How risk-based credit pricing model affects borrowers and banks

The excitement around financial inclusion in Kenya is not without merit owing to innovative aspects of Fintechs and banks.

This is despite the Kenyan government having achieved little effort to meet its citizens’ appetite for credit through the state-created Development Finance Institutions (DFI) like Youth Enterprise Fund, Agricultural Finance corporations, Women Enterprise Fund etc., leaving it to the private sector that has taken over to dominated the credit market.

By 2008, Kenyan banks were sinking with huge Non Preforming Loans (NPLs) portfolio and through scrutiny on the data indicated that the NPLs mostly belonged to a click of individuals commonly referred in the banking corridors as perennial defaulters – individual who hopped from one bank, took a loan, defaulted and then hopped to another bank took another loan and defaulted. 

This saw the birth of Credit Reference Bureau (CRB), Regulations 2008, which became effective in February 2009 to curb the NPL menace.

As per the regulations, all the licensed banks were mandated to share all the information of NPLs through CRBs which were new entrant in the market.

The 2008 regulations saw huge numbers of loan defaulters being listed with the CRBs hence the origin of the word LISTED.

Even with the new regulations and increased number of listed defaulters, Kenyans believed and still do that being listed means being denied access to any form of credit. According to Credit Information Sharing Association of Kenya (CIS Kenya), 16 millions Kenyans are listed with CRBs, out of whom, only 4 million are negatively listed.

The latest directive by the Government set the heads rolling in the credit space when the Central Bank of Kenya (CBK) directed all CRBs to include “a standard statement on all credit reports indicating that “a customer’s credit score should not be used as the sole reason by a lender to deny a customer a loan

This means that a lender cannot deny any borrower a credit facility based on their listing status, but instead, apply Risk Based Credit Pricing on their credit products. This means that all borrowers will be given a credit score based on how good they are in honouring credit obligations.

Metropol CRB, plus two other regulated bureaus have been tasked to include an enhanced credit score in all borrower’s credit reports. A lender will be required to consider the borrowers credit score among other prevailing factors in arriving at a lending decision.

Going forward, the lenders will have an option to give credit at a higher credit rate to the borrowers who they consider to be risky based on their low score.

For example, a borrower may be considered as a high risk if they have a record in delaying when paying their credit obligations or their loan instalments.

An employed person who pays his instalment on time may be viewed as a low risk and will have a high score. This means they can access credit from a lender at a lower interest rate.

A borrower’s score may be determined on their delinquency, amount of outstanding loans, employment status, default on historical loans, estimated income, ability to provide guarantors for the loan among other prevailing factors.

Should the new measures will be adapted in the lending space, it will be illegal to use a borrower’s credit listing status ONLY as a factor to deny them loan.

Each lender will be required to use the credit score of a lender plus other factors to arrive at a decision to extend credit facility or not.  This will also determine interest rate to extend a credit to a borrower based on how risky they seem. 

The borrower will have a right to receive a risk-based pricing notice and an advice on why they are receiving a credit facility at a higher rate than other borrowers. The notice may contain information advising the borrower on their credit score, the score range from the best to the worst, how the score was arrived at and the negative effect of a bad score.

The new measure may open more avenue to access credit for individual borrowers, Micro, Small, and Medium sized Enterprises(MSMEs) whose effect will be a robust growth of the economy.

With or without the government intervention, it will continue to be the borrower responsibility to honour their debts obligations when they fall due as a way of building an attractive credit score which will allow them access to credit facilities at a lower rate.

It’s always responsible to honour debts obligations or otherwise discuss with the lender in case of delay in meeting repayment obligations to avoid future problem with lenders.

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