Loan borrowers take note! Banks not happy with RBI’s penalty charge guidelines instead of penal interest rates; seek more time – Times of India

Several banks have approached the Reserve Bank of India (RBI) requesting a three-month deferral of a guideline that prohibits them from imposing penal interest rates on borrowers who fail to comply with loan contracts. The RBI issued this guideline in August, mandating banks to levy a charge instead of raising interest rates for non-compliant borrowers starting from January 1, 2024.
According to an ET report, in a representation to the RBI earlier this month, lenders argued that penal interest rates contribute to better credit discipline. They also stated that they require additional time to reconfigure their internal systems. An executive from a leading public sector bank, speaking on the condition of anonymity, said, that banks need more time to align our internal systems with the guidelines, and therefore, a representation was made to the regulator earlier this month.

Some banks have suggested that penalties should only be imposed through additional interest as it promotes better credit discipline. Banks currently increase the interest rates for non-compliant borrowers by 2-3% or even more on a case-by-case basis.

The regulator considers this practice as a revenue enhancement tool and has instructed banks to levy only “reasonable” penal charges in cases of loan repayment default. The RBI’s notification on ‘Fair Lending Practice – Penal Charges in Loan Accounts’ directs banks to comply with the new guidelines from January 2024. However, banks are now seeking an extension for the next financial year.

“We understand that the RBI aims to protect customers, but a one-time penalty may not act as a deterrent,” said the executive. The RBI revised its guidelines in August after supervisory reviews revealed diverse practices regarding the imposition of penal interest or charges, leading to customer grievances and disputes. Additionally, lenders have requested further clarification on penal charges applicable to stressed accounts due to uncertainty surrounding recovery.

The issue of levying goods and services tax (GST) on penalties has also been raised. Another bank executive highlighted concerns regarding the application of GST on penalties in stressed accounts. “GST liability should only apply to banks in such cases upon realization. Since there is ambiguity on this matter, we have requested more clarity,” he explained. Under the current norms, penalties imposed through interest are exempt from GST and are considered as exempt income for banks. However, penal charges are subject to GST.