EXECUTIVE SUMMERY :

INTRODUCTION TO NBFC NBFCs are those types of companies which are not banking companies but engaged in the business activities related to loan, finance, investment, leasing, hire-purchase and other fund based activities. These companies are required to comply with the provisions of RBI Act and the rules and directions thereof, in addition to the provisions of Companies Act, 1956.

A non-banking institution which is a company and which has its principal business of receiving deposits under any scheme or arrangement or any other manner, or lending in any manner is also a non-banking financial company (Residuary non-banking company). Non-Banking Financial Companies (NBFCs) are a set of financial service companies that are quite unique to India in terms of their size and the range of services provided by them. Non banking finance companies which are heterogeneous in nature in terms of activity and size are important financial intermediaries and an integral; part of the Indian financial system. The main advantages of NBFCs lie in the lower transaction cost, quick decision making, and customer orientation and prompt provision of services. They have been able to carve out a niche for themselves in meeting the credit needs of both wholesale and retail customer. Their number has gone up from 7063 in 1981 to 51929 in 1996. Of these only 20% used to submit returns to the RBI. In 1996, the regulated deposits of NBFC have amounted to Rs. 38110 crores. NBFCs attracted a large number of small investors since the rate of return on deposits with them was relatively high.DEFINATION NBFC can be defined is an institution which mobilizes the saving of the community and diverts them for financing different activity. Investment Company, investment trust, NIDHIS, hire purchase and leasing company housing finance corporation specialized in giving loans for consumption, commerce and trading purpose. They have close links and they constitute small scale decentralized sectors of the financial system in India. In order to identify a NBFC, RBI considers both assets and income pattern of the company as evidence from last audited balance sheet. A company is treated as NBFC if its financial assets are more than 50% of its total assets and income from the financial asset should be more than 50% of gross income.STATUTORY DEFINITION UNDER THE RBI ACTNBFC is defined under sec. 45-I (f) 1 non-banking financial company means-

(i) A financial institution which is a company;

(ii) A non banking institution which is a company and which has as its principal business the receiving of deposits, under any scheme or arrangement or in any other manner, or lending in any mannerThe Non Bank Finance Companies are categories into An Equipment Leasing Company (EL) Hire Purchase Company (HP) Housing Finance Company (HFC) An Investment Company (IC) A Loan Company (LC) Mutual Benefit Financial Company (MBFC), i.e. NIDHIS Companies. Miscellaneous Non-Banking Company, i.e. Chit Fund Companies.

Initially in 1998 NBFCs were broadly classified into 4 parts namely

(i) Equipment leasing company;

(ii) Hire-purchase company;

(iii) Loan company;

(iv) Investment company.

With effect from December 6, 2006 the above NBFCs registered with RBI have been reclassified as

(i) Asset Finance Company (AFC)

(ii) Investment Company (IC)

(iii) Loan Company (LC)

BACKGROUND Till 1990s, NBFCs constituted a significant part of the Indian financial services industry and complemented the services provided by a bank. They were a heterogeneous group of intermediaries of varying size and provided a range of services. They were characterized by their ability to provide niche financial services and due to their relative organizational flexibility; they were often able to provide tailor-made services relatively faster than banks and financial institutions. This enabled them to build up a wide-ranging clientele from small borrowers to establish corporate.

The main categories - Equipment leasing company (EL), Hire Purchase finance company (HP), Investment Company (IC), Loan Company (LC) and Residuary Non-Banking Company (RNBCs - large companies not coming under any one particular category). Table below gives the activity-wise distribution of assets of NBFCs. Hire purchase finance, mostly consisting of retail funding of cars, commercial vehicles and consumer durables was the primary activity, followed by loans and inter-corporate deposits. NBFCs achieved their zenith in early 1990s. Their accelerated expansion in 90s was driven by the opportunities created by the process of financial liberalization. However, their rapid growth resulted in unhealthy practices and certain disconcerting developments. In response to this, RBI considerably tightened its supervisory and regulatory framework over NBFCs in 1998.

Major Components of Liabilities of NBFC Groups

The figure below presents the major components of liabilities of NBFCs group-wise. Among the NBFC groups, assets and liabilities of hire purchase, finance companies and equipment leasing companies increased marginally in 2004-05.Assets/Liabilities of investment and loan companies declined in 2004-05 reflecting the impact of resources raised. Hire purchase finance companies, the largest NBFC group constituted 59.2% of total assets/liabilities of all NBFCs at the end of March, 2005 followed by loan companies (15.7%), equipments leasing companies (14.0%) and investment companies (5.6%)

Activity-wise distribution of asset of NBFCs (as on march 31)

(Rs. in crore)

Activity200320042005

1. Loans Companies

2. Investments

3. Hire purchase

4. Equipment and leasing

5. Bills

6. Other assets13,398

4,338

13,031

2,011450

4,581

12,3633,818

11,649

1,115

436

3,37511,3013,508

14,200

78

463

3,592

Total37,80932,75633,843

TYPES OF NON BANKING ENTITIES (Regulated by RBI)Non-Banking Financial EntityPrincipal Business

Non Banking financial CompanyIn terms of the Section 45-l(f) read with Section 45-i(c) of the RBI Act, 1934, as amended in 1997, their principal business is that of receiving deposits or that of a financial institution, such as lending, investment in securities, hire purchase finance or equipment leasing.

Equipment leasing company (EL)Equipment leasing or financing of such activity.

Hire purchase finance company (HP)Hire purchase transactions or financing of such transactions.

Investment company (1C)Acquisition of securities. These include Primary Dealers (PDs) who deal in underwriting and market making for government securities.

Loan company (LC)Providing finance by making loans or advances, or otherwise for any activity other than its own; excludes EL/HP/Housing Finance Companies (HFCs).

