (EBLR) regime, the banks need to follow extant instructions and also put in place adequate information systems to monitor the transmission of changes in the benchmark rate to the lending rate, the RBI asserts.

The RBI on August 10 said that its supervisory reviews and the feedback from people have revealed several instances of "unreasonable elongation of the tenor of floating rate loans" by lenders without proper consent and communication to the borrowers. To address the issue, the central bank proposed to put in place a proper conduct framework.