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The Reserve Bank of India, in its press release dated June 8, 2023, issued Statement on Developmental and Regulatory Authority. The statement includes various developmental and regulatory policies and measures relating to the regulation of Default Loss Guarantee (DLG) Arrangements in Digital Lending.It has been agreed to establish a regulatory framework for allowing Default Loss Guarantee arrangements in Digital Lending on the basis of thorough consultations with various stakeholders and in line with the RBI’s objective of maintaining a balance between innovation and prudent risk management. This Blog will discuss the detailed guidelines on Default Los Guarantee (DLG) in Digital Lending.
Table of Contents
Banks, NBFCs, and fintech businesses are still waiting for clarification on a number of issues, including the First Loss Default Guarantee (FLDG) mechanism, after the RBI released guidelines on digital lending.The first loss guarantee is a system that pays lenders in the event of a borrower default. Lenders are more willing to make loans as long as a third party is covering the losses. It serves as loss protection. The RBI stated in 2022 guidelines that it opposed such agreements because they would tempt lenders to take on excessive risk.To address this, the Reserve Bank released guidelines on default loss guarantee (DLG) in digital lending, a step intended to ensure the system for distributing credit in an orderly manner.
The following entities or regulated entities are considered “Digital Lending” operations under the guidelines:
A written agreement between the Regulated Entity (RE) and a company that satisfies the eligibility requirements outlined in the guidelines, whereby the latter agrees to cover the RE’s loss from default up to a predetermined percentage of the RE’s loan portfolio. Any other implicit guarantee of a similar character that is based on the success of the RE’s loan portfolio and is disclosed upfront shall likewise fall within the definition of DLG as per the guideline.
A Regulated Entity may only enter into a DLG agreement with a Lending Service Provider (LSP) or another RE with whom it has already entered into an outsourcing agreement (LSP). The lending service provider offering a default loss guarantee must be incorporated as a company per the 2013 Companies Act.
An explicit, legally binding contract between the RE and the DLG provider must support all DLG agreements. The following information must be included in the contract, among other things:
A regulated entity may only accept a digital loss guarantee in one or more of the formats listed below:
Disclosure Requirements – The regulated entity must set up a system to make sure that lending service providers with whom they have a DLG agreement should post the total number of portfolios and the amount of each portfolio on which DLG has been offered on their websites.
Our guidelines in the “Guidelines on Digital Lending” dated September 02, 2022, as well as other applicable current norms, should serve as the basis for customer protection measures and grievance redressal concerns pertaining to DLG arrangements. Grievance redressal as per the guidelines on digital lending are:
The following schemes and entities’ guarantees are not included in the definition of Digital Loss Guarantee:
The RBI has been actively involved in regulating and overseeing digital lending. It has taken steps to safeguard borrowers’ interests and ensure fair practices in the digital lending market. These directives are taken in accordance with sections 6 of the Factoring Regulation Act, sections 45JA, 45L, and 45M of the Reserve Bank of India Act, 1934, sections 21, 35A, and 56 of the Banking Regulation Act, 1949, and section 30A of the National Housing Bank Act, 1987.
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