Microfinance shows early recovery signs, but legacy bad loans weigh on sector

New Delhi: India's microfinance sector ended financial year 2026 (FY26) with its loan book down 11% to ₹3.34 trillion, although a 4% sequential increase in the January-March quarter marked the first signs of a turnaround after a prolonged period of stress, according to the Bharat Microfinance Report 2026 released by Sa-Dhan on Thursday.

Sa-Dhan is an RBI-appointed self-regulatory organisation (SRO) for microfinance institutions.

The report, however, cautioned that the recovery remains tentative. While stress in the current loan book has eased sharply, legacy stressed assets continue to weigh on the sector, with the share of loans overdue by 180 days or more rising to 17.04% in March 2026 from 10.67% a year earlier.

The report said the number of loan accounts fell 21% to 10.40 crore at the end of March 2026, from 13.18 crore a year earlier. The contraction in loan accounts, alongside the 11% decline in outstanding credit, reflects the cautious approach adopted by micro-lenders following two years of high credit stress, concerns over household indebtedness and borrowers taking loans from multiple lenders.

“FY2025–26 can be characterised as a period of consolidation and recalibration, with lenders focusing on strengthening portfolio quality, controlling borrower indebtedness, improving collections and restoring sustainable credit growth. The third set of guardrails from industry leaders and SROs, issued in April 2026, have strengthened credit discipline. The sectoral outlook is expected to further improve in the current financial year," said Jiji Mammen, executive director and chief executive officer (CEO), Sa-Dhan.

At the same time, the report said the rise in outstanding loans in the January-March quarter indicates that new lending has begun to exceed repayments, marking the onset of a fresh growth phase.

Asset quality improvement

Asset quality also showed a sharp improvement in the current book. Portfolio at risk (PAR) of 30-179 days past due declined to 2.34% in March 2026 from 6.63% a year earlier, while PAR of 90-179 days stood at 1.45%, down from 3.92%.

In microfinance, a loan is typically considered at risk after 30 days of missed payment due to the lack of physical collateral.

However, the improvement does not represent a complete resolution of the sector’s stress, the report said. PAR of 180 days and above increased to 17.04% from 10.67%, pointing to an ageing pool of legacy defaults even as repayment performance on the current book improved.

“The portfolio dynamics between March 2026 and March 2025 reveal a clear structural split,” the report said, describing a rapid recovery in active repayment behaviour alongside an accumulation of legacy defaulted loans.

The report also points to a significant reduction in borrower-level multiple lending. Restrictions limiting borrowers to no more than three micro-lenders and capping total household indebtedness at ₹2 lakh resulted in 92.6% of unique active borrowers being associated with two or fewer lenders in March 2026, compared with 90.5% a year earlier.

More significantly, the share of borrowers associated with five or more lenders fell to 0.1% from 1.6%, suggesting that the tighter lending guardrails have materially reduced high-risk multiple borrowing.

The adjustment has been broad-based. Loan accounts declined in 33 states and Union territories, with some of the largest microfinance markets seeing particularly sharp contractions. Karnataka recorded a 28% decline, followed by West Bengal at 24%, Tamil Nadu at 23%, Bihar at 22% and Uttar Pradesh at 17%.

More cautious assessment

The report’s assessment of the next phase is more cautious. It said the improvement during FY26 was supported by better harvests, food disinflation, stronger employment and remittances, monetary easing and credit guarantees. These factors helped improve household incomes, funding conditions and portfolio quality.

But several of those favourable conditions cannot be assumed to persist, the report cautioned. Inflation has begun rising again, the 2026 monsoon has been below normal in districts with high borrower density and the guarantee facility has expired.

Climate variability has emerged as a particularly important medium-term risk because its impact can be simultaneous across borrowers in a district, unlike conventional credit risk, which is generally dispersed across individual borrowers. Through 12 August 2026, cumulative rainfall was 12% below the long-period average, with the eastern and north-eastern regions—where borrower density is high—facing materially larger shortfalls than the national figure.

The report also highlights the uneven financial performance of micro-lenders. Operating cost stood at 8.47% in 2026, up from 7.09% in 2025. Larger institutions demonstrated stronger capacity to absorb costs and generate returns, while several smaller and mid-sized institutions remained under pressure on profitability, return on assets and return on equity.

About the Author

Harsh Kumar is a policy reporter at Mint (HT Media Group), where he covers the Ministry of Commerce and Industry along with key departments of the Ministry of Finance, including the Department of Economic Affairs (DEA) and the Department of Financial Services (DFS). With over five years of experience in business and economic journalism, he has developed strong expertise in tracking policy developments and their wider economic impact.<br><br>He has previously worked with Business Standard, Moneycontrol, and Outlook Money, where he reported extensively on banking, financial services, and the broader economy. Over the years, he has built a reputation for delivering accurate, insightful, and impactful stories, supported by a keen eye for detail and a consistent track record of breaking exclusive news.<br><br>An alumnus of Jamia Millia Islamia, Harsh closely follows regulatory changes and key economic trends shaping India’s financial and industrial landscape. His reporting aims to simplify complex policy issues for a wider audience while maintaining depth and credibility.<br><br>Outside of work, he enjoys tracking policy developments, finding scoops, and travelling, reflecting his curiosity about how economic decisions shape everyday life.

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