What is Co-lending and how does it work?

Co-lending is a financing arrangement in which Banks and NBFCs (including Housing Finance Companies) jointly provide loans to borrowers. The lenders collaborate to provide a single loan to the borrower, sharing the risk and profits associated with the loan. In India, it builds on Securitisation and Direct Assignment, where a homogenous pool of assets is bought by the buyer while the originator or seller of the portfolio holds on to a small portion of the portfolio.

Co-lending arrangement

Co-lending is typically used for large loans that exceed the lending capacity of a single lender. By pooling resources, lenders can share the risk associated with the loan, reducing the impact of default by the borrower.

Co-lending can also be used by banks to quickly cover their priority sector lending targets by tying up with NBFCs. It works as a win-win for both parties as each leverages the other’s strength to jointly service the customer. Banks have large capital, while NBFCs and smaller banks provide access to the customer base at remote locations.

How Does Co-Lending Work?

Co-lending works by bringing together multiple lenders to provide a single loan to a borrower. The lenders agree to the terms of the loan, including the loan amount, interest rate, charges and repayment terms. The borrower is usually oblivious to the back-end deal and deals only with the organisation he approaches and goes on to receive a single loan from the group of lenders, which is repaid according to the agreed-upon terms. The lenders typically form a consortium to facilitate the co-lending arrangement. The consortium may be led by one lender who takes charge of the loan administration and management, while the other lenders provide funding. Co-lending can be facilitated by a platform that connects lenders. The platform handles the loan administration and management, including loan origination, underwriting, and servicing.

There are 2 co-lending models in practice, namely CLM-1 and CLM-2.

Co-lending CLM-1 Model

In CLM-1, both banks and NBFCs jointly approve and disburse loans through a shared routing account, with a fixed ownership split (typically 80:20). The loan is sanctioned only if both parties agree and approve. Repayments are collected in the routing account and distributed proportionally. The interest rate is blended, reflecting both lenders’ rates. As per RBI guidelines, NBFCs must retain at least 20% of the loan in their books, ensuring they share the credit risk.

Co-lending CLM-2 Model

In CLM-2, NBFCs independently originate and disburse the loan, after which the bank reimburses up to 80% of the loan amount. Unlike CLM-1, the bank has the right to refuse participation even after disbursement, based on its due diligence. The NBFC retains a minimum 20% share of the loan, maintaining its risk exposure. This model offers greater flexibility to banks while enabling NBFCs to leverage their origination capabilities and customer reach.

Difference between Co-lending and Direct Assignment

Co-lending is a collaboration between banks and NBFCs where they jointly own, share the risk, and handle repayment responsibilities for loans. On the other hand, Direct Assignment involves the NBFC selling a pool of loans to a bank, allowing it to recover up to 90% of its capital immediately. Even after selling the loans, NBFCs keep a small portion (typically 10%) and may continue to service the loans, earning fees and monthly income. This retained stake ensures they remain invested in the outcome, while also aiding banks in efficiently achieving their Priority Sector Lending (PSL) targets.

Benefits of Co-Lending

For Borrowers

1. More Options: Co-lending allows borrowers to access larger loans than they would be able to obtain from a single lender.

2. Customized Loan Products: Collaboration between Banks and NBFCs allows for the creation of tailored loan products that align with the borrower's financial profile and repayment capacity.

3. Lower Interest Rates: Lenders can reduce their funding costs by collaborating with other lenders to provide a single loan. This can lead to lower interest rates for the borrower.

4. Improved efficiency: Co-lending can be facilitated by a platform that automates the loan administration and management process, improving customer experience.

5. Competition: Co-lending can increase market competitiveness among lenders, leading to better loan terms for the borrower.

For Banks

1. Access to New Customer Segments: Banks can access underserved or unbanked borrowers, particularly in rural and semi-urban regions, by utilizing the local networks of NBFCs.

2. Reduced Operational Burden: NBFCs manage origination, documentation, and customer service, enabling banks to concentrate on credit evaluation and financing.

