RBI Guidelines on Penal Charges on Loan Accounts

April 2, 2024

The Reserve Bank of India's (RBI) latest guidelines on penal charges on loan accounts have come into effect recently.

About RBI Guidelines on Penal Charges on Loan Accounts:

  • The norms prohibit commercial banks and finance companies from charging borrowers’ penal rates on loan defaults or any other non-compliance event.
  • Under the new rules, penalty, if charged, for non-compliance of the material terms and conditions of the loan contract by the borrower should be treated as ‘penal charges.
    • It cannot be levied in the form of ‘penal interest’ that is added to the rate of interest charged on the advances.
  • There should be no capitalisation of penal charges; that is no further interest computed on such charges.
  • The material terms and conditions will be defined as per the credit policy of the bank, and they may vary from one category of loan to another, and from bank to bank based on their own assessment.
  • There is no upper limit or cap for penal charges. However, the guidelines stipulated that the quantum of penal charges would be reasonable and commensurate with the non-compliance without being discriminatory within a particular loan category.
  • The guidelines had also mentioned that the penal charges in the case of loans sanctioned to individual borrowers for purposes other than business will not be higher than the penal charges applicable to non-individual borrowers for similar non-compliance. 
  • Also, in order to prevent banks from imposing arbitrary rates of interest, they are meant to follow a board approved policy on penal charges on similar charges on loans. 
  • These guidelines will not apply to credit cards, which are covered under product specific directions.
  • The key rationale of the guidelines was that the intent of levying penal charges is meant 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.