Giving all the facts is key to transparency

The Reserve Bank of India (RBI) has long been concerned about the lack of adequate disclosure of all the charges borrowers must pay when taking out loans and scant transparency concerning the rates they have to pay. The first step the RBI took to counter this situation was to require banks to provide a one-page key fact statement (KFS) and fact sheet in a prescribed format to all individual borrowers when the loan was processed and whenever the terms and conditions of the loan changed. The requirement was extended to all microfinance institutions in April 2022 and in September 2022 to all banks and non-banks lending through digital mechanisms.

To remove any possibility of there being inadequate disclosure and to minimize regulatory arbitrage, the RBI in its statement of developmental and regulatory policies of February 2024 foreshadowed its intention to extend the requirement to all regulated entities (RE), who would have to provide a KFS to every retail borrower and for loans to micro, small and medium enterprises (MSMEs). The statement explained that providing “critical information about the terms of the loan agreement shall greatly benefit the borrowers in making an informed decision”. On 15 April 2024, the RBI issued directions requiring all entities regulated by the RBI to provide a KFS for retail loans and loans to MSMEs.

The term key facts has been defined as the “legally significant and deterministic” facts of a loan agreement between an RE and a borrower or a group of REs and a borrower that provide the basic information required by a borrower to make an informed financial decision. A KFS has been defined as a statement of key facts of a loan agreement in “simple and easier to understand language” to be provided to a borrower in a standardised format. The April 2024 directions further define the term annual percentage rate as the annualised cost to the borrower of a loan, including the interest rate and all other charges payable in connection with a loan. A new term, equated periodic instalment or EPI, has been introduced by the April 2024 directions, and is defined as equated or fixed amounts of repayments, comprising both principal and interest components, to be paid by a borrower towards repayment of a loan at periodic intervals for a fixed number of such intervals, which result in the complete amortisation of a loan. Where EPIs are payable at monthly intervals, they will be known as equated monthly instalments or EMIs.

All REs are now required to provide a KFS to all prospective borrowers to enable them to take an informed view before entering into loan agreements. The KFS is to be provided in a standardised format prescribed under the April 2024 directions. The KFS has to be written in the language of the borrower and must be explained to the borrower. An RE must also obtain an acknowledgement from the borrower that they have understood the contents of the KFS that have been explained to them. The KFS must include the calculation of the APR and the loan amortisation schedule. These must be set out in the standardised formats prescribed by the April 2024 directions.

Every KFS must bear a unique proposal number. A KFS has to have a validity period of at least three working days for loans with a maturity of seven days or more, and a validity period of one working day for loans with a maturity of less than seven days. The April 2024 directions define the expression “validity period” as the time period within which the borrower can accept or agree to the terms of the loan. If the borrower signifies their acceptance within this set time period, the terms of the KFS will be binding on the RE.

The April 2024 directions explain that their purpose is “to enhance transparency and reduce information asymmetry on financial products being offered by different regulated entities, thereby empowering borrowers to make an informed financial decision”.

Providing the standardised formats in which such disclosures are to be made makes it easier and more transparent for a borrower to work out the actual cost of a loan and decide whether they should take up such a loan. This regulatory move is laudable. Enabling borrowers to compare financial products and instilling confidence in such offerings will promote trust in the financial markets and enable the industry to grow.

Sawant Singh and Aditya Bhargava are partners at Phoenix Legal.