New ground rules for housing finance welcome

Exposures to the beleaguered real estate sector have proved to be the Achilles Heel for Indian lenders in recent times, with the IL&FS and DHFL defaults highlighting the substantial asset-liability mismatches run by these lenders, even as they juggle both retail and wholesale loans. Despite the riskiness though, the sector has remained a favourite with lending institutions, with the RBI’s December 2019 Financial Stability Report highlighting that they more than doubled their real estate credit from 2016 to 2019. Housing finance companies (HFCs) which saw the realty share of their loan book shoot up from 12 per cent to 24 per cent, were the most aggressive of the lot. Given that HFCs are large borrowers both in the Indian public deposit and bond markets, defaults by large HFCs like DHFL can pose significant contagion risks to the financial system. The RBI’s move to take over the regulation of HFCs from the National Housing Bank, in line with the earlier Budget announcement, is therefore a good move to close the regulatory arbitrage between other non-bank lenders and HFCs.

The draft regulations seek to more clearly define ‘housing finance’ as lending for construction or renovation of dwelling units, treating loans to commercial real estate or those against property as investment and credit activities. Non-banks seeking the HFC tag will therefore be required to focus at least 50 per cent of their loan books in housing finance, with 75 per cent of this being to individuals. They have been given a two-year window until March 2022 to comply with the first rule and phased deadlines until March 2024 to fall in line with the second. The RBI, in setting these relatively liberal thresholds, may have been trying to cause minimal disruption to legacy loans that may need to be grandfathered. HFCs have also been barred from extending both developer and retail loans to the same projects, to reduce concentration risks in their books as they raise public money and avail of concessional finance from the NHB. To level the playing field with NBFCs, the RBI proposes to treat larger HFCs and those accepting public deposits as ‘systemically important’ and apply its extant rules on capital adequacy, liquidity management and asset recognition applicable to HFCs. This will ensure better depositor and stakeholder protection through critical disclosures.

While the new regulations are welcome, the timelines that the RBI has allowed for compliance suggest that these new rules may not kick in early enough to ward off immediate risks to HFCs arising from the Covid impact on the real estate sector. Therefore, as HFCs reorient their lending practices, the RBI may need to monitor their finances more closely over the next six months to a year to head off incipient crises in the sector. The RBI has also been struggling with inadequate bandwidth to supervise existing constituents such as co-operative banks, and will need to urgently augment its internal capacity to effectively monitor this large sector that is being ushered into its fold.

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