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Key things to know about RBI's new proposal to lift interest rate cap on MFIs

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The regulator said the new framework is aimed at protecting the microfinance borrowers from over-indebtedness as well as enabling competitive forces to bring down the interest rates by empowering the borrowers to make an informed decision.

Key things to know about RBI's new proposal to lift interest rate cap on MFIs
The Reserve Bank of India (RBI) on Monday proposed to lift the interest rate cap on microfinance institutions (MFIs). It further said all microloans should be regulated by a common set of guidelines irrespective of who gives them.
For the same, a new regulatory framework will be set up. Under this, it has also been recommended that there should be no pre-payment penalty, no requirement of collateral, and greater flexibility of repayment frequency for all microfinance loans.
The proposal, if implemented, will end the existing regulatory cap on MFI interest rates.
Microfinance, as we know, is a form of financial service which provides small loans and other financial services to poor and low-income households.
Here are key things to know about the announcement:
What is the aim of the new framework?
The regulator said the new framework is aimed at protecting the microfinance borrowers from over-indebtedness as well as enabling competitive forces to bring down the interest rates by empowering the borrowers to make an informed decision.
How will it come into force?
The entities engaged in microfinance lending will be required to display board-approved minimum, maximum and average interest rates charged on loans. They will also be required to disclose pricing-related information in a standard simplified fact sheet. There will be no prepayment penalty,
How will rates be determined once the proposal comes into force?
According to the proposal, the NBFC-MFI will adopt an interest rate model taking into account relevant factors such as cost of funds, margin, and risk premium, and determine the rate of interest to be charged for loans and advances.
As suggested by RBI,  the rate of interest must be annualised rate so that the borrower is aware of the exact rates that would be charged to the account. Also, NBFC-MFIs should mention the penal interest charged for late repayment in bold in the loan agreement.
What are the current norms?
Currently, the pricing norms for MFIs say the maximum interest charged can be the lower of (i) cost of funds plus a margin cap of 10 percent for MFIs with a loan portfolio of Rs 100 crore or above and 12 percent for others; (ii) The average base rate of the five largest commercial banks by assets multiplied by 2.75.
The loan, currently, is repayable on weekly, fortnightly or monthly installments at the choice of the borrower.
(With inputs from PTI)