Residuary non-banking company (RNBC)Company which receives deposits under any scheme or

arrangement by whatever name called, in one lump-sum or in instalments by way of contributions or subscriptions or by sale of units or certificates or other instruments, or in any manner. These companies do not belong to any of the categories as stated above

Mutual Benefit Financial Company (MBFC) i.e., Nidhi CompanyAny company which is notified by the Central Government as a Nidhi Company under section 620A of the Companies Act, 1956

Mutual Benefit Company (MBC), i.e., potential Nidhi companyA company which is working on the lines of a Nidhi company but has not yet been so declared by the Central Government, has minimum net owned fund (NOF) of Rs.10 lakh, has applied to the RB1 for CoR and also to Department of Company Affairs (DCA) for being notified as Nidhi company and has not contravened directions/ regulations of RBI/DCA.

Miscellaneous Non-Banking Company (MNBC)Miscellaneous Non-Banking Companies are the companies engaged in the chit fund business

Current Scenario1. 13000+ players registered under RBI: A & B categories

2. Spread all across the country

3. Approx. 570 NBFCs authorized to accept public deposits (Catg. A)

4. Assets worth Rs. 15000 Crore financed annually & growing steadily

Service provide by NBFC Non banking institute frequently acts as: 1. Supplies of loan and credit facility

2. Supporting investment in property

3. Trading money market instrument

4. Funding private education

5. Wealth management such as managing portfolio of stock and share

6. Underwrite stock and share, TFCs and other obligation

7. Retirement planning

8. Advise companies in merger and acquisition

9. Prepare feasibility market or industry studies for companies

10. Discounting service e.g. discounting of instrument

DIFFERENCE BETWEEN NBFC AND BANKNBFCBANK

1. A NBFC cannot accept

Demand deposits.1. A bank can accept demand

Deposits.

2. It is not a part of the

payment and settlement system

and as such cannot issue

cheques/Demand Drafts to its

Customers.2. A bank can issue cheques/

Demand Drafts to its

Customers.

3. Deposit insurance facility of

Deposit Insurance and Credit

Guarantee Corporation

(DICGC) is not available for

NBFC depositors.3. Deposit insurance facility

of DICGC is available for

Banks depositors and their

money is pari passu secured.

4. A NBFC is allowed to accept/renew public deposits for a minimum period of 12 months and maximum period of 60 months.4. A bank is more flexible in terms of accepting public deposits.

IMPORTANCE OF NBFCNBFCs perform a diversified range of function and offer various financial services to individual, corporate, and institutional clients. They have been helping to bridge the credit gaps in several sectors which traditional institutions such as banks are unable to fulfill. They have been playing a positive role in accessing certain depositor segments and catering to specialized credit requirements of certain classes of borrowers. They have served the household firm and small enterprise sector on a sustained basis. A thriving, healthy and growing non-banking financial sector is necessary for promoting the growth of an efficient and competitive economy.

At the same time many activities and function of NBFCs are similar to those of banks. Over the distinction between them and the banks has become considerably blurred. It is true that NBFCs, unlike banks are still not a part of payment mechanism; they cannot create money. But in many other respects, they have a relationship of substitution and complementarily with banks, particularly in the fields of both deposit mobilization and lending. Initially intended to serve varied financial needs of savers and investors, the NBFCs gradually underwent a stage of fortification. A gradual cross-penetration of markets, both by banks and NBFCs, resulting in the erosion of the distinction within the group of NBFCs, and between them and banks came about as a result.

Non Bank Financial Companies are financial institution that provides banking services without meeting the legal definition of a bank, i.e. one that does not hold a banking license.

Non bank companies frequently acts

As suppliers of loans and credit facilities Supporting investment in property

Providing service relating to events within people lives such as funding private education, wealth management and retirement planning. However they are typically not allowed to take deposit from the general public and have to find other means of funding their operation such as issuing debt instruments.

They advance loans to the various wholesale and retail traders, small- scale industries and self employed persons.

They have broadened and diversified the range of products and service offered by a financial sector

They are being recognized as complementary to the banking sector due to their

customer- oriented service simplified procedures attractive rates of returns on deposits Flexibility and timeliness in meeting the credit needs of specified sector etc.The Regulation of the deposit acceptance activities was undertaken initially to effectively supervise, control and regulate them. The role of NBFCs has become increasingly important in todays period of rapid `financial isation'.Classification of Non-Banking Finance Company Hire purchase finance company

Investment company

Chit fund company

Mutual benefit finance company

I. Hire Purchase Finance Company

In case of hire purchase finance company the goods are delivered by the owner to another person on the agreement that such person pays the agreed amount in periodical installment. The property or the goods passes to such person only on payment of the last installment. Thus the hire purchase transaction theoretically the seller continues to retain the title of the asset. The seller has a right to take back the possession of goods in case the buyer fails to make payment of all installments.

E.g. The business customer chooses the equipment it requires and the finance company buys it on behalf of the business. The business customer uses the asset over a fixed period, in return for regular payments. II. Investment Company

It is the institution who pulls the saving of the people by the issue of shares and debenture and resort to other forms of borrowing in order to make investment of these resources in wide range of industrial securities. These companies provide the best opportunity of investment to the small savers and investors. These companies also employ expert investment analyst for determining the worth investment. It is basically any financial intermediary whose principal business is that of buying and selling of securitiesThere are mainly two kinds of Investment Company

1. Management Investment company

2. Unit Trust

The management investment company are discretionary trust who enjoy power on the choice of composition of their investment portfolio whereas unit trust is an investment company which is designed to attract the saving of small investors by selling their unit and employ the saving in corporate securities in order to earn safe and fair returns on such investment

E.g. SBI Mutual Fund.

III. Chit Fund Company

It is the oldest form of NBFC having their origin in South India. Chit means a written note on a small piece of paper. These companies collect small amount of money from their members regularly and finance the same to the members for their business requirement or personal required

They are voluntary organization unregistered with the government.

Although, these days Chit Fund Company are required registration.

Chit Fund Company are divided into three categories

1. Simple chit - Where every member pays equal amount of funds is given to one member without deduction.

2. Price chit This is like a lottery. The amount is collected from the members regularly and a random number is selected by lottery to which the fund is given. The lucky person will get the amount early the unlucky one will get at the end.

