Floating rate loan prepayment rule: RBI proposes zero penalty and no minimum lock-in for individuals, MSEs

The Reserve Bank of India recently released a draft circular titled 'Responsible Lending Conduct – Levy of Foreclosure Charges/ Pre-payment Penalties on Loans’.

The draft circular proposes that no foreclosure charges or pre-payment penalties shall be levied on floating-rate loans taken by individuals for non-business purposes and by Micro and Small Enterprises (MSEs) for business. Further, there should be no minimum lock-in period for the foreclosure of floating-rate loans.

The RBI’s draft circular has proposed to issue the following revised instructions to regulated entities (REs) offering loans:

• REs shall permit foreclosure/pre-payment of all floating rate loans sanctioned for purposes other than business to individuals, with or without co-obligant (s), without levying any charges/penalties.

• REs, other than Tier 1 and Tier 2 Primary (Urban) Co-operative Banks and Base Layer NBFCs, shall not levy any charges/penalties in case of foreclosure/pre-payment of floating rate loans granted to individuals and MSE borrowers, with or without co-obligant (s), for business purpose. However, in case of MSE borrowers, these instructions shall be applicable up to the aggregate sanctioned limit of ₹7.50 crore per borrower.

• The above instructions shall be applicable irrespective of the source of funds used for foreclosure/ pre-payment of loans, whether partial or in full.

• The applicability of above instructions for dual/ special rate (combination of fixed and floating) loans will depend on whether the loan is on fixed or floating rate at the time of foreclosure/pre-payment.

• In other cases, foreclosure charges/pre-payment penalties, if charged, shall be as per the Board approved policy of the REs. However, in such cases, foreclosure charges/pre-payment penalties levied by the REs shall be based on the outstanding amount in case of term loans and sanctioned limit in case of cash credit/overdraft facilities.

• REs shall permit foreclosure/pre-payment of loans without stipulating any minimum lock-in period.

• REs shall not levy any charges/penalties in cases where foreclosure/pre-payment is effected at the instance of the RE.

• The applicability or otherwise of foreclosure charges/pre-payment penalties shall be appropriately mentioned in the Key Fact Statement for applicable loans and advances.

• REs shall not levy any charges retrospectively at the time of foreclosure/pre-payment of loans, which were waived off by the REs/not disclosed in advance to the borrowers, under any circumstances.

The draft circular is currently open for public comments and feedback till March 21, 2025. After considering all the comments and feedback, the RBI will release the final circular.