A lack of awareness is pushing buyers towards lump sum loans

The regulator doesn’t require lenders to disclose facts fairly, says Aditya Kumar, CEO of Qbera

A lack of awareness among loan applicants, a reluctance among non-banking financial firms (NBFCs) to speak openly about their products, and some laxity in disclosure standards by the sector’s regulator have resulted in customers ending up paying much higher interest rates on loans, than they should, according to industry players.

Reduce balance loan

It is common for NBFCs to fail to convey to the borrower that a reduced balance loan is cheaper than a fixed rate loan, even though the latter supposedly starts at a lower interest rate.

“There are two types of personal loan interest rates,” said Aditya Kumar, founder and CEO of Qbera, a Bengaluru-based digital lending startup.

“The first is reduced balance interest and the other is flat rate interest. Decreasing the balance means that when the principal is repaid monthly, the interest rate offered to you is charged only on the balance of the loan, not on the original loan amount. The interest flat rate charges you interest on the originally agreed loan amount for the entire term of the loan.”

For example, on a 36 month loan of 1 lakh, a flat rate of 10% means the borrower is paying a total interest amount of £30,000.

On a loan with a reduced balance of 15%, the borrower ends up paying only ₹24,795 in interest.

“However, a customer will immediately opt for the 10 percent flat rate loan because of the lower interest rate,” said Bala Parthasarathy, co-founder and CEO of MoneyTap, an app-based line of credit. “The details are in the fine print that no one else reads.”

Part of the reason, Mr Kumar explained, is that consumers don’t know the difference between flat rates and discount rates.

Nor does the regulator require lenders to disclose facts fairly.

“What people are trying to do is actually disguise flat rate loans as reduced balance loans,” he added.

“Some lenders say they give a personal loan at 9.99%. They don’t say if it’s a flat rate or a credit reduction. As of today, they are not required by the RBI to disclose what the effective interest rate would be on a diminishing balance basis,” noted Mr Kumar.

“It’s a combination of misleading consumers, a lack of transparency on the part of lenders, and the regulator not requiring lenders to make adequate disclosures.” “In the US, for example, there is something called ‘truth in lending,’ and they have similar laws in other parts of the world that govern fair practices and mandatory disclosures.”

“Unfortunately, this is a very common trend in the industry,” added Mr. Parthasarathy. “Banks don’t usually do it, but NBFCs tend to do it. And that’s a big problem, because the NBFCs cater to the demographic that isn’t very knowledgeable about financial matters,” he added.

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