Fintech has massively transformed money flow and settlement transactions among millennials. Out of numerous existing fintech models, one is peer to peer (P2P) lending. P2P lending platforms play the role of an intermediary between two individuals, the lender and the borrower. With the upscaling growth rate of such platforms it has become a target for regulatory attention and the Reserve Bank of India (RBI) came up with regulation on October 4, 2017, vide the master direction bearing number DNBR(PD) 090/0.10.124/2017-18 (Master Direction) on non-banking financial peer-to-peer lending platforms.1
The Master Direction covers all prospective and existing P2P platforms (NBFC-P2P), which perform as P2P lending platforms on the fulfilment of certain conditions (one of which includes holding a net-owned fund of INR 2 crore). These registered P2P lending platforms would appear on the RBI list of registered NBFC-P2Ps as and when granted the certificate of registration. As per the last updated list2, there are 11 NBFC- P2Ps registered while more than 50 still exist and are awaiting clearance from the RBI, Department of Non-Banking Regulation, Mumbai.
Contrast in Fund Transfer Mechanism between Chinese Model and Indian Model
A stark example of the failure of the unregulated P2P lending model could be seen in China, which by 2015 witnessed an exponential growth in this sector and was a home to at least 4,000 platforms of an estimated value of $130.7 billion. Among the top players in the P2P industry was Ezubao established in 2014, which by mid-2015 raised around RMB 50 billion and provided attractively high returns of 9-15% with no limits on the amount or tenure of deposit. Downfall struck when Ezubao turned out to be at the helm of a Ponzi scheme duping more than nine lakh investors. This created chaos in the market leading to similar defaults and a lack of laws to govern such a system pushed the People's bank of China to come up with guidelines. Finally, on August 24, 2016 the China Banking Regulatory Commission (CBRC) along with the Ministries of the Chinese Government released the Interim measures on Administration of the business activities of peer to peer lending information Intermediaries3 (Interim Measures).
All these risks were taken into consideration by the RBI and were incorporated into the Master Direction to eliminate any fear of money laundering or usage of the concerned platforms by the concerned owners of such platforms for their benefit. In view of foregoing, the RBI prescribed escrow accounts for initiating transfer which is to be operated by a trustee.
Meanwhile in the Chinese regime, P2P platforms had to comply with the Interim Measures within a period of 12 months, including the requirement to engage a qualified financial institution as a third-party banking custodian. No provision for an escrow account, however, was made.
Scope of P2P Model Activities in India
To regulate the activities that P2P platforms were involved in, The Master Direction provided an exhaustive list of functions that they could undertake as well as certain restrictions.
(a) Restricted Activities:
It is pertinent to note that the Master Direction stipulates clear restrictions when it comes to raising deposits or lending by P2P lending platforms. The inflow of funds through international sources is also prohibited in the Master Direction. As a contrast to the earlier trend of unregulated P2Ps wherein some platforms were giving credit guarantees, it is strictly prohibited in the present regime. Moreover, the loan provided under this scheme cannot be any other type except unsecured loans.
Interestingly when compared to the Chinese model, the Indian model clearly prescribes no assurance for recovery and clearly states that these loans would be unsecured whereas the Interim Measures provides for transfer of debts by issuing asset backed securities.
(b) Activities Permissible/ To be Undertaken:
Owing to immense data being captured by such platforms, the Master Direction requires data localisation in the hardware – i.e. it needs to be situated in India. Next, the platforms have to collect appropriate documents and perform due diligence to assess the credit and risk profiling of the borrowers and duly disclose the same to the lenders. Lastly, these platforms must provide assistance with regards to disbursal and recovery of loans.
Apart from the above, there are certain thresholds that have been set up to ensure that the lending activities do not reach a level that causes an economic meltdown on default of repayment. Thus, a lender or borrower in aggregate is exposed to a maximum of INR 1000,000 (Rupees Ten Lakh) across all P2P platforms but a single lender is exposed to a maximum of INR 50,000 to the same borrower (Capped Amounts). The other very interesting point to consider is the fixation of loan maturity to 36 months. A lender cannot therefore lend for a period of more than 36 months.
The Interim Measures are similar in that the total amount an individual can borrow on a single platform has been set at RMB 200,000 and RMB 1 million on multiple platforms. However, the respective caps for a corporate entity are RMB 1 million and RMB 5 million.
Transparency and Disclosure
For a greater degree of safety, the Master Direction has provided for one way transparency, which requires the platforms to make disclosures to both lender and borrower separately and also requires certain public disclosure on the website, including: (a) overview of the credit assessment/score methodology; (b) disclosure on usage or protection of data; (c) the grievance redressal mechanism; (d) the platform's portfolio performance including non-performing assets (NPAs) on a monthly basis; and (e) its broad business model.
Statistics of the P2P Market
In a survey conducted in 2017,4 it is estimated that the present market size of P2P lending is roughly $4.5 million, with a default level of 2.5 to 3 % and the rate of return offered ranging between 6 to 18%. According to the leading P2P platform in India, Faircent, the P2P market is growing at a monthly rate of 20-30%. Although this particular industry is still at a nascent stage, the fast growth of this sector has caught the RBI's attention and it is forecasted that by 2020 the P2P lending industry will grow into a $2.4 billion industry.5
Risk attached: Grievance Redressal, Default and Recovery Process
While India follows a four-tier process comprising borrower, P2P platform, trustee and a lender, the Interim Measures as prescribed in China includes a concept of 'Guarantor' as well, where risks can be guaranteed by the third party also called the guarantor. However, the intermediaries just like the P2P platforms in India do not promise or assure recovery of loans. The Master Direction also adds another layer of security by the way of a Grievance Redressal Officer whose details would be prescribed on the website who would redress the complaints/ grievance within one month.
In case of defaults, the Interim Measures prescribes the following channels for dispute settlement: (a) self-reconciliation; (b) requesting industry self-regulatory to mediate; (c) application for arbitration to the arbitration department; and (d) file a law suit in the people's court. Moreover, before they enter into an agreement, they have to clarify their rights and obligations and liability for breach of contract, which would include guarantors in case the borrower commits default. Whereas according to the Master Direction, the recovery process could be undertaken by the platforms by appointment of an agent but in a way that is non-coercive, there is no assurance for such a recovery.
Though the RBI has tried to ensure that Indian regulations cover the lessons learnt from the Chinese model, the Master Direction would require more elaborations in terms of capturing the market dynamics of P2P lending structures. We observe that the Capped Amounts and limited tenure of lending may impact P2P lending participants to a great extent. However, on the other hand, this is a confidence booster that the default rate of such P2P lending in India (which ranges from 2.5 to 3%) is much less than the 15% default rate of China. Further, as the current media suggests, a host of Chinese companies are exploring investment opportunities in Indian P2P lending segment, pending certain clarifications on Master Direction from RBI. Based on foregoing, we are hopeful that Indian P2P lending market is going to witness a lot of positive disruptions in near future.
1 RBI Master Direction on NBFC-Peer to peer lending dated October 4, 2017.
2 List of NBFC-Peer to Peer(P2P) updated October 26, 2018.
3 Interim measures on Administration of the business activities of peer to peer lending information Intermediaries, August 24, 2016.Available at http://www.cbrc.gov.cn/chinese/home/docDOC_ReadView/D934AAE7E05849D185CD497936D767CF.html
4 A report of P2Ps in India, 2017. Available at http://vinodkothari.com/wp-content/uploads/2018/06/India-Peer-to-peer-lending-report-2017.pdf
5 NASSCOM–KPMG Report on Fintech in India, June 2016.
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