Truth in lending: Regulatory Measures in India

[The following guest post is contributed by Neha Somani of Vinod Kothari
Consultants Pvt. Ltd. The author can be contacted at [email protected]]
Truth-in-lending laws, found in many countries world-over,
ensure that lenders make a truthful disclosure of their rates of interest, and
do not seek to attract borrowers with misleading rates of interest. Truthful
disclosure of rates of interest is as important as fair disclosures made by a
vendor selling goods. There was a time when there was no truth-in-lending in India
at all. A lender could get away with disclosure of what was called “flat
rate of interest”, which was almost like half of the actual interest
rates. Leading housing finance lenders would show what was called “annually
declining rate of interest”, which was also was deceptively lower
than the actual interest rates
.
The Truth in
Lending Act (TILA) of 1968
is United States’ Federal law that requires
lenders to provide standardized information so that borrowers can compare the loan
terms and take their call accordingly. It has been implemented by Regulation Z
(12 CFR Part 226). Regulation Z has
been considered
as one of the most complex and broad regulations in the
consumer lending space. Compliance with this regulation has become increasingly
more challenging over the last few years. Contrary to popular belief, the Truth
in Lending Act does not regulate the charges that may be assessed against
consumer credit.  Instead, it requires a standardized disclosure of the
charges and costs that consumers can then compare with other creditors. It is
intended to ensure that credit terms are disclosed in a meaningful way so that
the consumers can compare credit terms more readily and knowledgeably. This is
done to stabilize the economy and encourage competition amongst financial
institutions by keeping their consumers informed about the terms and conditions
of the credit for which they are applying. 
Before its enactment, consumers were faced with a
bewildering array of credit terms and rates. It was difficult to compare loans
because they were seldom presented in the same format. Now, all creditors must
use the same credit terminology and expressions of rates. At the application
stage, disclosure of terms and conditions allows the consumer to compare credit
offers from different financial institutions. At the acceptance stage,
full disclosure of terms and conditions allows him, to adequately predict how
much the credit arrangement will cost him and whether it is an appropriate
financial move.
Two of the most important terms regulated by this Act are
finance charges and the annual percentage rate. Both of these terms may be
difficult for a lay person to understand, may vary from lender to lender, and
may greatly impact a consumer’s personal finances. The Act explains that the
amounts of both the finance charges and the annual percentage rates need to be
disclosed and may not vary significantly from the disclosed values. This
is essential for the consumer’s understanding of the credit terms and ultimate
repayment amount.
There are both civil and criminal penalties if the Act is
violated. Creditors can be liable for violating the disclosure terms of the Act
even if the consumer was not hurt by the violation unless the creditor fixes
the error within 60 days of notification or proves that the error was made
unintentionally. If a creditor does not comply with the requirements of the Act,
the consumer can file a lawsuit within one year of the alleged violation. Willful
violations of the Act could result in criminal charges being brought and
sentences of fines and prison time being imposed.

RBI barred
suppliers’ subvention financing
 

The Reserve Bank of India (RBI), through its circular
dated September 17, 2013
, took the high moral ground in directing
commercial banks to desist from certain “pernicious practices,” which, in its view,
“deter consumer protection and accounting integrity.” At the core of its
directives, was the fairly widespread practice of certain banks which offer
retail loans at “zero per cent” interest to purchase high value consumer
durables such as LCD TV sets, high-end refrigerators, and the like. Arguing
that there is no such thing as an interest-free loan, the RBI laid down
guidelines to make a large swathe of retail lending by banks more transparent.
Subvention, as well as moratorium on payment, are fairly common practices to
boost sales. There has been a disquieting tendency among banks of not giving
their customers information on the full extent of such concessions. Even more
unacceptable has been the practice of part-loading these to the interest rate
charged to make the latter appear lower. Through this notification, banks were
asked to pass on the benefits to their consumers “fully and indiscriminately”,
without camouflaging them in the form of lower interest rates. Thus, a discount
on the price would mean a lower quantum of loan. It also stated that repayment
of the loan would commence only after the moratorium period.
Credit card issuing banks quite
often promise
an interest-free EMI loan if a particular card is used for a
particular purpose- saying, booking of a travel. There are no free lunches in
life; neither is there any interest free credit in the world of banking.
Here,
zero interest is a misnomer because the borrowers are charged a high processing
fee.
 It is just that
the bankers are getting merchant commissions from the respective merchants
offering the services – in this, the airline or the travel company, from which
the interest is being made up
. Canons of transparency
require all such fees to be uniform across all products and segments. It was
also stated that no fees would be charged on debit card transactions by
merchants. Considering the overall scenario, consumer protection is far more
vital than a short-term dip in sales of consumer durables, which will rebound
over time anyway. By seeking to make expensive products affordable to even
those who cannot really afford it, the “zero-interest” schemes, which were not
really doing that, were ultimately drawing consumers into a debt-trap. Hence,
this notification came into picture at an appropriate time.
Supplier subventions were a common phenomenon all over
the world of asset-backed financing – manufacturers of automobiles, commercial
vehicles, construction equipment, even IT sector – all actively try to promote
the sales of their products through subventions. This notification put a curb
on subvention-based financing in India.

