In this post, I will share an example where the bank did not pass the interest rate cut to the customer for a very long time. I found out about this case in an article in MoneyLife magazine. A gentleman took a floating rate loan from HDFC Bank in 2007. The loan was to be repaid in 108 installments. At the time, BPLR regime was prevalent. By 2012, his effective interest rate had gone up to 17.3% p.a. We typically associate these kinds of rates with unsecured personal loans. Not just that, after 5 years of paying EMIs, his outstanding EMIs had gone up to 123 (he had started with 108). When he realized the anomaly, he approached the bank and the bank reduced his interest rate from 17.3% p.a. to 12.3% p.a. (I assume by moving to base rate regime). He was paying 5% p.a. more. Sounds crazy, isn’t it? And we know the kind of difference even a percentage can do. We are talking about 5% p.a. here.
How Did This Happen?
He had taken loan under BPLR regime. In 2010, RBI introduced base rate as the benchmark. As it typically happens with home loan customers at banks, older borrowers are left high and dry. As I understand, BPLR was not revised much. New borrowers were given base rate linked loans, which was revised much more frequently. There were inherent issues with BPLR where banks could easily give preferential treatment to their best customers and interest rate transmission was not swift. All the new floating rate loans after July 1, 2010 were linked to base rate. There was an option to switch from BLPR to Base rate (as you have to option to switch from Base Rate to MCLR by paying a fee now).
However, the borrowers had to know about this. I am sure many older borrowers continued to pay a high rate of interest because they did not know this change. That concerned borrower did not realise his folly for a long time and by the time he did in 2012, he had already paid an excess interest amount of Rs. 6.4 lacs (as per MoneyLife article. I do not have sufficient information to independently verify the calculation).
How Is the Bank at Fault?
You can very well argue that checking on the interest rates was the responsibility of the borrower. You are right. He should have been proactive.
What about responsibility of the bank? Is it not the responsibility of the bank to inform the customers of such a change, especially where the change is beneficial to the customer? The banks somehow always manage to communicate the hike in charges or an arbitrary annual fee. (Here is an example of how a blogger took to Twitter to protest against arbitrary charges by HDFC Bank. The communication was such that you had to explicit opt out to avoid paying the charges.)
Coming back to the case, I am copying an excerpt from RBI Master Circular on Interest Rates on Advances (2010). Point 2.3.6 states
The Base Rate system would be applicable for all new loans and for those old loans that come up for renewal. Existing loans based on the BPLR system may run till their maturity. In case existing borrowers want to switch to the new system, before expiry of the existing contracts, an option may be given to them, on mutually agreed terms. Banks, however, should not charge any fee for such switch-over.
Yes, subject to interpretation but was this option given to the concerned borrower? By the way, under shift to MCLR, no fee clause has been dropped. Additionally, I will copy an excerpt from point 2.4.1 from the same circular
In the case of existing loans of longer / fixed tenure, banks should reset the floating rates according to the above method at the time of review or renewal of loan accounts, after obtaining the consent of the concerned borrower/s.
I understand a home loan will not require a renewal. Perhaps, a review of accounts where the borrowers were paying exceedingly high interest would have helped. As per the article, the concerned borrower escalated the issue to the bank CEO, RBI and the Banking Ombudsman. Didn’t help. The ombudsman was satisfied that the bank had taken necessary steps to communicate the change to the borrower (Bank claimed it had sent communication through through SMS and post). This is because the bank did not do anything wrong technically. Perhaps, it merely violated the spirit of the regulations. And this is also a commentary of wordings of such circulars that leave scope for misuse.
Banks are always prompt in sharing the details about hike in charges or any additional fee. However, the banks are never prompt in sharing possibilities where the change could be beneficial to you. There is no dearth of borrowers who complain that interest rate cuts take ages to reflect while interest rate hikes are passed on swiftly. Anyways, that is something you don’t control. A much bigger issue is when banks offer new customers lower interest rates while the old customers continue to pay a much higher interest rate. I hope MCLR regime will take care of this unless banks start serious tinkering with spreads.
You can’t always rely on banks to take steps that are beneficial to you. You have to be pro-active. Perhaps, a regular (not daily) dose of personal finance news will help. It is similar to what mobile operators do (I am sure many of us have experienced this since Jio started services). Mobile operators send tones of communication everyday but hardly ever communicate the best plans (beneficial) to you. Only when you dig deep and search or communicate to them about your decision to move to another operator, do they tell you about other cheaper and better plans. Same with banks.
Point to Note
What I have written may perhaps be just one part of the story. Quite possible the bank sent proper communication and the borrower did not pay heed. However, I am sure there were many other ways of communication with the borrower that the bank didn’t try. Would the bank have followed the same technically correct process if they had to sell and insurance policy to the borrower?