Overcharging on Interest rates

Context:

The Reserve Bank of India (RBI) has identified cases where lenders have unfairly charged borrowers excess interest. In response, it has instructed banks to refund these overcharges to affected customers.

More on the news:

• The RBI has also instructed banks and NBFCs  via a circular to review their loan disbursal methods and how they apply interest and other charges.
  • This step is taken to rectify any unfair practices and ensure customers are treated fairly.

Reason for RBI’s Instruction to banks to Refund Excess Interest

The RBI advises banks to refund borrowers for overcharging on interest due to unfair practices. These unfair practices include:

• Early Interest Charges: Banks charged interest from loan sanction/agreement date, not the actual disbursement date.
• Cheque Delays: Interest accrued from the cheque issuance date, even if the borrower received it later.
• Full Month Interest on Partial Month Loans: Interest was charged for the entire month, regardless of the actual loan period.
• Advance Installment Miscalculation: Interest was based on the full loan amount, even when installments were collected upfront.

These practices resulted in borrowers being charged extra interest, prompting the RBI to enforce fair and transparent interest applications.

What is RBI’s Policy on Interest Rates?

• Fair Practices Code Guidelines:
  • The RBI has been issuing guidelines on Fair Practices Code to banks and NBFCs since 2003.
  • Objective: These guidelines aim to promote fairness and transparency in interest charging by lenders, while also giving banks the freedom to set their own loan pricing policies.
• Non-Standard Interest Charging Practices:
  • The RBI is concerned about non-standard practices in interest charging that do not align with fairness and transparency.
    • Such practices go against the principles of treating customers fairly.
• RBI’s Response:
  • The RBI takes these issues seriously and advises banks through its supervisory teams to refund excess interest and charges to customers wherever such practices are found.
  • Banks are also encouraged to use online account transfers instead of issuing cheques for loan disbursals in some cases.

Communication of Interest Rate Changes to Borrowers by Banks

• Borrower Complaints: Many borrowers complain that banks do not adequately inform them about changes in interest rates.
• Communication Requirement:
  • According to regulations, banks are required to clearly communicate to borrowers at the time of loan sanction about how changes in benchmark interest rates may affect their loan, leading to changes in EMI (Equated Monthly Installments) and/or loan duration.
• Immediate Notification:
  • Any increase in EMI or loan duration due to changes in interest rates should be promptly communicated to the borrower through appropriate channels.
• Option for Fixed Rates:
  • When interest rates reset, regulated entities (REs) should offer borrowers the option to switch to a fixed interest rate as per the bank’s policy approved by its Board.
  • The policy may also outline how many times borrowers can switch during the loan term.
• Lack of Adherence:
  • However, banking sources suggest that these regulations are not consistently followed by banks.