Prime Lending Rate Meaning and Its Impact on Loans

If you’re planning to take a loan, it helps to know what is prime lending rate. This rate impacts how much interest you’ll pay on credit cards, home loans or business loans. 

The prime lending rate meaning is simple. It’s the rate banks give to their most creditworthy customers. But it also sets the base for others. Lenders add extra charges on top of it based on your credit score, loan type and risk. So even if you don’t qualify for the best rate, the prime rate in India still affects your borrowing cost.

Read on to know what is prime lending rate, how it works and what to keep in mind before taking a loan.

Prime Lending Rate Meaning

Banks and NBFCs offer the prime lending rate to their most creditworthy customers. Prime rates are decided by lenders based on internal policies and external factors, such as market volatility and economic fluctuations. This rate helps compensate for the lending risk incurred by them. 

Note that the prime lending rate does not directly affect your borrowing costs but acts as a baseline. Financial institutions add a certain spread to this rate based on who the borrower is, the type of loan, and more. 

Since 2010, the base rate scheme has replaced the benchmark prime lending rate or BPLR system as per the mandate of the RBI. This was also replaced by the marginal cost of funds-based lending rate and today, lenders use an external benchmark such as the repo rate. 

The RBI ensures transparency by pushing for a repo-linked lending system, so borrowers can benefit quickly when policy rates drop.

Factors That Affect the Prime Lending Rate

Banks and NBFCs consider many things before deciding their prime lending rate. Each lender may have its own way of setting rates but the basic lending rate formula includes both internal and external factors:

• RBI Monetary Policy: When the repo rate changes, borrowing costs for banks also change
• Inflation Levels: Higher inflation usually leads to higher interest rates
• Market Liquidity: If there’s more money in the system, rates tend to go down
• Credit Risk: Lenders adjust rates depending on how risky the borrower is
• Operational Costs: Internal costs of running the bank affect the rate they offer
• Loan Type and Tenure: Unsecured or long-term loans may come with higher rates
• Global Trends: Global economic changes can impact how loans are priced in India

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How Prime Lending Rate Differ from Variable Rates?

Prime lending rates and variable interest rates are important concepts affecting your borrowing costs. Here’s how the two work and why they matter for your loan costs.

Aspect	Prime Lending Rate	Variable Interest Rate
Who decides it?	The lender (based on internal and market factors)	Adjusted periodically based on benchmarks like repo rate
Applicability	Applied to top-tier customers	Applied to most floating interest loans
Change Frequency	Less frequent, internally revised	Changes more frequently as per market movements
Impact on borrower	Serves as a base for setting interest	Directly affects EMI amounts
Link to RBI	Influenced by RBI’s policy changes	Directly linked to repo rate or other RBI benchmarks

Effects of Prime Lending Rates on Borrowers

Changes in the prime lending rate can affect different types of loans. Here’s how:

• Home Loans: A rise in the prime rate increases your home loan EMI if it’s on a floating rate
• Business Loans: When the prime rate goes up, borrowing costs for working capital and term loans also rise
• Credit Cards: Interest on outstanding balances is linked to the prime rate in some cases
• Personal Loans: Unsecured loans may be priced at a spread above the prime rate
• Loan Top-ups: New credit taken above existing loans may be priced differently based on the revised prime rate

Understanding how interest rates are set and calculated will help you borrow smartly. Today, most financial companies set rates based on external benchmark rates and keeping an eye on them is a wise move as a borrower. 

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FAQs on Prime Lending Rate

What is the prime lending rate in India in 2023?

The Indian prime lending rate as of 15th September 2023 is 14.95% p.a.

What is the difference between a lending rate and a prime lending rate?

The prime lending rate is the rate commercial banks charge for loans from borrowers with high creditworthiness. The lending rate is the interest rate that financial institutions normally charge for loans.

What is an example of a prime rate?

Say a bank provides personal loans at an interest rate of 18% to its regular customers. To a creditworthy borrower, it may offer a loan at a lower rate of 16%, which may be referred to as the prime lending rate.