What FLDG means for fintech lenders

Subject: Economy

Section: Monetary Polity

Default loss guarantee (DLG) is an arrangement between two entities, often two regulated entities, or between a regulated entity and fintech lending service providers (LSPs), whereby the LSP guarantees to compensate the regulated entity for loss due to default up to a certain threshold of the loan portfolio. It is also known as first loss default guarantee or FLDG.
Under FLDG, up to 5% of the loan portfolio can be covered, and the clauses must be invoked within 120 days from the date of default.
Fintech players were asking for FLDG as the RBI’s previous rule revisions on securitisation challenged them to enter default loss guarantee agreements, and REs were hesitant to lend through fintechs without commitment towards loan loss
The circular issued by the RBI sets the base for enabling the system to handle these loans formally, but there are still a few grey areas that need to be addressed, such as how loan outstanding should be computed.
For borrowers, FLDG could imply an increase in the cost of loans as LSPs may charge a fee to cover up for the likely losses guaranteed under FLDG
FLDG contracts for digital lending will help in the growth of these platforms, but fintechs have been working with REs on co-lending structures and even FLDG in a different manner in the past years, making the incremental increase in business difficult to quantify