Millennial lives and the new-age debt trap

Bijay Mahapatra, 19, took his first loan from a fintech firm in 2017. It was a small-ticket loan of  ₹500 and he had to repay  ₹550 the next month. It was curiosity about a new app as well as the concept of credit itself. The idea of money out of nowhere which can be paid back later would be alluring for any teenager.

Mahapatra inevitably got hooked. Two months later, when he didn't have enough money for a movie outing with friends, a few taps on the phone is all it took for him to get a  ₹1,000 loan. "The company asked me to pay  ₹50 for every  ₹500 as interest. So, this time, I had to repay  ₹1,100," says Mahapatra, an undergraduate student in Bhubaneswar.

By then, the fintech company had increased his credit limit to  ₹2,000 and he was tempted to borrow again. This time, he picked a three-month repayment tenure and had to repay ₹2,600.

What Mahapatra began to binge on is a form of ultra-short-term unsecured loan, which has a credit industry nickname: a payday loan. First popularized in the US in the 1980s after the Reagan-era deregulation swept aside existing caps on interest rates that banks and bank-like entities could charge, payday loans literally mean what the name suggests— short repayment tenure (15-30 days), usually scheduled around the day of pay. The rate of interest is obviously relatively high.

In India, this 1980s innovation has inevitably gotten mixed up with the ongoing fintech boom. A few taps on the phone is all it takes to avail a loan. The only requirements: identity proof, residence proof, a bank account and a few salary slips.

Once the requisite proof is submitted, within 60 minutes, the requested amount is credited to a bank account. For young adults like Mahapatra, it's almost like magic. In a country with limited exposure to formal banking in general, this new-age, app-based loan is fast becoming the first exposure to credit to a whole generation.

The space is already crowded, with 15-20 fintechs firms offering a variety of payday loans. Among them, a few such as mPokket and UGPG lend specifically to college students (who are 18+). "We provide small-ticket personal loans starting at ₹500," says Gaurav Jalan, founder and chief executive officer (CEO) of mPokket. Jalan refused to reveal the average default rate on the loans, but said "it was fairly under control".

UGPG, on the other hand, lends to students based on a pre-approved line of credit. "Our line of credit typically varies between ₹3,000-40,000 and under this line of credit a student can withdraw as little as ₹1,000," says Naveen Gupta, founder of UGPG. "They can take multiple loans and then repay and redraw again. Typically, interest rate ranges between 2-3% per month."

That amounts to a yearly interest of roughly 42%. And young millennials are increasingly borrowing at those high rates of interest. The fall in savings rate in the wider economy (ratio of savings to income) since 2011 is one part of the reason for an increasing reliance on credit to maintain an aspirational lifestyle. The other: many of the young people who borrow have a shaky footing in the job market, with official data showing that youth (15-29 age group) unemployment hovers around 20%. Credit steps in to replace income when in a crunch.

But what happens when incomes and job prospects don't improve in a slowing economy and young borrowers get stuck with loans they can't repay? And what if it happens to be the second or third loan of one's life? The small-ticket, high-interest loan market is still small, but "if household savings continue to drop, there could be more takers (for such loans) resulting in a long-term macro problem of debt", says Madan Sabnavis, chief economist at CARE Ratings Ltd.

The larger economic consequences don't matter much for young men like Mahapatra. The immediate problem is to be 19 and still somehow figure out a way to deal with an army of loan recovery agents, all while putting up a facade of "everything is normal" in front of one's parents.

Horror tales

A few months after Mahapatra's first brush with new-age credit, he got to know that many of his friends who'd also taken loans from the same fintech firm had started getting calls from recovery agents. "Their pocket money wasn't enough but they didn't realize how high the interest was. They hadn't even informed their parents. The interest kept mounting and they were just not able to repay," he says.

Mahapatra gave Mint access to a WhatsApp group where students and young professionals, who have been unable to repay their loans, discuss the harassment they're dealing with. "When I saw the torture people on the group were subjected to, I closed my ongoing loan and uninstalled the app. The problem is huge and has penetrated deep within the student community," says Mahapatra. One of the members of the WhatsApp group, Kishore (name changed), is a 21-year-old student preparing for MBBS in Kota, Rajasthan. Kishore would take loans from the fintech firm very often to meet his lifestyle expenses: from going out with friends, ordering take-out food, and so on. But the last time he borrowed ₹2,000, he wasn't able to repay.

"I am a student. How can I repay if the amount keeps increasing?" says Kishore. The fintech firm tried to recover the loan, but when Kishore still didn't pay his dues, he started getting calls from recovery agents. "The agents are threatening to inform all the contacts on my phone about the default. They can do this because I'd given the app access to my contacts. I'd also uploaded a video on the app promising to repay all my loans on time and accepting all the terms and conditions. The agents are blackmailing me with this," says Kishore.