3. Business chit The entire member collect a fixed amount per month to the common fund. The number of members in a group and number of draws are equal. The draws are held regularly. At the time of draw the total collection of the month are distributed by the drawing lot or by conducting an auction. The highest bidder will get the amount.

IV. Mutual Benefit Finance Companies (MBFCS)Mutual benefit finance companies (Nidhis) were exempt from most of the provisions of the Reserve Banks NBFCs directions. However, the RBI imposed on JULY8, 1996, a ceiling of 15% interest rate on deposits and prohibited them from issuing advertisements in any form and paying any brokerage for soliciting deposits. NBFCs deposit interest the rationalization measures for registered NBFC. The ceiling however does not apply unless MBFCs have positive net-owned funds (NOFs) as on March 31, 1996, will be able to repay the amount of their liabilities including the interest payable to their depositors and have a ratio of NOF to deposits not exceeding 1:20 as on the date of application.

Again on January 15, 1997, the prescribed ratio of NOF to deposits not exceeding 1:20 was made applicable only on the incremental deposit liabilities after January 15, 1997. However, MBFCs with NOF to deposit ratio of 1:20 or less on January 1997 should not exceed the prescribed ratio of 1:20 on the aggregate deposit liabilities.REGULATION OF NBFCsNBFCs (Non Banking Financial Companies) are reported periodically to be under the RBI (Reserve Bank of India) lens for one reason or the other. Under the circumstances, any effort by RBI to rationalize the regulatory framework of NBFCs is highly welcome. Of particular concern to RBI appears to be the exposure of those NBFCs that even while not accepting deposits from the public are still raising resources from banks and financial institutions and diverting to the stock market. The evolution of RBI as the banking sector regulator to also being the regulator for NBFCs has not been well planned. A particularly manifest evidence of this is the confusion in legislation and in policy reflected in the multiplicity of overlapping and irrational classifications of the various types of NBFCs.

REGISTRATION WITH RBI:

In 1997 sec 45 I (a) all non bank had to compulsory registration to carry on any financial business.

A NBFC (Non Banking Finance Company) mobilises saving of people and divert the same for financing different activity. A banking company also performs similar type of activity but a banking company is governed by banking regulation act 1949. plus a banking company accept short term and long term deposit with no limits the money can be withdrawn by cheque and no limit is prescribed whereas incase of Non Banking Finance Company these facilities are not availableLIBERALIZATION MEASURE FOR NBFC The RBI announced liberalization measures for NBFC on July 24, 1996. They are aimed at encouraging discipline NBFC which run on sound business principle. The two major classification of NBFC are I. Equipment leasing, hire purchase companies (financial companies)II. Loan and investment companies. Loan and investment companies were further divided into 4 major categories by the RBI circular. They are:

a. Registered finance companies complying with credit rating requirements and prudential Norms.b. Registered finance companies complying with either credit rating requirements or prudential norms.c. Registered finance companies complying with neither the credit rating requirements nor prudential norms.

d. All other finance companies.

Category (i) finance companies will now enjoy the following benefits:

a) No ceiling on deposits.

b) Freedom to determine the rate of interest on deposits.

c) SLR reduced from 15 per cent to 12.5 per cent.

Category (ii) companies, only the maximum ceiling on deposits will be removed and other benefits available to category (i) will not be available.

Category (iii) companies will not enjoy the above benefits and will have to comply with the following requirements: a) The overall ceiling on deposits reduced with immediate effect form ten times the net owned funds (NOF) to seven. b) Rate of interest and SLR requirements remain unchanged.

Category (iv) companies have to reduce their deposits with immediate effect from ten times of NOF to five. The benefits listed under categories (i) and (ii)will be available only on obtaining a certificate of compliance from the RBI. There is no ceiling on the maximum amount of deposits which can be accepted by the finance companies and the rate of interest offered on them. The rate of interest may vary from company to company depending on their resource mix and advances portfolio.

Generally, in case of BANK FUNDING even though there is a risk of interest mismatch present, the maturity mismatch is almost ruled out. Even though cash credit limits are sanctioned for a period of one year, the limits are renewed by every year except in rare cases. Again, bank funding is cheaper compared to the cost of sourcing fixed deposits. Hence, finance companies which rely more on bank funding stand to gain in the process.

Non-Banking Finance Companies (Reserve Bank) DirectionsRBI announced a set of measures to protect the interest of depositors and provide more effective supervision of NBFCs. The regulations stipulate on the NBFCs, an upper limit both on public deposits to be accepted and the rate of interest on deposits in order to restrain them from offering incentives and mobilize excessive deposits. The disclosure requirements have been strengthened and responsibilities cast on the Board of Directors and auditors of the companies to ensure proper conformation deposit regulations and prudential norms prescribed by RBI. The supervisory mechanism for NBFCs is based on three criteria :(a)Size(b)Activity(c) Acceptance or otherwise of deposits

CategorizationofcompaniesFor the purpose of the new regulation, NBFCs have been divided into three broad categories as indicated below:1)NBFCs accepting public deposits2) NBFCs not accepting public deposits but are engaged in loan,

investment, hire purchase finance and equipment leasing activities 3) NBFCs not accepting public deposits and have acquired share/securities in their own group/holing /subsidiary companies of not less 90 per cent of their total assets and are not trading in these shares/securities Reserve Bank of India (Amendment) Act, 1997 The activities of the NBFCs accepting deposits from public are regulated by the provisions chapter IIIB of the RBI Act, 1934. It was generally felt that these provisions were neither adequate to regulate the business activities of these companies nor did they provide adequate protection to the depositors. Therefore, the RBI Act, 1934 was amended as Reserve Bank of India (Amendment) Act, 1997 the changes made, in main, relates to as follows:

1. Compulsory registration of NBFCs with RBI with minimum net owned funds (Section 45IA)

2. Maintenance of liquid assets (Section 45IB)

3. Creation of reserve funds and transfer of certain percentage of profits every year to the fund (Section 45IC)

4. Minimum NOF of Rs. 25 lakh (which can be raised to Rs 2 crore)5. Issue of directions by RBI to NBFCs and the auditors relating to annual accounts, disclosure of liabilities or any other matter and to order special audit (Section 45MA)

6. Prohibit acceptance of deposits by NBFCs and alienation of assets (Section 45MB)

7. RBI is empowered to file a petition for winding up of an NBFC (Section 45MC)

8. Power to conduct inspection (Section 45N)

9. Power of RBI to impose fine (Section 58G)

10. Nomination facility for deposits held by the NBFCs has been introduced on the lines of bank deposits under section 45ZA of Banking Regulation Act, 1943. The primary purpose of this provision is to regulate the acceptance of public deposits by NBFCs of all categories, with a view to safeguard the interest of the depositors. (Section 45QB).

