The story so far: The Reserve Bank of India (RBI) on April 9 put out draft guidelines for consultation on how lending against gold jewellery and ornaments as collateral should be conducted. The norms strive to harmonise the overall regulatory framework which may differ for entities with varied risk-taking capabilities and address concerns relating to their present conduct. The apex banking regulator is soliciting comments on the proposed regulations until May 12.
Regulations felt necessary
The central objective of the proposed norms is to enable a standardised framework which would help address issues emanating from lack of proper due diligence in the realm and improper assessment of the value of gold.
The apex banking regulator in September last year had expressed its disquiet about how loans were being disbursed through business models that had regulated entities partnering fintech platforms and/or other financial service providers. Concerns existed about the value of the metal being assessed in the absence of the borrower and outsourcing of essential procedures as credit appraisal, valuation and KYC of customers to the partner entity, among other things.
Gold loans essentially provide money to interested borrowers for their immediate or long-term requirements by pledging the yellow metal which would have otherwise stayed idle. Its essential value makes it an ideal collateral which is auctioned off in case the loan is not repaid. However, the regulator observed instances wherein the average realisation from auctioning the gold was lower than the initially estimated value of the precious metal when the loan was disbursed. This was because of an incorrect assessment of net purity and/or weight.
The regulator also had concerns about entities not having verified the end use of the loans against their stated purpose thus being unable to correctly assess the associated risk and place proportionate risk weights.
Imperative to note here that loans against gold jewellery have increased more than 87% on a year-over-year basis at the end of February. Furthermore, the Finance Ministry informed Parliament earlier this year that gross non-performing assets pertaining to gold loans in Scheduled Commercial Banks (SCBs), and upper- and middle-layer non-banking financial companies have increased by 18.14% between March and June last year.
Addressing the lacuna
The proposed norms introduce specific yardsticks for valuing the gold and accordingly disbursing the loan.
Firstly, the yellow metal sought to be placed as collateral would have to be valued against the price of 22-carat gold. The reference price could be the average of the preceding 30 days or the closing price of the preceding day as quoted by the Indian Bullion and Jewellers Association Ltd., or the spot price of gold in SEBI-regulated commodity exchanges. The RBI also proposes that hallmarked gold be accorded preferential treatment with the margin and interest rates set accordingly.
Other than this, the RBI proposes that aggregate weight of silver and gold ornaments and jewellery must not exceed 1 kilogram per borrower. As for coins, the aggregate weight cannot exceed 50 grams for gold coins for a single borrower and 500 grams in case of silver coins. The regulator specifies that coins sold by entities other than banks not be considered for valuation.
Finally, the regulator proposes to mandate that lenders do not extend loans where the individual’s ownership of the metal is doubtful. When original receipts may not be available, the borrower would have to provide suitable document/declaration illustrating their propriety.
Single item, varied loans?
No, the apex banking regulator has specified that eligible gold collateral irrespective of their value cannot be used concurrently for extending loans meant for income generating purposes and for personal consumption. In fact, the regulator also proposes to specify that lender do not extend loans against re-pledged collateral. RBI seeks that the borrowed money must only be utilised for the purpose for which it was sought.
According to Anand Mihir, Financial Services Risk Consulting Leader at EY India, this would help improve the paradigm for risk assessment for lenders and avert borrowers’ over-leveraging of the same collateral. Thus, strengthening the integrity and stability of the gold loan market, he observed.
Framework on loan size?
Yes, the more notable specification introduced in the framework entail that the loan to value ratio (LTV) against gold collateral cannot exceed 75% of its value. LTV ratio refers to the quantum of money a borrower can receive based on their pledged gold. Therefore, if the pledged gold is worth ₹10,000, the sanctioned loan amount cannot be greater than ₹7,500. This would apply to all NBFCs irrespective of the purpose for which it is sanctioned.
The RBI has sought that the ratio be maintained on an ongoing basis throughout the tenor of the loan. However, should the outstanding loan amount inclusive of (accumulating) accrued interest surpass the 75% threshold, the lender would have to set aside an additional 1% of the principal loan amount as reserve against potential losses. This would be until the ratio is brought within limits and stays so for thirty days.
More importantly, the proposed regulations seek that if the breach exists at the date of maturity, no renewal would be allowed.
Bad news for NBFCs?
Shares of all major NBFCs, such as Muthoot Finance, IIFL Finance and Manappuram Finance declined when the draft proposal was published last Wednesday.
Concerns primarily emanated on two fronts, that is, increased cost of compliance and the impact on their assets under management (AUMs). This is especially considering the mandated LTV ratio and adjustments for a potential breach. For perspective, according to brokerage platform Groww, gold loans constitute a significant portion of the companies’ AUMs. For Muthoot Finance, it stands at 98%, Manappuram Finance 50% and IIFL Finance 21%.
About the other aspect, Mr. Mihir maintains the LTV threshold is unlikely to significantly impact the sector. He elaborated this was because banks typically lend at an LTV of 60-70% while NBFCs usually preserve a range of 70-80% for gold loans. The EY risk consulting leader observed that while the overall framework may initially lead to higher compliance and operational costs, they are expected to improve asset quality, reduce default risks and enhance overall market credibility.
George Alexander Muthoot, Managing Director at Muthoot Finance welcomed the “thoughtful and timely step” towards creating a robust framework for the sector. “RBI’s focused engagement on this sector is an encouraging step, and we look forward to actively contribute to this maturing regulatory and business landscape,” he held.
Published – April 15, 2025 07:00 am IST
