Penal Charges: Meaning, RBI Rules & How They Are Calculated

• Since April 1, 2024, the RBI no longer allows banks and NBFCs to charge compounding “penal interest”; lenders can only levy a flat, one-time “penal charge”.
• Home loans, personal loans and most other bank/NBFC loans are covered by this rule; credit cards, external commercial borrowings, trade credits and structured obligations are excluded and follow separate RBI rules.
• No GST applies to penal charges; the CBIC clarified this in January 2025, replacing the earlier 18% GST treatment.
• If a penal charge feels unfair or too high, you can ask your lender for a waiver and escalate to the free RBI Ombudsman if it isn’t resolved.

Irrespective of whether you are an individual or a business, before taking any kind of loan, you should have a solid repayment strategy in place. Delayed loan EMIs will not only impact your credit score but also result in penalties. For each delayed EMI, you will be required to pay a late payment charge, earlier called penal interest, and now called a penal charge. Since April 1, 2024, the Reserve Bank of India (RBI) has changed the rules on how this charge can be levied, and it now works quite differently from before. What is a penal charge, and how is it calculated today? Let us have a look.

A penal charge is a penalty levied by the loan provider if a borrower does not pay the loan EMI according to the repayment schedule. Irrespective of whether you pay monthly EMIs or make the payment quarterly or annually, if the lender does not receive the loan payment by the scheduled date, you will be required to pay a penalty charge on the same. Until March 2024, this penalty was usually charged as ‘penal interest', an extra interest rate added on top of your regular loan interest, which could then compound over time. That is no longer allowed; lenders must now levy it as a separate, flat penal charge, as explained earlier in this article.

On August 18, 2023, RBI issued a circular titled ‘Fair Lending Practice: Penal Charges in Loan Accounts’, directing all commercial banks, co-operative banks, NBFCs and housing finance companies to stop charging penal interest and to levy penal charges instead. The rule was originally to take effect from January 1, 2024, but the RBI extended the deadline by three months through a follow-up circular dated December 29, 2023.

As a result, the new rules apply to all fresh loans from April 1, 2024, and to existing loans from their next review or renewal date on or after April 1, 2024, but not later than June 30, 2024.

Under the new regime, a penalty for missing an EMI or breaking a loan condition must be levied as a flat “penal charge”, not as an interest rate added to your loan; there is no capitalisation of penal charges, meaning no further interest can be computed on the penalty itself; the charge must be reasonable and match the actual default and cannot be used as a revenue tool; and for individual borrowers taking a loan for personal (non-business) use, the penal charge cannot be higher than what is charged to business borrowers for a similar default.

These rules do not apply to credit cards, external commercial borrowings, trade credits, and structured obligations; these continue to be governed by their own product-specific RBI directions.

Here is how the shift plays out in practice.

Before April 1, 2024: If you missed an EMI of ₹10,000, the lender could charge penal interest of, say, 2% per month on the overdue amount. This penalty was often added to your outstanding principal, so from the following month, you were also paying regular interest on the penalty itself; in effect, the penalty compounded along with your loan.

From April 1, 2024: For the same missed EMI of ₹10,000, the lender can only levy a flat penal charge, for example, ₹500, as a one-time fee. This amount is not added to your principal, and no further interest is computed on it. You pay the ₹500 penal charge once; it does not grow month after month just because it remains unpaid.

Note: The exact amount of the penal charge, a flat rupee figure or a percentage of the overdue EMI, is set by each lender in its own RBI-mandated, board-approved penal charges policy. No single RBI-fixed rupee amount applies across all lenders. You can check your loan agreement or Key Fact Statement (KFS) for the exact figure that applies to you.

Lenders impose penal charges on overdue loan payments for several reasons:

• Compensating for Risk: Late payments increase the lender’s risk, so a penal charge serves as compensation.
• Encouraging Timely Payments: The penalty discourages borrowers from delaying EMI payments, ensuring financial discipline.
• Covering Administrative Costs: Managing overdue accounts requires additional effort and resources, which the penal charge helps cover.
• Preventing Loan Defaults: A reasonable penalty acts as a deterrent against prolonged defaults that can impact a lender’s financial health.
• Protecting Profitability: Delays in payments affect cash flow, and the charge helps mitigate potential revenue losses.
• Maintaining Credit Discipline: Borrowers who consistently pay on time maintain a good credit score, whereas a penalty charge discourages irregularities.
• Regulatory Compliance: Lenders levy penal charges within RBI’s Fair Lending Practice framework to align with regulatory requirements.
• Compensating for Liquidity Constraints: Late payments may force lenders to seek alternative funding sources, which could be costlier.