Task Force on NBFCs (1998) The Government of India constituted a Task Force in August 1998, to review the existing regulatory framework and addressing some of the short changes in dealing with the investors complaints. The report submitted in October, 1998 recommended.

a. Higher CRAR of 15% for NBFCs seeking public deposits without credit rating

b. Ceilings on investment in real estate and capital market, especially unquoted shares

c. Upward revision of NOF

d. Tightening norms for exposures to connected companies

e. Review of particulars to be disclosed in the advertisements

f. Access to loans from corporate by unincorporated bodies

Reserve Bank of India (Amendment) Act, 20001. Exemption from the purview of registration, maintenance of liquid assets and transfer of profits to reserve funds

a. NBFCs engaged in micro-financing activities.

b. NBFCs licensed under Sec 25 of the Companies Act, 1956 and

c. NBFCs not accepting public deposits.

2. Exemption from the requirement of registration, maintenance of liquid assets, creation of reserve fund and directions on acceptance of public deposits and prudential norms as applicable to Nidhi Companies, of Mutual Benefit Companies.

3. Introduction of regulations in respect of opening and closing of branches with an obligation of the auditors to report no-compliance.

4. NBFCs have to constitute audit committees if their assets exceed Rs. 50 crore.

5. NBFCs have to follow uniform accounting year of March 31 every year.

6. Returns on liquid assets need not be submitted by NBFCs for not holding public deposits.

Rationalisation of Regulations for NBFCs and Residuary Non-banking - June, 2000a. Rationalisation of provisioning norms in respect of lease and hire purchase assets.

b. In the case of new depositors, copy of passport, ration card, election ID card identification by an existing depositor have to be obtained and kept in records.

c. Permission to RNBC to invest in any mutual fund approved by SEBI and lowering of ceiling on interest rates payable by these companies by two percentage points.

d. NBFCs can accept deposits from relatives of Directors.

e. Rationalisation of the formats of statutory returns to facilitate electronic processing.

Eligibility Criteria for Entry into Insurance June, 2000

NBFCs can undertake insurance business as a joint venture participant, act as an agent of insurance companies on a fee basis without any risk participation and invest in equity of insurance companies.

Asset Liability Management, 27.06.2001ALM guidelines for NBFCs (including RNBCs) which have an asset size of Rs. 100 crore and above or public deposits of Rs. 20 crore and above has been placed into ALM system in the year 2002. Chit funds and Nidhis are kept out.

Rationalisation of Guidelines (January 1, 2002)Companies whose application for Certificate of Registration have been rejected or cancelled should continue to repay their deposits if any on due dates and dispose off their financial assets or convert into non-banking non-financial company within three years from the date of rejection or/cancellation. Classification of Investment (January 1, 2002)

NBFC should classify investment into current and long- term at the time of making investments, make interclass transfer only at the beginning of half year and not on ad hoc basis at the lower of book value or market value and depreciation should be provided and appreciation ignored.

Identification of NPAs (April 22, 2002)NBFC should classify investment into current and long-term at the time of making investments, make interclass transfer only at the beginning of half year and not on ad hoc basis at the lower of book value or market value and depreciation should be provided and appreciation ignored.

Prepayment Norms (October 4, 2004)

The minimum lock in period of three months from the date of acceptance of deposits fro NBFCs and miscellaneous Non-Banking Companies and 12 months for RNBCs within which they cannot repay a public deposit (in case of NBFCs) or deposit in case of NBFCs, MNBCs and RNBCs or grant if any loan against such deposits was retained. Prudential ceilings for exposure of banks toNBFC, 2010

The exposure (both lending and investment, including off balance sheet exposures) of a bank to a single NBFC / NBFC-AFC (Asset Financing Companies) should not exceed 10% /15% respectively, of the bank's capital funds as per its last audited balance sheet. Banks may, however, assume exposures on a single NBFC / NBFC-AFC up to 15% / 20% respectively, of their capital funds provided the exposure in excess of 10% / 15% respectively, is on account of funds on-lent by the NBFC.

NBFC FOR AN INVESTORNon-banking financial institutions (NBFCs), engaged in varied financial activities are part of the Indian financial system providing a range of financial services. NBFCs are incorporated under the Companies Act, 1956. NBFCs can be classified into two broad categories (i) NBFCs accepting public deposit (ii) NBFCs not accepting/holding public deposit and Residuary Non-Banking Companies (RNBCs) are another category of NBFCs whose principal business is acceptance of deposits and investing in approved securities. In the interest of depositors, RBI has evolved a regulatory framework the salient features of which are outlined below for the guidance ofdepositors. However, the investors must carefully evaluate their investment decisions while investing in NBFCs, as the instructions below are illustrativeand not exhaustive

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.

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 byNBFCs. NBFCs cannot use the name of the RBI in any manner while conducting their business.

NBFCs which accept deposits should have minimum investment grade credit rating granted by an approved credit rating agency for deposit collection, except certain Asset Finance (equipment leasing and hire purchase finance) companies and Residuary Non-Banking Companies (RNBCs) NBFCs excluding RNBCs cannot

- Offer arate of interest on deposits more than that approved by RBI from time to time (at present 12.5%).

- Accept deposit for a period less than 12 months and more than 60 months - Offer any gifts/incentives to solicit deposits from public.

