PROJECT ON

RESERVE BANK OF INDIA AND NON BAKING FINANCIAL COMPANY Bachelor of CommerceBanking & Insurance Semester V (2012-2013)

Submitted By GEETA MEDI Roll no- 19

GURU NANAK COLLEGE OFARTS,SCIENCE, AND COMMERCE G.T.B nagar sion (E), Mumbai -400037

PROJECT ON

RESERVE BANK OF INDIA AND NON BAKING FINANCIAL COMPANY

Bachelor of CommerceBanking & Insurance Semester V

Submitted In Partial Fulfillment of the requirements For the award of the Degree of Bachelor of Commerce- Banking & Insurance

By GEETA MEDI Roll no.19

GURU NANAK COLLEGE OFARTS,SCIENCE, AND COMMERCE G.T.B nagar sion (E), Mumbai -400037

CERTIFICATE

This is to certify that Miss. GEETA MEDI of B.Com - Banking & Insurance Semester V (2012-2013) has successfully completed the project on RESERVE BANK OF INDIA AND NON BAKING FINANCIALCOMPANY under the guidance of SUDHA MAM

Project guide

Principal

Course Co-ordinator:

Internal Examiner:

External Examiner:

Declaration

I GEETA MEDI student of B.Com Banking & Insurance Semester V (2012-2013) hereby declare that I have completed the Project on RESERVE BANK OF INDIA AND NON BAKING FINANCIALCOMPANY The information submitted is true and original to the best if my knowledge.

Signature of the student

Name of the student

ACKNOWLEDGEMENT
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I would like to thank a lot of people without whom this project would not have been complete. First prof. SUDHA she was of utmost help in guiding me structures this project. She helped me throughout and was always present to help me whenever I had a doubt.

A research can never be over without access to a good library and in this case I was blessed as our college library, is very well stocked with books. And the lending policy made life a lot easier. And not to forget the unconditional support provided by my parents and friends.

INDEX
SR. NO 1 2 3 4 5 6 CONTENTS INTRIDUCTION OF RBI ORIGIN OF RBI FUCTIONS OF RBI STRUCTURE OF RBI SUBSIDAIERS OF RBI PAGE NO. 7 8 10 21 26

ADRESSING CURRENT & FUTURE CHAL- 29 LENGES

7 8 9 10 11 12 13 14 15 16

INTRIDUCTION OF NBFC BACKGROUND OF NBFC FACTORS COTRIBUTING TO THE GROWTH CLASSIFICATION OF NBFC ROLE OF NBFC FUNCTIONS OF RBI HOW RBI CONTROLLING NBFC GUIDELINES OF NBFC SWOT OF NBFC FUTURE REQUIREMENTS

31 33 38 39 46 49 51 63 65 67 75

17 CURRENT STATUS 18 CONCLUSION 19 BIBLOGRAPHY

RBI and NBFC RBI and NBFC

Overview on RBI as well as NBFC.

10/20/2012
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Reserve Bank of India

Introduction
The Reserve Bank of India (RBI) is India's central banking institution, which controls the monetary policy of the Indian rupee. It was established on 1 April 1935 during the British Raj in accordance with the provisions of the Reserve Bank of India Act, 1934. The share capital was divided into shares of 100 each fully paid which was entirely owned by private shareholders in the beginning. Following India's independence in 1947, the RBI was nationalized in the year 1949. The RBI plays an important part in the development strategy of the Government of India. It is a member bank of the Asian Clearing Union.

Origins of the Reserve Bank of India

1926: The Royal Commission on Indian Currency and Finance recommended creation of a central bank for India.

1927: A bill to give effect to the above recommendation was introduced in the Legislative Assembly, but was later withdrawn due to lack of agreement among various sections of people.

1933: The White Paper on Indian Constitutional Reforms recommended the creation of a Reserve Bank. A fresh bill was introduced in the Legislative Assembly.

1934: The Bill was passed and received the Governor Generals assent. 1935: The Reserve Bank commenced operations as Indias central bank on April 1 as a private shareholders bank with a paid up capital of rupees five crore (rupees fifty million).

1942: The Reserve Bank ceased to be the currency issuing authority of Burma (now Myanmar).

1947: The Reserve Bank stopped acting as banker to the Government of Burma.

1948: The Reserve Bank stopped rendering central banking services to Pakistan.

1949: The Government of India nationalised the Reserve Bank under the Reserve Bank (Transfer of Public Ownership) Act, 1948.

Starting as a private shareholders bank, the Reserve Bank was nationalized in 1949. It then assumed the responsibility to meet the aspirations of a newly independent country and its people. The Reserve Banks nationalization aimed at achieving coordination between the policies of the government and those of the central bank.

Functions of RBI
Bank of Issue
Under Section 22 of the Reserve Bank of India Act, the Bank has the sole right to issue bank notes of all denominations. The distribution of one rupee notes and coins and small coins all over the country is undertaken by the Reserve Bank as agent of the Government. The Reserve Bank has a separate Issue Department which is entrusted with the issue of currency notes. The assets and liabilities of the Issue Department are kept separate from those of the Banking Department. Originally, the assets of the Issue Department were to consist of not less than two-fifths of gold coin, gold bullion or sterling securities provided the amount of gold was not less than 40 crore (400 million) in value. The remaining three-fifths of the assets might be held in rupee coins, Government of India rupee securities, eligible bills of exchange and promissory notes payable in India. Due to the exigencies of the Second World War and the post-war period, these provisions were considerably modified. Since 1957, the Reserve Bank of India is required to maintain gold and foreign exchange reserves of 200crore (2 billion), of which at least 115crore (1.15 billion) should be in gold and 85crore (850 million) in the form of Government Securities. The system as it exists today is known as the minimum reserve system.

Monetary authority
The Reserve Bank of India is the main monetary authority of the country and beside that the central bank acts as the bank of the national and state governments.

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It formulates implements and monitors the monetary policy as well as it has to ensure an adequate flow of credit to productive sectors. Objectives are maintaining price stability and ensuring adequate flow of credit to productive sectors. The national economy depends on the public sector and the central bank promotes an expansive monetary policy to push the private sector since the financial market reforms of the 1990s. Direct Instruments:

Cash Reserve Ratio (CRR): The share of net demand and time liabilities that banks must maintain as cash balance with the Reserve Bank.

