4 Legal Ways of Money Lending for High Interest in India

4 Different Options For Money Lending in India

1) Lending Money to Family or Friends

Lending to people in your close circle is often the first step many take into the world of money lending. While you might trust your family and friends implicitly, formalizing these arrangements helps prevent misunderstandings that can damage both your finances and relationships.

How to Formalize Personal Loans:

Creating a legally binding agreement doesn’t mean you don’t trust the borrower—it simply protects everyone involved. A proper loan document should include:

• Full names and addresses of lender and borrower
• The loan amount clearly stated in both figures and words
• Interest rate (ensuring it falls within legal limits)
• Detailed repayment schedule with specific dates
• Consequences of default (if any)
• Signatures of both parties and preferably witnesses

One of the most common formats is a promissory note, which is recognized under the Negotiable Instruments Act, 1881. This document contains an unconditional promise to pay a specific sum of money to a named person or the bearer of the note.

Example: Raj lent his brother ₹3 lakh for home renovations, creating a simple promissory note with 10% annual interest—better than his bank’s 6.5% FD rate but still reasonable for the family. They set up automatic monthly transfers, keeping their arrangement professional while maintaining their relationship.

2) Becoming a Registered Money Lender

For those serious about money lending as a business activity, getting properly registered is essential. 

The process varies by state but generally follows these steps:

1. Visit your local Tahsildar office to begin the application process
2. Submit the required application form along with a fee (typically ₹100-5,000)
3. Provide necessary documentation including ID proof, address proof, passport photos, and any character certificates required
4. Pay the license fee (usually ranging from ₹5,000-25,000)
5. Wait for verification and approval which may include premises inspection

Each state has different regulations regarding interest rate caps:

• Maharashtra: 18% for secured loans, 24% for unsecured loans
• Tamil Nadu: 12% for secured loans, 24% for unsecured loans
• Karnataka: 18% maximum across all loans

Licensed money lenders typically earn net returns between 14-20% after accounting for defaults and operational costs. While this option offers potentially higher returns, it also requires significant capital investment, compliance with regulatory requirements, and robust systems for assessing borrower creditworthiness.

3) Peer-to-Peer (P2P) Lending: The Digital Revolution

P2P lending has become the way for lenders to lend money and earn great ROI. These platforms connect lenders directly with borrowers, eliminating traditional banking intermediaries while providing a structured, regulated environment.

P2P Lending: Legal Status and Regulation

In 2017, the RBI formally acknowledged P2P lending platforms as a new class of NBFC (Non-Banking Financial Company) thereby subjecting them to regulatory supervision.

Key regulations include:

• All P2P platforms must register with RBI as NBFC-P2P
• Individual lenders cannot lend more than ₹50 lakhs across all P2P platforms
• Lenders extending loans exceeding ₹10 lakhs across platforms must provide a Net Worth certificate verifying a minimum net worth of ₹50 lakhs
• All funds must flow through bank-operated escrow accounts
• Platforms cannot provide credit guarantees or assured returns

In March 2025, the RBI introduced additional guidelines to enhance transparency and protection for lenders, including stricter reporting requirements and fund transfer mechanisms.

How P2P Lending Works?

When you join a P2P platform as a lender:

1. You register and complete KYC verification
2. Deposit funds into the platform’s escrow account
3. Either manually select borrowers or use automated tools to diversify your investment
4. The platform handles loan documentation and collections
5. You receive principal and interest repayments according to the loan schedule

LenDenClub, India’s largest P2P platform, offers two distinct lending options tailored to different investor needs:

• Lumpsum Option: Ideal for long-term wealth creation
• Manual Lending: Allows hands-on selection of borrowers based on your criteria

Most successful P2P lenders follow these strategies:

• Start with smaller amounts while learning the platform
• Diversify across 100+ borrowers to minimise the impact of defaults
• Mix risk categories to balance higher returns with stability
• Regularly monitor portfolio performance
• Reinvest returns to benefit from compounding

4) Investing in NBFCs Through Fixed Deposits and Bonds

Another way to effectively “lend money” for higher interest is by investing in debt instruments issued by Non-Banking Financial Companies (NBFCs).

NBFC Fixed Deposits

Many NBFCs offer fixed deposit programs that typically provide 1-3% higher interest than bank FDs. 

For instance, while banks might offer 7-7.5% on 5-year FDs, NBFC FDs may offer 8-10% for similar tenures.

When comparing options as of May 2025, several NBFCs and housing finance companies offer attractive rates:

Corporate Bonds and NCDs

Another option to lend your money is through Non-Convertible Debentures (NCDs) that are issued by NBFCs. Their annual returns usually range from 9-12% and they come in different tenors such as 2-10 years.

When you are thinking of investing in NBFCs, check for:

• Credit ratings (prefer AA or above)
• Healthy financials with good capital adequacy ratios
• RBI registration and compliance history
• Experienced management team

Remember that these investments carry risks related to the financial health of the issuing NBFC, so diversification across multiple companies is advisable.

As of now you may be well aware of possible ways of lending money legally in India, but check out this guide to understand how to lend money to earn interest.

Legal Safeguards and Best Practices for Money Lenders

Regardless of which lending option you choose, following practices will help protect your investment:

Documentation Requirements

All loans, even to family members, should be properly documented with:

• Clear loan agreements specifying all terms
• Signatures of all parties involved
• Witnesses where possible
• Receipt for every payment received
• Regular account statements

Interest Rate Considerations

While you naturally want to maximize returns, staying within legal interest limits is crucial:

• Most states cap interest rates between 12-24% annually
• Charging beyond these limits can invalidate your loan agreement and lead to legal penalties
• Different loan types (secured vs unsecured) may have different permissible caps

Risk Management Strategies

Successful money lenders consistently follow these risk mitigation practices:

• Thoroughly assess borrower creditworthiness before lending
• Never concentrate too much money with a single borrower
• Maintain detailed records of all transactions
• Have clear protocols for handling late payments
• Stay informed about changing regulations

Tax Implications of Lending Money

The interest you earn from lending activities is taxable under “Income from Other Sources” at your applicable income tax slab rate. 

Keep accurate records of all interest received, as you must declare this income in your annual tax returns regardless of whether TDS was deducted.

Comparing Money Lending Options: Which Is Right for You?

Let’s compare the main options we’ve discussed:

Finding Your Fit:

• For new investors with limited capital: P2P lending offers the most accessible entry point, with platforms like LenDenClub allowing investments starting at just ₹500.
• For investors seeking passive income: NBFC fixed deposits or Monthly Income Plans on P2P platforms provide regular interest payments with minimal active management.
• For those with significant capital and business acumen: Becoming a registered money lender offers the highest potential returns but requires substantial investment in compliance, systems, and risk management.
• For conservative investors: NBFC fixed deposits from highly-rated companies offer better returns than bank FDs with relatively low risk.

Conclusion

Lending money can provide returns well above traditional means of investment.

But in order for you to succeed, you must understand the legal framework, manage risk conservatively, and starting with realistic expectations.

With the right approach, lending your money can become a valuable addition to your financial toolkit. It creates value for both borrowers and lenders in India’s evolving credit landscape.