This episode of Mahattva – Voices that Matter, brings together the heads of two prominent MFIs. Microfinance has been attracting attention of the entire financial system, with concerns as well as with significant optimist curiosity. Clearly, this is one segment of the financial system where financial inclusion is at its very core. We intend to have a range of questions of what are the causes of the current state of things, opportunities, way forward, induction of capital and debt, and regulatory advocacy.
https://vinodkothari.com/wp-content/uploads/2023/06/vinod-kothari-logo.png00Staffhttps://vinodkothari.com/wp-content/uploads/2023/06/vinod-kothari-logo.pngStaff2025-11-25 10:47:312025-11-25 14:33:44Microfinance: State of the Industry and Way Forward
On June 09, 2025, the Tamil Nadu Money Lending Entities (Prevention of Coercive Actions) Act, 2025 was notified (hereafter referred to as ‘Act’). The Act aims to protect vulnerable groups from the coercive recovery practices perpetrated by microfinance institutions, money-lending agencies, and organisations operating in the state of Tamil Nadu. Violations of the Act are subject to penalties, including imprisonment and fines.
While the Act is not generally applicable to RBI-regulated entities, certain provisions on coercive recovery practices (Sections 20 – 26), are made applicable upon NBFCs functioning in Tamil Nadu. The term “functioning” is quite broad, and would appear to include in its ambit entities with branches, and also those conducting business in the state.
Non-compliance with these provisions can also result in the concerned persons of the NBFCs being punished with imprisonment and fines.
What is curious, however, is the differentiation made between banks and NBFCs. The said provisions are not made applicable to banks, but apply to NBFCs. This is notwithstanding the fact that NBFC recovery practices are just as heavily regulated by the RBI, as those of banks, and borrowers already have recourse available to them through the RBI ombudsman, and consumer protection courts.
Indeed, such recourse may be more speedy, and efficacious (as those bodies specialise in such matters), as compared to the police machinery and criminal procedure (which are already burdened with backlogs and heavy case-load). The provisions are also quite subjective and ambiguous in their interpretation (as will be outlined below), and there is certainly a risk that this will result in a slew of complaints by delinquent borrowers, which will serve to stall recoveries further.
Hence, one is at the outset unable to trace the rational nexus behind the differential classification/treatment (between the banks and NBFCs), and the object sought to be achieved[1].
Unpacking the applicable provisions
NBFCs functioning in the state of Tamil Nadu would need to ensure that “no borrower or any of his family members shall be subject to coercive recovery action by a money lending agent, or its agents while recovering a loan from the borrower”. It is to be noted that “coercive recovery action” is nowhere defined in the Act. Section 3(a) states that “coercive actions” are as understood under Section 20, and Section 20 gives only an indicative list of what such coercive actions may be.
Hence, what is “coercion” is only understood by inference, however reference may also be made to the definition of coercion under Section 15 of The Indian Contract Act, 1872, where coercion is the “the committing, or threatening to commit, any act forbidden by the Indian Penal Code (45 of 1860) or the unlawful detaining, or threatening to detain, any property, to the prejudice of any person whatever, with the intention of causing any person to enter into an agreement. “
Under Section 20(2) of the Act, the following may be flagged as coercive, and hence, NBFCS would need to take note of the same:
Coercive actions under Section 20(2) of the Act
Provision: Obstructing/using violence to, or insulting, or intimidating the borrower or any of his family members Punishment for contravention: Imprisonment for a term which may extend to three years / fine of five-lakhs / or both.
Provision: Persistently following the borrower or any of his family members from place to place, or interfering with any property owned or used by them, or depriving them of or hindering them in the use of, any such property Punishment for contravention: Imprisonment for a term which may extend to three years / fine of five-lakhs / or both. Our comments: Sticky borrowers may be reluctant to repay unless persistently followed up with, particularly when the borrowers themselves are moving “from place to place” to avoid repaying amounts due. However what seems to be prohibited here is “stalking” the borrower, and obstructing their daily activities. As regards hindering the borrower in the use of “any property”, in our view, the property here should not be understood to mean the collateral provided by the borrower, or the primary security created out of the disbursed funds. Such an interpretation would cast a chilling effect on the basic assurances available to lenders in secured lending.
Provision: Frequenting the house or other place where the borrower resides or works, or carries on business, or happens to be, with an intention of taking coercive action Punishment for contravention: Imprisonment for a term which may extend to three years / fine of five-lakhs / or both. Our comments: Frequenting the borrower’s house or workplace may be inevitable in cases of high DPDs, and persistent defaults. However, whether or not there was an “intention of taking coercive action” is an entirely fact-sensitive matter, which would require analysis by the courts. Such subjectivity may become an avenue for frivolous complaints by defaulting borrowers.
