Adoption of Digital Lending Guidelines for NBFCs

Adoption of Digital Lending

Digital lending revolutionizes the financial landscape by offering financial institutions a platform to streamline borrowing processes and enhance operational efficiency, ultimately facilitating lending services. Leveraging technology in digital lending brings substantial benefits, particularly in maintaining the confidentiality of sensitive information. This paradigm shift has reshaped the conventional lending landscape in India, bringing about remarkable changes.

The introduction of digital lending has disrupted the traditional lending ecosystem. Every facet of the lending journey has been reimagined digitally, from account setup to loan application procedures. Paperless transactions have become the cornerstone of this transformation, ensuring the security of confidential data while expediting the lending process. Moreover, digital lending has extended its reach to individuals without an established credit history, fostering financial inclusivity.

This digital transformation has sparked a new era in the lending sector, driven by FinTech companies championing paperless lending. As a result, the Indian lending market has witnessed the emergence of novel and enhanced opportunities. The shift to digital lending not only amplifies accessibility but also ushers in an era of improved efficiency and convenience for borrowers.

Digital lending has redefined how financial services are accessed and availed. It has bridged gaps, transformed processes, and opened doors to a more inclusive and efficient lending ecosystem in India.

Expansion in the Digital Lending Sector

As reported by various media sources, the digital lending arena is poised for substantial growth, with predictions indicating an escalation from USD 100 billion in 2019 to a significantly higher valuation of USD 350 billion by 2023. Notably, India stands out with an impressive FinTech adoption rate of 87 per cent, a record achieved in 2020.

In recent times, digital lending has emerged as a potent alternative to conventional lending methodologies employed by financial institutions. Particularly advantageous for individuals with limited or no credit history, as well as those who have been historically underserved by traditional financial systems, digital lending presents a contemporary solution to access credit resources.

Reserve Bank of India’s Directives on Digital Lending

On September 2, 2022, the Reserve Bank of India (RBI) released comprehensive “Guidelines on Digital Lending” addressed to both banks and non-banking financial companies (NBFCs). This issuance follows the RBI’s press release dated August 10, 2022, pertained to implementing recommendations by the Working Group on Digital Lending.

• These guidelines are intended to be observed by regulated lending entities (REs) involved in digital lending, encompassing Commercial Banks, District Central Co-operative Banks, State Co-operative Banks, Primary (Urban) Co-operative Banks, as well as Non-Banking Financial Institutions (NBFCs). The compliance mandate applies to existing customers seeking new loans and new customers initiating relationships on or after September 2, 2022. Additionally, REs are granted until November 30, 2022, to ensure their full adherence to these Guidelines, including the necessary adjustments for existing digital loans.
• A fundamental principle stipulated by the Guidelines is that all loan-related transactions, encompassing payments and disbursements, must be conducted solely through the borrower’s and RE’s respective bank accounts. This directive prohibits lending service providers (LSPs) or any third parties from establishing passthrough or pool accounts for these purposes. Certain exceptions to this rule are delineated, such as payments between REs in the context of co-lending transactions, payments designated for specific end uses, and payments authorized under the condition that the loan amount is transferred directly to the ultimate beneficiary’s account.
• In addition to the payment-related provisions, the Guidelines include a fee and charge collection framework alongside rigorous disclosure requirements to provide comprehensive information to borrowers. The importance of clear communication is further highlighted through the mandate for a standardized key fact statement format, which must be provided by REs.
• To ensure a borrower-centric approach, the Guidelines introduce the concept of a cooling-off or look-up period. This period, determined by the RE board, empowers borrowers to exit digital loans without incurring fees, provided they repay the principal and corresponding Annual Percentage Rate (APR). For loans spanning seven days or more, the cooling-off period cannot be shorter than three days, while loans with durations under seven days must offer a cooling-off period of at least one day.
• The Guidelines also place stringent regulations on data collection practices by Digital Lending Apps (DLAs). Access to mobile phone resources, such as files, media, contacts, and call records, is strictly prohibited. One-time access permissions, granted solely with the borrower’s explicit consent, are permissible for resources like the camera, microphone, and location for onboarding or KYC purposes. Data storage is constrained, allowing only minimal data retention necessary for operational purposes. The Guidelines emphasize that borrowers have the prerogative to consent or dissent regarding specific data usage, limit data disclosure to third parties, restrict data retention, and revoke prior consent for personal information collection. If required, borrowers have the right to request data deletion. Furthermore, the Guidelines underscore that disclosing a borrower’s personal information to third parties necessitates explicit consent unless such disclosure is mandated by law or regulation.
• Among other provisions, the Guidelines also direct REs to align with the provisions of the Master Direction – Reserve Bank of India (Securitization of Standard Assets) Directions, 2021, particularly to contractual arrangements for First Loss Default Guarantees (FLDGs), including those concerning synthetic securitization.
• RBI’s “Guidelines on Digital Lending” serve as a comprehensive framework designed to enhance transparency, accountability, and borrower protection within India’s rapidly evolving landscape of digital lending.

