Strengthening Oversight: Reserve Bank Of India’s Guidelines on Gold Loan Irregularities

Introduction

The Reserve Bank of India (RBI) on September 30, 2024 issued a notification[1] aimed at addressing irregular practices in the granting of loans against the pledge of gold ornaments and jewellery. The circular targets all commercial banks (including Small Finance Banks), primary urban co-operative banks, and non-banking financial companies (NBFCs), while excluding regional rural banks and payments banks. The RBI’s directive underscores the need for strict adherence to prudential guidelines and calls for immediate corrective actions to enhance transparency and governance in the gold loan sector.

Explanation

The RBI’s review revealed several significant irregularities in the gold loan practices of Supervised entities (SEs). The major deficiencies identified include:

Third-Party Engagement: Irregular practices were noted in the use of third parties for sourcing and appraisal of loans, particularly in partnerships with fintech entities and business correspondents. These practices included:

• Valuation of gold being carried out without the customer’s presence.
• Credit appraisal and valuation performed by the business correspondent itself.
• Gold being stored by the business correspondent, leading to security concerns.

Due Diligence and End-Use Monitoring: The review indicated inadequate due diligence and a lack of monitoring concerning the end use of funds for gold loans. This was particularly pronounced for non-agricultural loans, where verification of the loan’s purpose was often insufficient. The RBI has expressed concern over inadequate transaction monitoring by REs, highlighting instances where an unusually high number of gold loans have been granted to the same individual using the same PAN within a single financial year. The RBI has also highlighted that senior management and boards of REs are not adequately monitoring gold loan practices.

Loan-to-Value (LTV) Monitoring: There were observed weaknesses in the monitoring of LTV ratios, with instances of breaches of regulatory ceilings. System-generated alerts regarding these breaches were frequently not addressed, indicating a lack of active management.

Auction Practices: The auctioning of gold in cases of customer default lacked transparency, with some SEs realizing lower average recoveries than the estimated market value of the pledged gold. This reflects deficiencies in the valuation process.

Risk Weight Application: There were inconsistencies in the application of risk weights, diverging from prudential regulations, which could affect capital adequacy assessments.

Governance and Transaction Monitoring: Weak governance was evident, as indicated by-
High numbers of gold loans granted to the same individual under a single PAN.
Practices like rolling over loans at the end of their tenure, often with only partial repayments.
Non-categorization of gold loans as non-performing assets (NPAs), which undermines effective monitoring.
 
Cash Disbursement: A notable percentage of gold loans were disbursed in cash, frequently exceeding the statutory limits set by the Income Tax Act, 1961, raising compliance issues.
The RBI has mandated that all SEs conduct a thorough review of their policies, processes, and practices concerning gold loans to identify and rectify the gaps highlighted in the circular. Entities are required to implement appropriate remedial measures in a timely manner and closely monitor their gold loan portfolios, particularly given the significant growth in this segment for some SEs.
Action taken in response to these findings must be reported to the Senior Supervisory Manager (SSM) of the RBI within three months of the circular’s issuance. Non-compliance with these regulatory guidelines will be treated seriously and may result in supervisory actions by the RBI.

Conclusion

In summary, The RBI’s directions on “Gold loans – Irregular practices observed in grant of loans against pledge of gold ornaments and jewellery” emphasizes the necessity for supervised entities to enhance their governance frameworks and compliance with regulatory standards in the gold loan sector. By addressing the irregular practices identified in the review, the RBI aims to protect consumer interests and uphold the integrity of the financial system. The immediate implementation of corrective measures and close monitoring of gold loan portfolios are critical steps mandated by the circular, which takes effect immediately. Failure to comply will result in serious consequences, highlighting the importance of adherence to these guidelines for all entities involved in gold lending.

[1] https://www.rbi.org.in/Scripts/NotificationUser.aspx?Id=12735&Mode=0