3. Priority Sector Lending (PSL) Compliance: Banks meet their PSL targets more efficiently by leveraging NBFCs’ reach to remote and underserved markets.

4. Risk Management: Banks share credit risk with NBFCs, reducing their loan exposure.

5. Cost Efficiency: Banks avoid high customer acquisition costs and servicing in remote areas.

For NBFCs

1. Increased Lending Capacity: NBFCs can fund more loans backed by bank capital, without overextending their balance sheets.

2. Lower Cost of Funds: Partnering with banks gives NBFCs access to cheaper capital, improving their margins.

3. Stronger Credit Underwriting: Joint credit assessment with banks can improve loan quality and reduce defaults with greater credit assessment and underwriting.

4. Revenue Opportunities: NBFCs earn from interest on their share, servicing fees, and possibly performance incentives, keeping their skin in the game.

5. Branding: NBFCs earn brand credibility and trust amongst borrowers by partnering with reputed banks.
   

Challenges in Co-lending

While co-lending offers several benefits, it also presents some challenges for borrowers and lenders. Some of the challenges are:

1. Coordination among lenders: Co-lending necessitates coordination among several lenders, which can be difficult. The lenders must agree on the loan's terms, such as the loan amount, interest rate, and repayment conditions. If the lenders have varying underwriting standards or risk tolerances, achieving a consensus can be challenging.

2. Risk management: Co-lending requires lenders to collaborate and share the risk associated with the loan. This can be challenging as the lenders have different risk appetites and may have different views on risk management. If the borrower defaults on the loan, the lenders need to work together to manage the risk and recover their funds.

3. Regulatory compliance: The lenders need to comply with various regulations related to lending, including anti-money laundering (AML) and know your customer (KYC) regulations. The lenders also need to comply with the regulations related to co-lending, which vary by jurisdiction.

4. Loan administration and management: The lenders must agree on the loan origination process, underwriting criteria, and loan servicing procedures. If they are utilising a platform for co-lending, they must also concur on the platform's terms of use and data privacy policies.

5. Communication and trust: Co-lending requires communication and trust among the lenders. The lenders need to communicate effectively to ensure that they are on the same page regarding the loan terms, risk management, and loan servicing. They also need to trust each other to honour their commitments and work together to manage the risk associated with the loan.

6. Technology limitations: There are very few solutions which can cater to the growing demands of the banking industry. Most solutions aren't capable of handling the complexities behind the requirements, while others may be good at technology but lack domain knowledge.

Co-lending with Scolend

Scolend helps originators and co-lenders manage the lifecycle of loans in compliance with regulatory requirements. Developed by former bankers with extensive technological and industry expertise, Scolend is a comprehensive 3-in-1 solution encompassing a Loan Origination System (LOS), a Loan Management System (LMS), and a Co-lending platform. Scolend offers advanced credit decision-making capabilities, including credit scoring, risk assessment, and loan origination.

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With co-lending becoming a strategic tool for expanding credit access and meeting regulatory goals like Priority Sector Lending (PSL), Scolend enables both originators and co-lenders to collaborate efficiently. Scolend empowers banks and NBFCs with efficient credit processing, loan management, and portfolio monitoring, enabling them to make informed lending decisions and reduce credit risks.

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FAQ

What is Co-lending?

Co-lending, also known as loan syndication, is a financing arrangement in which multiple lenders, such as Banks and NBFCs, jointly provide a loan to a borrower.

What is Scolend?

Scolend is a 3 in 1 platform - LOS + LMS + CO-lending designed for banks and NBFCs. Scolend offers advanced credit decision-making capabilities, including credit scoring, risk assessment, and loan origination.

How can Scolend support Banks and NBFCs?

Scolend empowers banks and NBFCs with efficient credit processing, loan management, and portfolio monitoring, enabling them to make informed lending decisions and reduce credit risks.

How do I book a demo?

You can directly reach out to +91 99206 28792 over Call/WhatsApp or click on the 'Book a demo' button.