Loans vs Credit Line Cards vs Credit Cards

Fintech companies that wish to venture into lending have a few choices in front of them:

(a) Offer personal loans
(b) Offer credit line cards
(c) Offer credit cards

When loans aren’t sufficient

Loans by their very nature are merely transactional. The user avails of such a loan only a few times a year. While it is true that when they do so, there is enough money on the table, it is only short-term. Loans by their very nature are low loyalty products. When a customer avails of a loan, the most important deciding factor is the cost of the loan. There is a great tendency to choose the one with the least amount of rate of interest, whenever an individual is applying for the loan. Across most of these institutions application process and collection mechanics are very similar in nature. Thus this makes it very hard to differentiate.

Enter Credit Line Cards

It wouldn’t be far-fetched to say that Slice pioneered the model of a credit line card — which is essentially an overdraft account with a card form factor and a monthly billing cadence. The product looks and feels like a credit card and has facilities such as converting the outstanding amount into EMI. The key difference between such a product when compared to a simple app based lending product is that customer retention is very high. The card product by virtue of universal acceptance finds daily usage from the customer. Whenever the customer feels the need to convert to EMI, they may do so. This tackles both convenience and credit.

Working mechanism of Credit Line Cards

The first step is providing a sanctioned line of credit to the customer (post your underwriting checks and KYC). The second step is to link this line of credit with a prepaid card. Instead of loading the prepaid card with the sanctioned amount, we use something called just-in-time funding. Whenever the customer makes a transaction, the amount is funded in realtime into the prepaid account and the transaction is then authorized. Such a mechanism is setup using a combination of escrow + pool accounts.

Credit Line Cards vs Credit Cards

Even though this solution may seem great at first glance, scaling a credit line offering requires significant ability to raise capital by the fintech/NBFC. Since credit line cards are essentially unsecured personal loans, mainstream banks have very little interest in participating. On the other hand, banks are very comfortable scaling their credit card business. For the year FY21, SBI cards had receivables of worth INR 25,114 crores on their books. However, this is not without any issues: approval rates across the wider population is still very low. Why credit cards also struggle to scale is a matter for discussion some other time.

The following are the key differences between credit cards and credit line cards.

(a) Underwriting

Credit Cards — Very difficult to influence a bank’s existing underwriting policy and hence approval rates will be only as good as the bank’s existing approval rates
Credit Line Cards — Relatively easier to work with an NBFC to show the value of alternative data and hence increase the approval rates significantly. Along with an FLDG arrangement, it would be easier to take the approval rates to much higher levels.

(b) Credit Limit

Credit Cards — The base credit limit will be as high as INR 50,000. It is also possible to significantly increase the credit limit for an individual account as long as it is within the band for the card program
Credit Line Cards — There is immense flexibility on the approved credit limit. You can start from as little as INR 2,000 and take it up to several lakhs depending on the borrower profile. Fintechs can also work with their NBFC partner to modify the credit limit as required.

(c) Revolve facility

Credit Cards — Automatically provided to credit card holders
Credit Line Cards — Per RBI regulations, this cannot be provided to borrowers. Hence, the borrowers need to convert their outstanding to EMI to continue using the product.

(d) Capital (money)

Credit Cards
Bank will bring the capital themselves. Fintech companies are not expected to contribute anything towards this. Very few banks like State Bank of Mauritius are agreeable to fintechs bringing in capital. Ever since RBI took a not-so-friendly view on FLDG, banks have become more reluctant to sign up under this model.
Credit Line Cards
Different arrangements are possible. The general expectation is that Fintechs bring in reasonable capital before the lending partner commits capital to the portfolio. Much of this is driven by your arrangement on underwriting.

(e) Collections

Credit Cards — Owned by you the issuing bank. Very hard to carve out collections.
Credit Line Cards — Mostly owned by the fintech partner as NBFCs are happy to delegate the digital leg of collections to fintechs.

(f) Forex Transactions

Credit Cards — Card is by default eligible for use across the globe.
Credit Line Cards — This depends on the bank that you partner with. Banks with a specific license to operate in forex can provide this facility, but will not always be available readily.

A final word on Revenue challenges

In the lending business, fintechs are either originators or lenders themselves. The former has a reasonable margin but when the fintechs participate in the creation of the book, they stand to make much more money. Companies like Slice, Moneytap and Onecard participate in the book while Ola SBI credit card and Amazon ICICI credit card portfolios are fully owned by the banks. Paytm has steadfastly maintained that they are merely originating loans to the banks.

Risk ownership in Credit Cards — When it comes to a credit card, it is difficult to convince most of the banks to transfer significant product ownership to fintechs. This is due to a variety of reasons which we will explore in a different blog post.

And thus, while it is easy to scale the program due to the capital depth of banks, a fintechs’ ability to generate revenues through such a partnership is stunted. On the other hand, a credit line card has much better unit economics due to prevailing interchange rates. If the portfolio is well stitched, then the EMIs accruing should help generate a very attractive return on capital. However, assuming the risk of non-payment is not everyone’s cup of tea! And that is the big dilemma for any fintech startup.

Hope you were able to understand the fundamental differences between credit cards and credit line cards. There is so much more to unpack.

Disclaimer and plug: I am the founder of hyperface.co. We have built India’s #1 credit line card stack to power the next generation of fintech companies and banks intending to launch this product. You will find cards that are powered by Hyperface in the market very soon!