RBI Warning On Cash Loans Against Gold Intended To Ensure Transparency And Orderly Conditions

Share prices of several companies, which run sizeable portfolios of gold loans, took a hard hit on Thursday, plunging up to 7 per cent, but recuperated most of the losses as the broader market staged a recovery on Friday. While Muthoot Finance share prices returned to levels before the RBI warning came in, Manappuram was still down about 4 per cent from Wednesday's close. 

As per Section 269 SS of the Income Tax Act, 1961, an individual is not permitted to receive more than Rs 20,000 as loan in cash against gold.

Though credit against the metal is essentially a secured loan, the RBI, which at one point actively promoted the gold loan market, is now increasingly becoming uncomfortable with the way advances are sanctioned and disbursed by NBFCs. Violation of the lending rule book has been on the rise. In March, RBI imposed a ban on IIFL from sanctioning and disbursing fresh gold loans.

The sharp rise of about 20 per cent in the price of the yellow metal in the last one year has pushed gold loan demand in India despite interest rates varying between 10 and over 20 per cent. According to most indicators, the external uncertainties could push gold prices further leading to greater demand for loans. But a price drop could result in a sub-prime crisis-like situation.

According to RBI data, the total outstanding loan amount on gold jewellery as on March 2024 was Rs 1,02,658 crore, up from Rs 89,382 crore in March 2023. This is an increase of 14.9 per cent. Though the growth has been a little slower compared to 19 per cent recorded in the previous year, it is above RBI's tolerance level. In March 2022, the outstanding amount was Rs 74,665 crore. 

“As long as gold prices are increasing, the risk is not much but one has to take into account an untoward situation. If prices fall, it would impact not only the lenders and the borrowers but the economy as a whole,” a senior banker said.

In the post-Covid pandemic phase, the demand for gold loans has shot up, driven by economic distress on the one hand and the ease of monetising the metal on the other. For many, especially those in the smaller towns and rural areas, a loan against gold is a way to get quick and easy finance.

Shaji Varghese, CEO Muthoot Finance told The Secretariat that the RBI move will be beneficial for the organised gold loan sector as a whole in the medium to long term. Varghese said that RBI’s call will eventually lead to lower cost of transaction and reduce cash dealings.

“Today, most of the customers are already connected on UPI (Unified Payments Interface) or they have bank accounts. So, there is little concern. Even the customers will find it convenient to get a direct transfer of the loan amount. Now in case of an emergency, they are already eligible to get Rs 20,000 in cash against their gold,” Varghese said, adding that the move will streamline the gold loan portfolio.

V.P. Nandakumar, Managing Director & CEO, Manappuram Finance Ltd echoed similar sentiments. “We believe that the RBI has issued the said advisory to promote transparency and prevent potential disputes, and we support the same. We have always followed fully-compliant processes and will continue to do so. We don’t see the concerned advisory dissuading customers from obtaining gold loans,” Nandakumar said in a statement.

Sources said that following the RBI warning, the gold financiers have asked the relevant departments to examine the loan books.

Ban On IIFL

In March, the central bank banned IIFL, a Mumbai-based financial services firm, from sanctioning new gold loans. During the central bank’s review of IIFL’s books and financial status, several cases of violation pertaining to its gold loan portfolio came to light.

Serious lapses were found in the process of assessing the purity of gold. 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.

It was also found that IIFL was dealing in excessive cash disbursal of loans, often exceeding the statutory threshold.

Curbing Unorganised Channels

Overall, the gold loan portfolio in India has been growing exponentially, especially in the post-pandemic phase. A large chunk of gold loans are managed through unorganised players as well. A 2019 report by consulting firm by consulting firm KPMG estimated the share of the unorganised channels in total gold loans to be more than 60 per cent.

The report pointed out that the unorganised players, with their knowledge of the local market, provide quick gold loans with little documentation but at a very high-interest rate. It noted that being completely unregulated, customers are at the risk of exploitation by these players.

The RBI has been trying to formalise the gold loan market through initiatives such as the Gold Monetization Scheme (GMS) and the Gold Deposit Scheme (GDS).

Under these schemes, lenders accept gold deposits and issue loans against them. One of the reasons for RBI to introduce several gold loan schemes was to bring in more borrowers into the organised channel.

Its latest move appears to be aimed at ensuring more orderly conditions, transparency and accountability in the gold loan market, while protecting borrowers as well as lenders from vulnerabilities associated with too much cash transactions.