Banks are encountering significant difficulties in extending collateral-free loans up to ₹20 lakh to small businesses, according to reports from The Economic Times. The primary obstacle lies in the fact that some accounts are not covered under the government-backed guarantee scheme for small firms, creating uncertainty for lenders about risk coverage. Additionally, many borrowers are unwilling to pay additional guarantee fees for these loans, citing tight margins and increased costs during challenging economic conditions.
The Credit Guarantee Fund Trust for Micro and Small Enterprises (CGTMSE) provides partial risk coverage for eligible accounts, as reported by The Economic Times. However, most borrowers who remain outside the scheme are reluctant to subscribe, stating that the additional costs add to their expenses at a time when margins are already under pressure. This reluctance is particularly significant given that under RBI norms, banks are mandated to provide collateral-free loans of up to ₹20 lakh to eligible small borrowers, with the rule applying to loans given or renewed from April 1, 2026.
The loan structure creates additional complexity as interest rates are slightly lower when borrowers pledge assets compared to unsecured loans, according to sources cited by The Economic Times. However, lenders are now reluctant to take collateral, fearing violation of RBI guidelines and punitive action. This reluctance stems from concerns about regulatory compliance and potential penalties for non-compliance with the central bank's guidelines.
The RBI's February monetary policy review emphasized that the collateral-free loan facility will facilitate improved access to formal credit, support entrepreneurial activity and strengthen last-mile credit delivery for micro and small enterprises with limited collateral, as reported by The Economic Times. However, the implementation faces challenges as some accounts under the ₹20 lakh collateral-free loan category also fall in the restructured or special mention accounts category, making them ineligible for CGTSME cover and complicating the lending process.