Statutory Liquidity Ratio (SLR): The share of net demand and time liabilities that banks must maintain in safe and liquid assets, such as government securities, cash and gold.

Refinance facilities: Sector-specific refinance facilities (e.g., against lending to export sector) Provided to banks.

Indirect Instruments:

Liquidity Adjustment Facility (LAF): Consists of daily infusion or absorption of liquidity on a repurchase basis, through repo (liquidity injection) and reverse repo (liquidity absorption) auction operations, using government securities as collateral.

Repo/Reverse Repo Rate: These rates under the Liquidity Adjustment Facility (LAF) determine the corridor for short-term money market interest rates. In turn, this is expected to trigger movement in other segments of the financial market and the real economy

Open Market Operations (OMO): Outright sales/purchases of government securities, in addition to LAF, as a tool to determine the level of liquidity over the medium term.
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Marginal Standing Facility (MSF): was instituted under which scheduled commercial banks can borrow over night at their discretion up to one per cent of their respective NDTL at 100 basis points above the repo rate to provide a safety valve against unanticipated liquidity shocks

Bank Rate: It is the rate at which the Reserve Bank is ready to buy or rediscount bills of exchange or other commercial papers. It also signals the medium-term stance of monetary policy.

Market Stabilization Scheme (MSS): This instrument for monetary management was introduced in 2004. Liquidity of a more enduring nature arising from large capital flows is absorbed

through sale of short-dated government securities and treasury bills. The mobilized cash is held in a separate government account with the Reserve Bank.

Regulator and supervisor of the banking system

Banks are fundamental to the nations financial system. The central bank has a critical role to play in ensuring the safety and soundness of the banking systemand in maintaining financial stability and public confidence in this system. As the regulator and supervisor of the banking system, the Reserve Bank protects the interests of depositors, ensures a framework for orderly development and conduct of banking operations conducive to customer interests and maintains overall financial stability through preventive and corrective measures. The Reserve Bank regulates and supervises the nations financial system. Different departments of the Reserve Bank oversee the various entities that comprise Indias financial infrastructure. RBI oversees:

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Commercial banks and all-India development financial institutions: Regulated by the Department of Banking Operations and Development, supervised by the Department of Banking Supervision.

Urban co-operative banks: Regulated and supervised by the Urban Banks Department.

Regional Rural Banks (RRB), District Central Cooperative Banks and State Cooperative Banks: Regulated by the Rural Planning and Credit Department and supervised by NABARD.

Non-Banking Financial Companies (NBFC): Regulated and supervised by the Department of Non-Banking Supervision

The RBIs Regulatory Role As the nations financial regulator, the Reserve Bank handles a range of activities, including: Licensing. Prescribing capital requirements. Monitoring governance. Setting prudential regulations to ensure solvency and liquidity of the banks. Prescribing lending to certain priority sectors of the economy. Regulating interest rates in specific areas. Setting appropriate regulatory norms related to income recognition, asset classification, provisioning, investment valuation, exposure limits and the like. Initiating new regulation.

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Issuer of currency
The bank issues and exchanges or destroys currency notes and coins that are not fit for circulation. The objectives are giving the public adequate supply of currency of good quality and to provide loans to commercial banks to maintain or improve the GDP. The basic objectives of RBI are to issue bank notes, to maintain the currency and credit system of the country to utilize it in its best advantage, and to maintain the reserves. RBI maintains the economic structure of the country so that it can achieve the objective of price stability as well as economic development, because both objectives are diverse in themselves. RBIs Anti-counterfeiting Measures

Continual upgrades of bank note security features. Public awareness campaigns to educate citizens to help prevent circulation of forged or Counterfeit notes. Installation of note sorting machines

RBIs Clean Note Policy

Education campaign on preferred way to handle notes: no stapling, writing, excessive folding and the like Timely removal of soiled notes: use of currency verification and processing systems and sorting machines Exchange facility for torn, mutilated or defective notes: at currency chests of commercial banks and in Reserve Bank issue offices

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Denominations of coins and notes in circulation: . Coins in circulation: 50 paise, 1, 2, 5 and 10 Rupee

. Notes in circulation: Rs. 5, 10, 20, 50,100, 500 and 1000

Bank notes are legal tender at any place in India for payment without limit

As per Indian Coinage Act Rupee coin (1 and above) can be used to pay /settle for any sum. Paisa 50 coin can be used to pay /settle any sum not exceeding Ten Rupees.
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Banker and Debt Manager to Government

The role as banker and debt manager to government includes several distinct functions:

Undertaking banking transactions for the central and state governments to facilitate receipts and payments and maintaining their accounts. Managing the governments domestic debt with the objective of raising the required amount of public debt in a cost-effective and timely manner. Developing the market for government securities to enable the government to raise debt at a reasonable cost, provide benchmarks for raising resources by other entities and facilitate transmission of monetary policy actions. The RBIs Government Finance Operating Structure: The Reserve Banks Department of Government and Bank Accounts oversees governments banking related activities. This department encompasses: Public accounts departments: manage the day-to-day aspects of Governments banking operations. The Reserve Bank also appoints commercial banks as its agents and uses their branches for greater access to the governments customers.

Public debt offices: provide depository services for government securities for banks, institutions and service government loans.

Central Accounts Section at Nagpur: consolidates the governments banking transactions. The Internal Debt Management Department based in Mumbai raises the governments domestic debt and regulates and develops the government securities market.

RBI as the Governments Debt Manager:

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In this role, RBI set policies, in consultation with the government and determine the operational aspects of raising money to help the government finance its requirements: . Determine the size, tenure and nature (fixed or floating rate) of the loan. . Define the issuing process including holding of auctions. . Inform the public and potential investors about upcoming government loan auctions.

The Reserve Bank also undertakes market development efforts, including enhanced secondary market trading and settlement mechanisms, authorization of primary dealers and improved transparency of issuing process to increase investor confidence, with the objective of broadening and deepening the government securities market.