Non-Banking Financial Companies – Micro Finance Institutions
(NBFC-MFIs) are required to provide a copy to the borrower of a standard loan
agreement form, alongwith the terms and conditions of the loan, which include
the annualized interest rate and method of application. The borrowers must be
provided a summary loan card, which shall include the following information:

Effective rate of interest charged

Terms and conditions of the loan

Information that are sufficient for identification of borrowers

Acknowledgements by the NBFC-MFIs, with regard to the repayments
Non-compliance with these directions would tantamount to imposition
of the penal provisions under the Reserve Bank of India Act, 1934. The
NBFC-MFIs and the banks that lend money to them, both have to play the
monitoring role as well.

Steps
taken by RBI to ensure transparency

The RBI through its Circular
dated January 22, 2015
, has instructed banks to adhere to the following
instructions, which shall come into effect from April 1, 2015:
– Banks
are required to disclose on their websites the range of interest rates of the
loans contracted with the individual borrowers, in the previous quarter.
– The average
interest rate of the abovementioned loans is also required to be displayed on
the website.
– At
the time of processing of loans, the entire fees and all related charges,
including the processing fees should be disclosed to the borrowers, as well as
displayed on the website of the banks.
– Banks
should disclose the Annual Percentage Rate (APR), to show the total cost of
credit on loans to individual borrowers.
– Banks
are required to give an explicit and lucid statement/ fact sheet to all the
individual borrowers, at each stage of loan processing and also when the terms
and conditions of the loans undergo change.

Relevance of the concept of truth-in-lending

By having a uniform standard for presenting the terms of
consumer credit, individuals have a much easier time of comparing and
thus, choosing the best credit option.  Instead of information being
shielded and hidden from the consumer, this gives power back to consumers as
they need to make informed choices about credit. Before the concept of
truth-in-lending came into picture, consumers were not able to compare the
interest rates and loan costs, properly. Frauds and scams were therefore,
rampant because the lenders used to take advantage of the fact that the
consumers were not able to make comparison between the credit options. Hence,
taking cue from the global scenario, India definitely needs stringent norms and
laws with respect to truth-in-lending. The recent RBI notification covered
here, is definitely a major step to imbibe transparency and authenticity in the
transactions of banks with the individual borrowers.
Neha
Somani

About the author

Umakanth Varottil

Umakanth Varottil is an Associate Professor at the Faculty of Law, National University of Singapore. He specializes in corporate law and governance, mergers and acquisitions and cross-border investments. Prior to his foray into academia, Umakanth was a partner at a pre-eminent law firm in India.

2 comments

  • Sporadic
    The write-up by the learned lawer has brought to light certain worrisome aspects of the most concern to the borrowers from banks. The truth/transparency requirements and the attendant norms as laid down by the RBI, the semi-regulatory authority are accordingly confined to commercial lending; of course should equally hold good for other borrowings such as, home loans.
    On the flip side, however, there is a similar , rather a greater stress, warranted , for obvious reasons, to be laid on disciplining the lending institutions in regard to the accounts/deposits holders whose monies are , in fact, employed for lending. This is a crucial area which has thus far remained to be investigated and remedial measures taken by the RBI, unwittingly or otherwise; so much so, the genuine grievances of sorts, of the accounts/deposits holders have been left unattended, causing immense hardship/hassle routinely faced by them, with no solution in sight thus far.
    For a revealing frightful hint, attention may be invited to, among others, a recently published article in the website of ‘money- life’ on the topic, – Banks are ripping off Consumers in many ways. Will PM Modi & Arun Jaitley question them? . To view the comment click here. To be precise, refer the comment there under, in which, a real life instance of a leading bank,- may not be the only solitary instance, -and its ongoing practice, with no let-up, of unscrupulous charge by way of reckoning afresh, and reducing interest otherwise already accrued due, on withdrawals of own monies in deposit, if done before the stipulated period; and adding insult to the injury, further reduce additionally '1%' of the deposit, The most objectionable part of it is that it has been doing so, despite the actual fact no clear cut term / condition stipulated by bank or made known to the depositor at the time of placing the deposit.
    As pinpointed therein, the view taken by the RBI Ombudsman himself , that too in a case of foreclosure of home loan, ref. – Bank pulled up for 'deficient documentation' | Business Line, needs to have been made a conscious note of by the RBI, but not known as done so far.

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