MSME Financing Reform Pushes Co-Lending and TReDS to Centre of Small-Business Credit Strategy

MSME Financing Reform Pushes Co-Lending and TReDS to Centre of Small-Business Credit Strategy

India's evolving MSME financing strategy is placing greater emphasis on two complementary mechanisms—bank-NBFC co-lending and the Trade Receivables Discounting System—as policymakers seek to expand formal credit while addressing one of the sector's biggest financial constraints: cash trapped in unpaid invoices.

The policy direction reflects an important distinction in small-business finance. MSMEs require conventional loans to invest in machinery, inventory and expansion, but they also need faster access to money already owed by customers.

Co-lending addresses the first challenge by combining bank capital with the distribution and underwriting capabilities of non-banking financial companies. TReDS addresses the second by allowing eligible businesses to convert approved trade receivables into immediate working capital.

Together, the mechanisms are emerging as important components of India's broader effort to build a more accessible and digitally integrated MSME credit ecosystem.

MSME Credit Requires More Than Traditional Bank Lending

Small businesses do not all face the same financing problem.

A manufacturer may need a five-year loan to purchase machinery.

A distributor may need a revolving working-capital facility.

A supplier may simply need access to money locked inside an invoice that a large customer will pay several weeks later.

Traditional bank lending cannot efficiently solve every one of these requirements.

India's financing reforms are increasingly creating specialised channels for different types of business credit.

Co-Lending Combines Banks and NBFCs

Co-lending allows banks and NBFCs to jointly finance eligible borrowers.

The economic logic is relatively straightforward.

Banks generally possess:

• Large deposit bases

• Lower funding costs

• Large balance sheets

• Established risk-management infrastructure

NBFCs can provide:

• Last-mile distribution

• Specialised underwriting

• Local market knowledge

• Faster customer acquisition

• Experience serving smaller borrowers

Combining these capabilities can potentially expand credit without requiring either institution to replicate the other's strengths.

Parliamentary Panel Supports Wider Co-Lending

A parliamentary committee has recently highlighted wider bank-NBFC co-lending as a mechanism for improving MSME access to formal credit.

The recommendation reflects the growing importance of NBFCs in small-business finance.

MSME credit extended through NBFCs increased from ₹1.41 lakh crore at the end of March 2021 to ₹4.82 lakh crore by March 2025.

That expansion demonstrates the sector's ability to reach borrowers that may not always fit traditional banking models.

Why Banks and NBFCs Can Complement Each Other

Banks possess relatively inexpensive funding but can face high customer-acquisition and underwriting costs when lending small amounts to geographically dispersed enterprises.

NBFCs often operate closer to these borrowers.

They may understand specific industries, regional markets or customer categories more deeply.

A co-lending arrangement can therefore create a division of capabilities:

Bank → Capital

NBFC → Origination and servicing

Both → Credit exposure

If structured effectively, this can improve the economics of small-ticket business lending.

Risk Sharing Is Critical

Co-lending should not become a mechanism through which one institution originates loans while another assumes almost all the risk.

Both lenders need appropriate economic exposure.

Risk sharing creates incentives for:

• Responsible underwriting

• Accurate borrower assessment

• Strong servicing

• Portfolio monitoring

Without proper alignment, rapid lending growth can eventually produce asset-quality problems.

Technology Can Make Co-Lending Scalable

Joint lending historically created operational complexity because two institutions needed to coordinate the same loan.

Digital infrastructure can increasingly automate this process.

Technology can manage:

• Customer onboarding

• KYC

• Credit assessment

• Documentation

• Loan disbursement

• Repayments

• Portfolio monitoring

Automation makes it economically feasible to use co-lending for smaller loan sizes.

TReDS Solves a Different Financing Problem

TReDS does not primarily provide long-term growth capital.

Instead, it addresses receivables.

Consider an MSME that delivers ₹25 lakh of products to a large corporate customer.

The invoice may be valid and accepted, but payment could arrive weeks later.

During that period, the MSME still needs money for:

• Salaries

• Raw materials

• Electricity

• Logistics

• Taxes

• New orders

TReDS allows the business to potentially convert that receivable into cash before the buyer's normal payment date.

