NBFCs and its functioning


By

Puneet Ajmani
Assistant Professor
Gyan Institute of Management and Technology
Lucknow
 


WHAT ARE NBFCs?

Non-bank financial companies(NBFCs) are financial institutions that provide banking services without meeting the legal definition of a bank, i.e. one that does not hold a banking license.

NBFCs include a loan company, an investment company, asset finance company ( i.e. a company conducting the business of equipment leasing or hire purchase finance) and Residuary Non-Banking Companies. NBFCs are incorporated under the Companies Act, 1956.

NBFCs can be classified into two broad categories, viz.,

(i) NBFCs accepting public deposit (NBFCs-D) and
(ii) NBFCs not accepting/holding public deposit (NBFCs-ND).

  • An NBFC must be registered with the Reserve Bank of India (RBI) and have specific authorization   to accept deposits from the public.
  • NBFC must display the Certificate of Registration or a certified copy thereof at the Registered office and other offices/branches.
  • Registration of an NBFC with the RBI merely authorizes it to conduct the business of NBFC. RBI does not guarantee the repayment of deposits accepted by  NBFCs. .NBFCs cannot use the name of the RBI in any manner while conducting their business.
  • The NBFC whose application for grant of Certificate of Registration (CoR) has been rejected or cancelled by the RBI is neither authorized to accept fresh deposits nor renew existing deposit. Such rejection or cancellation is also published in newspapers from time to time

DIFFERENCE BETWEEN  NBFCs AND BANK

NBFCs operate almost like banks, except for running accounts, where money can be easily withdrawn by writing cheques or using a debit card.NBFCs are doing functions akin to that of banks; however there are a few differences:

  • An NBFC cannot accept demand deposits;
  • An NBFC is not a part of the payment and settlement system and as such an NBFC cannot issue cheques drawn on itself; and
  • Deposit insurance facility of Deposit Insurance and Credit Guarantee Corporation is not available for NBFC depositors unlike in case of ba

TYPES OF NBFC

Originally, NBFCs registered with RBI were classified as:

(i) Equipment leasing company:Means any company which is a financial institution carrying on as its principal business,the activity of leasing of equipment or the financing of such  activity.

(ii) Hire-purchase company- Means any company which is a financial institution carrying on as its principal business hire purchase transactions or the financing of such transactions.

(iii) Loan company—means any company which is a financial institution carrying on as its principal business the providing of finance whether of making loans or advances or otherwise for any activity other then its own

(iv) investment company- means any company which is a financial institution carrying on as its principal business the acquisition of securities

RBI REGULATIONS

The RBI Act regulates different types of NBFC'S under the provision of Chapter III- B and Chapter III- C

i) Corporate NBFCs fall under Chapter III-B, and
ii) Uncorporate NBFCs fall under Chapter III-C

  • REGISTRATION – In terms of Section 45-IA of the RBI Act, 1934, it is mandatory that every NBFC should be registered with RBI to commence or carry on any business of non-banking financial institution as defined in clause (a) of Section 45 I of the RBI Act, 1934.
  • NET OWNED FUNDS- Under Section 45 I(a) of the RBI Act, 1934 NBFC should have a minimum net owned fund of Rs 25 lakh to Rs 200 lakh
  • MAINTENANCE OF ASSETS-The NBFCs are required to invest in India in approved securities atleast 5% or higher percentage as specifiedby the RBI  from time to time,of the outstanding deposits at the close of the business on the second preceeding quarter
  • RESERVE FUND-Every NBFC must create a reserve fund to which atleast 20% of its net profit must be transferred before the declaration of any dividend
  • POWER OF REGULATION/PROHIBITION-The RBI can by general/special order regulate or prohibit the issue by any NBI the issue of any prospectus or advertisement soliciting deposits of money from the public
  • POWER TO COLLECT INFORMATION FROM ANY NBI's-The RBI can issue direction to NBIs to furnish information relating to/connected with deposits.
  • POWER TO CALL FOR INFORMATION FROM FIs AND ISSUE DIRECTIONS-To regulate the credit system,the RBI can ask for information from FIs relating to their business as well as directions for the conduct of their business
  • PENALTIES-If any prospectus/advertisement inviting deposit from the public,whoever willfully makes a false statement in any material particular knowing it to be false or willfully omits to make a material statement,would be punishable with imprisonment for a term upto three years and would also be liable to a fine.Failure by a person to produce any book/account/other documents or to furnish any statement/information/particulars is punishable with fine.The penalty imposed by the RBI is payable within 30 days from the date on which the notice demanding payment is served on the NBFC .

The Regulatory and Supervisory objective is to:

  • Ensure healthy growth of the financial companies;
  • Ensure  that  these  companies  function  as  a  part  of  the financial system within the policy framework, in such a manner that their existence and functioning do not lead to systemic aberrations;
  • The quality of surveillance and supervision exercised by the Bank over the NBFCs is sustained by keeping pace with the developments that take place in this sector  of the financial system. 

  Two aspects of NBFCs functioning

A)
REGULATORY FRAMEWORK
B) SUPERVISORY FRAMEWORK

A) REGULATORY FRAMEWORK

  • Ensure that NBFCs  serve the financial system efficiently.
  • Protect the interest of depositors.
  • The activities of NBFCs were being regulated by the provisions of Chapter III-B of the RBI Act, 1934 for over three decades. The emphasis of these regulations was, however, on the acceptance of deposit by NBFCs mainly as an adjunct to monetary and credit policy. 
  • Entry norms for NBFCs and prohibition of deposit acceptance by unincorporated bodies engaged in financial business.
  • Compulsory registration, maintenance of liquid assets and creation of reserve fund.
  • Power of the RBI to issue directions for NBFCs.

Basic Structure

  • Comprehensive regulation and supervision of deposit taking NBFCs and limited supervision over those not accepting public deposits.
  • Prescription of prudential norms akin to those applicable to banks.
  • Submission of periodical returns for the purpose of off-site surveillance
  • Asset liability and risk management system for NBFCs
  • Punitive action like cancellation of Certificate of Registration (CoR), prohibition from acceptance of deposits and alienation of assets.  
  • For Protection Of Depositors'Interest

  • Co-ordination with State Governments to curb unauthorized and fraudulent activities.
  • Publicity for depositors' education and awareness, workshops / seminars for trade and industry organizations

B) SUPERVISORY ASPECTS:

Reserve Bank of India has instituted a comprehensive supervisory mechanism

  • On-site Inspection
  • Off-site Surveillance System
  • Market intelligence

ON-SITE INSPECTION:

It includes that an NBFC

1. Is complying with regulatory stipulation and supervisory guidelines
2. Has adequate capital and liquidity
3. Is being properly managed
4. Has adequate systems and controls in place

OFF-SITE SURVEILLANCE: 

It  includes to be an in house review and an analytical system based on receipt of various statutory returns and other statements from the supervised entites at fixed intervals.

MARKET INTELLIGENCE:

It includes a system of capturing developments that takes place in the financial services sector through various channels including press,electronic media and put the information to proper use with utmost sensitivity so that RBI  remains alert in its actions.

References:

www.rbi.org.in
www.investopedia.com
Khan-Indian Financial System ,Tata McGraw-Hill Education
Bhole- Financial Institutions & Markets,Tata McGraw-Hill Education
 


Puneet Ajmani
Assistant Professor
Gyan Institute of Management and Technology
Lucknow
 

Source: E-mail June 23, 2011

          

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