RBI Tightens Project Finance Rules, Squeezing Real Estate Lenders

The Reserve Bank of India's (RBI) new project financing guidelines, which became applicable from October 1, have significantly impacted lenders in the real estate sector. This includes Non-Banking Financial Companies (NBFCs), banks, housing finance companies, and other RBI-regulated entities.

The guidelines mandate that lenders must maintain the same debt-to-equity ratio throughout the project’s lifecycle. Lenders are prohibited from extending any top-up loans over and above the originally sanctioned amount, which remains fixed. This has created execution constraints for lenders, who now find it challenging to manage project overruns and delays.

Though the RBI’s intention is to maintain financial discipline and prevent developers from misusing funds, lenders are facing significant operational issues. A senior banking executive, speaking on the condition of anonymity, explained that top-up loans were often misused by developers to take money out of projects midway. The new rules ensure that developers cannot withdraw funds from projects, promoting transparency and accountability.

To navigate these new norms, some lenders have begun extending general corporate purpose (GCP) loans, requiring borrowers to demonstrate the end use of funds to comply with RBI rules. This allows borrowers to reinvest in the same project through other companies, providing a workaround for the restrictions. However, this approach also comes with its own set of challenges, as it requires lenders to assess the actual working capital gap more rigorously.

The RBI’s guidelines also state that customer collections, along with land and funds brought in by the developer, form part of the equity in a project. For instance, if a project costs Rs 500 crore, with the developer bringing in land worth Rs 100 crore and expecting collections of Rs 250 crore, the remaining Rs 150 crore would be raised as debt. The debt-to-equity ratio in this case would be 2.5:1.5. Maintaining this ratio throughout the project’s lifecycle can be problematic if collections lag or developers fail to infuse additional equity, leading to potential funding issues.

Lenders are also concerned about the risk of extending larger exposures to borrowers at the outset. While the RBI encourages higher upfront loans to avoid future stress, this approach is seen as riskier by many lenders. A chief executive of an NBFC explained that if lenders make additional provisions, it could lead to a downgrade of the developer, turning the existing loan into a restructured account or a non-performing asset (NPA).

The new guidelines have also increased the cost of processing loans and heightened the risk for lenders. Lenders need to have greater confidence in the borrower to extend higher amounts, which is not always feasible. Another senior executive at an NBFC noted that sharp practices in the system cannot be changed overnight. Banks and NBFCs often face pressure to maintain good relations with large borrowers, making it difficult to adhere strictly to the new rules.

However, Vishal Srivastava, managing director at Anarock Capital, believes that the RBI’s norms will create discipline in the financial ecosystem. He stated that the guidelines aim to strengthen discipline around incremental funding during the construction phase and reinforce adherence to the original project capital structure.

Anand Mihir, financial services domestic consulting leader at EY India, agrees with the RBI’s approach. Mihir explained that the project finance framework strengthens discipline around incremental funding and ensures that financial parameters such as the debt-equity ratio and credit metrics remain unchanged or improve in favor of lenders. This reduces the risk of hidden leverage build-up and asset quality deterioration.

For developers, well-capitalised players with disciplined equity infusion and cost controls will adapt smoothly to the new rules. Highly leveraged developers, on the other hand, will need to plan projects more conservatively and build adequate contingencies. Overall, the measures support long-term stability and credibility in real estate financing, despite the initial challenges faced by lenders.