The Reserve Bank of India has asked banks to put in place an escrow mechanism that can ring fence their loans to real estate firms and keep a closer tab on the end use of funds.
The RBI has been looking to tighten the lending norms for the real estate sector after last year's bribery-for-loan scam involving LIC Housing Finance and some public sector banks.
The scandal also exposed several unethical practices, such as diversion of funds.
RBI did not respond to an email request for comment. The bank has already advised lenders to closely monitor the end use of funds.
A few weeks ago, it also asked the banks to set up an escrow mechanism at the time of providing project loans to real estate companies.
An escrow account will help in safeguarding the interests of the lender from repayment risk and in monitoring the end use of funds.
An escrow account is a trust account in the borrower's name. Payments from the customers of the borrower are deposited in this account to meet obligations, such as loan servicing.
"Besides timely implementation of project, the move would ensure transparency in fund utilization," said Anuj Puri, chairman and country head of realty consultancy Jones Lang LaSalle Meghraj.
Real estate companies have welcomed the move to tighten vigil saying it will facilitate flow of bank funds.
"Measures like these will help companies in the sector, including ours, in accessing bank loans without any hitch now," said Anil Kumar, joint managing director and chief executive at Delhi-based real estate firm Ansal API.
The escrow arrangement suggested by RBI will be operationlised through a tripartite agreement between the developer, the banker and the homebuyer.
"Project loans are always project specific. In case escrow account becomes mandatory, it would automatically ensure the end use of funds," said Mumbai-based developer Niranjan Hiranandani.
A person privy to the development said some banks have already begun to set up escrow accounts while extending loans to real estate firms.
The mechanism is also expected to address the concerns of buyers who are wary of investing in start-up projects.
In the residential segment, completion timeline usually overshoots by more than 12 months.
The escrow mechanism will ensure that the flow of funds is based on pre-agreed milestones. This will help in avoiding delays in completing the project.
"Bankers are jittery over delay in completion of projects, which may result into delay in repayment of loan," said a banker requesting anonymity.
As per industry estimates, banks have together disbursed over Rs 80,000 crore worth of loans to the real estate sector.
Although demand in the realty sector has picked up in the current fiscal and there has been a series of new launches, many of the ongoing projects are facing financial crunch because of banks' reluctance to lend.
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