RNBCs should

- Offera rate of interest ofnot less than 5% per annum on term deposits and 3.5% on daily deposits, both compounded annually, under extant directions.

- RNBCs cannot accept deposits for a period less than 12 months and more than 84 months.

- RNBCs cannot offer any gifts/incentives to solicit deposits from public

NBFCs including RNBCs can

- Accept deposit only against issue of proper receipt. - The receipt should bear the name of the company and should be signed by an authorized official of the company. - The receipt should mention the name of the depositor, the amount in words as well as figures, the rate of interest payable on the deposit amount and the date of repayment of matured deposit along with the maturity amount.

In the case of brokers/agents etc collecting public deposits on behalf of NBFCs, the depositors should satisfy themselves that the brokers/agents are duly authorized by the NBFC.

If a deposit taking NBFC fails to repay the deposit or the interest accrued thereon in accordance with the terms and conditions of acceptance of such deposit, redressal of grievance can be through

Acceptance of deposits by companies engaged in activities including plantation activities, commodities trading, multilevel marketing, manufacturing activities, housing finance, nidhis (mutual benefit financial companies), and potential nidhis (mutual benefit company) and companies engaged in collective investment schemes do not come under the purview/regulations of the RBI.

Individuals,firmsand other unincorporated association of individuals or bodies shall not accept deposits from the public

Salient features of an NBFCSome of the important regulations relating to acceptance of deposits by NBFCs are as under:

i. The NBFCs are allowed to accept/renew public deposits for a minimum period of 12 months and maximum period of 60 months. They cannot accept deposits repayable on demand.

ii. NBFCs cannot offer interest rates higher than the ceiling rate prescribed by RBI from time to time. The present ceiling is 12.5 per cent per annum. The interest may be paid or compounded at rests not shorter than monthly rests.

iii. NBFCs cannot offer gifts/incentives or any other additional benefit to the depositors.

iv. NBFCs should have minimum investment grade credit rating.

v. The deposits with NBFCs are not insured.

vi. The repayment of deposits by NBFCs is not guaranteed by RBI Nomination facility available to the Depositors of NBFCsNomination facility is available to the depositors of NBFCs. The Rules for nomination facility are provided for in section 45QB of the Reserve Bank of India Act, 1934. Non-Banking Financial Companies have been advised to adopt the Banking Companies (Nomination) Rules, 1985 made under Section 45ZA of the Banking Regulation Act, 1949. Accordingly, depositor/s of NBFCs are permitted to nominate one person to whom the NBFC can return the deposit in the event of the death of the depositor/s. NBFCs are advised to accept nominations made by the depositors in the form similar to one specified under the said rules. Depositor while depositing money with NBFCsWhile making deposits with an NBFC, the following aspects should be borne in mind:

(i) Public deposits are unsecured. (ii) A proper deposit receipt which should, besides the name of the depositor/s, state the date of deposit, the amount in words and figures, rate of interest payable and the date of maturity. Depositor/s should insist on the above and also ensure that the receipt is duly signed by an officer authorized by the company in that behalf.(iii) The Reserve Bank of India does not accept any responsibility or guarantee about the present position as to the financial soundness of the company or for the correctness of any of the statements or representations made or opinions expressed by the company and for repayment of deposits/discharge of the liabilities by the company.

If an NBFC defaults in repayment of deposit, the depositor can approach Company Law Board or Consumer Forum or file a civil suit in a court of law to recover the deposits.Technical terms that needs to be understood

1. Owned fund in relation to NBFCsOwned Fund means aggregate of the paid-up equity capital and free reserves as disclosed in the latest balance sheet of the company after deducting there from accumulated balance of loss, deferred revenue expenditure and other intangible assets.2. Net owned fund in relation to NBFCsNet Owned Fund is the amount as arrived at above minus the amount of investments of such company in shares of its subsidiaries, companies in the same group and all other NBFCs and the book value of debentures, bonds, outstanding loans and advances made to and deposits with subsidiaries and companies in the same group, to the extent it exceeds 10% of the owned fun3. Capital adequacy ratio Capital adequacy ratio(CAR), also calledCapital to Risk (Weighted) Assets Ratio(CRAR) is aratioof abank'scapitalto itsrisk.National regulatorstrack a bank'sCARto ensure that it can absorb a reasonable amount of lossand are complying with their statutoryCapital requirements.

Tier I capital is the core capital or net owned funds including paid up capital and free reserves.

Tier II capital includes quasi-capital like preference shares, convertible debentures, subordinated debts, etc.

ROLE OF NBFCs

As recognized by RBI & Expert Committees a. Development of sectors like Transport & Infrastructure

b. Substantial employment generation

c. Help & increase wealth creation

d. Broad base economic development

e. Irreplaceable supplement to bank credit in rural segments

f. Major thrust on semi-urban, rural areas & first time buyers

g. To finance economically weaker sections

h. Huge contribution to the State exchequer70-80% of Commercial Vehicles are finance driven

a. Indian economy is more dependent on roads

b. Heavy Govt. outlay for mega road projects

c. Heavy replacement demand anticipated 30 lacs commercial vehicles by the year 2007

d. Another Rs.6000 Crores required for phasing out old commercial vehicles

CRISIL in its study has placed commercial vehicle financing under low risk category

e. Each commercial vehicle manufactured, sold and financed gives employment to minimum 20 persons (direct and indirect)

Questions frequently asked

Qs. The companies which are NBFCs, but exempted from registration?A. Housing Finance Companies, Merchant Banking Companies, Stock Exchanges, Companies engaged in the business of stock-broking/sub-broking, Venture Capital Fund Companies, Nidhi Companies, Insurance companies and Chit Fund Companies are NBFCs but they have been exempted from the requirement of registration under Section 45-IA of the RBI Act, 1934 subject to certain conditions.Housing Finance Companies are regulated by National Housing Bank, Merchant Banker/Venture Capital Fund Company/stock-exchanges/stock brokers/sub-brokers are regulated by Securities and Exchange Board of India, and Insurance companies are regulated by Insurance Regulatory and Development Authority.

