In a significant move aimed at enhancing the accessibility of credit for MSMEs and individual home loan seekers, public sector banks (PSBs) are on track to finalise a novel credit assessment model based on digital footprints by October.

This innovative approach is set to transform the way loans are disbursed, potentially offering a lifeline to numerous MSMEs (micro, small, and medium enterprises) and individuals who currently struggle to meet traditional  criteria for credit, according to a senior government official.

Digital footprint refers to the trail of data left behind while using digital services. For individuals, this can include online activities such as social media interactions, online purchases, utility bill payments, and other digital transactions. For MSMEs, it can also include business-related digital activities like salary payments to employees, payment of utility bills, bank transactions, and PF (provident fund) and NPS (national pension scheme) contributions, etc. By analysing the digital footprint, banks can gain insights into the financial behaviour and stability of an individual or business, even if traditional documentation like balance sheets or salary slips are unavailable.

Revolutionising credit assessment

The new digital footprint model marks a departure from the conventional reliance on balance sheets and account statements. Instead, PSBs will assess creditworthiness by evaluating a range of digital indicators, such as those enumerated above.

"Even if an MSME employs just 10 people, by paying salaries and PF, it creates valuable data. This can be used to assess its creditworthiness. Current guidelines do not permit this, but we are updating them to consider these factors for loans," Financial Services Secretary Vivek Joshi said.

Benefits for MSMEs and individuals

The new model aims to bridge the credit gap for smaller MSMEs that often do not produce formal balance sheets. Traditionally, banks have treated MSMEs as corporates, with assessment guidelines that favour larger and medium enterprises. By incorporating digital footprint analysis, banks can provide credit to smaller businesses that are otherwise overlooked.

Similarly, for home loans, the model will extend credit to individuals lacking formal salary proof or tax return statements by analysing their consumption patterns and spending behaviour. "A significant portion of the work has been completed, and we expect the model to be ready by next quarter," he said.

Credit rating model 

By October, the banks will also develop an internal credit rating model. Currently, for loans above Rs 30-50 crore, and even below that threshold, banks ask companies for an external rating, which is a costly affair for MSMEs. To reduce the burden of getting an external rating for MSMEs, the government has directed the banks to develop an internal credit rating model.

“The number of MSMEs obtaining credit from banks has been declining in recent years. This new approach will assist smaller units, which often have a limited credit history and inconsistent working capital cycles. Assessing their working capital needs is challenging due to the lack of high-frequency data. The primary focus should be on the borrower’s ability and intent to repay from future earnings, making collateral a secondary consideration. This shift would allow for more flexible repayment schedules for working capital facilities, especially for industries with unpredictable revenues,” Jyoti Prakash Gadia, Managing Director, Resurgent India, a financial solutions advisor, told Moneycontrol.

While some risk of recovery may exist in such cases due to their unsecured nature, the real test lies in assessing repayment capacity based on the digital track record, and the ability to create a reasonable surplus to repay the loan. While the policy direction strongly supports increasing credit to MSMEs, banks will need clear guidance from the RBI (Reserve Bank of India) to implement these proposals effectively, he said.