How TReDS Works

The Trade Receivables Discounting System is an RBI-regulated electronic mechanism for financing MSME trade receivables.

The ecosystem brings together:

MSME Seller → Buyer → Financier

Once the relevant receivable is accepted, eligible financiers can bid to finance it.

The MSME receives money earlier, while the financier receives payment according to the applicable transaction structure when the receivable matures.

The mechanism therefore turns a commercial invoice into a financing asset.

TReDS Volumes Have Expanded Rapidly

The scale of invoice discounting through TReDS has increased substantially.

Government data released in 2026 showed annual invoice discounting rising from approximately ₹40,000 crore in FY22 to around ₹3.47 lakh crore in FY26.

Cumulative liquidity made available through the system has crossed ₹7 lakh crore.

The growth demonstrates that receivables financing is moving from a relatively specialised mechanism toward a more significant component of India's MSME financial architecture.

CPSE Settlement Requirement Could Accelerate Adoption

A major FY27 policy measure requires Central Public Sector Enterprises to use TReDS for settlement of purchases from MSMEs.

This could substantially increase the number and value of invoices moving through the system.

CPSEs collectively purchase significant quantities of:

• Engineering products

• Industrial components

• Technology

• Professional services

• Maintenance

• Materials

from smaller enterprises.

Bringing these transactions onto TReDS can create a more predictable financing channel for suppliers.

GeM and TReDS Can Become Connected Infrastructure

Another important policy direction involves linking the Government e-Marketplace with TReDS.

The combination could create a more integrated public-procurement financing system.

The process could increasingly resemble:

Government Order → Digital Procurement → Accepted Invoice → TReDS Financing → MSME Liquidity

Such integration can reduce information gaps between procurement and finance.

Digital Procurement Data Can Improve Verification

Financiers need confidence that the invoices they finance represent genuine transactions.

Digital procurement systems can provide information relating to:

• Purchase orders

• Buyer identity

• Delivery

• Invoice value

• Acceptance

• Payment obligations

Better verification can reduce fraud risk and shorten the time required to assess financing requests.

Credit Guarantees Could Bring More Financiers Into TReDS

The government's FY27 policy framework has also proposed credit-guarantee support for eligible TReDS invoice discounting.

A guarantee can reduce potential lender losses.

This may encourage more banks and other eligible financiers to compete for invoices.

Greater competition can potentially produce:

• More available capital

• Lower discount rates

• Better price discovery

• Greater financing capacity

That would directly improve the value of TReDS for MSMEs.

Co-Lending and TReDS Solve Different Parts of the Credit Cycle

The two mechanisms should not be viewed as competitors.

They serve different financing needs.

Co-lending can provide:
Working-capital loans, term finance and growth capital.

TReDS can provide:
Liquidity against eligible trade receivables.

A business can therefore potentially use both.

An MSME could obtain a co-lending term loan to purchase machinery while simultaneously discounting customer invoices through TReDS to finance day-to-day operations.

Cash-Flow Lending Is Becoming More Important

Traditional MSME credit often depends heavily on collateral.

This can exclude viable companies that do not own significant property or other assets.

Digital financial data increasingly allows lenders to evaluate businesses based on actual cash flows.

Useful information can include:

• Bank transactions

• GST filings

• Tax records

• Digital payments

• Invoice histories

• Account Aggregator data

This creates the possibility of underwriting based more heavily on business performance.

Account Aggregators Can Reduce Information Gaps

India's Account Aggregator framework allows customers to consent to the digital sharing of financial information.

For lenders, this can create a more complete picture of a business's financial activity.

Instead of relying entirely on physical statements and manually submitted records, lenders can obtain structured data with customer permission.

This can potentially reduce:

• Documentation

• Processing time

• Fraud

• Underwriting costs

These improvements are particularly valuable for small-ticket lending.

Unified Lending Interface Could Support Credit Delivery

The Unified Lending Interface is another component of India's emerging digital credit infrastructure.

