FLDG guidelines expected in second round of digital lending regulations

a FLDG (First Loss Guarantee) Model Regulatory Framework It is expected to be released as part of the second round of digital lending standards, and is likely to be more enabling than prohibitive, according to industry sources.

We will look forward to achieving the new standards In further accountability, the specific sharing of risk, the role of unregulated entities, appropriate underwriting and pricing processes for loans, and barriers around the amount and type of lending.

Bearing in mind that the fintech industry is still in its infancy and that the first set of standards is only six months old, the regulator wants to give companies time to adapt and comply. But as the system evolves, more sets of regulations will emerge, with FLDG being one of the top priorities, people familiar with the matter said.

“The Reserve Bank of India said it is a complex issue and there are a lot of factors that need deeper study,” said a person aware of the matter, adding that the challenge is to present it in a way that still serves the purpose without being manipulated.

risk sharing

the Digital lending rules It reacted quickly to the unscrupulous growth and lending practices that were taking place. Now that such practices have been rolled back, they added, the regulator is working to define the right framework and approach.

The concern on the part of the regulator relates to a ‘lease of license’ model where risk is transferred to unregulated entities in the name of risk sharing, especially for high value loans, which leads to systemic risk and data security.

“These loans were making a lot of people default and affecting the credit scores of people who might not have even had to get a loan in the first place,” said an industry official, adding that the sense that no one should be built on a high-risk model, especially In the leafy space because it increases the cost to customers, and because no one wants a repeat of the 2007-2008 financial crisis.

digital lending

Digital lenders presented to the regulator on the urgency of the situation and why allowing the FLDG model is critical given the industry that revolves around it and the many companies that have built their business models on it. The defined framework will also help reduce compliance costs, help expand business and expand the customer base of traditional lenders.

While most players would like to allow FLDG between regulated entities, some also hope to include non-regulated entities in the framework, albeit with appropriate restrictions and controls.

In the absence of regulatory clarification after the digital lending guidelines became effective from November 2022, fintechs have suspended operations or begun to explore options such as small ticket loan syndication, co-branded partnerships and alternative mechanisms.

Even those operating in the gray area have seen business decline as regulated entities and partners become risk averse due to uncertainty regarding FLDG permissibility. The standards treated FLDG similarly to synthetic securitization, which is not permitted for banks and non-bank financial firms, which led to a significant downturn in operations.

The FLDG model allows third-party service providers such as fintechs to compensate lenders for a certain percentage of default in the loan portfolio, thus reducing lenders’ risk. Alternative mechanisms being explored include repayment efficiency or collection efficiency lending where fintechs are paid based on their collection history, and a revenue sharing model where lenders share interest income with fintechs, depending on defaults of the borrower.