The agents even went to the extent of calling some of Kishore's contacts and asking them to repay the amount on his behalf. "They tell my contacts that Kishore had asked us to recover the amount from you if he doesn't repay it," he adds. They're now threatening to involve his parents, he claims. The saga has been going on for almost six months and Kishore is now worried that his parents will ask him to come back home if they're informed about the loans.

Kishore owes the fintech firm nearly ₹7,000 now. He gets at least three-four calls each day from different phone numbers asking him to repay the amount or face extreme repercussions. "I've stopped taking their calls and soon I'll find them at my doorstep but how do I repay? I don't have the money. I asked them to stop the interest and give me some months to repay, but they didn't agree. I am not alone. Hundreds of students in Kota are dealing with this," he says.

The founder and CEO of a recovery agency, who didn't want to be named, said financial literacy about loans and how interest rates work is extremely low in the country. "The SMSes fintechs send advertise loans as a fancy proposition and many people get lured into availing such loans without realizing the long-term impact," he says.

The dark underbelly of credit is an inevitable offshoot of the race to get more Indians into the formal banking system. In the US, the birthplace of the payday loan, the government responded in the late-2000s by putting in place a Consumer Financial Protection Bureau, crafted largely by current US presidential candidate Elizabeth Warren. Indian citizens have no such protection.

The result: credit-card debt is passé and a mobile app is all it takes to get into a financial tangle. "It is sad to note that even for a small expenditure of ₹2,000, loans are being taken," says Mrin Agarwal, founder director of Finsafe India Pvt. Ltd, a financial education firm.

What the numbers say

Data shared by Experian, a credit information firm, shows a significant shift in the age profile of new borrowers. The share of millennials in new lending went up by 4.6 percentage points between 2015 and 2018. Within millennials, borrowing by people between 25-30 years has grown the fastest, driven by small-ticket personal loans for the purchase of consumer goods.

There are fintech firms and non-banking financial companies (NBFCs) which particularly cater to people with a poor credit score or those who are new to credit, like students. A report by TransUnion CIBIL shows that 44.8% of the new borrowers during the quarter ended June 2019 were in the sub-prime and near prime category (higher credit risk), up from 36.4% from a year ago.

"This is a bad move. Not only does it put the lender at the risk of bad loans, it also makes borrowers borrow more and utilize loans for everyday expenses," says Agarwal of Finsafe. "If the start of one's financial life is fuelled by loans, how will the person ever learn the importance of savings?"

Current regulations

Though payday loans are quite common in the US, China recognized how they led to excessive lending, repeated credit extensions, unregulated recovery process and high interest rates. The unregulated collection process often invaded the borrower's privacy. To curb this, in 2015, China's Supreme People's Court ruled that courts would order recovery of only those loans that were charged an interest of 24% or below.

For loans offered at an interest rate between 24-36%, lenders have to deal with the recovery of unpaid debt by themselves. Interest rates above 36% are treated illegal in China. Even online peer to peer (P2P) lending saw a boom between 2011 and 2015 in China which gave rise to as many as 3,500 platforms, many of which were later identified as Ponzi schemes. The Chinese government had to then tighten regulations which resulted in the elimination of most P2P platforms.

In India, most fintech firms that are into payday loans focus only on lead generation and basic credit assessment, and ultimately the loan is booked by a partner NBFC. "RBI, at the moment, has not laid down any regulatory guideline for these fintechs because the loans are ultimately getting booked on an NBFC," says Parijat Garg, a former senior vice-president at CRIF High Mark, a credit information services firm.

Annual percentage rate on payday loans offered by fintech firms start from 36% and can go up to 365% per annum. In case of ultra-short-term loans (1- to 12-week loans), fintech firms often highlight the interest amount instead of the interest rate. "One should be careful about understanding the actual interest rate as it could also translate to 40-50% on an annualized basis," says Garg.

Agarwal of Finsafe says highlighting only the interest amount instead of the interest rate is a gimmick to attract lifestyle-hungry individuals who don't want to go through the pain of paperwork at banks.

"What amuses me though is the fact that these fintechs call it 'financial inclusion', whereas, the individuals who take such loans are only moving away from it," she says. "For the youth, it means going against the basic principles of financial wellness—invest before you spend, save for the future, only buy what you can afford."

Every loan and its repayment timeline is recorded with all the four credit bureaus that are currently active in India. This data is used to prepare one's credit report and calculate a credit score. A default on a loan has a severe impact on one's credit score and since it is referred to by every lender, any loan in future is likely to be rejected if one has a poor credit score because of a past default or loan write-off.

"A loan default continues to appear on one's credit report at least for seven years," says Garg. A number of employers too have now begun to look at credit reports before hiring a candidate.

Ultimately, young people who ruin their credit histories will not be able to access credit for more meaningful things in life, says Hrushikesh Mehta, country manager (India) at ClearScore, a credit information firm. Caught up within these larger economic trends—from a declining savings rate to the dynamics of credit history in a country that is still largely unbanked—are the lives of India's young. Their first experience with credit, good or bad, may leave behind ripple effects that will linger around for a long time.