Usually financial institutions in India adopt asset based lending approaches that ask for collateral as security for loans. But micro enterprises are unable to provide collateral, hence MUDRA loans have been made collateral free as per the RBI norms. To provide an assurance to lending institutions regarding giving out loans without asking for collateral, a Credit Guarantee Product is extended by creation of a Fund called “Credit Guarantee Fund for Micro Units”. This Guarantee product was made with the objective of bringing down the cost of funds and facilitating ease of access to credit and thus improve creditworthiness for those who seek credit for their business.

As per the Working Group constituted by RBI for reviewing the Credit Guarantee Schemes for Micro Small Enterprises and accepted by RBI, banks have been mandated not to insist for collateral security in the case of loans up to Rs. 10 lakhs extended to units in the Micro Small Enterprises sector.