Banker of Banks
Like individual consumers, businesses and organizations of all kinds, banks need their own mechanism to transfer funds and settle inter-bank transactionssuch as borrowing from and lending to other banksand customer transactions. As the banker to banks, the Reserve Bank fulfills this role. In effect, all banks operating in the country have accounts with the Reserve Bank, just as individuals and businesses have accounts with their banks.

Nagpur branch holds most of India's gold deposits

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Non-interest earning current accounts: Banks hold accounts with the Reserve Bank based on certain terms and conditions, such as, maintenance of minimum balances. They can hold accounts at each of our regional offices. Banks draw on these accounts to settle their obligations arising from inter-bank settlement systems. Banks can electronically transfer payments to other banks from this account, using the Real Time Gross Settlement System (RTGS).

Deposit Accounts Department: This departments computerized central monitoring system helps banks manage their funds position in real time to maintain the optimum balance between surplus and deficit centres.

Remittance facilities: Banks and government departments can use these facilities to transfer funds.

Lender of the last resort: The Reserve Bank provides liquidity to banks unable to raise shortterm liquid resources from the inter-bank market. Like other central banks, the Reserve Bank considers

this a critical function because it protects the interests of depositors, which in turn, has a stabilizing impact on the financial system and on the economy as a whole. . Loans and advances: The Reserve Bank provides short-term loans and advances to banks / financial institutions, when necessary, to facilitate lending for specified purposes.

Manager of foreign exchange

The Reserve Bank plays a key role in the regulation and development of the foreign exchange market and assumes three broad roles relating to foreign exchange: Regulating transactions related to the external sector and facilitating the development of the foreign exchange market.
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. Ensuring smooth conduct and orderly conditions in the domestic foreign exchange market. . Managing the foreign currency assets and gold reserves of the country.

The Reserve Bank is responsible for administration of the Foreign Exchange Management Act, 1999 and regulates the market by issuing licenses to banks and other select institutions to act as Authorized Dealers in foreign exchange. The Foreign Exchange Department (FED) is responsible for the regulation and development of the market. On a given day, the foreign exchange rate reflects the demand for and supply of foreign exchange arising from trade and capital transactions. The RBIs Financial Markets Department (FMD) participates in the foreign exchange market by undertaking sales / purchases of foreign currency to ease volatility in periods of excess demand for/supply of foreign currency. The Department of External Investments and Operations (DEIO) invests the countrys foreign exchange reserves built up by purchase of foreign currency from the market. In investing its foreign assets, the Reserve Bank is guided by three principles: safety, liquidity and return.

Developmental role
Over the years, the Reserve Bank has added new institutions as the economy has evolved. Some of the institutions established by the RBI include: Deposit Insurance and Credit Guarantee Corporation (1962), to provide protection to bank depositors and guarantee cover to credit facilities extended to certain categories of small borrowers. Unit Trust of India (1964), the first mutual fund of the country Industrial Development Bank of India (1964), a development finance institution for industry. National Bank for Agriculture and Rural Development (1982), for promoting rural and agricultural credit. Discount and Finance House of India (1988), a money market intermediary and a primary dealer in government securities.
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National Housing Bank (1989), an apex financial institution for promoting and regulating Housing finance. Securities and Trading Corporation of India (1994), a primary dealer.

The Reserve Bank continues its developmental role, while specifically focussing on financial inclusion. Key tools in this on-going effort include: Directed credit for lending to priority sector and weaker sections: The goal here is to facilitate/ enhance credit flow to employment intensive sectors such as agriculture, micro and small enterprises (MSE), as well as for affordable housing and education loans.

Lead Bank Scheme: A commercial bank is designated as a lead bank in each district in the country and this bank is responsible for ensuring banking development in the district through Coordinated efforts between banks and government officials. The Reserve Bank has assigned a Lead District Manager for each district who acts as a catalytic force for promoting financial inclusion and smooth working between government and banks.

Sector specific refinance: The Reserve Bank makes available refinance to banks against their credit to the export sector. In exceptional circumstances, it can provide refinance against lending to other sectors.

Strengthening and supporting small local banks: This includes regional rural banks and cooperative banks.

Financial inclusion: Expanding access to finance and promoting financial literacy are a part of our outreach efforts.

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Structure of Reserve Bank of India

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Central Board of Directors

The Central Board of Directors is at the top of the Reserve Banks organisational structure. Appointed by the Government under the provisions of the Reserve Bank of India Act, 1934, the Central Board has the primary authority and responsibility for the oversight of the Reserve Bank. It delegates specific functions to the Local Boards and various committees. The Governor is the Reserve Banks chief executive. The Governor supervises and directs the affairs and business of the RBI. The management team also includes Deputy Governors and Executive Directors. The Central Government nominates fourteen Directors on the Central Board, including one Director each from the four Local Boards. The other ten Directors represent different sectors of the economy, such as, agriculture, industry, trade, and professions. All these appointments are made for a period of four years. The Government also nominates one Government official as a Director representing the Government, who is usually the Finance Secretary to the Government of India and remains on the Board during the pleasure of the Central Government. The Reserve Bank Governor and a maximum of four Deputy Governors are also ex officio Directors on the Central Board.

Local Boards
The Reserve Bank also has four Local Boards, constituted by the Central Government under the RBI Act, one each for the Western, Eastern, Northern and Southern areas of the country, which are located in Mumbai, Kolkata, New Delhi and Chennai. Each of these Boards has five members appointed by the Central Government for a term of four years. These Boards represent territorial and economic interests of their respective areas, and advise the Central Board on matters, such as, issues relating to local cooperative and indigenous banks. They also perform other functions that the Central Board may delegate to them.

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Offices and Branches

The Reserve Bank has a network of offices and branches through which it discharges its responsibilities. The units operating in the four metros Mumbai, Kolkata, Delhi and Chennai are known as offices, while the units located at other cities and towns are called branches. Currently, the Reserve Bank has its offices, including branches, at 27 locations in India. The officesand larger branches are headed by a senior officer in the rank of Chief General Manager, designated as Regional Director while smaller branches are headed by a senior officer in the rank of General Manager.

