Public Sector Banks (PSBs) have been at the forefront of new developments concerning the Indian banking and financial services sector in recent times. With the cut in repo rates, subsequent changes in home loan rates and mergers on the anvil, PSBs have their hands full. Now, in a latest development, loans are being sanctioned by many PSBs on the basis of risk profiles of their customers.
Union Bank of India, Bank of Baroda and Syndicate Bank are three public sector banks who have already taken the initial steps towards segmenting retail loans. These are being divided into their own avatars of sub-prime and prime exposure to risks, based on third-party credit scores of prospective loan borrowers. This is being used to offer varying rates of home financing to these customers.
How is the entire system working?
Based on the new regime for external bench-marking, Bank of Baroda, for example, will be making use of three slabs for credit scores courtesy CIBIL (Credit Information Bureau India Limited) with regard to home loan pricing.
Those who have higher credit scores, i.e. more than 760 out of 900, will be offered home loans at interest rates which are 1% lower as compared to those with credit scores between 675-724. This is the lowest slab of the credit score at which the home loan will be provided to the customer. Those with credit scores surpassing 760 will be paying an interest rate of 8.1% at Bank of Baroda. People in the final slab will be paying an interest rate of 9.1%.
The rates of interest for those with credit scores between 725 and 759 will be 8.35%. The floating interest rate based loans at BoB will be tied to an external benchmark. The rate of interest will not be dependent upon the loan tenor or amount. The other two banks will also be using CIBIL sourced credit scores likewise.
Important aspects worth noting
The Reserve Bank of India (RBI) has already provided permission to banks for charging a premium over the external benchmark. This is the credit risk premium and will be added to the benchmark for working out the final rate of interest. The credit scores of potential loan applicants should become more vital eventually in determination of overall costs of retail mortgages. From the 1st of October, 2019, onwards, banks have already internalized external benchmarks for retail loan pricing (those with floating interest rates).
In the near future, as per experts, credit scores throughout the loan duration will be extremely important. Suppose the prospective borrower enhances his/her credit score within a year or so. Then, the overall risk premium will reduce. This may also increase in case the credit score of the borrower is less than 760 after a certain time period.
What other banks are doing in this regard
Syndicate Bank has already confirmed an increase in credit risk premium in case the CIBIL score of the customer comes down in excess of 50 points. The bank, which is preparing to merge with Canara Bank as part of widespread PSB reforms, has decided that rates of interest will be chargeable on the basis of credit profile improvement or deterioration.
The latter may be possible in case the customer delays on paying his/her EMIs for a period of more than 30 days and at least for 3 such times in the last year. Union Bank of India, which is also expected to be the foremost banking player in the proposed merger of three entities, has confirmed that 10 basis points extra will be charged for those customers who have credit scores lower than 700. Along with CIBIL, other bureaus of credit data will be used for ascertaining creditworthiness of potential home loan applicants. These include Experian, Equifax and CRIF Highmark.
The credit scores are worked out on the basis of the information given by banks and other entities relating to track record of payments made by the person on previous loans and utilities. CIBIL has scores between 300 and 900 in this regard. Citibank has already internalized the external benchmark as the 3-month Treasury Bill and many other lenders are making use of the repo rate. Citibank has already confirmed that over the last 9-10 months, all home loan customers on its rolls have selected the loan product tied to the Treasury Bill.
Some banking entities have kept an internal assessment of credit function while some others have selected external credit scores. SBI (State Bank of India) will be following its own internal approach towards grading of risks. SBI segments borrowers into 6 categories of risks or RGs (risk grades). These vary from 1-6 throughout both non-salaried and salaried categories. Customers in 4-6 categories usually have to pay 10 basis points more in terms of interest. ICICI Bank, on the other hand, has stated that rates of interest will differ for customers on the basis of the credit bureau scores. Several experts have opined that Indian banks should aim for complete transparency by choosing external systems for credit scores like CIBIL or a scoring pattern which can be verified by customers instead of sticking to internal models of risk grading.