RBI Reduces NBFC Loan Risk, Cuts Risk Weight on Bank Lending to Boost Credit Flow
The Reserve Bank of India (RBI) has eased risk weight requirements for bank lending to Non-Banking Financial Companies (NBFCs) and microfinance loans, aiming to enhance credit availability and free up funds. RBI cuts risk weight on bank loans to NBFCs, allowing banks to hold fewer capital reserves against such loans, effectively expanding their lending capacity. RBI Reduces NBFC loan risk, strengthening credit flow and supporting financial institutions.
NBFCs and microfinance institutions had experienced a lending slowdown following the RBI’s decision in November 2023 to raise risk weights. The central bank had earlier imposed an additional 25 percentage points on bank exposures to NBFCs where the assigned risk weight, based on external ratings, was below 100%.
Upon review, the RBI has now reinstated the previous risk weights for such exposures, as stated in its latest circular.
RBI Revises Risk Weights on Microfinance Loans
In a separate circular, the RBI also announced a review of risk weights for microfinance loans. The central bank clarified that microfinance loans classified as consumer credit would now be exempt from the higher risk weights imposed earlier and would instead be subject to a standard risk weight of 100%.
Additionally, microfinance loans not categorised as consumer credit but meeting specific criteria may now be classified under the regulatory retail portfolio (RRP), provided banks establish appropriate policies and standard operating procedures to ensure compliance with the qualifying conditions.
The RBI further stated that microfinance loans issued by regional rural banks (RRBs) and local area banks (LABs) will also be subject to a risk weight of 100%.
According to data from the Microfinance Institutions Network (MFIN) for the third quarter of the fiscal year, the total microfinance loan portfolio declined by 3.53% year-on-year, amounting to ₹3,85,348 crore.
Industry Experts Welcome RBI’s Decision
Industry experts have hailed the RBI’s move to restore lower risk weights on bank finance to NBFCs and microfinance loans, stating that it provides much-needed relief to the sector.
Anil Gupta, Senior Vice President & Co-Group Head – Financial Sector Ratings at ICRA, noted that the decision comes at a time, given the challenges faced by the industry. He emphasised that the move would facilitate greater credit flow to a broader range of players, addressing the lending slowdown seen in recent months.
Gupta also highlighted that with a significant deceleration in bank credit to NBFCs this fiscal year and tighter liquidity conditions in the market, the RBI’s reversal of the earlier hike in risk weights would help prioritise lending to underserved segments and support overall growth.
A M Karthik, Senior Vice President – Financial Sector Ratings at ICRA, added that the reinstatement of lower risk weights for higher-rated NBFCs would enhance credit availability from banks while also strengthening the capital ratios of these institutions. He further noted that improved credit flow to NBFCs would, in turn, boost lending to the retail sector, contributing to overall economic growth.
With RBI’s evolving regulations on risk weights and lending norms, it is important for NBFCs, banks, and microfinance institutions to align their operations with the latest compliance requirements. Vakilsearch offers professional legal and regulatory support for annual compliance, streamlining documentation, risk management, and lending procedures while ensuring adherence to guidelines.
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