Co-lending: A win-win solution for NBFCs and smaller banks to bridge liquidity gap – In India’s quickly growing financial ecosystem, credit availability is a notable hurdle for underbanked and underserved industries, specifically in rural and semi-urban places. For years, Non-Banking Financial firms, as well as a few smaller banks, have had an essential role in meeting this financing gap.
Unluckily, they frequently face difficulties in reaching beyond their respective limitations in terms of capital, regulatory environment, and liquidity. This is a flawless segue to co-lending, a solution model increasingly seen as a win-win for banks and NBFCs alike, effectively bridging the liquidity gap and extending credit access.
What is Co-lending?
Co-lending (or co-origination) is simply a collaborative financing model where a bank and NBFC(s) together lend to the borrowers. Co-lending integrates both the deep customer engagement and reach of NBFCs and the bank, which provides a higher capital base and lower cost of funds. Given the earlier case, banks and NBFCs together originated loans in 2018 at the direction of the RBI to promote capacity and credit to meet water-level thresholds. Under co-lending arrangements, the following factors apply –
A bank and NBFC agree on a co-origination of loans based on a ratio (commonly 80:20 or 70:30) decided in the co-origination model. The NBFC is included in customer acquisition, loan processing, and servicing, whereas the bank contributes the majority of the loan amount. Risks and returns are issued based upon the ratio of involvement.
What Makes Co-lending Important?
India’s economy is based on credit. Traditional banks are generally cautious about lending to low-income or informal industry borrowers because of perceived risk and cost. Non-bank finance companies (NBFCs) have existing ties to this industry but are capital-constrained. Co-lending offers a collaborative approach to solving both dilemmas.
Increases Credit Disbursement
By pooling capital together, co-lending allows a bigger volume of credit to be disbursed, specifically in the underserved industries of micro-, small, and medium enterprises (MSMEs), agriculture, and low-income residential housing. This enhances financial inclusion and distributed economic improvement.
Potential to Address Liquidity Errors
Banks and NBFCs are frequently susceptible to liquidity pressures due to their wholesale borrowing and sometimes limited lending markets. Co-lending provides NBFCs access to the lower cost, more sustainable capital held by banks and removes the liquidity gap for the NBFC and bank and ensures access to sustainable lending.
Efficient Risk Sharing
Co-lending Makes a balanced risk portfolio. While the bank has the benefit of acquiring customers and corresponding servicing via the NBFC, it also shares credit risk in proportion to incremental capital employed. This limits and reduces the overall risk for both the bank and the NBFC.
Increases Operational Efficiency
Because NBFCs already have tech-driven processes and lean structures, they are capable to bring speed and agility to loan origination. The operational efficiency of NBFCs provides benefits to the whole co-lending chain, leading to shorter turnaround times and an improved customer experience.
Benefits for NBFCs
Because of the aforementioned reasons, NBFCs are well positioned to take the benefit of co-lending in different ways –
Access to Funds – By partnering with banks, NBFCs have access to additional lending capacity without depending solely on their own capital.
Scalability – Co-lending opens doors to quickly scale customer volumes and loan books.
Asset Quality Improvement – By sharing risk, co-lending may prompt an improvement to underwriting standards and reduce the pressure on NBFCs to chase aggressive loan volumes.
Regulatory Compliance – Co-lending structures allow NBFCs to manage compliance with RBI regulations when interested in scaling outreach to customers.
Benefits for Smaller Banks
Smaller regional banks also benefit quite heavily from the arrangement –
Wider Reach – In areas where banks do not have a significant presence, NBFCs can tap into areas and geographically expand the bank’s reach further.
Reduced Cost of Acquiring Customers – Banks reduce their variable costs for servicing customers and fixed operating costs via customer engagement and lead generation done through the NBFC.
Increased loan book diversification – Co-lending enables banks to diversify into a high-yielding lending section of the loan book like MSMEs and retail lending, without requiring to add a significant infrastructure.
Increase balance of priority sector lending (PSL) – Co-lended loans are counted towards PSL to enable banks to meet regulatory needs.
Technological Advancements Propelling Co-lending
To address these issues, fintech platforms are increasingly progressing as middleware solutions to connect banks and NBFCs. The fintech platforms will provide the following –
- Automated loan origination and servicing
- Sharing of data in real time and analytics
- Credit scoring and underwriting technology
- Monitoring and reporting for compliance
Such innovations will drive co-lending adoption in the sector, making it a sustainable and scalable model.
The Future of Co-lending in India
Co-lending is not a short-term solution but will be a transformational change in credit delivery in India. As NBFCs and smaller banks are continuously developing new partnerships with each other, the co-lending ecosystem will start to scale properly. Some emerging trends include –
- More Digital-First Co-Lending Partnerships
- Customized Co-Lending Offerings Targeting Segments of Interest
- Growing Regulatory Support and Sandbox Environments
- AI Credit Underwriting to Reduce NPAs
Conclusion
By collaborating in the co-lending marketplace, banks and NBFCs can enhance inclusion and resilience in financial services, thus creating a win-win solution to bridge the liquidity gap and encourage long-term economic growth.
FAQs
What is the co-lending model in India?
Co-lending is a secured partnership between banks and NBFCs which both parties will together fund loans to customers, generally in a fixed proportion, where NBFCs originate and service the loans, while banks contribute the funding. The advantages of this partnership are the NBFCs’ reach to customers, and banks can support NBFCs with their financial capacity.
Can you explain how co-lending can help NBFCs with liquidity?
Through the co-lending structure, NBFCs are capable to tap into bank funding commonly at a lower cost than borrowing the funds in the current market. The bank funding enables the NBFC to lend additional capacity without consuming the NBFC capital, while at the same time improving the liquidity of the NBFC and enabling them to grow.
Is co-lending riskier for banks and NBFCs?
Not in all scenarios. Since co-lending includes sharing the loan amount at the funding proportion, the risk is equally shared on a pro-rata basis. Both banks and NBFCs have enhanced credit underwriting and can use technology to increase their loan portfolios with effective risk mitigation.
