Microfinance banks in Kenya were designed to fill a gap. They were supposed to serve the market that traditional banks ignored — small traders, farmers, young entrepreneurs, households without collateral. Two decades later, the sector is struggling to survive under a regulatory framework its executives say is tilted against them.

Losses have become the norm rather than the exception. By 2024, the industry posted a record Sh3.5 billion pre-tax loss, marking the ninth year in the red. Revenues are shrinking. Costs are rising. And customer numbers are falling as borrowers flock to commercial banks, SACCOs, and digital lenders.

The flashpoint? Loan classification rules that force microfinance banks to mark loans as non-performing after just 30 days of missed payment. Commercial banks, by contrast, enjoy a 90-day window.

On paper, it looks like a technical detail. In practice, it’s a domino effect that reshapes balance sheets, customer relations, and competitiveness.

Once a microfinance loan is downgraded, the lender must make provisions against it — eating into capital. The customer gets listed, often in credit reference systems, which strains relationships and erodes trust. Funding costs climb, which forces lenders to raise interest rates. Higher rates push more customers away.

Julius Ouma Wamae, CEO of Faulu Microfinance Bank and chair of the industry association, put it bluntly: “The moment you classify a loan as non-performing, you need to list the customer. And indirectly, it means that you price higher, you charge more. And it is a domino effect.”

This compressed timeline has also fed the public perception that microfinance banks are aggressive — even predatory — in their collections. David Mukaru, CEO of Caritas Microfinance Bank, argues that the picture is misleading.

“When you borrow from me as a microfinance client, I will come to you faster. The banks will take another 90 days,” he said. “That is why microfinance banks were accused of harassing customers. But they were not harassing — they were responding to rules that forced them to collect earlier.”

The reputational damage, however, has been severe. Many borrowers now prefer the breathing room that commercial banks offer, even if the terms are otherwise less flexible.

Loan timelines are just one part of the story. Microfinance banks say the regulatory ecosystem systematically disadvantages them in other ways.

The result is a system where microfinance banks face tighter rules, thinner margins, and more reputational risks than their larger peers.

While microfinance banks wrestle with regulation, competitors are moving fast. Commercial banks have developed low-cost digital products targeting small borrowers. SACCOs continue to command strong loyalty among salaried workers. Digital lenders, despite complaints about high fees, have carved deep into the same customer base with quick, phone-based loans.

The overlap is clear: all of them now target the very market microfinance banks were created to serve. And they do it with better technology and cheaper funding.

This raises a thorny question: if others can serve the same borrowers under more favorable rules, what unique role remains for microfinance banks?

The irony is that microfinance was built on inclusion. The 2006 Microfinance Act was intended to formalize lending to underserved communities, providing a safer alternative to loan sharks and informal chamas. Flexibility was the selling point — unconventional products, movable collateral, personalized approaches.

That mission is now at risk. With nine years of losses and customer exits accelerating, some players have scaled back lending or even sold parts of their loan books to commercial banks. The sector that was meant to broaden access is shrinking.

The Central Bank of Kenya (CBK) regulates both commercial and microfinance banks, but under different laws: the Banking Act and the Microfinance Act. The result is a split regime where rules diverge in ways that industry executives say no longer make sense.

Why should a small-scale trader have less repayment leeway than a large corporate borrower? Why can SACCOs and banks claim tax reliefs that MFBs cannot? Why are movable assets accepted as collateral in principle but sidelined in practice?

These are not just technical details. They are policy choices that determine whether microfinance banks remain viable or fade into irrelevance.

The debate over Kenya microfinance loan rules is no longer about short-term relief. It’s about the future of the sector itself.

Some possibilities:

For now, the sector remains in survival mode. The numbers don’t lie: a decade of losses, rising competition, and rules that few believe are fair.

What’s less clear is whether policymakers see microfinance banks as vital players worth saving, or relics of a financial inclusion strategy that has since been overtaken by new models.