For Retail Borrowers, Good Score is No Credit
Corporate customers are charged based on their credit rating, but not individuals. It is time the regulator ensured retail borrowers got a fair deal, say &
Ever wondered why despite a good loan repayment track record and strong financials, you end up paying the same interest rate on your home loan or car loan as your neighbor with poor financial credentials? Indian banks charge corporate customers based on their so-called credit rating, but they don’t follow the practice in retail lending even though they use credit history from information bureaus to decide whether to give you a loan or not.
This essentially may well be the case of banks robbing Peter to pay Paul: as profitability from lending to companies gets squeezed because of their negotiating power and due to bad loans, the rates for individuals with high credit score end up being high for even secured lending such as loans against property and also unsecured personal loans.
Unlike in corporate lending, retail lending, which is just about two decades old in India, does not follow the practices of the developed world, as it suits banks to charge high rates from retailers who do not have a voice like that of a corporate to force banks to lower rates based on credit rating.
“Loan pricing in India is not only about credit scores, it is about many other things,” Saurabh Tripathi of Boston Consulting Group says. “But banks should differentiate between good and bad customers. It is administrative convenience not to differentiate between customers. In retail, you advertise one rate and you go to the market. The business has not matured and evolved enough to reach that stage, but it will come there, it’s a life cycle.”
Credit information bureaus like CIBIL, in general, assign rating between 300 points — for individuals who are the least trustworthy and unlikely to repay loan, and 900 points — for blue chip customers with high income, with the probability of default being almost zero, like a Hindustan Unilever or a Procter & Gamble of retail credit market in effect. So the lower end of the rating is equivalent to junk rating, or D, for companies and the higher end is like triple A.
Normally, triple A rated companies like Reliance Industries borrow slightly above the base rate, currently between 9.3% and 11%, and junk-rated Jindal Steel or an Amtek borrow 6-7% percentage points above the base rate.
But when it comes to personal loans, a customer with 900 points and another with 700 points are charged between 11% and 14%, unlike in the US, where customers with different ratings are categorised as prime, Alt A and subprime and are charged varying interest rates.
“In some developed countries, there may be as much as 100 basis points difference (in rates) for the highest and lowest-rated borrowers,” says John Hartman, president, International Equifax, a credit information company. “There is more data available on consumers. More data means there is more weightage on the score.”
The credit information bureaus have been a boon to banks, having helped considerably reduce the risk of lending to doubtful customers, a far cry from the situation in the late 90s when indiscriminate lending burnt holes in banks’ balance sheets. The banks’ recovery tactics, such as sending goons and eunuchs to borrowers’ homes to recover loans, led to social backlash and a scolding from the judiciary. “Retail lending in India is portfoliobased, meaning there is no differentiation in the pricing of the loan,” says Pralay Mondal, senior group president, retail & business banking, at Yes Bank. “Banks in India do not lend below a certain threshold of credit rating. Any person beyond that threshold is denied a loan, so there is no case for differential rates.”
To be sure, credit rating has at least kept credit to retail borrowers flowing, ensuring banks don’t just slam the door on the entire category. The regulator, which also acts as a customer protection agency in the case of banking, seems to have failed to usher in the culture in retail lending though it has been busy pushing banks to lower their overall benchmark rates in recent months.
But despite reduced risk in retail loans, banks have failed to pass on the benefit to customers by lowering rates. Between fiscal 2011 and 2014, while the total gross non-performing assets in the corporate sector grew by 300 bps, non-performing loans in the retail segment fell by over 170 bps, clearly indicating that the use of information bureaus had helped retail non-performing assets defy the overall trend.
“Differential rates to the same set of borrowers are not allowed unlike in the west where credit scores have high importance and even people with lower ratings are given subprime rates,” VN Kulkarni, former chief counsellor at Bank of India’s Abhay Credit Counseling, said. “Banks don’t offer deferential rate but a credit score of above 600 ensures that you get a loan. Any score below that, and banks will not lend.”
Credit scores are being used by banks to even push higher levels of loans even though they do not talk much about interest rates. A customer with 900 points may get home loan of up to Rs 3 crore, but the chances of him getting a lower-thanadvertised rates are slim. “Customers may not get a lower rate but banks may offer a higher loan amount to a person at the same rate,” Sumant Kathpalia, head — consumer banking, IndusInd Bank, says. “Now-a-days many banks offer a preapproved loan in which credit scores play an important part, but, yes, it is not the only parameter for determining the lending rate.”
Currently, organised credit information bureaus cover about 20% of adult individuals in India. In China, credit reference centre of People’s Bank of China covers around 30% of the adult population and this coverage is growing much faster than in India, as per a 2014 report by Boston Consulting Group.
That retail borrowers are not deriving the benefits for good behaviour is partly because of the absence of consumer activism in India, unlike in the West, and the regulator not having been able to push the case for banks to end the discriminatory stance for corporate and individual borrowers. Even RBI Governor Raghuram Rajan has highlighted that bad behaviour by some unscrupulous promoters was harming the industry and greater scruples would possibly do more to bring down borrowing costs than monetary policy actions. “I am not worried as much about losses stemming from business risk as I am about the sharing of those losses, because, ultimately, one consequence of skewed and unfair sharing is to make credit costlier and less available,” Rajan had said.
Credit is costlier for individuals, barring home loans, probably. Will it be set right?
In India, retail borrowers don’t derive benefits for good credit behaviour partly because of the absence of consumer activism