(Yicai) May 28 -- Interest rate incentives offered by Chinese banks are pushing the effective rates of some consumer loan products below the regulatory threshold, raising concerns about a potential increase in non-performing loans.

Some lenders are edging close to the regulatory red line. With various promotional discounts, the actual annual interest rate of certain consumer loans has dropped below 3 percent, which is the latest floor rate updated by regulators in March, Yicai learned.

A 30-year-old consumer told Yicai that he was struggling to afford home renovations, buy a car, and meet his regular mortgage payments. Nevertheless, many banks were still willing to give him loans -- some with annual interest rates close to zero.

He also shared that many automakers are working with financial institutions to offer interest subsidies to car buyers. Tesla and Nio, for example, provide particularly generous terms, offering five-year interest-free financing at several dealerships.

A banking industry insider explained that most auto financing solutions follow one of two models: either a high interest rate laced with high cash backs, or a regular interest rate but with additional discounts upfront. In cases where loans are interest-free for three to five years, the effective annual interest rate for car buyers can fall as low as 1.8 to 2 percent.

Banks are also using loopholes to make home improvement loans cheaper. A customer relations manager at a bank explained that for a one-year loan of CNY300,000 (USD41,670), a borrower needs to pay CNY5,000 (USD695) in principal plus interest and handling fees of about CNY600 (USD83) per month, but with the bank offering a CNY7,200 cash back at the end of the loan period, the debtor basically pays no interest for the loan.

Risky Loans

Dong Ximiao, chief researcher at Merchants Union Consumer Finance, told Yicai that banks are aggressively promoting affordable consumer loans to attract and retain customers.

However, Dong warned that this strategy carries significant risks. Low interest rates may encourage consumers to take out loans without properly assessing their financial capabilities, which could increase their debt burden. Moreover, some consumer loans may be illegally funneled into real estate or stock market investments, violating regulations and heightening financial risks.

A representative from the retail business department of a joint-stock bank noted that the proportion of NPLs in retail banking is rising. For instance, China Merchants Bank’s retail NPL ratio increased to 1.01 percent as of March 31, up from 0.98 percent at the end of the previous year. In absolute terms, loans in default rose to CNY36.1 billion (USD5 billion) from CNY35.1 billion.

An industry source emphasized the importance for banks to find a balance between managing interest margins, mitigating risk, and innovating products. At the same time, consumers should carefully evaluate their financial situation to avoid taking on excessive debt.

This trend toward discounted loans may counteract China’s efforts to reduce high household debt levels. As of Dec. 31, last year, the household leverage ratio had declined slightly to 61.4 percent from 61.9 percent a year earlier, according to a report by the National Institution for Finance and Development. Nevertheless, the ratio remains high compared to other emerging economies, highlighting the continued debt pressure on many households.

Editors: Tang Shihua, Emmi Laine