Provision: Using the service of private or outsourced or external agencies, to negotiate or urging the borrower to make payment using coercive and undue influence; Punishment for contravention: Imprisonment for a term which may extend to five years / fine of five-lakhs / or both. Our comments: What appears to be restricted here is not the mere use of business correspondents or outsourced agents for recovery, but rather using them as an instrumentality for the coercive recovery. Essentially, even if the coercive recovery is not directly done by the lenders themselves they will still be held accountable for the same.
Provision: Seeking to take forcibly any document of the borrower which entitles him to a benefit under any Government programme, any other vital documents, articles or household belongings Punishment for contravention: Imprisonment for a term which may extend to five years / fine of five-lakhs / or both. Our comments: Refer to comments under Row 2, specifically with regards to collateral property and security.
Who would be punished?
In case of NBFCs, the punishment may be imposed on the following persons (See Section 26 of the Act):
Every person who, at the time of the offence being committed, was in charge of and responsible for the business of the Company. Provided that, such persons shall not be liable to punishment if: (i) they prove the offence was committed without their knowledge; and (ii) all due diligence was exercised to prevent the commission of the offence.
In addition to the above, the director, manager, secretary, or other officer, due to whose consent/connivance/neglect/ the offence had been committed, shall also be liable to be proceeded against and punished accordingly.
Should it apply to RBI regulated entities?
Notwithstanding the noble sentiments around protecting borrowers from Shylockian lending, the question here is, can/should such a state money-lending enactment also apply to RBI-regulated entities? Especially considering that there are already exhaustive regulations around the recovery practices (including for MFIs, the concerns around which the Act purports to address).
The Apex Court had ruled on this in Nedumpilli Finance Company Ltd. v. State of Kerala. Here, the Court held that because the RBI Act and control over NBFCs are traceable to entries under List I of the Seventh Schedule of the Constitution, Article 246(1) of the Constitution would come into play. This grants parliament exclusive law-making power over the said entries. Further, Section 45Q of the RBI Act provides an overriding effect to Chapter III of the RBI Act and regulations made thereunder (which are of a statutory nature).
Hence, it is understood that such state money lending enactments cannot apply to NBFCs. For interested readers, we have written on this judgment here, and have also covered the constitutional analysis from an earlier judgment by the Gujarat HC, here.
In the final analysis, the RBI (already) regulates NBFCs from “cradle to grave”. As observed by the Hon’ble Supreme Court, unlike state enactments, which have a one-eyed approach of borrower protection, the RBI Act takes a holistic approach to lending business. And, “all activities of NBFCs automatically come under the scanner of the RBI. As a consequence, the single aspect of taking care of the interest of the borrowers, which is sought to be achieved by the State enactments, gets subsumed in the provisions of Chapter IIIB”.
[1] Referring to the doctrine of reasonable classification under Article 14 of the Constitution.
https://vinodkothari.com/wp-content/uploads/2023/06/vinod-kothari-logo.png00Staffhttps://vinodkothari.com/wp-content/uploads/2023/06/vinod-kothari-logo.pngStaff2025-06-28 11:01:432025-06-30 14:58:26New Tamil Nadu Law on Coercive Recovery - Alarm bells for NBFCs?
As has been evident from numerous reports, the microfinance sector in India is facing mounting pressure. Rising borrower distress and overindebtedness have led to criticism of microlenders for their aggressive loan sanctions without adequate checks on the borrower’s ability to pay and harsh recovery practices. Concerns broadly pertain to: Vulnerability of borrowers, cross-selling and opacity of terms, unjustified/usurious rates of interest, multiple loan facilities and coercive methods of recovery etc.
While RBI registered entities are subjected to various regulations such as sector-specific RBI directions on microfinance, MFIN guardrails, NBFC Directions etc. there is not much to regulate the unorganised sector. In an attempt to address these concerns, and curb the challenges faced by local borrowers, the Karnataka Government promulgated ‘The Karnataka Micro Loan And Small Loan (Prevention Of Coercive Actions) Ordinance, 2025’, hereafter referred to as “Ordinance”. Other states too have attempted to regulate microfinance lending in the past. For instance, the aftermath of the 2010 Andhra Pradesh microfinance crisis, resulted in the Andhra Pradesh Microfinance Institutions (Regulations of Money Lending) Act (2011). Similarly, Assam has also promulgated the Assam Microfinance Institutions (Regulations of Money Lending) Act (2021). The Karnataka ordinance emerges particularly in light of the spate of reported borrower suicides in the region, and reports of usurious recovery practices by lenders.
