RBI Proposes Zero Loan Foreclosure Charges, No Pre-Payment Penalties; Here’s How Borrowers Will Benefit

The Reserve Bank of India has asked all regulated entities (REs) to let go of the foreclosure fees or prepayment penalties on all floating rate loans, on February 21, 2025. This announcement included loans availed for business purposes as well as micro and small enterprises (MSEs).

The Central Bank has proposed new guidelines for all lenders related to the fee implied on foreclosure fees and pre-payment penalties on loans, as per an RBI draft circular. The central bank has invited comments from stakeholders by March 21, 2025.

What it means for borrowers?

Borrowers can repay their loans from any source, whether using personal funds or borrowing a loan from another bank, without paying any additional charges. “The above instructions shall be applicable irrespective of the source of funds used for foreclosure/ prepayment of loans, whether partial or in full,” the circular further added.

Additionally, Banks and NBFCs cannot include hidden clauses in agreements to force customers to maintain the loan for a minimum period. The guidelines were aimed at increasing transparency in the loan process and providing borrowers with more flexibility as well as cost savings.

However, “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-obligate(s), for business purposes." However, in the case of MSE borrowers, these instructions shall be applicable up to an aggregate sanctioned limit of Rs 7.50 crore per borrower.

The draft circular further added that the RBI’s supervisory reviews have shown divergent practices among REs related to the fee on foreclosure charges for prepayment penalties on loans sanctioned to MSEs. This has led to customer grievances and disputes. “Additionally, some REs have been found to include restrictive clauses in loan contracts/ agreements to deter borrowers from switching to another lender for lower interest rates or better service terms.”

Special, dual-rate loans

In cases of loans with dual, special rate structures (combination of fixed and floating rates), the applicable foreclosure, and pre-payment criteria will depend on whether the loan is on a fixed or floating rate at the time of foreclosure or pre-payment, it said.“In cases where foreclosure charges/ pre-payment penalties are permitted, they shall be levied as per the Board-approved policy of the REs. Such charges/ penalties shall be based on the outstanding amount in the case of term loans and the sanctioned limit in the case of cash credit/ overdraft facilities,” the RBI proposal said.