Central Office Departments

Over the last 75 years, as the functions of the Reserve Bank kept evolving, the work areas were allocated among various departments. At times, the changing role of the Reserve Bank necessitated closing down of some departments and creation of new departments. Currently, the Banks Central Office, located at Mumbai, has twenty-seven departments. (Box No.3) These departments frame policies in their respective work areas. They are headed by senior officers in the rank of Chief General Manager.

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The Central Board has primary authority for the oversight of RBI. It delegates specific functions through its committees, boards and sub-committees.

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Board for Financial Supervision (BFS)

In terms of the regulations formulated by the Central Board under Section 58 of the RBI Act, the Board for Financial Supervision (BFS) was constituted in November 1994, as a committee of the Central Board, to undertake integrated supervision of different sectors of the financial system. Entities in this sector include banks, financial institutions and non-banking financial companies (including Primary Dealers). The Reserve Bank Governor is the Chairman of the BFS and the Deputy Governors are the ex officio members. One Deputy Governor, usually the Deputy Governor in-charge of banking regulation and supervision, is nominated as the Vice-Chairperson and four directors from the Reserve Banks Central Board are nominated as members of the Board by the Governor. The Board is required to meet normally once a month. It deliberates on various regulatory and supervisory policy issues, including the findings of on-site supervision and offsite surveillance carried out by the supervisory departments of the Reserve Bank and gives directions for policy formulation. The Board thus plays a critical role in the effective discharge of the Reserve Banks regulatory and supervisory responsibilities.

Audit Sub-Committee
The BFS has constituted an Audit Sub-Committee under the BFS Regulations to assist the Board in improving the quality of the statutory audit and internal audit in banks and financial institutions. The Deputy Governor in charge of regulation and supervision heads the sub-committee and two Directors of the Central Board are its members.

Board for Regulation and Supervision of Payment and Settlement Systems (BPSS)
The Board for Regulation and Supervision of Payment and Settlement Systems provides an oversight and direction for policy initiatives on payment and settlement systems within the country. The Reserve Bank Governor is the Chairman of the BPSS, while two Deputy Governors, three Directors of the Central Board and some permanent invitees with domain expertise are its members. The BPSS lays down policies for regulation and supervision of payment and settlement systems, sets standards for existing and future systems, authorizes such systems, and lays down criteria for their membership.
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Subsidiaries of RBI
The Reserve Bank has the following fully - owned subsidiaries:

Deposit Insurance and Credit Guarantee Corporation (DICGC):

With a view to integrating the functions of deposit insurance and credit guarantee, the Deposit Insurance Corporation and Credit Guarantee Corporation of India were merged and the present Deposit Insurance and Credit Guarantee Corporation (DICGC) came into existence on July 15, 1978. Deposit Insurance and Credit Guarantee Corporation (DICGC), established under the DICGC Act 1961, is one of the wholly owned subsidiaries of the Reserve Bank. The DICGC insures all deposits (such as savings, fixed, current, and recurring deposits) with eligible banks except the following: (i) Deposits of foreign Governments; (ii) Deposits of Central/State Governments; (iii) Inter-bank deposits; (iv) Deposits of the State Land Development Banks with the State co-operative bank; (v) Any amount due on account of any deposit received outside India; (vi) Any amount, which has been specifically exempted by the corporation with the previous approval of Reserve Bank of India. Every eligible bank depositor is insured upto a maximum of Rs.1,00,000 (Rupees One Lakh) for both principal and interest amount held by him.

National Housing Bank (NHB):

National Housing Bank was set up on July 9, 1988 under the National Housing Bank Act, 1987 as a wholly-owned subsidiary of the Reserve Bank to act as an apex level institution for housing. NHB has been established to achieve, among other things, the following objectives: To promote a sound, healthy, viable and cost effective housing finance
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system to all segments of the population and to integrate the housing finance system with the overall financial system. To promote a network of dedicated housing finance institutions to adequately serve various regions and different income groups. To augment resources for the sector and channelise them for housing. To make housing credit more affordable. To regulate the activities of housing finance companies based on regulatory and supervisory authority derived under the Act. To encourage augmentation of supply of buildable land and also building materials for housing and to upgrade the housing stock in the country. To encourage public agencies to emerge as facilitators and suppliers of serviced land for housing.

Bharatiya Reserve Bank Note Mudran Private Limited (BRBNMPL):

The Reserve Bank established BRBNMPL in February 1995 as a wholly-owned subsidiary to augment the production of bank notes in India and to enable bridging of the gap between supply and demand for bank notes in the country. The BRBNMPL has been registered as a Public Limited Company under the Companies Act, 1956 with its Registered and Corporate Office situated at Bengaluru. The company manages two Presses, one at Mysore in Karnataka and the other at Salboni in West Bengal.

National Bank for Agriculture and Rural Development (NABARD):

National Bank of Agriculture and Rural Development (NABARD) is one of the subsidiaries where the majority stake is held by the Reserve Bank. NABARD is an apex Development Bank
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with a mandate for facilitating credit flow for promotion and development of agriculture, smallscale industries, cottage and,village industries, handicrafts and other rural crafts. It also has the mandate to support all other allied economic activities in rural areas, promote integrated and sustainable rural development and secure prosperity of rural areas.

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Addressing Current and Future Challenges

The Reserve Banks mandateyesterday, today and tomorrowis to set a monetary and financial course that will sustain the nations economic growth and health during global downturns, periods of volatility and global upturns alike. Our actions prior to and during the recent period of global financial upheaval exemplify these commitments. We have demonstrated willingness to take pro-active measures to preserve gains and to ensure that progress is sustainable. The Reserve Bank responses during extraordinary times are aimed at maintaining financial stability including maintaining sufficient rupee and foreign exchange liquidity to ensure that credit continues to flow to businesses and consumers and financial markets remain stable. We also continue to address the challenge of ensuring that the national financial and monetary policy-making contribute to positive, sustainable and inclusive growth across the income spectrum.

RBI: Some Notable Actions: The Reserve Banks willingness to use conventional and unconventional measures has helped buffer the nation from severe crises. Here are some examples of our responses post-reforms: 2004 : Market Stabilization Scheme A sterilization instrument, like CRR and OMOs, used to absorb excessive forex flow and the resultant rupee liquidity.

