1. What is Co-origination/ Co-lending

Simply put, co-lending/ co-origination is the joint contribution of a loan by two or more lenders.  To that end, the Reserve Bank of India (“RBI”), vide its earlier notification dated September 21, 2018 titled ‘Co-origination of loans by Banks and NBFCs for lending to priority sector’ provided for co-origination by scheduled commercial banks with systemically important non-deposit taking non-banking finance companies (NBFC-ND-SI). This has been revised and rechristened as ‘Co-Lending Model’  by the RBI vide its notification dated November 05, 2020 (“Notification”).

2. Non-applicability of the Notification in case of co-lending by NBFCs

Currently the Notification does not apply to co-lending by two NBFCs, and only governs co-lending arrangements between banks and NBFCs (including housing finance companies) to the priority sector. Evidently, there are no specific guidelines which regulate co-lending by NBFCs. In the past year especially, we have witnessed NBFCs, influenced by commercial requirements, entering into co-lending arrangements not only with banks but also with other NBFCs, enabling wider access to the credit market. As per the Notification, NBFCs (originating the loan) are required to retain 20% share of the individual loan on their books. In the absence of any guidelines governing the co-lending arrangements between NBFCs (not involving banks), while one may argue that 20% retention requirement may not apply, we do note that some of the co-lending structures available in the public domain have clearly adopted the 20% retention rule even for co-lending amongst NBFCs.

3. Forms of Co-Lending

Taking guidance from the Notification, co-lending can take one of two forms:

• Non-discretionary – where the co-lending arrangement contemplates prior and irrevocable commitment of the other co-lender to take its portion of the loan on its books; or
• Discretionary – where the other co-lender will have the discretion to take the loan on its books after the loan has been originated by the NBFC, based on its due diligence.

Evaluating the Notification, it would appear that for the purposes of co-lending arrangements between two designated NBFCs, non-discretionary lending would require compliance with the extant guidelines dated November 09, 2017 on ‘Directions on Managing Risks and Code of Conduct in Outsourcing of Financial Services by NBFCs’ issued by the RBI, as applicable to NBFCs. On the other hand, discretionary co-lending which is deemed akin to direct assignment would appear to require compliance with the direct assignment guidelines issued by the RBI dated September 24, 2021 titled ‘Master Direction – Reserve Bank of India (Transfer of Loan Exposures) Directions, 2021’.

4. Compliance with KYC Directions

It is pertinent to note that as per the Master Direction – Know Your Customer (KYC) Direction, 2016 (“KYC Direction”), a co-lending NBFC may also rely on the KYC undertaken by the originating NBFC. Under the KYC Direction, the RBI allows regulated entities to rely on customer due diligence undertaken by a third party (including originating NBFC), subject to compliance with certain conditions, including:

• the co-lender satisfying itself that relevant identification data/ documents shall be made available by the third party (i.e. originating NBFC) upon request without delay; and
• that the third party is regulated, supervised or monitored, and has measures in place to comply with customer due diligence and record keeping as per the Prevention of Money Laundering Act, 2002.

Any bank/NBFC participating in co-lending must recognise that the ultimate responsibility for customer due diligence and enhanced due diligence measures shall remain with each respective co-lender and cannot be outsourced.

5. Conclusion

While the Notification only addresses co-lending between banks and NBFCs for priority sector, there does not appear to be any bar on co-lending arrangements that otherwise meet the applicable structured lending norms. In practice, several NBFCs enter into co-lending structures. In such cases, entities may adopt prudent regulatory and compliance practices to ensure that the outsourcing and customer due diligence provisions, which emulate the core values of customer protection and responsibilities of regulated entities (i.e. each co-lending NBFC), are followed.