Regulatory tightening in Booming India digital lending sector

• Concerns Raised in 2020: The RBI expressed concerns about unauthorized digital lending activities in India in 2020.
• Press Release Clarification: A subsequent press release highlighted the proliferation of unauthorized Digital Lending Apps (DLAs), along with issues like high interest rates, concealed payment charges, and unethical loan recovery practices.
• Need for Disclosure: In response to these concerns, the RBI emphasized disclosing the involvement of Non-Banking Financial Companies (NBFCs) and banks in digital lending.
• RBI’s 2021 Report: In 2021, the RBI issued a comprehensive report addressing customer protection and business conduct in the digital lending sector. This report included recommendations to bolster protection standards for online borrowers.
• Implementation of Guidelines: From December 1, 2022, the RBI enacted new guidelines to establish a protective framework for customers engaged in digital lending.
• Strengthened Technology and Data Requirements: These updated guidelines also focus on enhancing technology and data-related prerequisites within the digital lending platform.
• Ensuring Transparency and Compliance: The 2022 guidelines ensure transparency, compliance, and adherence to ethical practices in the digital lending sector.
• Clear Path Forward: These guidelines pave the way for a more secure and reliable online borrowing experience by addressing various issues within the digital lending landscape.

Impact on FinTech Companies as Loan Facilitators

The digital lending landscape has undergone a significant transformation, favourably benefitting borrowers. The criteria for loan offerings, once solely reliant on a credit score, have expanded to encompass a broader spectrum of factors. This expansion is bolstered by heightened transparency, leading to more accurate risk assessments. Integrating automated processes and data-driven loan approvals empowers lenders with informed decision-making capabilities. The set eligibility and accessibility standards further ensure the security of lending transactions.

FinTech companies, leveraging innovative models such as Application Programming Interfaces (APIs), play an essential role in facilitating faster and more informed loan decisions—a practice known as fintech lending. This approach involves analyzing loan risks through diverse data sources and seamlessly linking digital platforms to expedite data exchange. Fintech lending is an alternative capital source and empowers Peer-to-Peer (P2P) and business borrowers by enhancing their financial well-being and fostering greater independence.

Global Trends in Digital Lending

The realm of digital lending is poised to explore numerous opportunities for expansion, with transformative changes on the horizon. An illustrative example is India Lends, which unveiled Digital Lending 2.0 in April 2020—a comprehensive suite of touchless and contactless financial products encompassing loans, insurance, and a line of credit.

The rapid integration of digitalization within the Banking, Financial Services, and Insurance (BFSI) sector has catalyzed a noteworthy evolution in the lending landscape. Recognizable names within the financial domain, such as Aire, Kabbage, and Kasisto, have invested substantially in Artificial Intelligence (AI). For instance, Kabbage harnesses AI algorithms to meticulously assess the multifaceted risks of extending loans to specific consumers and streamlining loan approvals. Further illustrating the sector’s dynamism, fintech entities UI Enlyte and Exaloan recently disclosed their strategic partnership in April 2022. The two enterprises aim to interlink their loan and digital asset platforms through this initiative, marking a significant advancement.