2004: Using prudential norms like risk weights and provisioning norms for commercial real estate and capital market loans portfolio of banks to guard against their excessive bulging.

2008-09 : Carefully considered and calibrated reduction of interest rates until situation stabilized; and took various steps to make domestic and forex liquidity available; both, confidence building moves.

.2011: Marginal Standing Facility Under which scheduled commercial banks can borrow overnight (even by dipping into SLR portfolio) at their discretion up to one percent

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of their respective NDTL at 100 basis points above the repo rate to provide a safety valve against unanticipated liquidity shocks.

.2012: Using Open Market Operations and CRR as pure LAF, liquidity instruments

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Non banking financial company

INTRODUCTION:
We studied about banks, apart from banks the Indian Financial System has a large number of privately owned, decentralised and small sized financial institutions known as Non-banking financial companies. In recent times, the non-financial companies (NBFCs) have contributed to the Indian economic growth by providing deposit facilities and specialized credit to certain segments of the society such as unorganized sector and small borrowers. In the Indian Financial System, the NBFCs play a very important role in converting services and provide credit to the unorganized sector and small borrowers.

NBFCs provide financial services like hire-purchase, leasing, loans, investments, chit-fund companies etc. NBFCs can be classified into deposit accepting companies and non-deposit accepting companies. NBFCs are small in size and are owned privately. The NBFCs have grown rapidly since 1990. They offer attractive rate of return. They are fund based as well as service oriented companies. Their main companies are banks and financial institutions. According to RBI Act 1934, it is compulsory to register the NBFCs with the Reserve Bank of India.

The NBFCs in advanced countries have grown significantly and are now coming up in a very large way in developing countries like Brazil, India, and Malaysia etc. The non-banking companies when compared with commercial and co-operative banks are a heterogeneous (varied) group of finance companies. NBFCs are heterogeneous group of finance companies means all NBFCs provide different types of financial services.

Non-Banking Financial Companies constitute an important segment of the financial system. NBFCs are the intermediaries engaged in the business of accepting deposits and delivering credit. They play very crucial role in channelizing the scare financial resources to capital formation.

NBFCs supplement the role of the banking sector in meeting the increasing financial need of the
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corporate sector, delivering credit to the unorganized sector and to small local borrowers. NBFCs have more flexible structure than banks. As compared to banks, they can take quick decisions, assume greater risks and tailor-make their services and charge according to the needs of the clients. Their flexible structure helps in broadening the market by providing the saver and investor a bundle of services on a competitive basis.

Non Banking Finance Companies (NBFCs) are a constituent of the institutional structure of the organized financial system in India. The Financial System of any country consists of financial Markets, financial intermediation and financial instruments or financial products. All these Items facilitate transfer of funds and are not always mutually exclusive. Inter-relationships Between these are parts of the system e.g. Financial Institutions operate in financial markets and are, therefore, a part of such markets.

NBFCs at present providing financial services partly fee based and partly fund based. Their fee based services include portfolio management, issue management, loan syndication, merger and acquisition, credit rating etc. their asset based activities include venture capital financing, housing finance, equipment leasing, hire purchase financing factoring etc. In short they are now providing variety of services. NBFCs differ widely in their ownership: Some are subsidiaries of large Manufacturers (e.g., T.V. Motors T.V. Finances and Services Ltd). Many others are owned by banks such as ICICI Banks, ICICI Securities Ltd, SBI Capital Market Ltd, Muthoot Bankers Muthoot Financial Services Ltd a key player in Kerala financial services. Other financial institutions are IFCIs IFCI Financial Services Ltd or IFCI Custodial Services Ltd (Devdas, 2005). Non-banking Financial Institutions carry out financing activities but their resources are not directly obtained from the savers as debt. Instead, these Institutions mobilize the public savings for rendering other financial services including investment. All such Institutions are financial intermediaries and when they lend, they are known as Non-Banking Financial Intermediaries (NBFIs) or Investment Institutions. The term Finance is often understood as being equivalent to money. However, final exactly is not money; it is the source of providing funds for a particular activity. The word system, in the term financial system, implies a set of complex and closely connected or inter-linked Institutions, agents, practices, markets, transactions, claims, and liabilities in the Economy. The financial sys32

tem is concerned about money, credit and finance. The three terms are intimately related yet are somewhat different from each other:

Money refers to the current medium of exchange or means of payment. Credit or loans is a sum of money to be returned, normally with interest; it refers to a debt Finance is monetary resources comprising debt and ownership funds of the state, company or person.

HISTORICAL BACKGROUND.
The Reserve Bank of India Act, 1934 was amended on 1st December, 1964 by the Reserve Bank Amendment Act, 1963 to include provisions relating to non-banking institutions receiving deposits and financial institutions. It was observed that the existing legislative and regulatory framework required further refinement and improvement because of the rising number of defaulting NBFCs and the need for an efficient and quick system for Redressal of grievances of individual depositors. Given the need for continued existence and growth of NBFCs, the need to develop a framework of prudential legislations and a supervisory system was felt especially to encourage the growth of healthy NBFCs and weed out the inefficient ones. With a view to review the existing framework and address these shortcomings, various committees were formed and reports were submitted by them. Some of the committees and its recommendations are given hereunder:

1. James Raj Committee (1974)

The James Raj Committee was constituted by the Reserve Bank of India in 1974. After studying the various money circulation schemes which were floated in the country during that time and taking into consideration the impact of such schemes on the economy, the Committee after extensive research and analysis had suggested for a ban on Prize chit and other schemes which were causing a great loss to the economy. Based on these suggestions, the Prize Chits and Money Circulation Schemes (Banning) Act, 1978 was enacted

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2. Dr.A.C.Shah Committee (1992):

The Working Group on Financial Companies constituted in April 1992 i.e. the Shah Committee set out the agenda for reforms in the NBFC sector. This committee made wide ranging recommendations covering, inter-alia entry point norms, compulsory registration of large sized NBFCs, prescription of prudential norms for NBFCs on the lines of banks, stipulation of credit rating for acceptance of public deposits and more statutory powers to Reserve Bank for better regulation of NBFCs.