Its broader objective is to make relevant borrower information easier for lenders to access through standardised digital connections.

Combined with co-lending, such infrastructure could help NBFCs and banks assess MSMEs more efficiently.

The result could be faster credit decisions and lower operating costs.

Collateral-Free Lending Is Expanding

The RBI has also increased the mandatory collateral-free loan threshold for micro and small enterprises from ₹10 lakh to ₹20 lakh.

The threshold can potentially rise further for borrowers with satisfactory repayment records under the applicable framework.

Reducing collateral dependence can expand access for businesses that generate healthy cash flows but lack significant physical assets.

Credit Guarantees Remain Important

Government-backed guarantees can further reduce lender risk.

The Credit Guarantee Fund Trust for Micro and Small Enterprises supports eligible collateral-free lending by providing guarantee coverage.

Such mechanisms can encourage financial institutions to lend to businesses that might otherwise be considered too risky.

Guarantees are particularly relevant for:

• New enterprises

• First-time borrowers

• Smaller manufacturers

• Service businesses

However, guarantees should complement rather than replace sound underwriting.

Delayed Payments Remain Structural Challenge

Access to new loans does not solve the MSME financing problem if existing customers continue paying slowly.

A business can show strong accounting profits and still face financial stress.

Suppose a manufacturer generates ₹1 crore of monthly sales but receives customer payments after 90 days.

It could have approximately ₹3 crore tied up in receivables at any given time.

That money must somehow be financed.

TReDS directly targets this working-capital gap.

Receivables Financing Can Lower Dependence on Debt

When businesses receive cash against invoices earlier, they may require less conventional working-capital borrowing.

That can reduce balance-sheet leverage.

Instead of borrowing simply because a customer has not yet paid, the company monetises an existing financial claim.

This can improve financial flexibility.

Faster Cash Conversion Can Support Growth

Rapidly growing businesses often face greater working-capital pressure.

More sales can create:

• More inventory

• More receivables

• Higher payroll

• Higher supplier payments

A company can therefore run out of cash while reporting strong revenue growth.

Efficient receivables financing allows businesses to recycle capital more quickly into new orders.

Manufacturing MSMEs Could Benefit Significantly

Manufacturing businesses are particularly sensitive to working-capital availability.

They often need to purchase raw materials before producing and delivering goods.

Capital can remain tied up throughout:

Raw Materials → Production → Inventory → Delivery → Invoice → Payment

Shortening the final receivables stage can materially improve the overall cash-conversion cycle.

Exporters Also Need Efficient Working Capital

Export-oriented MSMEs can face lengthy payment cycles and substantial upfront production expenses.

They may need to finance:

• Raw materials

• Manufacturing

• Packaging

• Logistics

• Compliance

before receiving money from customers.

A broader ecosystem of formal working-capital and receivables financing can therefore improve the competitiveness of Indian exporters.

Formal Credit Can Reduce Reliance on Informal Finance

Businesses unable to obtain timely bank financing may turn to informal lenders.

Such borrowing can carry significantly higher costs.

Digital credit infrastructure, co-lending and invoice discounting can create additional formal financing alternatives.

Greater competition among formal lenders can potentially reduce the cost of capital.

MSME Formalisation Supports Better Underwriting

India's expansion of GST, digital payments and formal business registration is creating larger financial data trails.

As enterprises formalise, lenders can gain better visibility into:

• Revenue

• Transactions

• Taxes

• Customers

• Payment behaviour

This can reduce information asymmetry.

Businesses with reliable digital financial histories may eventually obtain better financing terms.

Better MSME Credit Supports Employment

The economic significance of MSME financing extends beyond individual companies.

Small businesses are major sources of employment and supply-chain activity.

A company unable to obtain working capital may delay:

• Hiring

• Production

• Machinery purchases

• Expansion

Improving credit access can therefore support broader investment and employment.

Supply Chains Benefit From Financially Strong Suppliers

Large corporations also have an interest in improving supplier liquidity.

A financially stressed supplier may struggle to maintain:

• Inventory

• Production schedules

• Quality

• Delivery reliability

Receivables financing can therefore strengthen supply-chain resilience.