Not every loan or credit product follows the same penalty charge rules. Here is how it breaks down:

Since credit cards are excluded from the penal charges circular, if you carry forward a balance on your credit card, you lose your interest-free period, and finance charges (which function as normal interest, not a penalty) apply on the unpaid amount from the date of each transaction, in addition to a separate late payment fee.

• Automate Your Payments: Set up automatic EMI deductions to ensure timely payments. Do this through a standing instruction, ECS (Electronic Clearing Service) mandate, or NACH auto-debit registered with your bank.
• Maintain Sufficient Balance: Ensure you have adequate funds in your bank account on EMI due dates.
• Use Reminders: Set reminders or alerts to track EMI due dates and avoid missing payments.
• Opt for a Flexible Tenure: Choose a loan tenure that aligns with your repayment capacity.
• Communicate with Your Lender: If facing financial difficulties, negotiate with the lender for an extension or restructuring of EMIs.
• Pay EMIs in Advance: If possible, pay a few days earlier to avoid any last-minute transaction issues.
• Monitor Loan Terms: Be aware of the penalty charges and repayment clauses mentioned in your loan agreement and Key Fact Statement (KFS).

The penal charge amount varies between different lenders since each one sets its own board-approved policy for it. If you have taken an SME or business loan, the penal charge is levied separately, in addition to your normal loan interest, but unlike earlier, it is not folded into your interest rate. To work out the charge, the lender typically looks at the overdue amount and how long the default has continued and applies a flat fee or percentage as fixed in its policy, without compounding it further.

In the past, a 2018 GST-AAR (GST Authority for Advance Rulings) ruling had led to the application of 18% GST on delayed loan payment penalties. That position has since changed.

The CBIC has now clarified that no GST is payable on penal charges levied by RBI-regulated banks and NBFCs. The clarification, based on the 55th GST Council meeting held on December 21, 2024, treats these charges the same way as liquidated damages for breach of contract, as compensation for non-compliance rather than payment for a service, following the principle already laid down in an earlier circular. So if your lender charges you a ₹500 penalty charge for a missed EMI, you should not be charged any GST on top of that amount.

A penal charge is not always fixed. Here is how you can try to get it reduced or waived.

• Start with a first-time waiver request. If this is your first missed EMI and you otherwise have a clean repayment record, call your bank’s customer care or visit your home branch and ask for a ‘goodwill waiver’ of the penal charge. Mention your repayment history and explain the reason for the delay; lenders often accommodate genuine, one-off cases to retain a good customer relationship.
• Put it in writing. If a phone request doesn’t work, send a written request (email or letter) to your lender’s designated Nodal Officer or Grievance Redressal Officer; every RBI-regulated lender is required to have one, and their contact details must be published on the lender’s website. Keep a copy of your request and any reference or ticket number you receive.
• Escalate if there is no resolution. If your lender does not respond within 30 days, or you are not satisfied with the response, you can escalate, free of cost, to the RBI Ombudsman. You can file a complaint online at cms.rbi.org.in, by emailing crpc@rbi.org.in, or by calling the toll-free helpline 14448. There is no fee for filing or resolving a complaint under this scheme.
• Know your ground for the complaint. Since the RBI requires penal charges to be ‘reasonable and commensurate’ with the actual default, an unreasonably high charge, or one that has been compounded, is itself a valid ground to raise with your lender or the Ombudsman.

The high SME loan penalty rates levied by the lenders help them reduce the chances of defaults. If you are looking for a business loan, work on a repayment plan first so that you are not required to pay any late payment charges.

While discussing your loan with the lender, do talk about the penalty charges in detail, including whether they are a flat fee or percentage-based and how they are calculated, to avoid any discrepancies later.