Did you know that rising loan delinquency rates can lead to significant opportunity costs and damage the reputation of Microfinance Institutions (MFIs)?
According to a recent Business Standard report, non-banking financial companies (NBFCs) focusing on microfinance may face higher credit costs due to increasing loan delinquencies.
In addition, the asset growth of these companies is further expected to slow down due to increasing concerns about asset quality.
Annualised credit costs for NBFC-MFIs surged to 13.5% in Q3 FY25 (compared to 4.5% in Q1 FY25), according to India Ratings.
Meanwhile, the microfinance sector’s total portfolio contracted by 22% year-on-year to ₹2.90 lakh crore as of September 2025, marking the sixth consecutive quarter of decline, as reported by SIDBI Microfinance Pulse.
This signals that MFIs and other industry lenders will likely incur more costs to cover potential loan losses. This might affect their profits in the long term.
MFI lenders can avert this crisis by applying a well-rounded strategy and implementing a cutting-edge debt recovery and collection management process. Let’s explore more on this.
Key Challenges of Loan Delinquency for MFIs
Let’s look at some major challenges lenders face at present:
Vulnerability of the Customer Base
MFIs offer microloans to individuals lacking access to traditional banking services. These small loans (averaging INR 1.5 lakh) have short terms (12-24 months) and flexible repayment options, requiring no collateral.
The primary borrowers are farmers, first-time credit users, daily-wage workers, and non-profits—groups vulnerable to income loss and potential repayment difficulties.
High Interest Rates
- High Delinquency: The rise in loan delinquency has pressurised many NBFCs to aim for higher returns. In this pursuit, many NBFCs have started charging exorbitantly high interest rates to borrowers.
- Misleading Microfinance Practices: Some MFIs, particularly those in the NBFC-P2P sector, have misled people by promoting micro-loans as investment opportunities.
For instance, they were found selling small loans with features like tenured-link assured minimum returns and liquidity options and cross-selling insurance products as credit enhancement. Some of these institutions charge interest rates ranging from 30% to 100%. - The Biased Approach: Wealthier individuals are often perceived as less risky borrowers with more assets and a greater ability to repay loans. This is why many MFIs target high-net-worth individuals while neglecting the needs of less affluent borrowers.
Regulatory Scrutiny and RBI’s Response
These factors have not only increased the loan delinquency rate but have also prompted the RBI to intensify its scrutiny of all registered NBFC-P2P platforms.
Failure to comply with the RBI’s regulatory frameworks may lead to penalties, large-scale fines, loss of company value, and even permanent shutdown.
The stringent measures from RBI mean that MFIs must reassess their lending practices to avoid complications.
5 Strategies that MFIs Can Use to Forestall Loan Delinquency
Here are some key strategies that MFIs can implement proactively to maintain a high credit score:
1. Deploy Credit Risk Management
Credit risk management helps lenders manage loan delinquency proactively. For instance, credit scoring and bank statements can help assess borrowers’ creditworthiness.
- Credit scoring offers a detailed record of a borrower’s ability to pay loans, their outstanding dues, and their financial behaviour in the past.
- Bank records reveal the customer’s monthly financial inflow and spending patterns.
- On the other hand, risk-based pricing can enable lenders to adjust interest rates based on customers’ credit history.
- Setting aside loan loss reserves can be a financial cushion against potential delinquencies and defaults.
- MFIs can also employ risk mitigation techniques (collateral or personal guarantee), stress testing, and tailored repayment plans to lower loan delinquency rates.
2. Develop an Early Warning System
Early warning systems enable lenders to detect even the smallest changes in their daily operations. With such a system:
- Data from multiple reliable sources must be integrated with MFI’s lending platforms to ensure an accurate and holistic view.
- Real-time insights from financial statements, external sources like economic indicators, transactional data, and consumers’ behavioural changes can be instrumental in detecting crucial credit risks.