3. Khan Committee (1995)

This Group was set up with the objective of designing a comprehensive and effective supervisory framework for the non-banking companies segment of the financial system. The important recommendations of this committee are as follows: i. Introduction of a supervisory rating system for the registered NBFCs. The ratings assigned to NBFCs would primarily be the tool for triggering on-site inspections at various intervals. ii. Supervisory attention and focus of the Reserve Bank to be directed in a comprehensive manner only to those NBFCs having net owned funds of Rs.100 laths and above. iii. Supervision over unregistered NBFCs to be exercised through the off-site surveillance mechanism and their on-site inspection to be conducted selectively as deemed necessary depending on circumstances. iv. Need to devise a suitable system for co-coordinating the on-site inspection of the

NBFCs by the Reserve Bank in tandem with other regulatory authorities so that they were subjected to one-shot examination by different regulatory authorities.

v.

Some of the non-banking non-financial companies like industrial/manufacturing units were also undertaking financial activities including acceptance of deposits, investment operations, leasing etc to a great extent. The committee stressed the need for identifying an appropriate authority to regulate the activities of these companies, including plantation and
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animal husbandry companies not falling under the regulatory control of Either Department of Company Affairs or the Reserve Bank, as far as their mobilization of public deposit was concerned.

vi.

Introduction of a system whereby the names of the NBFCs which had not complied with the regulatory framework / directions of the Bank or had failed to submit the prescribed returns consecutively for two years could be published in regional newspapers.

4. Narasimhan Committee (1991)

This committee was formed to examine all aspects relating to the structure, organization & functioning of the financial system. These were the committees which founded non- banking financial companies.

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NON-BANKING FINANCIAL COMPANY (NBFC)

-MEANING
Non-Banking Financial Companies (NBFCs) play a vital role in the context of Indian Economy. They are indispensible part in the Indian financial system because they supplement the activities of banks in terms of deposit mobilization and lending. They play a very important role by providing finance to activities which are not served by the organized banking sector. So, most the committees, appointed to investigate into the activities, have recognized their role and have recognized the need for a well-established and healthy non-banking financial sector.

Non-Banking Financial Company (NBFC) is a company registered under the Companies Act, 1956 and is engaged in the business of loans and advances, acquisition of

shares/stock/bonds/debentures/securities issued by Government or local authority or other securities of like marketable nature, leasing, hire-purchase, insurance business, chit business but does not include any institution whose principal business is that of agriculture activity, industrial activity, sale/purchase/construction of immovable property. Non-banking institution which is a company and which has its principal business of receiving deposits under any scheme of arrangement or any other manner, or lending in any manner is also a non- banking financial company.

DEFINITIONS OF NBFC.

Non-Banking Financial Company has been defined as: (i) A non-banking institution, which is a company and which has its principal business the receiving of deposits under any scheme or lending in any manner.

36

(ii) Such other non-banking institutions, as the bank may with the previous approval of the central government and by notification in the official gazette, specify. NBFCS provide a range of services such as hire purchase finance, equipment lease finance, loans, and investments. NBFCS have raised large amount of resources through deposits from public, shareholders, directors, and other companies and borrowing by issue of non-convertible debentures, and so on. Non-banking Financial Institutions carry out financing activities but their resources are not directly obtained from the savers as debt. Instead, these Institutions mobilize the public savings for rendering other financial services including investment. All such Institutions are financial intermediaries and when they lend, they are known as Non-Banking Financial Intermediaries (NBFIs) or Investment Institutions: UNIT TRUST OF INDIA. LIFE INSURANCE CORPORATION (LIC). GENERAL INSURANCE CORPORATION (GIC).

37

Factors contributing to the Growth of NBFCs:

According to A.C. Shah Committee, a number of factors have contributed to the growth of NBFCs. Comprehensive regulation of the banking system and absence or relatively lower degree of regulation over NBFCs has been one of the main reasons for their growth. During recent years regulation over their activities has been strengthened, as see a little later. The merit of non-banking finance companies lies in the higher level of their customer orientation. They involve lesser pre or post-sanction requirements, their services are marked with simplicity and speed and they provide tailor-made services to their clients. NBFCs cater to the needs of those borrowers who remain outside the purview of the commercial banks as a result of the monetary and credit policy of RBI. In addition, marginally higher rates of interest on deposits offered by NBFCs also attract a large number of depositors

Regulation of NBFCs
In 1960s, the Reserve Bank made an attempt to regulate NBFCs by issuing directions to the maximum amount of deposits, the period of deposits and rate of interest they could offer on the deposits accepted. Norms were laid down regarding maintenance of certain percentage of liquid assets, creation of reserve funds, and transfer thereto every year a certain percentage of profit, and so on. These directions and norms were revised and amended from time to time. In 1997, the RBI Act was amended and the Reserve Bank was given comprehensive powers to regulate NBFCs. The amended Act made it mandatory for every NBFC to obtain a certificate of registration and have minimum net owned funds. Ceilings were prescribed for acceptance of deposits, capital adequacy, credit rating and net-owned funds. T he Reserve Bank also developed a comprehensive system to supervise NBFCs accepting/ holding public deposits. Directions were also issued to the statutory auditors to report non-compliance with the RBI Act and regulations to the RBI, Board of Directors and shareholders of the NBFCs.

38

CLASSIFICATION OF NBFCs:
This classification is in addition to the present classification of NBFCs into deposit-taking and Non-deposit-taking NBFCs. Depending on the nature their major activity, the non-banking financial companies can be classified into the following categories, they are:

(1) (2) (3) (4) (5) (6) (7) (8)

Equipment leasing companies. Hire-purchase finance companies. Housing finance-companies. Investments companies. Loan companies. Mutual Fund Benefit Companies. Chit fund companies. Residuary companies.

Equipment Leasing Company:

(a) Equipment leasing company means any company which is carrying on the activity of leasing of equipment, as its main business, or the financing of such activity. (b) The leasing business takes place of a contract between the lessor (lessor means the leasing company) and the lessee (lessee means a borrower). (c) Under leasing of equipment business a lessee is allowed to use particular capital equipment, as a hire, against a payments of a monthly rent.

