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Bank is a financial institution engaged primarily in mobilising deposits and forwarding loans The deposits and loans are highly differentiated in nature. Banks are regulated by the Central bank of the country—in case of India, the RBI (Reserve Bank of India). The another category of financial institution— the non-bank— is almost similar in its functions but main difference (though, highly simplified) being that it does not allow its depositors to withdraw money from their accounts.
NBFCs (Non-Banking Financial Companies)1 are fast emerging as an important segment of Indian financial system. It is an heterogeneous group of institutions (other than commercial and co-operative banks) performing financial intermediation in a variety of ways, like accepting deposits, making loans and advances, leasing, hire purchase, etc. They can not have certain activities as their principal business—agricultural, industrial and sale- purchase or construction of immovable property.
They raise funds from the public, directly or indirectly, and lend them to ultimate spenders. They advance loans to the various wholesale and retail traders, small-scale industries and self-employed persons. Thus, they have broadened and diversified the range of products and services offered by a financial sector. Gradually, they are being recognised as complementary to the banking sector due to their—
(i) customer-oriented services;
(ii) simplified procedures;
(iii) attractive rates of return on deposits; and
(iv) flexibility and timeliness in meeting the credit needs of specified sectors.
RBI, the regulator of the NBFCs, has gives a very wide definition of such companies (a kind of ‘umbrella’ definition)—“a financial institution formed as a company involved in receiving deposits or lending in any manner.”
Based on their liability structure, they have been classified into two broad categories:
(i) deposit-taking NBFCs (NBFC-D), and
(ii) non-deposit taking NBFCs (NBFC-ND).
It is mandatory for a NBFC to get itself registered with the RBI as a deposit taking company. For registration they need to be a company (incorporated under the Companies Act, 1956) and should have a minimum NOF (net owned fund)2 Rs. 2 crore.
Presently, there are 11,781 NBFCs registered with the RBI, out of which 212 are NBFCs-D and 11,569 are NBFCs-ND. They account for 14.8 per cent of the assets and 0.3 per cent of the deposits of the SCBs (Schedule Commercial Banks), respectively.3
To obviate dual regulation, certain category of the NBFCs which are regulated by other financial regulators are exempted from the regulatory control of the RBI:
(i) venture capital fund, merchant bank, stock broking firms (SEBI registers and regulates them);
(ii) insurance company (registered and regulated by the IRDA);
(iii) housing finance company (regulated by the National Housing Bank);
(iv) nidhi company (regulated by the Ministry of Corporate Affairs under the Companies Act, 1956);
(e) chit fund company (by respective state governments under Chit Funds Act, 1982).
[Detailed discussion on the Nidhi, Chit, Chitty, Kuri and MNBCs are in the following sections of this Chapter.]
Some of the important regulations relating to acceptance of deposits by the NBFCs are:
• allowed to accept and/or renew public deposits for a minimum period of 12 months and maximum period of 60 months.
• cannot accept demand deposits (i.e., the saving and current accounts).
• cannot offer interest rates higher than the ceiling rate prescribed by the
RBI.
• cannot offer gifts, incentives or any other additional benefit to the depositors.
• should have minimum investment grade credit rating.
• their deposits are not insured.
• the repayment of deposits by NBFCs is not guaranteed by RBI.
• need to maintain Capital Adequacy Ratio (CAR) norm as prescribed by the RBI.
The NBFCs registered with the RBI have different types depending on their main business:-
(i) Equipment leasing company—leasing of equipments.
(ii) Hire-purchase company—hire-purchase.
(iii) Loan company— forwarding loans.
(iv) Investment company—buying and selling of securities. These NBFCs have been reclassified into three categories:
(i) Asset Finance Company (AFC)
(ii) Investment Company (IC) and
(iii) Loan Company (LC).
Under this classification, an AFC is defined as a financial institution whose principal business is that of financing the physical assets, which support various productive and economic activities in the country. Such NBFCs are supposed to play a very vital role in financing infrastructure projects in 2016– 17, as per the Government of India.
The Union Budget 2016–17 has proposed to give additional options to NBFCs (including banks and financial institutions), for reversal of input tax credits with respect to non-taxable services. As a prudential measure (to prevent their defaulter), the RBI in mid-March 2016 made it compulsory for all deposit and non-deposit taking NBFCs to set aside 15 per cent of their aggregate capital in the debt instruments of the Central and state governments. This will function as CAR for them.
The norm of the NBFCs, which raise capital through debentures, have became stricter after the new Company Act, 2013 came into effect (w.e.f. 1 April, 2014), which are given below:
(i) They need to create a debenture redumption reserve (DRR) account out of the profits, to be used only to redeen debentures. The corpus of DRR should be atleast 50 perc cent of the amount raised through debentures.
(ii) The need to invest or deposit a sum not less than 15 per cent of the amount in the form of deposits in banks or government on corporate bounds. The amount canot be used for any purpose other than redeeming debentures.
The norms are aimed at minimising the risk of debenture buyers in an NBFC and check the mishaps like the ‘Sahara OFCD’ [for Sahara ODFC see Chapter 14].