Foreclosure charges or pre-payment charges are levied as a penalty for closing the credit facility prior to the contracted maturity. The said penalty is being commonly referred to as Prepayment penalty or foreclosure charges in the Banking domain.
Banks charge these penalty to compensate for the loss incurred in case of term loans. The term loans are matched to long-term liabilities whose costs are fixed and pre closure costs to the bank in a period where the interest rates are declining. Secondly the unexpected inflow of funds takes times for its utilisation and lead to loss of interest on such surplus funds. Also these charges act as a deterrent to the borrower from getting the facilities taken over by other bank besides adding to fee income to the Banks.
However retail borrowers can prepay floating rate home loan without any penalty or charges as per the directives of the Reserve Bank of India. Also pre-payment charges are not levied in case the loan is sanctioned at a floating rate of interest, in the name of one or more individual borrowers and there is no corporate entity tagged as co-borrower.
The borrowers resort to prepaying the debt when they have liquidity or when they are moving to other sources of credit for better commercial terms. Almost all the Scheduled commercial Banks are members and signatory to Banking Codes and Standards Board of India. BCSBI is an independent and autonomous institution to monitor and ensure that the Banking Codes and Standards adopted by the banks are adhered to in true spirit while delivering their services. As per the BCSBI codes for MSME-Banks shall permit prepayment of floating rate loans without levying any prepayment penalty.
The Banks are required to provide the tariff schedule and provide information on the penalties leviable in the account in adherence to BCSBI code and RBI guidelines on customer service. Hence it is imperative as a customer to negotiate waiver /modification of the foreclosure clause if mentioned on the sanction letter. In case the Bank does not mention the clause on the Sanction letter/Facility agreement and later demand for the same then the borrower can initiate the remedial process as per the Banking ombudsman scheme.
Query-Does the bank have the right to levy foreclosure charges/ prepayment penalty on the individual borrowers?
RBI response-Scheduled Commercial Banks (excluding Regional Rural Banks) have the freedom to fix charges, as per their Board approved policy subject to general instructions regarding levy of charges by banks contained in paragraph 6 of our Master Circular on ‘Customer Service in Banks’ issued vide DBR.No.Leg.BC.21/09.07.006/2015-16 dated July 1, 2015.
The complainant had contested levy of charges of over ₹2.7 million by a bank for sanctioning facilities in the nature of term loan, cash credit and bank guarantee, even though, as claimed by the complainant, the sanctioned facilities had not been availed. The bank had contended that all the facilities sought by the complainant had been sanctioned and the complainant had also availed them and that the charges levied by the bank were as per the agreed terms as well as in line with their internal rules. On the basis of submissions made by both the parties, it was observed that the complainant had availed, either partly or fully, all the facilities sanctioned, except one of the Term Loans. The bank had levied processing charges, service tax, interest on loans and advances, valuation charges, etc. for this Term Loan along-with charges for other facilities sanctioned by it. It was further observed that though bank’s internal guidelines required that only half of the processing charges shall be levied at the time of sanction, and rest on availment, the bank had levied full processing charges on all facilities sanctioned by it, including on the Term Loan that had not been availed by the complainant. AA directed the bank to refund the excess processing charges with interest.
Source:THE BANKING OMBUDSMAN SCHEME, 2006 ANNUAL REPORT July 1, 2017 – June 30, 2018
The complainant was maintaining cash credit account with a bank. For operational convenience and as he felt rate of interest charged by the bank was high, he shifted his account to other bank. On closure of account the complainant noted that his account was debited with foreclosure charges of ₹ 2,26,977.00. The complainant alleged that the bank had levied various service charges in his account and the levy of foreclosure charges was huge and requested for refund of the same. The matter was taken up with the bank and it submitted that the complainant had availed Cash Credit facility of ₹100 lakh originally sanctioned in 2007 for a period of 12 months which was subsequently renewed annually. The cash credit limit was subsequently taken over by other bank. The borrower was aware of the applicability of Banking Ombudsman Scheme 2006 Annual Report 2016-17 74 pre closure charges. On verification of terms and conditions of sanction it was observed that the pre-closure charges were included under the head “Other charges-as applicable from time to time” in the sanction letter issued to the complainant and duly acknowledged by him. The sanction letter acknowledged by him did not specifically mention pre closure charges. The applicability of pre-closure charge ought to have been intimated to the complainant either at the time of sanction of cash credit or incorporated in terms and conditions signed by him. The bank had also not informed him in writing about the charges at the time of processing his request for take-over facility by other bank. Bank was advised to reverse the pre closure charges levied as it had not adhered to the guidelines on customer service policy of bank and was not considered transparent in its dealings.
Source:THE BANKING OMBUDSMAN SCHEME, 2006 ANNUAL REPORT 2016- 2017