Qs. There are some entities (not companies) which carry on activities like that of NBFCs?A. Any person who is an individual or a firm or unincorporated association of individuals cannot accept deposits except by way of loan from relatives, if his/its business wholly or partly includes loan, investment, hire-purchase or leasing activity or principal business is that of receiving of deposits under any scheme or arrangement or in any manner or lending in any manner.

Qs. Residuary Non-Banking Company (RNBC) in what way it is different from other NBFCs?

A. Residuary Non-Banking Company is a class of NBFC which is a company and has as its principal business the receiving of deposits, under any scheme or arrangement or in any other manner and not being Investment, Asset Financing, Loan Company. These companies are required to maintain investments as per directions of RBI, in addition to liquid assets. The functioning of these companies is different from those of NBFCs in terms of method of mobilization of deposits and requirement of deployment of depositors' funds as per Directions. Besides, Prudential Norms Directions are applicable to these companies also.Qs. Is there an Ombudsman for hearing complaints against NBFCs?

A. No, there is no Ombudsman for hearing complaints against NBFCs.

Qs. Can NBFCs accept deposits from NRIs?A. Effective from April 24, 2004, NBFCs cannot accept deposits from NRI except deposits by debit to NRO account of NRI provided such amount do not represent inward remittance or transfer from NRE/FCNR (B) account. However, the existing NRI deposits can be renewed.Qs. Can RNBC forfeit deposit if deposit installments are not paid regularly or discontinued?A. No Residuary Non-Banking Company shall forfeit any amount deposited by depositor, or any interest, premium, bonus or other advantage accrued thereon.Qs. What is the CRAR of NBFCs?A. NBFCs holding/accepting public deposits are required to maintain CRAR as follows:

1. Equipment leasing companies/hire purchase companies

(With minimum investment grade MIG credit rating)

12%

2. Equipment leasing companies/hire purchase companies

(Without MIG credit rating)

15%

3. Loan/investment companies

15%

4. RNBCs

12%

NBFCs SHOULD BE ENCOURAGEDOver the years, in its DEVELOPMENTAL role, the RBI has been attempting to expand credit by exhortation. But public sector banks have proved that even with their best efforts they are able to reach only a limited extent of credit expansion.The experiment of Regional Rural Banks, Urban Co-operative Banks and Kisan Credit Cards has also been a mixture of success and failure. It is in this background that has proven successful record of credit growth, exemplified by the NBFCs, deserves to be replicated at least in respect of their better features by the banking system.

Commercial banks by their very nature cannot take on all the features of NBFCs, but they can collaborate with NBFCs by extending credit and participation in the securitization.

While the flow of bank finance will help, it will be more important to remember that NBFCs started by accessing public deposits. These can be an additional window for savings. All this would of course require a change of mindset on the part of both our regulators and policy-makers.

If something works, and works well, why discard it? NBFCs are working.

BANKING/NBFC PARTICIPATIONThere is a lot of cheer amongst the banking fraternity, especially the Non-Banking Financial Services Companies (NBFCs) as the sector is open for them as well. But there are strict guidelines governing their entry into the sector.

The five main parameters lay down by the apex bank, the Reserve Bank of India for the NBFCs and the banking sector are:

A required minimum net worth of Rs.5 billion

A minimum capital adequacy ratio of 10%

Entry through a joint venture

The company should have a net profit record for last three years

The net non-performing assets (NPAs) that are considered reasonable and

A sound financial track record in the case of subsidiaries as well;

Recent guidelines provide for a maximum 50% holding in the insurance venture for banks and financial institutions. Significantly, the Indian company will have to divest its stake, which is more than 26%, after a period of 10 years.

Also, if the share transfer results the increase in holding of the bank or any other company, by 2.5% of the companys paid up capital, then prior permission of the IRDA will be required. This figure is 5% for any other type of investor.

For NBFCs, the other eligibility criteria for joint venture participant will be:

The capital adequacy ratio of the NBFC engaged in loan and investment activities holding public deposits should be not less than 15% and for other NBFCs 12% ;

The level of non-performing assets should be not more than 5% of the total outstanding leased or hire purchase assets and advances taken together.

Norms for NBFCs to become banks

In January 2001 the RBI allowed the NBFCs fulfilling the following eligibility criteria to become private sector banks:

1. The NBFCs should have a minimum net worth of Rs. 200 crore as per the latest balance sheet. It should be increased to Rs. 300 crore within 3 years from the date of conversation into a bank.

2. The NBFCs should not have been promoted by a large industrial house or owned controlled by public authorities, including local, state or central govt.

3. The NBFCs should have acquired a credit rating of not less than A rating in the previous year

4. The NBFCs should have an impeccable track record in compliance with Reserve bank regulation/ directions and in repayment of public deposits.

5. The NBFCs should have capital adequacy ratio of not less than 12% and its net NPAs should not be more than 5%.

RBI eased NBFC norms for foreign banks in the year 2007

The Reserve Bank of India had relaxed its policy on granting licenses to foreign banks for setting up non-banking finance companies (NBFCs). For the first time in recent years, the central bank had issued an NBFC license to a foreign bank Deutsche Bank.

The last time RBI had issued an NBFC license was in 2003, when it allowed Standard Chartered Bank to open a fully-owned NBFC. According to industry sources, the bank is said to have received the license last week.

The new NBFC of Deutsche Bank was a wholly-owned subsidiary of the German major and is doing both corporate and consumer finance business.

The NBFC was capitalised by over $50 million. It had applied to RBI for the license in 2004 and had subsequently received the FIPB (Foreign Investment Promotion Board) approval for the same. The new company Deutsche India Holdings could be the holding and Investment Company for various existing and future operating subsidiaries of the bank in India. The German bank had kicked off its retail business in the country in the latter half of 2005. It currently offers credit cards, personal loans and home loans.

