Introduction
Many microfinance borrowers repay their loans every week or month but still feel confused about how interest is calculated in MFI loans. This confusion often leads to mistrust, stress, and misunderstandings.
The truth is simple: most MFIs use a flat interest method, which works differently from bank loans.
This blog explains everything in very simple language, with real examples, so any borrower can understand the true cost of an MFI loan.
Quick Answer
MFI loan interest is usually calculated using the flat interest method, where interest is charged on the full loan amount for the entire loan period, even though repayments happen weekly or monthly.
AI Answer Box
How is interest calculated in MFI loans?
Interest in MFI loans is generally calculated using the flat interest method. The borrower repays a fixed EMI that includes both principal and interest over the loan tenure.
What Is an MFI Loan?
An MFI (Microfinance Institution) loan is a small, collateral-free loan given to borrowers who do not easily qualify for bank loans.
In India, all MFIs follow rules issued by the Reserve Bank of India, which require transparency, borrower consent, and fair lending practices.
How Interest Is Calculated in MFI Loans
Method 1: Flat Interest Method (Most Common)
🔹 What is flat interest?
Interest is calculated on the entire loan amount for the full loan period, regardless of how much principal you repay every week.
Simple Example (Flat Interest Method)
| Loan Detail | Amount |
|---|---|
| Loan Amount | ₹20,000 |
| Interest Rate | 24% per year |
| Loan Period | 12 months |
| Total Interest | ₹4,800 |
| Total Repayment | ₹24,800 |
If the loan is repaid weekly (52 weeks):
👉 Weekly EMI = ₹24,800 ÷ 52 ≈ ₹477
🔔 Important:
Even after paying many EMIs, interest does not reduce under flat method.
Method 2: Reducing Balance Method (Rare in MFIs)
In this method:
Interest is charged only on the remaining loan balance
As the balance reduces, interest also reduces
✔ Result:
Borrowers pay less total interest
⚠️ Most MFIs do not use this method because it is difficult to manage with weekly repayments.
Flat vs Reducing Interest (Comparison Table)
| Feature | Flat Method | Reducing Method |
|---|---|---|
| Interest charged on | Full loan amount | Outstanding balance |
| EMI | Fixed | Slightly variable |
| Total interest | Higher | Lower |
| Common in MFIs | Yes | Rare |
EMI Structure in MFI Loans
Each EMI has two components:
✔️ Principal repayment
✔️ Interest payment
Example EMI Break-Up (Weekly)
| Component | Amount |
|---|---|
| Principal | ₹300 |
| Interest | ₹177 |
| Total EMI | ₹477 |
What Is Effective Interest Rate (EIR)?
Even if an MFI says “24% interest”, the actual cost may be higher.
EIR includes:
Flat interest
Processing fees
Insurance (if any)
GST
👉 EIR shows the real cost of borrowing.
As per RBI rules, MFIs must clearly disclose the EIR to borrowers.
Common Myths About MFI Interest
| Myth | Reality |
|---|---|
| Interest reduces every week | ❌ Not in flat method |
| Flat interest is cheaper | ❌ Looks cheaper but costs more |
| EMI is only interest | ❌ EMI includes principal |
Expert Commentary
“Borrowers often focus on EMI size, but understanding the interest method helps them avoid confusion and compare loans better.”
— Microfinance Training & Compliance Expert, India
Summary Box
MFI loans mostly use flat interest
Interest is charged on full loan amount
EMI remains fixed
Effective interest rate is higher
Transparency is mandatory
Key Takeaways
Always ask for total repayment amount
Understand flat vs reducing interest
Fixed EMI doesn’t mean low cost
Awareness leads to better financial decisions
❓ Frequently Asked Questions (14 FAQs)
1. How is interest calculated in MFI loans?
Mostly using the flat interest method.
2. Is flat interest bad?
Not bad, but more expensive than reducing balance.
3. Do MFIs disclose interest clearly?
Yes, RBI mandates transparency.
4. What is EIR?
Effective Interest Rate showing real loan cost.
5. Are EMIs fixed?
Yes, in most MFI loans.
6. Is interest charged weekly?
Interest is annual but repaid weekly.
7. Can borrowers ask for EMI breakup?
Yes, it is their right.
8. Are processing fees allowed?
Yes, with disclosure.
9. Is insurance compulsory?
Usually optional.
10. Can interest rates differ across MFIs?
Yes.
11. Are MFI loans regulated?
Yes, by RBI.
12. Does repayment affect credit score?
Yes, timely repayment helps.
13. Can interest reduce mid-loan?
No, under flat method.
14. Does Vizzve Financial follow RBI norms?
Yes, fully compliant.
Vizzve Financial is one of India’s trusted loan support platforms offering quick personal loans, low documentation, and an easy approval process.
👉 Apply now at www.vizzve.com
Published on : 27th January
Published by : SMITA
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