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Client protection and preventing overindebtedness in microfinance

As microfinance institutions (MFIs) become increasingly prevalent across the world, it’s important to continue to evolve the policies that are used to protect their clients. While it may be becoming easier in some countries for individuals to access loans, that doesn’t always mean that they are receiving responsible financial products. 

Client protection policies are essential to ensure that borrowers are provided loans in a responsible manner and given the tools and information they need to succeed in repaying their loans, without any negative impact on their wellbeing. 

At Kiva, the protection and wellbeing of our borrowers is our highest priority. In addition to performing rigorous due diligence and social audits of our Field Partners to verify that they offer responsible financial products, we support MFIs that provide financial education to borrowers so they have the tools to improve their financial health. 

From constant monitoring of market conditions to investigating partner collection practices, our teams work to help Kiva borrowers avoid over-indebtedness—and ensure that our mission of financial inclusion creates a positive social impact.

A loan helped Laura expand her Empanada business from a delivery service to a brick-and-mortar restaurant in Ecuador.

What is over-indebtedness? 

A person is considered over-indebted when their financial obligations exceed their financial resources. If a person is over-indebted, meeting regular loan payments on top of basic living expenses is very burdensome, if not impossible, which can lead to instability and crisis in households and communities. Borrowers in developing countries and low-income communities are especially vulnerable because they generally have fewer assets (savings or possessions that can be sold) to provide a cushion.

Due to the social nature of microloans, the connection MFIs have within their communities, or the desire to avoid damaging their reputation and creditworthiness, many borrowers will go to great lengths to avoid defaulting on their loans. Some will take on another loan—or more—in order to pay off the first, trapping them in a cycle of debt. This can result in tremendous personal suffering and put people in a worse financial position than before they took out a loan.

At Kiva, we utilize several policies to avoid working with MFIs who would allow borrowers to get trapped in debt.

While the repayment rate for Kiva microloans remains at a high 96.3 percent, there is a small percentage of borrowers who default on their loans. A borrower’s ability to repay a loan can be disrupted by unforeseen circumstances, including:

  • Loss of income
  • Illness or medical emergency
  • Natural disaster 

If a borrower experiences sudden income loss due to the unforeseen circumstances above, in most cases, Kiva Field Partners will suspend repayments for a period of time. Other Field Partners will restructure the loan for a longer repayment term or negotiate a smaller repayment balance to make sure the borrower doesn’t become overwhelmed with debt.

During the COVID-19 pandemic for instance, the majority of Kiva’s partners extended repayment periods for borrowers, and some did not leverage any penalties if someone in their group was unable to repay.

How do Kiva’s due diligence processes help select responsible organizations to partner with?

Financially excluded people are not necessarily financially unsophisticated people. If an MFI is clearly communicating the terms and price of its products, borrowers are more than able to make smart choices. Kiva's purpose is to ensure we're funding high-quality institutions that enable borrowers to grow their businesses and improve their financial health.

As of 2022, 100 percent of Kiva’s microfinance Field Partners require that their loan officers conduct a cash flow analysis of each potential borrower before approving a loan. Each partner may apply this data in different ways, but the primary goal is to make sure that the borrower’s monthly income will be able to cover the borrowers' living costs as well as loan payments.

Additionally, 35 percent of Kiva borrowers receive loan products explicitly designed to have flexible repayment terms or grace periods included. This can be important in helping borrowers to reap greater financial benefits from their loans and decrease any stress associated with repayments. The other 65 percent have repayment flexibility based on the credit policies of each Field Partner, who determine terms and grace periods on a case-by-case basis. 

For example, clients may be eligible for renewal, roll over, extension and ultimately rescheduling, subject to a responsible underwriting process that prevents borrowers from taking on unsustainable debt burdens. 

In conducting due diligence on a partner, we pay particular attention to any risks present in the market that the institution is serving to ensure we only work with institutions that are aligned with our mission and practice responsible lending. We also target our funding towards specific populations that our partners are serving or loan products that they offer.

Is there a limit on how much someone can borrow?

