NPA Rises With Gold Loan Surge, Threatening Credit Market

Not only does the trend underscore an increasing level of household indebtedness and underlying stress in the economy, it reflects the gross regulatory violation and negligence in undertaking the necessary due diligence process on the part of the lenders. If not addressed in time, this could lead to a full blown crisis denting India's growth prospects.

RBI data reveals that loans against gold and gold jewellery went up by 68.3 per cent in the April to December period of the current financial year.

The gold and gold jewellery credit market is primarily dominated by the non-banking financial companies (NBFCs). Weakness in the NBFC sector or even a potential failure of one or two could disrupt the financial services sector leading to acute cash crunch in the system.

"Though the gold loan market is dominated by the NBFCs, any kinds of a failure in these non bank lenders will have a big impact on the overall banking and financial services sector as well. It will not remain just within the NBFC sector," an insider said. NBFCs, which extend credit to borrowers, in turn borrow from commercial banks.

Recently, Finance Minister Nirmala Sitharaman, told Parliament that as of June 30, 2024, the gross NPA ratio for gold loan stood at 0.22 per cent for banks and 2.58 per cent for the upper and middle layer NBFCs. 

What is alarming is the pace of increase of the GNPAs. The GNPA pertaining to gold loans for scheduled commercial banks (SCBs) and upper and middle-layer NBFCs increased by 18.14 per cent from March 2024 to June 2024, the minister said.

According to data portal Statista, in 2024, the GNPA for gold NBFCs rose to 2.9 per cent from 1.2 per cent in 2021. However, between 2021 and 2024, the GNPA rate rose again to 3 per cent. 

Regulatory Slip For NBFCs

The surge in gold loans, especially for NBFCs, has also once again put the spotlight on these lenders’ regulatory criteria. “In many cases, these NBFCs have lowered the criteria for lending, giving loans to a large number of borrowers with a not-so-good credit history,” a senior official of a large Mumbai based bank, which has substantial exposure to NBFCs, told The Secretariat.

Know-your-customer (KYC) norms have often been diluted. What essentially the lenders have focused on is the gold or gold jewellery that is mortgaged while disbursing credit. "But the assessment of the borrowers' repayment capacity is critical too," the official added. 

What Has RBI Done So Far?

Former RBI governor Shaktikanta Das had come down heavily on the NBFCs. As per the central bank guidelines, loan-to-value (LTV) ratio for credit against the bullion should not exceed 75 per cent. Lenders are required to adhere to this LTV ratio throughout the tenure of the loan.

So, essentially if a borrower who has gold or gold jewellery valued at Rs 100, she will be eligible to get credit of only Rs 75.

Besides this, the RBI also asked lenders not to exceed the existing cap of Rs 20,000 on cash loan disbursal that is offered against gold or gold jewellery. The LTV ratio in many cases is lower than 70 per cent.

However, in a bid to support the small borrowers, LTV ratio of 75 per cent is not applicable to loans extended by SCBs for agriculture purposes. Lenders, in such cases are also permitted to make cash disbursement up to Rs 20,000 in case of gold loans

“It has been noticed that the guidelines are not being followed in many cases and borrowers flock to the non bank entities as it is easier to get credit from them,” the official pointed out.

Last year, RBI imposed a ban on IIFL from sanctioning and disbursing fresh gold loans after the central bank found discrepancies in the process of assessing the purity of gold, an earlier report by The Secretariat noted.

Gold Loans Fraught With Risks

Simply put, gold loans are linked to the price of the yellow metal. So as long as the price of the metal remains stable or even rises, the borrowers have nothing to worry but in case of a drop in prices, the loan amount dips. In such cases, borrowers would be required to pledge more gold or gold jewellery.

Assessing the purity of the metal is considered crucial for gold loan as it helps in determining the loan-to-value ratio. Based on the loan-to-value ratio, the lender then decides the maximum loan for the borrower. 

NBFCs, though come under the aegis of the RBI, the supervision is not as stringent as the country’s commercial banks.

The Economic Survey noted that the stress on unsecured credit such as personal loans and credit cards is a matter of concern within the banking system. Though gold loan is secured lending, the steady rise in NPA in this portfolio can disrupt the country’s well-oiled financial services sector.

The survey pointed out that as of September 2024, 51.9 per cent of the fresh addition to the stock of NPAs in the retail loan portfolio emanated from the slippages in the unsecured loan book.

The Way Forward

Though RBI has been taking steps to mitigate risks from time to time, it needs to further increase its scrutiny and ensure that lenders strictly adhere to the rule book. While extending credit against gold, lenders — banks and NBFCs need to assess the repayment capacity of the borrower.

“What happens in many cases is that the lenders do not assess the repayment capacity of the borrower... Gold loans have become an easy way to get credit often done without any proper documentation,” acknowledged another senior official who was attached to an NBFC.

Banks and NBFCs need to assess their gold loan portfolio and take the required steps to ensure there are no lapses in the future to avoid any full blown crisis. The default of IL&FS in 2018 had hit the Indian credit sector. The problem also highlighted the regulatory loophole.

That apart, the majority of gold loan borrowers are categorised as “poor” and this could spell trouble for them as well. If not addressed urgently, this could trigger a crisis in the credit market, even though gold loans are secured.