Digital lending stalwarts like Finserv, FIS, Newgen Software, Nucleus Software, Pega, and Temenos, alongside numerous companies of Indian, US, and Swiss origin, have embraced a diverse array of digital lending trends. This strategic adoption has empowered these entities to carve a formidable presence within the global market, positioning them for sustained growth and innovation.

Consumer Protection in Digital Lending

The Reserve Bank of India (RBI) takes a proactive role in regulating digital lending operations within India, aiming to address various concerns like unregulated third-party involvement, spelling errors, data privacy breaches, unscrupulous debt recovery methods, and exorbitant interest rates. In response to these challenges, the 2022 guidelines introduce a structured grievance redressal process and outline the appointment protocol for designated officers handling complaints.

These newly established nodal grievance redressal offices have the expertise to manage consumer complaints effectively. By implementing these guidelines, a transparent framework is established, fostering clear communication and execution of loans while safeguarding customer data and interests. The inclusion of disclosure norms serves to prioritize consumer welfare, providing a balanced and secure lending environment.

The RBI also mandates reporting all loans to credit bureaus, regardless of their nature or duration, ensuring comprehensive credit history tracking. Additionally, these guidelines ensure the exclusion of unfavourable terms within loan agreements, fortifying consumer rights against predatory clauses. Furthermore, lending entities (REs) must seek borrowers’ consent before implementing automatic credit limit increases, granting borrowers greater control over their financial commitments. These measures collectively reinforce consumer protection in the dynamic landscape of digital lending.

Enhancing NBFCs’ Online Sales, Operational Efficiency, and Customer Experience: Strategies and Insights

In the landscape of financial services, particularly within Non-Banking Financial Companies (NBFCs), optimizing online sales, operational efficiency, and customer experience has been paramount. In contrast to traditional banks, NBFCs often lack extensive distribution networks, relying heavily on third-party agencies and Direct Selling Agents (DSAs) to drive new business. DSAs are pivotal in reaching customers in tier II and III cities where physical branch offices are absent. However, the processes involved in customer acquisition and loan recovery have historically been operation-intensive, involving multiple touchpoints between agents and customers.

To address these challenges and tap into the potential of digital transformation, NBFCs in India can adopt strategic measures to enhance their digital lending ecosystem:

1. Optimizing Sales Cycles:

• Expanding Beyond Dependency: The reliance on DSAs for leads can be supplemented with a shift toward generating leads internally. For instance, entities like DHFL began utilizing RPA-based technologies to generate a significant portion of leads in-house.
• Leveraging Lending CRMs: Specialized CRMs tailored to the lending industry can streamline sales operations, customer interaction, and collections, ultimately facilitating faster loan disbursements.
• Customer Segmentation: Utilizing analytical tools for customer segmentation can aid in crafting segment-specific sales strategies, leading to improved conversion rates.
• Equipping Field Agents: Field agents’ expertise can be enhanced by providing them easy access to relevant information through a cloud-based repository.

1. Enhancing Operational Efficiency:

• Seamless Customer Onboarding: Implementing digital verification methods, such as Video KYC and CIBIL score validation, can expedite customer onboarding while maintaining accuracy.
• Automated Underwriting: Incorporating AI and Machine Learning into underwriting processes can enable customized loan offers based on factors like segment, geography, and product.
• Swift Loan Disbursement: Digitized verification and validation can facilitate instant loan disbursal, reducing the time it takes to fund customers.
• Self-Serve Portals: Implementing self-service portals for document collection, queries, and clarification can streamline the lending journey and reduce operational load.

1. Enhancing Customer Experience:

• Personalized Interaction: Employing data-driven insights, NBFCs can tailor interactions to customers’ past behaviours, establishing a stronger emotional connection.
• Omnichannel Engagement: A seamless customer experience across multiple channels ensures consistency and avoids repetition of queries.
• Vernacular Language Integration: Incorporating vernacular language options within platforms enhances accessibility, especially in rural areas.
• Post-Loan Relationship: Leveraging data analytics, NBFCs can identify opportunities for cross-selling and deliver relevant product offerings to existing customers.