The Microfinance Paradox: Profits Surge by 48% as Bad Loans Skyrocket by 64%

Kathmandu — While microfinance institutions (MFIs) in Nepal have aggressively expanded their lending portfolios and successfully inflated their profit margins, the quality of their investments has entered a precarious zone. A recent off-site supervision report published by the Nepal Rastra Bank (NRB) exposes a startling reality: the volume of non-performing loans (NPLs) in the microfinance sector is climbing at an alarming rate that vastly outpaces actual credit growth.

According to the central bank's data up to mid-July 2026 (Asadh 2083), total credit extended by 48 retail MFIs grew by a modest 10.09 percent compared to the previous fiscal year. However, during the same period, their non-performing loans skyrocketed by a staggering 63.83 percent, reaching Rs 50.82 billion. Consequently, the NPL ratio, which stood at 7 percent a year ago, has now escalated to 10.42 percent. In simpler terms, for every 100 rupees invested by these institutions, more than 10 rupees are now classified as bad debt, raising severe concerns about the overall health of the financial system.

Despite this mounting burden of toxic loans, retail MFIs have managed to post impressive profit figures. The net profit of these institutions jumped by 48.14 percent, reaching Rs 10.78 billion by mid-July 2026, up from Rs 7.28 billion a year earlier. Out of the 48 operating retail MFIs, 46 recorded a profit while only two incurred losses. Analysts point out that achieving such a massive leap in profits is highly unusual, especially when these institutions had to allocate Rs 29.43 billion—an 84 percent surge—just for loan loss provisioning against bad debts. In contrast, the three wholesale microfinance providers saw their net profit shrink by 23 percent to Rs 980 million, even though their NPL ratio remained highly controlled at 3.04 percent.

In their race for commercial expansion and profit maximization, MFIs appear to be increasingly flouting regulatory discipline. As per central bank directives, microfinance companies must maintain a minimum capital adequacy ratio of 8 percent. However, unaudited financial reports reveal that eight institutions have fallen below this mandatory threshold. Driven by these capital deficits and other deteriorating regulatory indicators, the NRB has currently placed 10 MFIs under its 'Prompt Corrective Action' (PCA) framework, with four institutions added to the penalty watchlist just this year.

The chain of regulatory violations extends further into their lending practices. NRB regulations strictly cap collateral-based lending for retail MFIs at 33.33 percent of their total credit portfolio. Yet, the central bank found that Sanjeevani Laghubitta blatantly breached this limit, issuing 38.34 percent of its loans against collateral. Even more concerning is the lack of transparency; Sanjeevani entirely failed to submit the required data to the NRB’s supervisory information system, while nine other institutions attempted to dodge regulatory scrutiny by submitting incomplete financial details.

A glaring contradiction is also visible in the structural growth of the sector. Over the past year, the number of microfinance members increased by nearly 5 percent to reach 6.53 million. However, while the client base is expanding, the physical branch network is inexplicably shrinking. Following a 1.02 percent decline in the previous fiscal year, the number of MFI branches dropped by another 0.75 percent this year, limiting the total network to 4,924 branches. Currently, Lumbini Province hosts the highest concentration of branches at 22.03 percent, whereas Karnali Province has the lowest footprint with a mere 4.79 percent.

Overall, the microfinance sector has amassed total assets worth Rs 655 billion and mobilized over Rs 437 billion in financial resources by mid-July 2026. However, regardless of the sheer size of their operations and capital base, the 64 percent spike in bad loans paired with a growing tendency to defy regulatory directives signals a deepening crisis. The central bank's report clearly warns that unless MFIs urgently rectify their credit quality and adhere strictly to regulatory discipline, their current profit boom will prove unsustainable, ultimately risking a broader shock to the national financial system.