3. Flexible Loan Repayment Methods with Low Failure Rates
One of the biggest causes of missed loan payments is technical snags.
For example, the failure rate of credit card payments is much higher than that of direct debit payments made through a loan management system. At the same time, standing instructions and direct bank orders have a 97% success rate.
To ensure this process works efficiently, tracking the percentage of payments processed successfully at the first attempt is crucial. Then, lenders should offer methods that support low failure rates.
4. Implement Systems for Early Intervention Against Loan Delinquency
Using loan recovery software solutions can help lenders detect potential payment issues early.
- Automation can monitor borrowers’ accounts regularly and notify the lender promptly if signs of financial distress are detected.
- In-depth knowledge of borrowers’ financial health through bank statement evaluation and early intervention can allow lenders to think of alternative solutions.
5. Define Clear Payment Plans and Thresholds to Prevent Loan Delinquency
MFIs should send repayment reminders before loans become overdue. They should:
- Use all contact methods: email, mail, notifications, calls, and texts.
- Set up alerts for risk thresholds to help credit teams respond faster.
How Collection Management Software Can Avert Loan Delinquency
Loan delinquency occurs when borrowers hit a temporary bump when paying their EMIs. An effective loan delinquency management system, powered by real-time data and AI, can aid MFIs in recovering the due amount.
For instance, Finezza’s collection delinquency management tool is an all-in-one, cloud-based software solution that automates the entire loan recovery process.
Advanced Features of Finezza for Loan Delinquency Management
Here’s how the tool helps MFIs prevent loan delinquencies:
Risk Assessment and Credit Scoring
The loan management system uses AI algorithms, machine learning, and alternative data sources to assess an applicant’s creditworthiness more accurately. This helps MFIs:
- Conduct more objective and thorough credit appraisals
- Identify potentially risky borrowers early
- Make better-informed lending decisions
The system can also analyse financial indicators, market trends, credit history, and real-time transaction data to generate comprehensive credit scores. This allows MFIs to implement risk-based pricing in line with RBI’s new guidelines.
Automated Loan Processing and Decision Making
The software automates many aspects of loan origination and processing, including:
- Identity verification
- Document extraction and validation
- Credit bureau data analysis
- Loan underwriting
Customisable Loan Products
Finezza supports multiple loan types and allows for flexible repayment frequencies. This enables MFIs to design diverse loan products tailored to different customer segments, aligning with RBI’s goal of expanding financial inclusion.
Real-Time Portfolio Monitoring for Loan Delinquency Detection
The system provides comprehensive Management Information Systems (MIS) that generate detailed reports on:
- Potential NPAs
- Special watch accounts
- Regulatory compliance requirements
Early Warning System
Finezza uses predictive analytics to identify early warning signs of potential defaults. It can automatically notify lenders when:
- Repayments are due
- Regulatory requirements like stock statements are pending
- A borrower’s credit profile deteriorates
Collection and Loan Delinquency Management
The software includes an advanced Collection Delinquency Management Suite that helps streamline debt collection activities. It can:
- Identify problematic loans
- Develop collection plans
- Allocate resources for recovery actions
- Facilitate loan restructuring when needed
Compliance Management
The tool also helps MFIs stay compliant with RBI regulations by:
- Enabling the creation of board-approved pricing policies
- Supporting transparent disclosure of interest rates and charges
- Facilitating the generation of regulatory reports
Key Takeaway
Loan delinquency significantly threatens MFIs’ profitability, reputation, and compliance with regulatory authorities. This signals an urgent need for strategic transformation in the lending industry.
Manual processes, traditional systems, and outdated tech predominating delinquency recovery are time-consuming and unpredictable. However, MFIs can mitigate these challenges by implementing advanced systems.
Finezza’s AI and data-analytics-driven loan delinquency solution speeds up the recovery process by swiftly responding to borrowers’ needs and personalising repayment options.
To know how the software system can reduce loan delinquencies within months, book a FREE demo now!
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