India rethinks the economics of free UPI payments

India has taken a step toward allowing merchant fees on some Unified Payments Interface transactions, reopening debate over how one of the world's most successful real-time payment systems should be funded.

The proposed change is part of an amendment to India's Payment and Settlement Systems Act. If implemented, it would create a legal framework for merchant discount rate fees on certain UPI transactions. As in other global markets, India’s merchant discount rate (MDR) is the fee merchants pay to banks and payment providers for processing digital transactions.

UPI, operated by the National Payments Corp. of India, has become a dominant payment method in India by making account-to-account digital payments fast, inexpensive and widely available. Since 2020, UPI and RuPay debit transactions have largely operated under a zero-MDR policy that barred providers from charging merchants. That policy helped accelerate adoption but also limited revenue for banks and payment firms supporting the system.

Fees could target larger merchants

The change would not necessarily mean fees for every UPI payment. Reports from India indicate officials have been considering models that would apply MDR only to larger transactions, larger merchants or both. One proposal cited by Reuters would assess fees of 0.3 percent to 0.5 percent on UPI transactions above 2,000 rupees for merchants with annual turnover exceeding 15 million rupees.

India's Ministry of Finance sought to reassure users that the change would not affect ordinary consumer payments. "Consumers making payments will not face any transaction charges," the ministry stated. It also said person-to-person transactions would remain free and that any future MDR would apply only to a limited set of merchant transactions above a threshold.

That structure would preserve free or low-cost digital payments for most small purchases while creating a revenue stream from higher-value commercial transactions. Reuters reported that transactions above 2,000 rupees represent only about 4 percent of UPI volume but roughly 67 percent of transaction value.

The numbers show why the issue matters. UPI's growth has been a public policy success, but processing, fraud controls, dispute handling, uptime and innovation all carry costs. If those costs are not paid through merchant fees, they must be absorbed by banks and payment providers or supported through public subsidy.

Global lessons may emerge

The debate has implications beyond India. Governments, banks and payment companies in many markets are promoting real-time account-to-account payments as lower-cost alternatives to cards. Analysts have noted that India's experience shows how quickly adoption can grow when payments are easy and inexpensive. It also shows that scale does not eliminate the need for a sustainable business model.

Reserve Bank of India Governor Sanjay Malhotra made that point during recent comments on the issue, saying, "costs have to be paid by someone." He added that any decision on fees must be weighed against the goal of increasing UPI usage.

For merchants, any return of fees could raise concerns about cost and acceptance; for banks and payment companies, it could provide funding for continued investment in infrastructure, security and new services. The central question, according to industry observers, is no longer whether UPI can achieve scale. It has. The question now is who pays to keep instant payments running at that scale.

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