In the retail segment, the Deutsche group has used NBFC for its consumer finance and mortgage business while on the corporate side it has look at structured finance. RBI has been concerned that foreign banks were using a combination of the banking and NBFC license to defeat the purpose of branch licensing and was, therefore, going slow on these licenses.Earlier, when foreign banks with primary dealership arms sought to merge the primary dealership business with the banking unit, the central bank turned down proposals to convert the primary dealership companies into non-banking finance companies. The central bank had asked these foreign banks to surrender their licenses for entities which were looking at such conversions.

Unlike banks, where RBI gives not more than two to three branch licenses, there are no such restrictions on NBFCs. Also, unlike banks, an NBFC can also do acquisition financing. In most cases, foreign banks have been using their NBFCs for consumer finance business and corporate finance business such as promoter financing and acquisition financing.

The capital market exposures for banks are capped at 40% of net worth. However, for NBFCs, there is no such cap and in many cases, the capital market exposure for some of them is over 100%. However, with new norms, these foreign banks along with their NBFCs have to now follow consolidated prudential norms.

These NBFCs prefer to have their branches near to the customer for their consumer finance business. This business normally consists of personal loans to the lower end of the spectrum and also working capital loans to traders and shopkeepers. In recent times, RBI has granted licenses to a host of non-bank foreign players including AIG, Merrill Lynch, Lehman Brothers, Fullerton India (a Temasek subsidiary). Among private sector banks, HDFC Bank has also opened an NBFC.Entry of Reliance into NBFCs, 2008

Anil Ambani Group firm Reliance Capital on July 2008 said it is planning to enter the housing finance and non-banking finance businesses, for which it has already filed applications with the concerned regulatory authorities.

"Reliance Capital had filed an application with National Housing board to set up a separate housing finance subsidiary and with Reserve Bank of India to set up a separate NBFC subsidiary for consumer finance," a company statement said.

Further, the company had received approval from RBI to set up an overseas subsidiary for international business operations.

Besides, Reliance Capital Services has been set up to leverage on the cross selling of Reliance capital financial products and services, across the customers and shareholders of the group.

In the 3rd quarter of 2008, Reliance Asset Reconstruction had formally commenced business operations and was in the business of acquisition, management and resolution of distressed debt or asset, statement said.

Reliance Capital had interests in asset management and mutual funds, life and general insurance, private equity and proprietary investments, stocks broking, depository services, distribution of financial products, consumer finance and other activities in financial services

IL&FS INVESTSMART SEEKS NBFC LICENSE FROM RBI

MUMBAI: IL&FS Investsmart Ltd that was acquired by HSBC Bank last year on Wednesday said it has sought license from the Reserve Bank to operate as an NBFC.

The Board approved the proposal to register the company with RBI as Non deposit taking Non Banking Finance Company in terms of RBI circular," IL&FS Investsmart informed the Bombay Stock Exchange.

Besides, the Board also approved to change the name of the Company from IL&FS Investsmart to HSBC InvestDirect (India) Ltd.

IL&FS Investsmart renamed as HSBC InvestDirectHSBC InvestDirect has 1,603 employees and over 200 outlets through which it provides a range of investment products to retail and institutional clients.

HSBC InvestDirect also has a non-banking finance arm, which lends to customers in the capital market space. The NBFC incurred a loss of Rs 20 crore in the June 2009 quarter, compared to a profit of Rs 1 crore in the corresponding quarter last year.

When HSBC acquired IL&FS Investsmart, the size of the NBFCs loan-book was Rs 2,000 crore, which was subsequently reduced to about Rs 500 crore at present. According to Manasije Mishra, managing director and chief executive officer, HSBC InvestDirect, the shrinkage in assets was on account of the fall in initial public offer (IPO) financing, margin trade funding and promoter funding in the last financial year in line with reduced capital market activity.

IL&FS Investsmart to register with RBI as NBFC

IL&FS Investsmart Ltd has announced that the Board of Directors of the Company at its meeting held on April 29, 2009, inter alias has approved the proposal to register the Company with Reserve Bank of India as Non deposit taking Non Banking Finance Company in terms of RBI circular.

The Board approved to change the name of the Company from IL&FS Investsmart Ltd to HSBC InvestDirect (India) Ltd subject to the approval of the Shareholders of the Company.

The Stock closed the day at Rs.92.25, down by Rs.1.25 or 1.34%. The stock hit an intraday high of Rs.94.50 and low of Rs.92

NOW

BMW India to invest $50 mn in its NBFC subsidiary BMW Financial Service in India, 2010

German auto major BMW on Friday said it plans to start its car finance business in Mumbai by June. The automaker plans to invest $50 million (about Rs 220 crore) over the next 24-months for expansion of its non-banking finance corporation--BMW-NBFC. "We see a tremendous potential in the Indian market, especially on the car finance segment. BMW plans to invest over $50 million in the next two-years to set up offices and start operations of BMW-NBFC," BMW India President Peter Kronschnabl told reporters on the sidelines of the launch of its sixth generation of 5 series model.

The company plans to start the NBFC business by June this year, Kronschnabl said

With the launch of BMW-NBFC, the company plans to enter into car leasing; buy-back and financing used car business.

The company expects sales of luxury cars to cross 11,000 units this year, Kronschnabl said, adding there is a huge scope for growth in the Indian market.

The company is betting high on its 5 series model and has sold over 3,600 units of the 5 series in India since 2007.

BMW 5 series accounts for 50 per cent of the company's global sales.

RBI is considering giving some additional banking licenses to NBFCs, August 2010The Shares of certain non-banking financial companies (NBFCs) rose between two to four per cent on 11th August 2010, after the Reserve Bank of India (RBI) released a discussion paper on entry of new private sector banks.

Religare Enterprises (up 3.67 %), Mahindra & Mahindra Financial Services (up 3.27 %), Shriram Transport Finance (up 2.99 %), Reliance Capital (up 2.08 %) IFCI (up 1.82 %) and LIC Housing Finance (up 1 %) were among the top gainers in the A group stocks on the BSE. Religare Enterprises wholly-owned unit Religare Finvest is registered as an NBFC with the RBI, while the rest are directly registered as NBFCs. Out of all LIC Housing Finance has a very good chance of getting a banking license. LIC Housing Finance is already trading at 3 times its FY 2010 book value. The company has shown good growth in last few years.Last year, LIC Housing Finance diluted 12% by doing a QIP. In a year or two, it will again have to dilute equity.

