The challenging question facing every business owner looking for financing is who should they apply to for a business loan: a bank or an NBFC? While it might make sense to prefer banks for meeting your business loan requirements due to their secured legacy, the process can be difficult and cumbersome for small businesses.

The emergence of NBFCs has revolutionized the financial lending landscape. For the uninitiated, NBFCs refer to the Non-Banking Finance Companies that are primarily involved in lending and credit services without being licensed to accept any deposits. 

These nimble players have successfully managed to upend the traditional bank’s lending model, thus leaving behind banks in the race to play perpetual catch-up. The latest Financial Stability Report, published by RBI, states that NBFCs have indeed mobilized the space that was vacated by banks due to risk aversion over rising NPAs. So why are NBFCs witnessing huge exponential growth, and are they a good financing option for you? Let’s find out.

Eligibility Criteria

Banks typically use stringent lending criteria for sanctioning business loans. For instance, they may demand a very high credit score (750+), 3-5 years of business history, or high turnover requirements. Their verification process requires a staggering number of documents and is generally very strict. 

NBFCs are relatively flexible in their criteria while adjudging suitability for a business loan sanction. In fact, the NBFCs have managed to disrupt the lending ecosystem by capitalizing on the SME borrower segment, which banks were not catering to. Its lenient rules ensure easy financing options for its clients. NBFCs can also advance a higher loan amount against the same collateral compared to banks. This is because NBFCs can include the stamp duty and registration costs as part of a property’s market valuation.

Funds Disbursal Times

Since availing of a business loan from a bank entails an astronomical amount of paperwork, the entire loan application process becomes time-consuming. As a result, the financial pipeline can extend for a couple of months till the loan is finally extended. There is an exception, however, in the case of existing customers who share an excellent working relationship with the bank, maintain a large current account balance, earn a stable income, and have an excellent credit score. Such customers can access quick funding in the form of an overdraft facility. 

NBFCs, in comparison, have managed to cut down the lag between an application and a credit decision, thus disbursing loans in a relatively short time, sometimes even within a few hours. This is because their verification process is not as complicated as banks, as lower regulatory compliance requirements have been stipulated for them. This makes NBFCs a friend in need as you can avail of loans quickly, particularly in case of any contingency or emergency requirements. In fact, companies like Protium can sanction loans within 3 days, post submission of requisite documentation.

Rates of Interest

Banks levy higher rates of interest vis-à-vis NBFCs primarily for two reasons. Firstly, these interest rates are benchmarked either to their marginal cost of lending (MCLR) or to an external benchmark rate which is further linked to macroeconomic indicators, including RBI’s lending and forex rates. Secondly, banks need to charge higher interest rates so that they can maintain higher interest margins as their costs are higher due to the additional compliance burden.

NBFCs are not required to benchmark their interest rates as per RBI guidelines. Instead, they determine their rates of interest based on the Prime Lending Rate (PLR). This allows them flexibility in varying their interest rates as per the customer base and the market they are situated in. This also creates an opportunity to offer flexi-loan options.

Processing Charges

The real cost of the loan is determined not only by the interest rate but also by the additional processing, prepayment, and foreclosure charges. Banks charge a higher fee for sanctioning loans versus NBFCs. 

Credit Scores

Traditional banks underwrite loans based on a ‘thick file’ credit history, i.e., very high credit scores. Whereas NBFCs, along with their tied-in FinTech companies, can cater to new-to-credit as well as ‘thin file’ customers. This is possible because of their in-built tech-based proprietary models, which consider other facets, in addition to credit scores, to assess loan applications. Thus, NBFCs can extend loans even to people with low CIBIL scores of 550, but banks usually restrict themselves to a customer base with scores over 750.

Digital Application

Due to their legacy structure, banks have been struggling to provide a frictionless online experience to their customers who are applying for business loans. The consumers are forced to submit hard copies of proof documents at the brick-and-mortar bank branches, thus inconveniencing them greatly.

On the other hand, NBFCs have been quick at innovating, and many have morphed into present-day FinTech companies. This has accorded them an opportunity to cater to a tech-savvy customer base that desires convenience and flexibility while applying for loans. They have achieved close to real-time results by leveraging ML techniques and data analytics to assess borrowers’ creditworthiness. NBFCs have managed to provide a seamless experience by harnessing the power of APIs to deliver quick loan disbursals.

Pre-Approved Loan Limit

Several NBFCs extend business loans with pre-approved loan limits. This allows the business owners to withdraw funds as and when required. As a result, you end up paying lower aggregated interest payments, as interest is levied only on the amount withdrawn and not on the entire limit. This also accords flexibility to businesses and saves time by dispensing with the need to apply afresh for business loans whenever an opportunity arises.

Bottom Line

NBFCs are poised to capture the lending space by continuing to leverage their deep regional reach and innovative technology-based solutions, which ensure better customer service. But the buck doesn’t stop here. One needs to be careful while choosing which financial institution to apply to and ensure that they at least are a licensed lender.

When in a quandary, think of Protium, a full-stack lender that offers business loans at attractive interest rates with minimal documentation. Call 8828827800 for more details.