RBI Clamps Down on Lending Against Gold

The Reserve Bank of India (RBI) tightened the rules for lending against gold and jewelry by the non-banking financial companies (NBFCs) due to concern over the rapid growth of such activity in the country.

NBFCs, which are predominantly engaged in lending against the collateral of gold jewelry, have recorded significant growth in recent years and this has led to their
increased dependence on public funds, including bank finance and non-convertible debentures issued to retail investors, RBI said in a notification on Wednesday.

Gold Bar“Given the rapid pace of their business growth and the nature of their business model, which has inherent concentration risk,” exposes them to adverse movement in gold prices, RBI warned.

As a prudent measure, the central bank stated that NBFCs cannot lend more than 60 percent of the value of gold jewelry and they have to disclose the percentage of such loans to their total assets in their balance sheet. It added that companies whose loans comprise 50 percent or more of their financial assets should have a minimum Tier l capital, or equity capital, of 12 percent by April 01, 2014.

RBI also prohibited NBFCs from lending against bullion, primary gold and gold coins.

NBFC provides loans that are secured by gold jewelry, primarily to individuals who face difficulty in accessing formal credit to meet their urgent cash requirements. They have created a niche market with gold loan capabilities by providing easy access, with little documentation and formality, for quick disbursal of loans and lockers to ensure safety of the gold that is pledged.

“Of late, the industry has attracted a lot of new entrants seeing the success of the existing players,” stated Muthoot Finance Ltd., a leading gold loan company. “We feel that the RBI has taken these steps in order to regulate the risk especially with respect to new entrants to the sector, who may not be aware of the various nuances of the business and also to strengthen the existing companies.”

The steps taken with respect to capital adequacy and loan-to-value (LTV) should be seen as steps to strengthen the sector with robust operating practices and risk control measures, Muthoot Finance noted.

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