However, IFCI has a greater upside potential if it gets a banking license.

With the Reserve Bank of India (RBI) proposing that industrial groups or non-banking finance companies (NBFCs) with interest in real estate not be given banking licenses due to the sensitivity of the real estate sector, firms like Indiabulls Financial Services and Dewan Housing Finance Ltd (DHFL) might be out of the reckoning.ARTICLE ON THE ECONOMIC TIMES.

Some of the NBFCs accepting Public deposits

1

2

3

4

5

6

7Ashok Leyland Finance Ltd.

Bajaj Leasing and Housing Finance

Birla Leasing & Finance Co. Ltd.

ICICI Securities & Finance Ltd.

IFCI Ltd

M&M Finance Ltd.

IDFC LtdChennai

Mumbai

Mumbai

New Delhi

New Delhi

Mumbai

Some of the NBFCs not accepting Pubic deposits.

1

2

3

4

5

6

7Aditya Birla Finance Co.

Birla Financial Corporation Co.

Dalal Street Investment Ltd.

Tata Capital Ltd.

Bajaj Financial Service Ltd.

HDFC Investment Ltd.

L&T Finance Ltd.Mumbai

Mumbai

Mumbai

Mumbai

Mumbai

Mumbai

Mumbai

BANKS FACING TOUGH COMPETITIONFrom the above, it is clear that NBFCs have a unique role to play in the financial services industry. NBFCs are characterized by their ability to provide niche services. Because of their low overheads, quick response and organizational flexibility, they can provide custom-made services relatively faster and deliver better value than other players such as banks and financial institutions. Non-banking finance companies (NBFC) operate mostly in unorganised and under-serviced segments of the economy, thereby creating a niche for themselves. In contrast to the banks, the NBFC business model is characterised by very close customer interaction and relationship, a deep understanding of customer needs, wider and specialised branch network, and low-cost infrastructure. If I were to pick one distinctive criterion that separates an NBFC from a bank, it is the last mile credit delivery.

I would, therefore, unhesitatingly say that in India, where even today, there are several credit starved and under-serviced segments in the economy, the NBFCs have a definite long-term role. There is absolutely no argument when they say that Difference between bank and NBFC are narrowing and I accept it.SUMMARY1. The principal business of NBFCs is to accept deposits under various schemes or arrangement and to lend in various ways.2. There were at least 41000 NBFCs divided into eight categories, which were at work in India till about 19953. NBFCs have both a competitive and complementary relationship with the commercial banks4. LCs has all along been most important type of NBFCs in term of the volume of business. ELCs and HFCs also have emerged as major type of NBFCs in the recent past.5. NBFCs have huge amount of resources at their disposal now; their resources were more than Rs 110000 crore in 1995-966. NBFCs have grown much faster than commercial banks over the years7. NBFCs are regulated by the RBI

8. The number of NBFCs has declined after 2000 due to mergers, closures, cancellation of licenses, regulatory strictness. The number of NBFCs reporting to the RBI was about 916 in 20029. The total assets of the reporting NBFCs were about Rs 58290 crore in 2002. The deposits with the NBFCs were about 1.5 to 1.9 per cent of the total bank deposit in 2002.10. Maximum rate of interest the NBFCs can pay on their deposits is about 11.0 percent at present. The different in interest rates on deposit paid by the banks and NBFCs is about 4.25percent at present.Qs. In which of following category your company lies into?

On the basis of the data collected the above pie diagram shows that most of the NBFCs do not accept Public DepositsQs. Should NBFC be given first preference for getting Banking License?

On the basis of the data collected the above chart shows that NBFCs should be given the first preference for getting Banking License.Qs. Your Company focuses their business mainly on which of the following category?

On the basis of the data collected the above pie diagram shows thatmost of the NBFCs focus their business in giving loan.

Qs. Funding for your business is majorly provided through which of the following?

On the basis of the data collected the above chart shows that most of the funding for an NBFC is from the banking sector.Qs. Has the current regulation for NBFCs been helpful for Your Company?

On the basis of the data collected the above chart shows that the current regulation has been strict and not very helpful for NBFCsReferences

1. Books Referred:

Financial Institution and Markets L.M. Bhole

Indian Financial System H R Machiraju

Investigation into NBFCs - P Sarath Kumar, FCA

Indian Financial System L M Bhole

2. Internet Website: http://www.rbi.org.in/scripts/BS_NBFCNotificationView.aspx?Id=3128 www.theindiastreet.com www.indiabudget.nic.in/es98-99/chap35 http://economictimes.indiatimes.com/news/news-by-industry/banking/finance/banking/MM-to-seek--banking-licence-for-NBFC-arm/articleshow/5678169.cms http://www.rediff.com/money/2007/jul/20nbfc http://en.wikipedia.org/wiki/NBFC_in_India http://understandingbasicsoffinance.blogspot.com/2009/10/current-scenario-of-nbfcs3. NEWSPAPER ARTICLES:

Economic Times

Business Standard

Mint

QuestionnairesName: Gender: Age: Company:

1. In which of the following category your company lies into?

NBFCs accepting deposits

NBFCs not accepting public deposits 2. Your Company focuses their business mainly on which of the following category?

Asset Finance Company

Loan Company

Investment Company

3. Has the current regulation for NBFCs been helpful for your Company?

Yes

No4. Funding for your business is provided through which of the following? Banking

Open Market

Financial Institution

5. Should NBFC be given first preference for getting Banking License?

Yes

No

Miscella-neous

Mutual Benefit Financial

Loan Company

Investment Company

Housing

Finance

Hire Purchase Company

Equipment Leasing

Company

NBFCs

Loan Company

Investment Company

Asset Finance Company

NBFC

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