(d) (e) (i)

Hence, the lessee does not purchase the capital equipment, but he buys the right to use it. There are two types of leasing arrangements, they are: Operating leasing: In operating leasing the producer of capital equipment offers his product directly to the lessee on a monthly rent basis. There is no middleman in operating leasing.

(ii)

Finance leasing: In finance leasing, the producer of the capital equipment sells the

39

equipment to the leasing company, then the leasing company leases it to the final user of the equipment. Hence, there are three parties in finance leasing. The leasing company acts as a middleman between the producer of equipment and the user of equipment.

Benefits/Advantages of Leasing:
100% finance: They borrower in the equipment can get up to 100% finance for the use of capital through leasing arrangement in the sense, that the leasing company provides the equipment immediately and the borrower need not pay the full amount at once. Hence, the borrower can use the amount for fulfilling other needs such as expansion development, etc.

(1)

(2)

Payment is easier: Leasing finance is costlier. However, the borrower finds it convenient (easy) as he has to pay in installments out of the return from the investment in the equipment. Hence, the borrower does not feel the burden of payment.

(3)

Tax concessions: The borrower can get tax concessions in case of leasing equipments. The total amounts of rent paid on leased equipment are deducted from the gross income. In case of immediate purchase, interest on the loan and the depreciation are deducted from the taxable income.

(a)

Hire-purchase Finance Companies:

Hire purchase finance company means any company which is carrying on the main business of financing, physical assets through the system of hire-purchase.

(b)

In hire-purchase, the owner of the goods hires them to another party for a certain period and for a payment of certain installment until the other party owns it.

(c)

The main feature of hire-purchase is that the ownership of the goods remains with the owner until the last installment is paid to him. The ownership of goods passes to the user
40

only after he pays the last installment of goods. (d) Hire-purchase is needed by farmers, professionals and transport group people to buy equipment on the basis of hire purchase. (e) It is a less risky business because the goods purchased on hire purchase basis serve as securities till the installment on the loan is paid. (f) (g) Generally, automobile industry needs lot hire-purchase finance. The problem of recovery of loans does not occur in most cases, as the borrower is able to pay back the loan out of future earnings through the regular generation of funds out of the asset purchased. (h) In India, there are many individuals and partnership firms doing this business. Even commercial banks, hire-purchase companies and state financial corporations provide hire-purchase credit.

(a)

Housing Finance Companies:

A housing finance company means any company which is carrying on its main business of financing the construction or acquisition of houses or development of land for housing purposes.

(b)

Housing finance companies also accept the deposits and lend money only for housing purposes.

(c)

Even though there is a heavy demand for housing finance, these companies have not made much progress and as on 31st March, 1990 only 17 such companies here reported to the RBI.

(d)

The ICICI and the Canara Bank took the lead to sponsor housing finance companies, namely, Housing Development Corporation Ltd. and the Canfin Homes Ltd.

(e)

All the information about the Housing finance companies is available with the National Housing Bank. Housing finance companies also have to compulsorily to register themselves with the Reserve Bank of India.

(f)

National Housing bank is the apex institution in the field of housing. It promotes housing finance institutions, both on regional and local levels.

Investment Companies:
41

(a)

Investment company means any company which is carrying on the main business of securities.

(b)

Investment companies in India can be broadly classified into two types:

(1) Holding Companies: (i) In case of large industrial groups, there are holding companies which buy shares mainly for the purpose of taking control over another institution. (ii) They normally purchase the shares of the institution with the aim of controlling it rather than purchasing shares of different companies. (iii) Such companies are set up as private limited companies.

(2) Other Investment Companies: (i) Investment companies are also known as Investment trusts. (ii) Investment companies collect the deposits from the public and invest them in securities. (iii) The main aim of investment companies is to protect small investors by collecting their small savings and investing than in different securities so that the risk can be spread. (iv) An individual investor cannot do all this on his own, due to lack of expertise in investing. Hence, investing companies are formed for collective investing. Companies are formed for collective investments of money, mainly of small investors. (v) Another benefit of an investment company is that it offers trained, experienced and specialised management of funds. (vi) It helps the investors to select a financially sound and liquid security. Liquid security means a security which can be easily converted into cash. (vii)In India investment trusts are very popular. They help in putting the savings of people into productive investments. (viii)Some of the investment trusts also do underwriting, promoting and holding company business besides financing. (ix)These investments trusts help in the survival of business in the economy by keeping the capital market alive, active and busy.

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(a)

Loan company:
A loan company means any company whose main business is to provide finance through loans and advances.

(b)

It does not include a hire purchase finance company or an equipment leasing company or a housing finance company. Loan company is also known as a Finance Company". Loan companies have very little capital, so they depend upon public deposits as their main source of funds. Hence, they attract deposits by offering high rates of interest.

(c) (d)

(e)

Normally, the loan companies provide loans to wholesalers, retailers, small-scale industries, self-employed people, etc.

(f) (g)

Most of their loans are given without any security. Hence, they are risky. Due to this reason, the loan company charges high rate of interest on its loans. Loans are generally given for short period of time but they can be renewed.

(a) (b)

Mutual Benefit Financial Company:

They are the oldest form of non-banking financial companies. A mutual benefit financial company means any company which is notified under section 620A of the Companies Act, 1956.

(c) (d)

It is popularly known as "Nidhis". Usually, it is registered with only very small number of shares. The value of the shares is often Rs. 1 only

(e)

It accepts deposits from its members and lends only to its members against tangible securities.

Chit-fund Companies:
History:

The chit fund schemes have a long history in the southern states of India. Rural unorganized chit funds may still be spotted in many southern villages. However, organized chit fund companies are now prevalent all over India. The word is Hindi and refers to a small note or piece of some43

thing. The word passed into the British colonial lexicon and is still used to refer to a small piece of paper, a child or small girl

How Chit Fund Help?

