Why credit line on UPI has not taken off yet

Credit line on UPI lacks the strong business case for ecosystem participants

When the National Payments Corporation of India (NPCI) announced a credit line on the Unified Payments Interface (UPI) last year, it was expected to revolutionise the way consumers use credit in the country.

Eight months later, the product has been stuck in negotiations regarding the interchange and merchant discount rate (MDR), the commission the merchants pay to banks and other payment processors in the chain.

According to sources, NPCI is planning to announce the MDR structure in June. However, lack of interest among several participants because of a lack of a strong business case – whether it is the banks or the third-party UPI apps such as PhonePe and Google Pay – could mean that this will take a few years before becoming successful.

“There needs to be a primary beneficiary of the product who will lead the adoption and take the lead in marketing. Here, there is none as per the current proposals and hence it has been stuck,” says the digital head of a large private sector bank.

A credit line on UPI is nothing but a pre-sanctioned loan for the customer using a bank account, which is linked to the UPI account. It does not matter which UPI app the customer is using, because the credit assessment is done by the account holder’s bank. The idea is that the customer will get a pop-up on the UPI app about the credit facility and they can enable it and can start drawing money from the credit line.

Two types of credit lines

NPCI and banks are planning two variants of the product, where one version will have an interest-free period for the credit availed by the customer, similar to credit cards and the other version where the interest will have to be paid from day one, much like how overdraft loans function.

Since giving an interest-free period for a loan incurs a higher cost to banks, NPCI is planning an MDR of 1.1 percent while the second variant will see only an interchange of less than 0.5 percent.

In a merchant transaction selling a product or service, they make a profit and hence the practice of charging them the MDR. MDR is divided among all the participating payment companies in a transaction, whereas the interchange fully goes to the issuing bank. Here in this case, to the issuer of credit line.

To promote digital payments and its acceptance among merchants, the central government in 2020 mandated that UPI should be MDR-free for transactions below Rs 2,000. All card payments other than NPCI’s RuPay debit cards carry varying rates of MDR.

NPCI is in discussions with all the partners on the acceptable interchange/MDR rates for the participants, who have not been able to agree on the features, pricing or the fees/charges.

Implementation challenges

Since credit is mostly the discretion of the banks and comes with a risk, the product is issuer-led. However, banks have been reluctant as the early adopters of the technology could be the well-heeled, upwardly mobile customers who are most likely to be its existing or potential credit card customers.

“Credit cards have a much higher MDR (around 2 percent) and are more profitable. Why would a bank undercut its own business and promote UPI instead? The loss of debit card card transactions in favour of UPI has already hurt banks. This product could well do the same to credit cards for a sizeable section of the customers,” says a senior digital executive with a private sector bank.

Another reason why banks are not very keen is that most of them were already issuing a lot of virtual RuPay credit cards linked to customers’ UPI accounts and this has been quite popular, giving the best of both worlds for customers – the wide acceptance and convenience of UPI and reward points that come with credit cards.

“Banks are busy issuing more RuPay credit cards, which are also linkable on UPI. Virtual credit on UPI would be a competing product,” says a founder of a UPI app.

He adds that the apps are not keen on the product because there isn't much for them. “The biggest piece of the MDR is called interchange, and most of it goes to credit issuers, not merchant acquirers like PhonePe, Google Pay and Paytm.”

More than 60 percent of all UPI transactions today are merchant payments.

This is a peculiar situation where the party (read banks), which is expected to benefit the most from this product, is not keen on the product because they have a competing product which is more remunerative.

As for the top three UPI apps’ potential to benefit from large customer base, activating the product is minimal as their large merchant base could be unhappy. The UPI apps’ share of the MDR is too small to make money on the customer side.

Complementing credit cards

However, the idea behind credit line on UPI is that the credit card stack is quite expensive and hence banks are choosy whom they give cards to. It is not profitable for banks to maintain cards for credit up to Rs 50,000.

“The idea behind credit line is that this will cater to a segment below where the loan requirement is below Rs 50,000. The feature is cost-effective for the banks to run and maintain for millions of low value-loan accounts,” says a person close to the regulator who works closely with NPCI and RBI.

This is also expected to shake up the credit card disbursement market in the country. Almost 80 percent of the cards are distributed by top four players – HDFC Bank, SBI Cards, ICICI Bank and Axis Bank.

“The expectation is that this will be pushed by banks who are not major players in the credit card market,” says the source close to the regulator quoted above.

The MDR acceptance issue

Even the popular RuPay credit card has hit the MDR speed bump with a large segment of the merchants turning off the product to avoid paying MDR. While this has come down, according to bankers, even today, around 20-25 percent of the merchants don't accept card on UPI.

“The same issue applies here as well. The lower MDR and interchange could mean that resistance will be lower, but if the idea of credit line is to promote financial inclusion, the merchants catering to those segments will be even more reluctant to accept MDR. For the rest, there is always the credit card route,” says the digital banker quoted above.

For all the UPI features like UPI Lite, tap and pay and others, all ecosystem players need new technology systems and most participants move at different speeds. The lack of clarity on interchange also means that none of the participants are pushing the product to the market.

“The customer value proposition is not clear either. If it is a paid product, adoption will be low. Price will further determine the kind of adoption. For this to happen, usage has to be free for the customer. Right now, the interchange is not enough to make the product free for the customer. So, the customer is explicitly charged,” says the founder of a fintech startup, which has UPI as one of its payment product.

Here again, NPCI’s challenge is that there is already a credit product on UPI that has been popular and successful rendering credit line on UPI redundant.

Waiting for the credit pull effect

The customer side of UPI is controlled by the top three players -- PhonePe, Google Pay and Paytm -- and NPCI needs these players to take it to the market, educating potential customers on the usage.

“With two variants, this can be confusing to customers. The top three UPI apps have been unwilling to spend marketing money to take this to the market. NPCI is hoping that small UPI apps like Flipkart, Navi, Cred and similar fintechs will take this to consumers, educate them and popularise with cashbacks. But that route will be slow to catch on,” says the digital banker quoted above.

In the variant with MDR, the UPI apps are likely to get 15 bps or 0.15 percent commission per transaction and at scale, this could be a sizeable revenue pool, says the source who works with the regulator.

But for that. this needs to become popular first. “Unlike debit, credit is a pull product. Customers will come sooner than we expect, once it is familiar and known,” adds the source.