India tightens microfinance rules to curb borrower overleveraging

Lending in the sector has slowed down as tighter rules began rolling out in 2024.

India’s tightening microfinance rules are a balancing act between defusing risk build up and managing asset quality stress.

"Tightening regulations and stricter underwriting standards in Indian microfinance will rein in growth plans for sector lenders and defuse risk buildup for overleveraged borrowers," said S&P Global Ratings credit analyst Shinoy Varghese.

"However, these same trends will weigh on asset quality given many clients rely on new loans to repay old ones,” Varghese added in a March 2025 report.

Indian authorities have begun rolling out tighter borrowing rules in the microfinance sector in August 2024, leading to a slowdown in lending.

This slowdown will also add to asset quality stress, S&P said: this is because in the microfinance lending boom that followed the pandemic, many borrowers repaid loans to one lender by borrowing from another.

Loose monitoring has allowed borrowers to tap multiple institutions, driving up borrower leverage. The credit boom was compounded by deregulation in the microfinance lending rates in 2022, making it highly lucrative for lenders.

"In our view, many microfinance institutions have tightened their lending norms beyond the fresh guidelines laid out by the MFIN," said Varghese.

This should keep a check on asset quality strains. We expect the nonperforming loan ratio to peak by the fiscal year that ends March 31, 2026, he added.

Microfinance loans have tenors below two years and are collateral-free for borrowers with annual income of up to Indian rupee (INR) 300,000 (about US$3,468).

It is critical to financial inclusion in India and can help low-income borrowers to participate in the country's growth trajectory, S&P said.