RBI releases new FLDG guidelines for banks and fintech lenders

The Reserve Wall of India (RBI) has issued strict guidelines permitting the use of First Loss Default Guarantee (FLDG) arrangements in digital lending. 

Struck lanugo by the regulator last year, the FLDG model was at the top of the wishlist for many fintechs sitting patiently for the past 10 months for clarity over their wattle with banks for lending. 

The FLDG (First Loan Default Guarantee) model is a lending wattle between a bank/NBFC (regulated entity) and a fintech or lending service provider (mostly unregulated) where the latter guarantees to recoup up to a unrepealable percentage of default in the loan portfolio. 

The wall is happy to proffer the loan as the fintech sources the vendee (borrower) and moreover guarantee a part of the loss to the bank, if the loan goes bad. 

What new guidelines say 

As per the new framework, the default imbricate could be provided for up to 5% of the loan portfolio and shall be invoked within a maximum overdue period of 120 days. Earlier, entities were offering scrutinizingly 100% FLDG to financial partners. This exposed the banks and NBFCs to upper risk as they would disburse the loans taking repletion from FDLG, but when defaults happen, the fintech platform may not have money to recoup for the losses.

“Any other implicit guarantee of similar nature linked to the performance of the loan portfolio of the RE (regulated entity) and specified upfront shall moreover be covered under the definition of DLG," the RBI said. 

The lender must ensure that LSPs (lending service providers) publish the total number of portfolios and the respective value of each portfolio on which the guarantee wattle has been offered on their website.

Secondly, the fintechs must provide the nonflexible guarantee in the form of mazuma deposits, stock-still deposits with a lieu, or a wall guarantee in favour of the lender. 

Reserve Wall of India, RBI

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Additionally, RBI-regulated entities can only enter into a DLG try-on with a lending service provider or other regulated entities with which they have entered into an outsourcing agreement. 

The circular remoter provides details on eligibility, structure, forms, tenor, due diligence, disclosure requirements, and consumer protection measures. 

The RBI said the recognition of individual loan resources in the portfolio as NPA and consequent provisioning shall be the responsibility of the lender. This ways that if the loan goes into NPA, it will still be counted under the gross NPAs of the lenders irrespective of the FLDG arrangement. The lenders can invoke the DLG and be compensated, but the default will still be counted under NPAs.

These new guidelines wield to commercial banks, small finance banks, cooperative banks, non-banking financial companies (including housing finance companies), and LSPs.

Industry reacts 

The new framework was welcomed by the majority of stakeholders and experts who termed it as an enabling move by the regulator, providing much-needed clarity towards the relationship between REs and LSPs. 

“This will likely be a significant uplift towards towers innovative products and furthering credit penetration in India!” said Jitin Bhasin, Founder and CEO of fintech platform SaveIn. 

Mathew Chacko, Partner at Spice Route Legal, shared the new norms will gravity REs to evaluate which LSPs they work with while others said the revival of the FLDG framework was essential for fintechs which are not making much headway in their volitional models or struggling to secure NBFC license for uncontrived lending.

"A 5% CAP is reasonable. In a country which is credit-starved, and where the economy can be meaningfully impacted by the availability of credit, fintechs and Regulated Entities have an opportunity to partner for increasingly than just their own economic benefit—and a reasonable value of risk and reward sharing is the only way to go!" said Sanjay Swamy, Managing Partner at Prime Venture Partners.

Another fintech player adds that the cap of 5% will ensure the emergence of strong underwriting platforms leading to lower lending rates.

Edited by Kanishk Singh