Large buyers participating in TReDS can indirectly improve the stability of their own supplier networks.

More Financiers Could Improve TReDS Pricing

The economics of invoice discounting depend partly on competition.

If only a small number of financiers bid for an invoice, pricing may remain relatively expensive.

A deeper ecosystem of banks and other eligible institutions can increase competition.

High-quality receivables from financially strong buyers could then attract lower discount rates.

Secondary Market Could Expand TReDS Capacity

The government has proposed developing a secondary market for TReDS receivables through asset-backed securities.

Such a framework could potentially allow receivables to be pooled and sold to additional investors.

This could free capital on financier balance sheets and expand the overall funding pool.

If implemented effectively, securitisation could help TReDS move from a bank-dominated invoice-financing mechanism toward a broader capital-market-linked ecosystem.

Risk Management Remains Essential

Expanding MSME credit rapidly creates risks.

Potential problems include:

• Weak underwriting

• Invoice fraud

• Duplicate financing

• Borrower overleveraging

• Buyer defaults

Digitalisation can reduce some risks but cannot eliminate them.

Financial institutions need robust monitoring and verification systems as lending volumes increase.

Data Integration Can Strengthen Fraud Detection

Linking multiple financial systems can make suspicious activity easier to identify.

Lenders can potentially cross-check information across:

• GST

• Banking

• Procurement

• Invoices

• Payments

A transaction inconsistent with other financial data can be flagged for additional review.

Such controls become increasingly important as digital lending scales.

Small Businesses Need Financial Literacy Too

Credit availability alone does not guarantee successful borrowing.

Entrepreneurs need to understand:

• Interest costs

• Discount rates

• Loan tenure

• Cash-flow obligations

• Guarantees

• Personal liability

Poor financing decisions can create financial stress even when credit is readily available.

Improved financial literacy therefore needs to accompany broader access.

Policy Is Moving Toward an Integrated Financing Architecture

India's MSME credit reforms increasingly resemble an interconnected financial infrastructure rather than a collection of isolated schemes.

Different components perform different functions:

Banks: low-cost capital
NBFCs: distribution and specialised underwriting
Co-lending: combines bank and NBFC capabilities
TReDS: monetises receivables
CGTMSE: provides credit guarantees
Account Aggregators: enable financial-data sharing
GeM: creates digital government procurement
Digital lending infrastructure: improves underwriting and delivery

The value of the system increases when these components work together.

What Businesses Should Watch

The MSME financing reform agenda puts several developments in focus:

• Bank-NBFC co-lending growth

• TReDS transaction volumes

• CPSE participation

• GeM-TReDS integration

• Credit-guarantee implementation

• Cash-flow lending

• Account Aggregator adoption

• Digital underwriting

• Delayed-payment trends

• MSME borrowing costs

The ultimate test will be whether viable businesses obtain capital more quickly and at sustainable prices.

Outlook

India's MSME financing architecture is gradually shifting away from a system dominated by conventional collateral-based bank lending toward a more diverse combination of institutional capital, digital data and receivables financing.

Co-lending can help connect banks' relatively low-cost funding with NBFC distribution capabilities.

TReDS can unlock money already owed to MSMEs.

Credit guarantees can reduce lender risk, while digital financial infrastructure can make underwriting faster and more data-driven.

The reforms have the potential to address both sides of the MSME financing equation: obtaining new capital and accelerating access to existing receivables.

Conclusion

Co-lending and TReDS are increasingly moving toward the centre of India's small-business credit strategy because they address two different but closely connected financial constraints.

Co-lending can widen access to loans by combining bank balance sheets with NBFC reach and underwriting expertise.

TReDS can improve liquidity by allowing MSMEs to convert eligible unpaid invoices into immediate cash.

When combined with credit guarantees, digital procurement, Account Aggregators and cash-flow-based underwriting, these mechanisms could create a more flexible financing ecosystem.

The success of the reform push will ultimately depend not on the number of programmes created, but on whether small businesses experience measurable improvements in credit availability, financing costs and payment cycles.