The Indian government is examining the possibility of restoring the merchant discount rate (MDR) on certain high-value unified payments interface (UPI) transactions or introducing a tiered incentive structure to gradually reduce its financial support for the digital payments ecosystem, the finance ministry (MoF) has told a parliamentary panel. MDR is charged to merchants for accepting digital payments.
The department of financial services
(DFS), under the MoF, in its action-taken reply to the standing committee on finance (Report No.44) (), said it is examining the two options in view of the sustainability of the UPI ecosystem and the burden on the government exchequer. "Given the sustainability of the UPI ecosystem and the burden on the government exchequer, the department is currently exploring two options: (i) examining the feasibility of restoring MDR for certain high threshold transactions/ merchants; and (ii) a tiered incentive structure to phase out the government support in the next few years."
The move could mark a significant rethink of the zero-MDR model that has been in place for UPI merchant transactions since January 2020. Before the zero-MDR regime, UPI person-to-merchant (P2M) transactions attracted MDR of up to 0.30% of the transaction value.
The ministry's response came after the standing committee on finance raised concerns over the long-term sustainability of the existing incentive mechanism for promoting RuPay debit cards and low-value BHIM-UPI P2M transactions.
The committee noted that the government has provided ₹2,000 crore in the Budget for FY26-27 to support the ecosystem affected by the zero-MDR policy. However, it pointed out that the estimated cost incurred by the industry is far higher.
DFS said the industry incurred an estimated ₹20,700 crore in costs, calculated at ₹1.38 per transaction multiplied by 15,000 crore (150bn—billion) P2M transactions recorded in the previous year.
This means the ₹2,000 crore budgetary provision is significantly below the estimated cost borne by the industry.
The parliamentary committee described this as a structural funding gap and warned that the existing model could undermine the UPI ecosystem's ability to make long-term infrastructure investments.
The committee said the government should simultaneously explore a self-reliant, tiered revenue model, even as the proposed three-year, multi-year incentive scheme and cashback components are used to expand digital payments in tier-3 to tier-6 cities.
The panel emphasised that a viable revenue mechanism would be critical to ensuring the financial sustainability of the UPI ecosystem without placing a continuing burden on the government exchequer.
The committee also noted the scale at which UPI is expected to expand. According to its report, UPI is expected to process as many as 150bn transactions a month and add 600mn (million) new users.
Against this projected scale, the committee observed that the existing government incentive covers only around 11% of the industry's actual costs and around 14% of potential MDR collections.
The panel said the inadequate compensation could affect investments in areas such as cybersecurity, fraud prevention and payment network infrastructure.
The finance ministry, however, said the incentive scheme was introduced precisely to mitigate the impact of zero MDR on the ecosystem and encourage banks and other participants to promote digital payments.
According to the ministry, the zero-MDR policy eliminated the core revenue streams of the UPI ecosystem. The government has consequently been implementing the incentive scheme to offset this impact and support the adoption of digital payments.
The incentive for FY26-27 has been provided through a budgetary allocation of ₹2,000 crore under the Budget estimates (BE) for the year.
The ministry also clarified that the incentive is paid on a reimbursement basis. Payments are made only after the transactions have been completed, and the relevant data has been submitted by banks.
The department said that because the payout is made on an actual basis, there is no issue of funds being parked as idle balances.
The committee's concern, however, is centred on whether such government support can continue as the UPI ecosystem expands rapidly and the cost of maintaining the infrastructure rises.
The proposed alternatives being examined by the government could provide a way to gradually reduce the dependence on budgetary support.
Under the first option, MDR could be restored for certain high-threshold UPI transactions or merchants. The ministry's response does not specify the transaction value or merchant categories that could be covered, nor does it indicate whether any decision has been taken to impose such charges.
The second option involves a tiered incentive structure under which government support could be reduced progressively over the next few years.
The government's response, therefore, indicates that no immediate restoration of MDR across UPI transactions has been announced. Instead, the department of financial services is examining targeted MDR and a phased reduction in incentives as possible ways to address the sustainability of the ecosystem.
The zero-MDR policy was introduced from January 2020 to accelerate digital payment adoption and encourage consumers and merchants to move away from cash towards electronic payments. Before its introduction, MDR of up to 0.30% was applicable to UPI person-to-merchant transactions.
The committee's latest observations highlight the growing tension between keeping UPI transactions free for merchants and consumers and ensuring that banks, payment service providers and other participants have sufficient revenue to maintain and expand the underlying infrastructure.
The report also comes against the backdrop of the Taxation and Other Laws (Amendment) Bill, 2026, which amended the Payment and Settlement Systems Act, 2007, allowing the government to specify electronic payment modes that may continue to receive statutory protection from charges.
However, the information provided in the report makes clear that the government has not yet permitted the levy of MDR on UPI transactions.
For now, the finance ministry's action-taken reply indicates that the government is examining two possible approaches: targeted restoration of MDR on certain high-value transactions or merchants, and a tiered incentive mechanism to gradually reduce government support.
The issue is likely to remain significant as UPI expands, with the parliamentary committee stressing the need for a financially sustainable payment ecosystem while ensuring that digital payments continue to reach users and merchants in smaller cities and towns.
Earlier in 2022, a top industry expert told Moneylife that the zero MDR on UPI is not a viable solution for the long term, and the Union government should allow charges at least for more prominent merchants and platforms and payments above ₹1,000.
The expert says, "Zero MDR is not a viable solution. When people are not commercially compensated, they may have to look up other options. Market players will have to make money from other means. However, this may not be good for the country."
Zero MDR for small merchants has actually benefited merchants and consumers in the initial days and led to massive adoption of digital payments, especially for small payments to roadside vendors and others. However, the incentive becomes absurd when it is equally applicable to large-ticket spending and big players.
"Why are we giving it free to big players like Amazon and Flipkart? Large offline and online retailers are not even bothered if the consumer uses UPI or other payment methods. They just want you to pay and complete the transaction. They do not want the customer to pay by cash because the returns for cash on delivery are around 25%. So 1% or 2% MDR has no bearing on such merchants," the expert pointed out. (Read:
For How Long Will the UPI Ecosystem Survive without MDR Charges?)
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