Regulations as speed bumps

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fintech regulations

Dear Editor,

The evolution of FinTech is changing the world of finance rapidly. Peer to peer (P2P) lending, a part of the alternate credit bandwagon, takes advantage of the various limitations of traditional banks and provides a digital solution.

Although P2P lending platforms have been in India since around 2014, it was an unregulated market until recently. The Reserve Bank of India (RBI), on 24 August 2017, categorized all entities running platforms and acting as intermediaries for facilitating P2P lending as non-banking financial companies (NBFCs). On 4 October 2017, the RBI issued the NBFC – Peer to Peer Lending Platform (Reserve Bank) Directions, 2017 (P2P directions), which mandated compulsory registration as NBFC–P2P Lending Platforms (NBFC-P2Ps), and brought P2P lending activities within the regulatory regime.

Pursuant to the P2P directions, only entities incorporated as companies in India and with a minimum net owned fund of ₹20 million (US$288,230) can register as NBFC-P2Ps, and they can only act as intermediaries providing a marketplace for facilitating unsecured loans with a maximum tenure of 36 months.

They can neither lend their own funds nor can they hold funds received from lenders for on-lending on their balance sheet. Also, they cannot cross-sell other products except loan-specific insurances.

NBFC-P2Ps need to ensure that proper due diligence is carried out, including credit assessment and risk profiling of the prospective borrowers, before closing any transaction on their platform. As intermediaries, NBFC-P2Ps also need to undertake the loan documentation and assist with the disbursement and repayment as well as provide recovery services in case of non-payment.

The aggregate exposure of a lender towards all borrowers collectively should not exceed ₹1 million, nor should the aggregate loans obtained by a borrower through all NBFC-P2Ps collectively exceed ₹1 million at any point of time. Further, exposure towards a single borrower is capped at ₹50,000.

The P2P directions also bring P2P lending activities within the credit information matrix, and requires NBFC-P2Ps to obtain membership of, and disseminate credit information to, all credit information companies in India. Bringing P2P lending activities under the regulatory purview has instilled trust and confidence among borrowers and lenders.

Nevertheless, some provisions of the P2P directions pose serious restraints and need fine-tuning. First, the minimum net owned fund requirement is unwarranted. This provision is in line with the regulations applicable to other NBFC types. However, unlike them, NBFC-P2Ps are not engaged in actual lending. Their business model is technology intensive and not capital intensive, and it is not clear how NBFC-P2Ps are supposed to utilize this capital considering that they are restricted from lending their own funds, pushing many smaller P2P lending platforms out of business. Second, the cap on aggregate exposure of a lender is severely constricting. Though this may have been inserted to limit lenders’ risk, it does not serve any real purpose. It is not possible to monitor this except by relying on self-declaration by the platforms.

Third, NBFC-P2Ps require RBI approval for any change in shareholding pattern, which make acquisitions of stakes in NBFC-P2Ps more stringent than the transfer of control of other NBFCs that are involved in actual lending. Finally, capping the leverage ratio at 2:1 is not necessary because NBFC-P2Ps do not lend own funds or hold lenders’ funds on its balance sheet. This limits their ability to expand with debt funding. However, the need to obtain RBI approval for any change in the shareholding pattern makes fundraising tough.

The RBI needs to fine-tune the regulatory framework and address these concerns to bolster the P2P lending industry, which has high growth potential.

Anirban Roy Choudhury
Banking and finance lawyer,
Mumbai

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