Introduction: The Reserve Bank of India (RBI) has introduced significant changes in its guidelines regarding the transition from penal interest to penal charges for loans and advances. While aimed at fostering credit discipline, these guidelines have raised practical issues and questions. This article highlights the need for Frequently Asked Questions (FAQs) and clarifications from RBI to ensure a seamless transition and address potential challenges.
We appreciate the RBI’s continuous efforts to promote transparency and fairness in the financial sector and the recent guidelines issued regarding the transition from penal interest to penal charges for loans and advances. Vide Circular Number RBI/2023-24/53 DoR.MCS.REC.28/01.01.001/2023-24 dt August 18,2023
The purpose and reason for dispensing with penal interest and replacing it with Penal charges by RBI is as follows:
“The intent of levying penal interest/charges is essentially to inculcate a sense of credit discipline and such charges are not meant to be used as a revenue enhancement tool over and above the contracted rate of interest. However, supervisory reviews have indicated divergent practices amongst the REs with regard to levy of penal interest/charges leading to customer grievances and disputes.”
Undoubtedly, the intentions of RBI are good. But the remedy should not be worse than the disease.
The transition from penal interest to penal charges is a significant development aimed at fostering a sense of credit discipline among borrowers while ensuring fair compensation to the lender. However, the recent guidelines have introduced certain complexities and ambiguities that require further clarification to ensure seamless implementation and to address potential challenges. To this end, we respectfully request the RBI to consider issuing Frequently Asked Questions (FAQs) on the subject matter.
The following key points outline the practical problems, issues, and questions that have arisen with respect to the new guidelines:
1. Income Recognition: It is essential to clarify whether the rules governing the reversal of interest debited to loan accounts in case of Non-Performing Assets (NPAs) apply similarly to penal charges.
2. Asset Classification: Clarification is needed regarding the classification of accounts based on overdue penal charges under the existing RBI guidelines on Prudential norms.
3. Treatment of Penal Charges by Certain NBFCs: Some non-banking financial companies (NBFCs) follow a different system of collecting penal charges and other charges. They do not tinker with the EMI payments. In other words, all the repayments are adjusted towards EMIs till the entire liability is cleared. The penal interest and other charges are kept on hold and collected at the time of closure of the account/clearance of all EMIs. We request guidance on whether this system can be adopted by banks as well.
4. Appropriation of Repayments: Clear guidelines are needed regarding the order of repayment allocation, especially in cases where penal charges are involved. Are banks to continue following FIFO method (oldest overdue first) including penal charges? – Whether clarifications issued vide RBI/2021-2022/125 DOR.STR.REC.68/ 21.04.048/2021-22 dated 12 November 2021 are applicable to Penal charges also.
5. Exemption for Priority Sector Loans: We seek clarification on whether the exemption from penal interest for priority sector loans up to a specific threshold extends to penal charges as well. – eg) Priority sector loans upto Rs.25000/- or Agri loans till two crop seasons.
6. Penal charges for delay in renewal of running limits: At present Banks levy penal interest if there is delay in renewal of Overdraft/Cash credit limits. In the advent of the new guidelines, banks may need to know whether penal charges are to be collected on the Limit sanctioned or the outstanding liability in the running limits for delay in renewal.
7. Applicability to Export Credit: Applicability of Penal charges to Pre-shipment and Post-shipment credit to be clarified. For instance, Banks are directed to charge ECNOS rate (Export Credit Not Otherwise Specified in the Interest Rate structure) if the export do not materialise & Banks should not charge penal interest in respect of ECNOS. Similarly, banks levy penal interest if the export bill realisation takes place after the ostensible due date. Clarity is required on these issues.
8. Applicability to Foreign Currency Loans: Banks extend various loans denominated in Foreign Currency. To quote a few, Packing Credit denominated in FC (PCFC), Post shipment credit in FC (PSCFC) and Foreign Currency Term Loan (FCTL). Normally the banks crystalize the FC liability in Indian Rupees (INR) on the due date of repayment/instalments. Should banks continue to charge Penal interest on the overdue in FC Loans or switch over to Penal charges
9. Charges on Overdue Financial and feedback Statements: When penal charges are levied for delayed submission of Audited Balance sheet, Quarterly/Half-yearly Operating statements, Stock and Book Debts statements etc, what should be the basis? Can it be levied on the entire outstanding liability for the delayed period?
10. Basis for calculating penal charges for delay in repayment of instalments to loans: Should the penal charges be levied ad valorem? For instance, in SB accounts the penal charges for non-maintenance of MAB depends on the shortfall in MAB and banks cannot levy flat charges. Whether same principle is to be applied to penal charges for loans and advances? In other words, are the banks expected to collect penal charges basing on the amount of overdue and the period of delay in repayment?
11. Non-compliance of other terms and conditions: Non-compliance In terms and conditions may include say, delay in execution of documents, delay in creation of charge on the security (including mortgage of property), failure to maintain sufficient margin, failure or delay in bringing stipulate securities etc. Whether the penal charges depend on the number of days of delay in complying with the terms and conditions or the outstanding liability or both?
12. Loan Repayment Appropriation Method: It is understood that penal charges should not be added to the principal or treated separately to prevent compounding effects. This requires suitable software modifications.
13. Capitalization of other Charges: Given the introduction of penal charges, we seek guidance on whether inspection charges and godown charges can still be capitalized.
14. Implementation for Term Loans: Guidance is needed on when and how to implement the new penal charges regime for existing term loans, including whether individual communication or website disclosures are sufficient.
15. Applicability of GST: The Fis do not provide any service while collecting the penal charges. This needs clarification on applicability of Goods and Services Tax (GST) on penal charges.
16. Modification of Software: Once all the above points are clarified by RBI, the banks/REs have to take up modification of CBS and other related software programs. Software modification (in accounting and interest calculation method etc) may take 2-4 months.
The implementation of these guidelines requires careful consideration to ensure compliance and avoid potential disputes with customers. Therefore, RBI has to provide comprehensive FAQs addressing these issues. These FAQs would not only serve as a valuable resource for banks but also enhance transparency and understanding for borrowers.
Prepared by Chandramouli Mohan – 08/12/2023 – Email ID: tenkaraimohan@gmail.com
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