Bank-NBFC Co-Lending in India: Evolving Framework and Key Risks

Over the past few years, one of the more noticeable shifts in the Indian credit landscape has been the increasing reliance on partnership models between regulated entities (“RE”) particularly between banks and non-banking financial companies (NBFCs). Among these, co-lending has emerged as a particularly important structure, both from a commercial and a regulatory standpoint. While the model has, in many ways, delivered on its promise of expanding credit reach, it has also raised a number of legal and prudential considerations that continue to evolve under the regulatory supervision of the Reserve Bank of India (“RBI”).

In practice, co-lending is no longer just a structuring option; it is a regulated framework that requires careful alignment of contracts, operations and regulatory requirements. The RBI (Co-Lending Arrangements) Directions, 2025 (the “2025 Directions”), which were introduced as a standalone framework to regulate and standardise co-lending practices, have since been incorporated into Part B of the respective ‘Transfer and Distribution of Credit Risk’ Directions applicable to commercial banks[1], non-banking financial companies[2] and all-India financial institutions[3] (together the “Co-Lending Framework”). The Co-Lending Framework marks a clear shift in the regulatory approach from the earlier regime by moving away from post-origination discretion and uneven risk allocation to a more structured model based on mandatory upfront commitment, minimum risk retention by each co-lender, aligned asset classification and enhanced borrower-level transparency.

The journey so far: From co-origination to co-lending

The co-lending model has developed incrementally. The co-origination guidelines introduced by the RBI in 2018 were primarily aimed at facilitating priority sector lending by leveraging the distribution capabilities of NBFCs alongside the balance sheet strength of banks. The 2020 co-lending circular expanded this approach and provided a template for risk sharing with banks typically funding a larger proportion of the exposure.

In practice, however, certain limitations became evident. Banks often retained the ability to selectively participate in loans post-origination, which diluted the principle of shared underwriting. There was also a lack of uniformity in asset classification, and, in some cases, the structure was perceived as enabling regulatory arbitrage. The Co-Lending Framework seeks to address these concerns by expanding the scope of co-lending beyond priority sectors and introducing a more standardised set of requirements, with the underlying objective of ensuring that such arrangements reflect genuine risk sharing and limit the potential for regulatory arbitrage.

Although the 2025 Directions build on the earlier framework, they introduce several changes that are significant from both a legal and operational standpoint. One of the more notable shifts is the removal of post-origination discretion. Banks are no longer in a position to exercise discretion in selecting loans after they have been originated by the NBFC. Instead, co-lenders are expected to commit to their agreed share at the outsetthereby placing greater emphasis on upfront due diligence, both in terms of partner selection and the design of the credit policy.

The Co-Lending Framework also requires each co-lender to retain a minimum share of the exposure (at least 10%) and emphasises timely transfer of exposures between co-lenders. The partner RE is expected to take its agreed share on a back-to-back basis and within prescribed timelines (generally up to 15 days), ensuring that exposures are not temporarily retained by the originating RE and that risk sharing is effective from an early stage.

The introduction of borrower-level asset classification is another key development. The requirement that both lenders adopt a uniform classification in respect of the same exposure is consistent with prudential principles, but it does introduce a degree of operational rigidity, particularly where the internal assessment frameworks of the co-lenders differ.

The Co-Lending Framework also introduces specific requirements around borrower interface and disclosures. Borrowers must be clearly informed of the roles of each co-lender, the overall cost of borrowing and the grievance redressal mechanism. This has direct implications for the drafting of loan documentation and disclosures provided to borrowers.

Structuring co-lending arrangements: Where the real work lies

In advising on co-lending transactions, it is apparent that the complexity lies not in the concept itself but in its implementation. A typical co-lending arrangement is supported by a suite of documents including a master co-lending agreement, servicing arrangements, escrow mechanisms and policy and operational guidelines.

Governance remains a central aspect of co-lending arrangements under the Co-Lending Framework as it requires co-lenders to operate under board-approved credit policies and formal agreements setting out borrower selection, product scope and the segregation of responsibilities. In this context, matters such as credit approval, policy deviations and escalation mechanisms must be clearly set out between the co-lenders. It is no longer sufficient to rely on broad formulations; the framework calls for a clear allocation of responsibilities consistent with the respective roles of the parties.

Enforcement and recovery present another area where clarity is essential. In stressed scenarios, co-lenders may have differing views on restructuring or settlementThe Co-Lending Framework contemplates that arrangements around loan servicing, enforcement of security and cash flow distribution are contractually agreed and clearly set out between the co-lenders. The documentation should therefore clearly set out how decisions are to be taken, including consent thresholds and dispute resolution mechanisms.

The requirement for aligned asset classification further reinforces the need for consistent treatment of exposures across co-lenders. The Co-Lending Framework requires that classification of a borrower’s exposure is aligned across co-lenders in the event of default under a co-lending arrangement. This, in turn, requires timely sharing of information between co-lenders and alignment of internal processes, leaving limited room for divergence in how stress is identified and recognised.

The key risks that cannot be ignored

While co-lending offers clear benefits, certain risks continue to require careful consideration under the Co-Lending Framework.

Underwriting risk remains a primary concern. Under the Co-Lending Framework, lending services such as borrower sourcing and underwriting may be undertaken by the originating RE as part of the agreed segregation of responsibilities. In practice, this means that the partner RE relies, to a significant extent, on the originating RE’s underwriting and credit assessment processes. While the Co-Lending Framework requires appropriate due diligence of the co-lending partner and adherence to internal credit policies, such reliance is inherent in the structure of co-lending arrangements.

Regulatory arbitrage has also been a key area of regulatory focus, and structures that do not align with the underlying intent of the Co-Lending Framework may expose co-lenders to supervisory scrutiny. The Co-Lending Framework mandate minimum risk retention and place limits on arrangements that may operate as credit enhancement, including restrictions on fees and default loss guarantees.

Operational risk also warrants attention. Where the originating RE typically undertakes lending services such as borrower interaction, servicing and recovery as part of the agreed segregation of responsibilities, the arrangement raises practical issues for the partner RE around compliance, outsourcing and accountability. Notwithstanding such delegation, each co-lender remains responsible for its respective regulatory obligations, particularly in relation to customer interface, KYC and grievance redressal.

[1] Reserve Bank of India (Commercial Banks - Transfer and Distribution of Credit Risk) Directions, 2025.

[2] Reserve Bank of India (Non-Banking Financial Companies - Transfer and Distribution of Credit Risk) Directions, 2025.

[3] Reserve Bank of India (All India Financial Institutions - Transfer and Distribution of Credit Risk) Directions, 2025.