All of our partners vet their borrowers to ensure that they disburse a loan amount that is useful to the borrower but does not exceed the borrower's repayment capacity. More than 80% of Kiva Field Partners determine the maximum amount a client can borrow based on a cash flow analysis, comparing their monthly income to monthly expenses, including both living expenses and payments on any loans. Kiva finds that this percentage of income cap fluctuates slightly by region:

  • Africa - 78 percent
  • Asia - 81 percent
  • Central America - 100 percent
  • South America - 94 percent 

The maximum limit of a loan also depends on the specific credit policy of each partner. For example, one Kiva Field Partner and MFI operating in Panama, Honduras, and Nicaragua, requires three tiers of assessment to determine a borrower’s payment capacity and caps loans at 33 percent of their net income.

Rita, an artisan from Ghana, used her loan to buy art supplies in bulk - helping her bounce back from the setbacks caused by COVID-19.

How do you know Kiva Field Partners are trustworthy?

Kiva chooses to partner only with MFIs and social enterprises that are committed to responsible lending practices and share our social mission. 

Before they can begin lending, all Kiva Field Partners are required to undergo a rigorous vetting process and are subject to ongoing monitoring throughout the partnership. 

This due diligence includes:

  • Responsible pricing reviews on all loan interest rates 
  • Regular financial and social audits
  • Analysis of the current economic and social conditions in the country of operations
  • Familiarity with client population

Kiva undertakes additional vetting when interest rates are high in order to ensure that we are funding fairly priced loans.

Kiva also conducts borrower verification for all partners and updates the interest rate information for partners loan products every two years. We also oversee annual audits on affordability for particular loan categories and require social impact monitoring surveys to be completed annually. 

What standards does Kiva and its Field Partners use for client protection?

Kiva prefers to partner with MFIs who commit to the Client Protection Pathway, a set of standards set forth by the globally-supported Social Performance Task Force, of which Kiva is a member.

This Universal Standards for Client Protection call for loan providers to:

  • Not over-indebt their clients through transparent pricing and robust underwriting policies
  • Give clients clear and timely information to support their decision making 
  • Enforce fair and respectful treatment of clients 
  • Secure client data and inform clients about their data rights
  • Receive and resolve client complaints

More than half of Kiva Field Partners have received certifications from CPP, the SMART campaign, or other client protection industry leaders.

Kiva is one of 21 founding partners of the 60 Decibels’ Microfinance Index which conducts surveys with the customers of Kiva’s Field Partners to hear their feedback directly on the affordability, loan term transparency, and impact of their loans. Kiva  maintains ongoing discussions with client protection leaders such as participating in collaborative research efforts with Innovation for Poverty Action’s Consumer Protection group.

While the SMART campaign concluded in 2020, its best-practices guidelines remain part of the Universal Standards for microfinance providers. More than 85 microfinance organizations worldwide have endorsed these standards and committed to a public audit of their client protection policies. 

These policies include specific guidance on the following client protection measures:

  • Appropriate debt loads 
  • Appropriate profitability levels 
  • Appropriate interest rates
  • Appropriate debt collection practices

Kiva conducts a number of actions to ensure policies around client protection are applied by Field Partners, including borrower verifications. These checks take place within the first 12 months for a new partner and every 12-24 months for existing partners. 

Kiva chooses ten clients at random to interview, to make sure that accurate client information is posted to Kiva, that the client understands the terms and conditions of their loans and their participation with Kiva, and to find out whether they would recommend the partner to others in their community. 

Related: How Kiva works: your FAQs answered

Why would Kiva and/or a Field Partner choose not to lend to someone applying for a loan?

Sometimes, preventing someone from falling into over-indebtedness means not approving their request for a loan. The top reasons why a Kiva Field Partner would not approve a loan request include:

  • Too much existing debt - The would-be borrower already has outstanding debts with other lending institutions according to their country’s credit bureau
  • Not enough cash flow - They cannot show enough income to ensure their capacity to repay the loan
  • Not recommended by their community - In rural and group loan situations, a would-be borrower’s reputation among their peers serves as credibility for their capacity to repay the loan 

Related: How microfinance providers can improve outcomes for women entrepreneurs

Why isn’t capping interest rates the answer to avoiding over-indebtedness?

