Co-lending

Also called: Co-lending model, CLM, Co-origination · Topic: Rural Credit, Microfinance and Financial Inclusion · NCERT: Beyond NCERT

Meaning

Co-lending is an arrangement where two regulated lenders, usually a bank and an NBFC (Non-Banking Financial Company, a lender that is not a bank), fund the same loan together in an agreed ratio, and each keeps its share of the loan on its own books.

It matters because it combines two different strengths:

• Banks have cheap money.
• NBFCs can reach small borrowers whom banks rarely serve.

Together, they can take formal credit to people who have little or no credit history.

Formula: Blended interest rate = (Share₁ × Rate₁) + (Share₂ × Rate₂)

Explanation

How it works

• Why the bank brings low-cost funds:
• Banks collect deposits from the public.
• Deposits cost them little.

• So banks can lend at lower rates.

• Why the NBFC brings last-mile reach:

• NBFCs have local agents.
• They know small borrowers and their businesses well.

• So they can find, check and serve borrowers in places where banks are thin.

• How one loan is shared:

• Each partner puts in its own share of the money.
• Each partner carries the risk on its own share.

• The borrower still sees one loan at one interest rate.

• Money flow: all payouts to the borrower and all repayments pass through an escrow account [2]. An escrow account is a bank account that neither partner controls alone.

How it developed

• 2018: the co-origination scheme. Banks and NBFCs jointly created priority sector loans.
• November 2020: the Co-Lending Model (CLM). It covered only priority sector loans, and the NBFC had to keep at least 20% of each loan.
• 6 August 2025: the RBI issued the Co-Lending Arrangements Directions, 2025. They apply from 1 January 2026, or earlier if a lender's own policy allows [2].

The main rules (2025 Directions) [2]

• Who is covered: commercial banks, all-India financial institutions and NBFCs, including housing finance companies [2].
• Who is not covered: Small Finance Banks, Local Area Banks and Regional Rural Banks [2].
• Loan types: co-lending is no longer limited to priority sector loans. A co-lent loan counts as priority sector lending (PSL) only if it meets the PSL rules [2]. PSL means the loans the RBI tells banks to give to chosen sectors, such as farmers and micro firms.
• Minimum share: each partner must keep at least 10% of every loan [2]. This keeps each partner's own money at risk.
• Default Loss Guarantee (DLG): one partner may promise to cover the other's losses if the borrower does not repay. This promise is capped at 5% of loans outstanding [2].
• Timing: each partner must show its share in its books within 15 calendar days of the payout [2].
• Same label for a bad loan (borrower-level classification):
• Suppose one partner marks the loan as SMA (Special Mention Account, an early warning of stress) or NPA (Non-Performing Asset, a loan that is not being repaid).
• Then the other partner must mark it the same way [2].

• So neither partner can hide a bad loan.

• Disclosure: each partner must list its active co-lending partners on its website. It must also report loan amounts, rates, fees and loan performance in its financial statements [2].

Worked example: the blended rate

• A bank funds 80% of a loan at 9%.
• An NBFC funds 20% of the same loan at 14%.
• Blended rate = 0.8 × 9 + 0.2 × 14 = 7.2 + 2.8 = 10%.
• What this means:
• The borrower pays one rate of 10%.
• That is cheaper than the NBFC's 14%, because most of the money is the bank's cheaper money.
• The NBFC's 20% share is well above the 10% minimum [2], so this split is allowed.

In India

• Regulator: the Reserve Bank of India (RBI) writes the rules. The current rulebook is the Reserve Bank of India (Co-Lending Arrangements) Directions, 2025, issued on 6 August 2025 and in force from 1 January 2026 [2].
• Link to priority sector targets:
• Domestic banks must lend 40% of ANBC (Adjusted Net Bank Credit, a bank's total loans after some fixed adjustments) to the priority sector [1].

• Co-lending with NBFCs helps banks reach small borrowers and meet this target. The co-lent loan must still meet the PSL rules to count [2].

• Wider scope in 2025:

• Before, co-lending was a tool only for priority sector loans (2018 co-origination, 2020 CLM).

• The 2025 Directions opened it to all loan types and to more types of regulated lenders [2].

• Place in policy: co-lending belongs to India's financial inclusion push, along with PMJDY and priority sector lending. The aim is to bring formal loans to people who would otherwise go to moneylenders.

Don't confuse with

• Priority Sector Lending Certificates (PSLCs): with a PSLC, a bank buys only the "credit" for meeting its PSL target. No loan and no credit risk moves to the buyer [3]. In co-lending, both partners actually fund the loan and both carry its risk.
• On-lending: a bank lends to an NBFC or HFC, and that company then lends to priority borrowers. The bank's loan is to the NBFC, not to the final borrower. The PSL credit for this is capped at 5% of the bank's total PSL in the previous year [1]. In co-lending, both lenders have a direct share in the loan to the borrower.
• 2020 Co-Lending Model vs 2025 Directions: the 2020 model covered only priority sector loans and made the NBFC keep 20%. The 2025 Directions cover all loan types and require each partner to keep at least 10% [2].
• Default Loss Guarantee (DLG): this is not co-lending itself. It is an optional promise inside a co-lending deal to cover some losses, capped at 5% [2]. It does not replace the 10% minimum share.

Prelims Hooks

• Timeline: 2018 co-origination → November 2020 CLM (priority sector only, NBFC kept at least 20%) → Co-Lending Arrangements Directions, 2025, issued 6 August 2025 and effective 1 January 2026 [2].
• Minimum share for each partner = 10% of every loan. DLG cap = 5% of loans outstanding [2].
• Trap: SFBs, RRBs and Local Area Banks are excluded from the 2025 Directions, even though they are banks that serve small borrowers [2].
• Trap: a co-lent loan does not count as PSL on its own. It must meet the PSL rules [2].
• Borrower-level classification: if one partner marks the loan SMA or NPA, the other must do the same. Money must flow through an escrow account, and each share must be booked within 15 calendar days [2].
• Blended rate = weighted average of the two lenders' rates. For example, 80% at 9% plus 20% at 14% gives 10%.

Mains Points

• A bridge between banks and NBFCs:
• Banks' cheap funds plus NBFCs' local reach means cheaper formal credit for small borrowers with thin credit histories.

• This supports financial inclusion and inclusive growth (GS-III), and reduces dependence on moneylenders and the debt traps that come with them.

• Balancing growth and risk:

• Easier credit can bring careless lending and hidden bad loans.

• The 2025 Directions guard against this in four ways [2]:

  • the 10% minimum share keeps each partner's own money at stake;
  • the 5% DLG cap limits how much risk one partner can push onto the other;
  • borrower-level NPA marking stops a bad loan from being hidden;
  • escrow accounts and public disclosures protect borrowers.

• Gaps to discuss:

• SFBs and RRBs are left out, although they are among the lenders closest to rural borrowers [2].
• Now that co-lending covers all loan types, banks and NBFCs may put more of it into profitable urban loans than into farm and micro loans. The PSL rules and district weights [1] are still needed to keep credit flowing to under-served regions.

Related concepts

• Priority Sector Lending Certificates

Read more

• Directed lending: priority sector targets, PSLCs and co-lending