Context:

·Recently, the Reserve Bank of India (RBI) released draft directions on loans against gold collateral.

Enhancing Regulatory Oversight of Gold-Backed Lending

• On April 9, 2025, the Reserve Bank of India (RBI) issued draft guidelines aimed at tightening the regulatory framework governing loans secured by gold collateral.
•  These proposed measures seek to standardize lending practices across regulated entities—including banks and Non-Banking Financial Companies (NBFCs)—in response to the rapid expansion of gold loan portfolios and increasing concerns over irregular lending behaviors.
• This regulatory initiative comes amid a notable surge in gold-backed lending, particularly among banks, whose gold loan portfolios more than doubled during the financial year 2023–24.
• Despite serving as a crucial source of short-term credit—especially for rural and semi-urban borrowers—the gold loan segment has shown wide disparities in areas such as loan disbursement, collateral valuation, and recovery practices.
• The RBI's proposed reforms aim to address these inconsistencies by enhancing transparency, promoting standardization, and reinforcing borrower protection.

Background and Rationale for the Reform

• The proposed regulatory revisions stem from mounting concerns over systemic risks and inconsistent lending practices within the gold loan segment. Instances have emerged where loans were extended in ways that exceeded existing regulatory norms—particularly through the use of top-up loans and bullet repayment structures, which can obscure the true credit exposure.
• The socio-economic significance of gold loans, especially in rural regions of South India, has drawn the attention of policymakers. The Government of Tamil Nadu, emphasizing the critical role these loans play in rural credit access, formally conveyed its concerns to the Union Finance Ministry regarding the potential adverse impact of tighter regulations.
• In response, the Ministry of Finance assured stakeholders that the Reserve Bank of India would take a calibrated approach to reform. To minimize disruption, it was confirmed that the new regulatory framework would come into effect from January 1, 2026—allowing sufficient transition time for lenders and borrowers alike.

Key Proposals in the Draft Guidelines

The Reserve Bank of India's draft guidelines introduce a series of targeted reforms aimed at enhancing transparency, safeguarding borrower interests, and curbing malpractices in gold-backed lending. The key proposals include:

• Loan-to-Value (LTV) Norms: While the maximum LTV ratio remains capped at 75%, the draft mandates that, for consumption-oriented bullet repayment loans, accrued interest must now be included in the LTV calculation. This effectively reduces the net disbursed loan amount and curtails the risk of over-leveraging.
• Collateral Ownership Verification: Borrowers will be required to furnish proof of ownership of the gold being pledged. This measure is intended to prevent the pledging of stolen or third-party gold, thereby strengthening the integrity of the lending process.
• Standardisation of Gold Valuation: The valuation of pledged gold must be based on 22-carat purity, with standardized procedures for assessing both purity and weight. This aims to ensure consistency and fairness in how collateral is appraised across institutions.
• Loan Renewals and Top-Up Loans: Renewals and top-up loans will be permitted only if the original loan is classified as standard and remains within the prescribed LTV limits. This provision seeks to prevent circumvention of credit norms through repeated restructuring.
• Restriction on Concurrent Loans: Borrowers will no longer be allowed to obtain multiple loans—whether for consumption or income generation—using the same gold collateral. This move is designed to mitigate the risks of over-indebtedness and double-financing.
• Timely Return of Collateral: In the interest of borrower rights, lenders who fail to return the pledged gold within seven working days of loan closure will be required to compensate the borrower at a rate of ?5,000 per day of delay.

Impact on Borrowers and Lending Institutions

While the proposed reforms are primarily designed to enhance consumer protection and curb non-transparent lending practices, they also present certain challenges and trade-offs for both borrowers and lenders:

• Reduced Flexibility for Borrowers: The requirement that borrowers must fully repay the principal and accrued interest before becoming eligible for loan renewals or top-ups may constrain liquidity, particularly for borrowers in urgent need of short-term credit.
• Lower Loan Disbursal Amounts: With the inclusion of accrued interest in the Loan-to-Value (LTV) calculation for certain loan types, borrowers may be required to pledge more gold to access the same level of funding or may have to settle for smaller loan amounts.
• Higher Compliance Burden for Lenders: The introduction of mandatory documentation for ownership verification and the enforcement of standardised valuation protocols are likely to increase operational complexity and administrative costs—especially for smaller Non-Banking Financial Companies (NBFCs).
• Potential Cost Pass-Through to Borrowers: To offset increased compliance and risk-management expenses, lending institutions may revise their pricing strategies, potentially resulting in higher interest rates or additional charges for end borrowers.

Addressing Concerns of Market Disruption

• The Reserve Bank of India’s proposed guidelines have sparked a broader debate about the appropriateness of a uniform regulatory framework, given the diverse and heterogeneous nature of India’s financial ecosystem.
• In many rural and semi-urban areas, gold loans serve as a critical—often sole—source of formal credit for households and small businesses. A standardized, one-size-fits-all regulatory approach may inadvertently restrict access to credit for vulnerable segments, potentially leading to financial exclusion.
• To strike a balance between oversight and inclusion, several industry stakeholders have recommended a differentiated regulatory model. This could involve lighter compliance requirements or tailored provisions for micro-loans targeted at small borrowers, while applying more stringent safeguards to high-value or large-scale lending activities.

Managing Volatility and Enhancing Sector Stability

• The Reserve Bank of India’s proposed regulatory framework also addresses the broader macroeconomic context marked by a sharp surge in gold prices, which has intensified demand for gold-backed credit. While rising gold valuations can temporarily boost collateral value, they also introduce heightened risk for lenders—particularly in cases where loans are overvalued or collateral is re-pledged.
• To mitigate these vulnerabilities, the draft guidelines emphasize prudent valuation methodologies, strict collateral ownership verification, and time-bound recovery procedures. These measures are intended to instill greater financial discipline and reduce systemic exposure within the gold loan segment.
• Additionally, the proposed norms seek to create a more equitable regulatory environment by harmonizing standards across banks and Non-Banking Financial Companies (NBFCs). By curbing regulatory arbitrage and promoting consistency in lending practices, the reforms aim to enhance consumer trust and ensure long-term sectoral stability.

Conclusion:

• The Reserve Bank of India’s draft guidelines for gold-backed lending represent a pivotal move toward strengthening oversight in a rapidly expanding credit segment that predominantly serves financially vulnerable populations.
• Through measures aimed at standardizing operational practices and improving transparency, the RBI intends to mitigate lending-related risks while preserving the accessibility of gold loans as a vital source of short-term credit.
• The proposed implementation timeline—set for January 2026—offers a reasonable window for stakeholder engagement and regulatory refinement. This measured approach underscores the RBI’s intent to balance financial stability with inclusive access, ensuring that reforms are both effective and equitable.

Source : The Hindu