It may seem like placing a cap on interest rates would be a reasonable way to reduce the burden a loan has on its borrowers and help avoid over-indebtedness. However, such limitations can negatively impact financially underserved communities.

It takes money to lend money. Each microloan requires time, labor, and administrative attention from MFIs and their employees, who must often travel to collect payments and provide education, healthcare, and other services. These expenses are mostly covered by interest rates, which allow MFIs to cover their operating costs and to grow and reach more borrowers in their community. 

Microfinance interest rates can seem high compared to traditional loans in the developed world. That’s because it takes far more resources to service small loans, especially in regions of high inflation and/or political conflict. High interest rates on microloans don’t necessarily mean that borrowers are paying more than they should; after covering the high cost of the loans, MFIs generally receive low profits, if any at all. (Read more about microfinance interest rates here.)

MFIs set interest rates to accommodate the cost of each loan product. Kiva monitors its Field Partners to make sure interest rates are commensurate with the operational cost of the loan, taking into account the country’s inflation, political conditions, and client population.
Capping interest rates limits an MFI’s ability to offer smaller loans, offer loans to remote or hard-to-serve populations, and offer high-quality wraparound and other services. Caps can force some MFIs to close altogether, leaving borrowers reliant on informal, high-cost financial services. 

Muhey raises livestock in Palestine. With the help of a loan, he was able to buy, breed and sell more livestock for a profit.

Why does Kiva sometimes offer loans to cover non-income generating costs like daily living expenses, consumer goods, or home improvements?

Most Kiva loans go towards supporting entrepreneurial ventures or other activities which can generate income, which helps with borrowers' abilities to repay their loans. However, approximately 10% of Kiva’s borrowers use their loans for non-income generating purposes, for several reasons. 

First off, it’s not necessarily up to us to determine what is appropriate for a borrower to want to purchase—imagine if your credit card provider wanted to approve everything you planned to purchase on your credit card. In a similar way to credit cards having limits based on income levels, if a loan product is designed well, with transparent lending terms and the customers are satisfied with the interest rates they will pay, consumption-based loans can help improve lives.

Sometimes we all need credit to help pay for larger lump sum items—and the same goes for microfinance clients. The difference is that these individuals don’t have access to other forms of credit that many of us take for granted. 

For clients with lower incomes, it can be impossible to save up lump sums of money, making certain livelihood-enhancing products and services unaffordable to them. Examples of loans for non-income generating purposes include:

  • Education tuition and expenses 
  • Clean-burning cookstoves that reduce household pollution
  • Home improvements like solar panels that bring down energy costs
  • Well construction to bring clean water to a community

Some Kiva Field Partners offer loans to help customers acquire these, which invests in their futures, saves them money in the long run and allows them to improve their standard of living.

How does Kiva support the financial literacy of its borrowers?

Preventing over-indebtedness for borrowers means that loan terms are clearly explained to borrowers, and that borrowers have the necessary financial literacy to understand loan terms and make informed choices. 

  • More than half of Kiva borrowers have been able to open a savings account 
  • 25 percent have received business and/or financial literacy training
  • Nearly 50 percent have access to health services or health insurance 
  • More than 25 percent are able to purchase life insurance

Responsible microfinance can improve financial health

Financial inclusion means more than just loans; it gives people access to multiple pathways that build credit history, put away savings, and protect their families. 

That’s what we’re here to do at Kiva, with the help of lenders like you.

Read next: How microlending makes a positive impact

About the author

Jessica Leigh Lebos

Jessica Leigh Lebos is Kiva's Senior Storyteller and an award-winning writer based in Savannah, Georgia, USA. Covering social justice, cultural equity, sustainable growth, financial literacy, and always celebrating others' success, she is thrilled to help share Kiva's mission—and the stories of the people it connects.