What is Co Lending & How does it Work?

India still has a significant portion of its population living in rural areas, and many lack easy access to financial services. Priority sectors like agriculture, and micro, small, and medium enterprises (MSMEs) struggle to access liquidity. MSMEs alone contribute to one-third of the economy and are projected to contribute US $1 Trillion to India’s total exports by 2028. Recognizing this gap, RBI has introduced regulations for the co-lending model to support priority sectors.  

In this blog, we’ll breakdown the co-lending model along with its working, features and benefits and evaluation on the future of co-lending in India. 

What is Co Lending?  

Co-lending is an arrangement where lenders, typically a bank and an NBFC, enter a partnership to provide loans. This arrangement aims to improve credit flow towards the underserved sectors at affordable rates. Co-lending works on the strengths of both the lenders for maximum benefit to the customer. The Non-Banking Financial Companies (NBFCs) contribute towards the technology integration and loan origination while the banks provide the majority percentage of the loan disbursed. The lenders equally share the risks and rewards earned through this partnership, while offering the best loan rates to their customers. 

How Does Co-Lending Work?  

Co-lending has multiple lenders who fund a single loan. This streamlines the lending process by utilizing the strengths of each lender. Due to this, the entire loan process is faster and offers affordable loan plans on the best terms. A typical co-lending model works as:

Loan Application: The borrower applies for a loan through a platform managed by both lenders. The process is streamlined for credit and risk assessment ensuring quick turnaround time. 

Loan Disbursal: After the personal loan gets approved, both lenders disburse the loan amount directly into the borrower’s account. Thus, the personal loan disbursal is faster as compared to traditional banks. 

Repayment Procedure: Lenders coordinate to track and manage their share of the loan. They utilise integrated systems for updates on loan status. This helps maintain transparency and efficiency in managing the repayments.

What is a Co Lending Arrangement?  

Co lending arrangement works under mutually agreed terms between multiple parties that share the credit risk and interest income. Typically, it is a bank partnering with an NBFC to provide loans to underserved sectors at affordable interest rates. The NBFC offers a niche customer base and technology integration while the banks provide a major portion of the funds.  

Typical terms of the co-lending model include: 

80-20 Split: The loan capital is split at an 80:20 ratio. 80% of the loan is funded by the bank and the remaining 20% is funded by the NBFC. 

Joint Underwriting: The underwriting is done jointly since both entities are equally involved. 

Risk and Return Split: The 80:20 split applies to the risk and returns as well. 

Interest Rate for Borrower: Both the NBFC and banks set their own interest rate, and the blended interest rate is charged to the customer. 

Roles Allocation: The NBFC, typically, is in charge of documentation, loan approval, personalized loan plans and customer support. The banks usually fund the majority portion of the loan disbursed and add credibility to the partnership.

What is an Example of Co-Lending?  

An example of co-lending is usually when a bank partners with a Non-Banking Financial Company (NBFC) to provide a loan. The bank and the NBFC form a co lending agreement where the bank provide the major chunk of the funds and the NBFC handles the remaining share of the funds. They may also handle customer relationships and loan processing. 

For instance, a borrower applies for a personal loan of ₹5,00,000. The bank might contribute ₹3,50,000 (70% of the loan) at a lower interest rate, while the NBFC provides the remaining ₹1,50,000 (30% of the loan) at a slightly higher rate. This combination leads to lower overall interest rates for the borrower, and they also benefit from faster loan disbursal, due to efficient technology integration of the NBFCs  

For example, State Bank of India (SBI) has partnered with various NBFCs like HDFC and Aditya Birla Capital for co-lending arrangements in segments like housing finance and personal loans. 

Advantages of Co-Lending  

Co-lending offers several benefits to banks, NBFCs and borrowers. 

For Banks 

• By partnering with NBFC, banks can reach the underserved customer base to offer their expertise. 

• It allows the banks to offer loans at lower interest rates and expand their loan portfolio. 

• Banks get the opportunity to increase their credit share in priority sectors (agriculture, small businesses, and housing) 

For NBFCs  

• Allows NBFCs to leverage their reach in niche sectors and offer them better loans. 

• NBFCs benefit from the technology and digital reach of their partner banks.  

• The partnership with banks allows NBFCs to offer competitive interest rates and plans to priority sectors 

For Consumers  

• Borrowers have access to loans at lower interest rates. 

• Customers who have limited access to credit benefit from the co-lending model. Borrowers who may not qualify for loans in a traditional bank have access to credit in this model. 

• Loan approval and disbursal is faster, since the turnaround time is reduced. 

Features of Co-Lending  

Some of the features of co-lending are as follows: 

Risk and Rewards Sharing: Co-lending allows banks and NBFCs to share the benefits and minimize their risks. Risk sharing allows lenders to offer loans to underserved or high-risk sections. 

Lower Interest Rates: Banks have access to low-cost funds. Combining this with NBFCs’ reach to niche customer base, co-lending allows the borrower to get a loan at lower interest rates. 

Quick Turnaround Time: Co-lending allows for bifurcation of processes. Banks usually handle large amounts of funds and NBFCs use faster technology to assess loan applications. This is streamlined leading to faster processing from application to disbursal.  

More Credit Flow: NBFCs can provide more credit to sectors that struggle to get financing from traditional banks. 

Banks can get the opportunity to extend credit to crucial sectors by partnering with NBFCs. NBFCs benefit with credibility by partnering with an established bank. 

Future of Co-Lending  

With the Reserve Bank of India’s (RBI) new rules for banks and NBFCs to priority sectors, credit flow will increase to underserved sectors. More supportive regulations will ensure many other sectors like personal or micro-finance, also adopt this model. The co-lending model will offer better loans with reduced risk. Housing finance companies have already adopted the co-lending model, and other sectors will also follow suit (like personal loans, and micro-financing).  

The loan process is streamlined from application to disbursal, ensuring a faster process. This benefits the borrower and lender and will encourage more customers to opt for this lending model. 

Also Read: Flexi Personal Loan – Check Eligibility, EMI, Advantages

Conclusion  

Co-lending benefits both the lender and the borrower. With the RBI introducing more regulations to support co-lending, it is set to reach a wider customer base. It will likely lead to improved credit flow to underserved sectors and contribute towards economic growth at large. For the borrower, it allows them to get loans at affordable rates with faster turnaround time. It offers the borrower various loan options and flexible repayment terms. Co-lending also empowers individuals and businesses to invest, expand and grow.