Syllabus:

GS 3: Indian Economy

Context: 

Recently, the Reserve Bank of India (RBI) has released draft guidelines for gold loans across the banks and Non-Banking Financial Companies (NBFCs).

More on the News: 

• The Finance Ministry has suggested that the new stricter rules should not apply to gold loans under ₹2 lakh and will be effective from January 1, 2026.
• As gold price increase, more people are unable to repay them ultimately leading to more unpaid gold loans (called NPAs). Without clear rules, this can cause trouble for both the lenders and the borrowers.
• As of December 2024, commercial banks reported gold loan NPAs worth ₹2,040 crore which is bigger than ₹1,404 crore in December 2023.
• Finance companies involved in gold loans accumulated NPAs worth Rs 4,784 crore as against Rs 3,904 crore last year.

RBI’s new rules for gold loans

Loan-to-Value (LTV) ratio: The RBI has stated that for gold loans taken for personal use, the loan amount should not be more than 75% of the gold’s value. 

• This limit is called the Loan-to-Value (LTV) ratio, which is calculated by dividing the loan amount by the value of the gold jewellery or coin pledged.

Proof of ownership: Loans facility will not be extended if there is doubt about who owns the jewellery. If the borrower doesn't have the original purchase bill, they must provide a written declaration explaining how they own the jewellery or gold coin.

Assessing the Value of Gold: The RBI has stated that lenders must follow a set process to check the purity of the gold being pledged. 

• Only qualified experts with a clean track record can carry out this testing. Also, the borrower must be present when their gold is being tested.
• The value of the gold used for a loan will be based on the price of 22-carat gold. If the gold is of lower purity, the lender will adjust its value to match the 22-carat standard. In simple terms, gold with less purity will be valued less, in proportion to its quality.
• Silver accepted as collateral will be valued at 999 purity silver prices.

Purpose of the loan: Rules are slightly different for consumption loans (loan to satisfy an immediate consumption need, such as medical bills, buying something) and income generating loans (where the loan money will be used for some sort of moneymaking activity, including farm loans).

• For income-generating loans, the lender must check how the money is being used.
• For consumption loans, this check is only needed if the loan amount is above a limit set by the lender.
• Also, if the consumption loan is a bullet loan (where you repay the full amount and interest at the end), it can't be for more than 12 months.

How Much Gold Can You Pledge for a Loan?

• According to the RBI, each borrower can pledge up to 1 kilogram of gold or silver ornaments for a loan. For coins, the limit is 50 grams for gold coins and 500 grams for silver coins per borrower.
• These limits help reduce the risk for lenders, who give loans on large amounts of gold, could tie up too much money in one type of asset and raise the chances of money laundering.
• Also, the same gold can’t be used again for a new loan unless the full amount of the previous loan including the principal, interest and any overdue payments has been completely paid off.

Mains Practise Question 

Critically examine the reasons behind the RBI’s move to tighten norms for gold loans. Discuss the implications of these guidelines on borrowers, lenders, and the overall economy.