The Reserve Bank of India (RBI) has recently extended the deadline for banks and non-banking financial companies (NBFCs) to implement modified norms for levying penal charges in loan accounts. This extension provides an additional three months, moving the deadline to April 1, 2024. Initially, these norms were scheduled to take effect from January 1, 2024.
The decision for the extension came in response to requests from regulated entities for additional time to reconfigure their internal systems to operationalize the new guidelines. Consequently, regulated entities, including banks and NBFCs, are now required to implement these instructions for all new loans availed from April 1, 2024. For existing loans, the transition to the new penal charges regime should occur at the next review or renewal date on or after April 1, 2024, but no later than June 30, 2024.
This move by the RBI addresses concerns about the practice of using penal interest as a revenue enhancement tool. The modified norms, introduced in August 2023, stipulate that lenders can only levy “reasonable” penal charges in case of default in loan repayments. Under these new rules, penal interest will no longer be charged from January 1, 2024. Instead, penalties for non-compliance with loan contract terms by borrowers will be treated as ‘penal charges’ and will not be added to the rate of interest charged on advances. This new categorization ensures that penal charges are reasonable and commensurate with the non-compliance of loan terms, without being discriminatory within a particular loan or product category. Additionally, there will be no capitalization of penal charges, meaning no further interest will be computed on these charges.
Banks are also required to clearly disclose the amount and reasoning behind penal charges in loan agreements, and must display key terms and conditions prominently on their websites. Moreover, banks are mandated to develop a board-approved policy on penal charges related to loans, ensuring adherence to both the literal interpretation and intended spirit of the guidelines.
This initiative by the RBI aims to promote fairness, transparency, and reasonableness in the imposition of penal rates, addressing concerns over divergent practices among lending institutions and protecting the rights of borrowers.