Chit Funds have the advantage both for serving a need and as an investment. Money can be readily drawn in an emergency or could be continued as an investment. Interest rate is determined by the subscribers themselves, based on mutual decisions and varies from auction to auction. The money that you borrow is against your own future contributions. The amount is given on personal sureties too; unlike in banks and other financial institutions which demand a tangible security. Chit funds can be relied upon to satisfy personal needs. Unlike other financial institutions, you can draw upon your chit fund for any purpose - marriages, religious functions, medical expenses, just anything... Cost of intermediation is the lowest.

(a)

Chit funds companies are one of the oldest forms of local non-banking financial institution in India.

(b) (c) (d)

They are also known as "kuries". These institutions have originated from south India and are very popular over there. A chit fund organisation is an organisation of a number of people who join together and subscribe (contribute) amounts monthly so that any members who is in need of funds can draw the amount less expenses for conducting the chit. It is an organisation run on cooperative basis for the benefit of the members who contribute money, the funds are used by them as and when a particular member needs it.

(e)

It helps the persons who save money regularly to invest their savings with good chances of profit.

(f) (g) (h)

Chit funds have many defects as the rate of return given to each member is not the same. It differs from person to person, this leads in improper distribution of gains and losses. Also, the promoters of these funds do everything for their own benefit to get maximum
44

income. (I) Hence, the banking commission has made suggestions to pass uniform chit funds laws for the whole of India.

(a)

Residuary Non-banking Companies:

The term "residue" means a small part of something that remains. As the meaning of the term shows, a residuary company is one which does not fall in any of the above categories.

(b)

It generally accepts deposits by operating different schemes similar to recurring deposit schemes of banks.

(c)

Deposits are collected from a large number of people by promising them that their money would be invested in banks and government securities

(d)

The collection of deposits is done at the doorsteps of depositors through bank staff, who is paid commission.

(e)

These companies get the funds at low cost for longer terms, at they invest them in investments which generates good amount of return.

(f) (g) (ii) (iii)

Many of these companies operate with very small amount of capital. They have some adverse (bad) features, such as: Some do not submit periodic returns to the regulatory authority. Some of them do not appoint banks, etc.

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ROLE OF NON- BANKING FINANCIAL COMPANIES.

(1)

Promoters Utilization of Savings:

Non- Banking Financial Companies play an important role in promoting the utilization of savings among public. NBFCs are able to reach certain deposit segments such as unorganized sector and small borrowers were commercial bank cannot reach. These companies encourage savings and promote careful spending of money without much wastage. They offer attractive schemes to suit needs of various sections of the society. They also attract idle money by offering attractive rates of interest. Idle money means the money which public keep aside, but which is not used. It is surplus money.

(2)

Provides easy, timely and unusual credit:

NBFCs provide easy and timely credit to those who need it. The formalities and procedures in case of NBFCs are also very less. NBFCs also provides unusual credit means the credit which is not usually provided by banks such as credit for marriage expenses, religious functions, etc. The NBFCs are open to all. Every one whether rich or poor can use them accor ding to their needs.

(3)

Financial Supermarket:

NBFCs play an important role of a financial supermarket. NBFCs create a financial superma rket for customers by offering a variety of services. Now, NBFCs are providing a variety of se rvices such as mutual funds, counseling, merchant banking, etc. apart from their traditional services. Most of the NBFCs reduce their risks by expanding their range of products and activities.

(4) Investing funds in productive purposes:

NBFCs invest the small savings in productive purposes. Productive purposes mean they invest the savings of people in businesses which have the ability to earn good amount of returns. For
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example In case of leasing companies lease equipment to industrialists, the industrialists can carry on their production with less capital and the leasing company can also earn good amount of profit.

(5)

Provide Housing Finance:

NBFCs, mainly the Housing Finance companies provide housing finance on easy term and conditions. They play an important role in fulfilling the basic human need of housing finance. Housing Finance is generally needed by middle class and lower middle class people. Hence, NBFCs are blessing for them.

(6)

Provide Investment Advice:

NBFCs, mainly investment companies provide advice relating to wise investment of funds as well as how to spread the risk by investing in different securities. They protect the small investors by investing their funds in different securities. They provide valuable services to investors by choosing the right kind of securities which will help them in gaining maximum rate of returns. Hence, NBFCs plays an important role by providing sound and wise investment advice.

(7)

Increase the Standard of living:

NBFCs play an important role in increasing the standard of living in India. People with lesser means are not able to take the benefit of various goods which were once considered as luxury but now necessity, such as consumer durables like Television, Refrigerators, Air Conditioners, Kitchen equipments, etc. NBFCs increase the Standard of living by providing consumer goods on easy installment basis. NBFCs also facilitate the improvement in transport facilities through hire- purchase finance, etc. Improved and increased transport facilities help in movement of goods from one place to another and availability of goods increase the standard of living of the society.

(8)

Accept Deposits in Various Forms:

NBFCs accept deposits forms convenient to public. Generally, they receive deposits from public by way of depositor a loaner in any form. In turn the NBFCs issue debentures, units certificates, savings certificates, units, etc. to the public.
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(9)

Promote Economic Growth:

NBFCs play a very important role in the economic growth of the country. They increase the rate of growth of the financial market and provide a wide variety of investors. They work on the principle of providing a good rate of return on saving, while reducing the risk to the maximum possible extent. Hence, they help in the survival of business in the economy by keeping the capital market active and busy. They also encourage the growth of well- organized business enterprises by investing their funds in efficient and financially sound business enterprises only. One major benefit of NBFCs speculative business means investing in risky activities. The investing companies are interested in price stability and hence NBFCs, have a good influence on the stock market. NBFCs play a very positive and active role in the development of our country.

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Functions of Non- Banking Financial Companies:

(1) Receiving benefits:

The primary function of nbfcs is receive deposits from the public in various ways such as issue of debentures, savings certificates, subscription, unit certification, etc. thus, the deposits of nbfcs are made up of money received from public by way of deposit or loan or investment or any other form.

(2)

Lending money:

Another important function of nbfcs is lending money to public. Non- banking financial companies provide financial assistance through. (a) Hire purchase finance: Hire purchase finance is given by nbfcs to help small important operators, professionals, and middle income group people to buy the equipment on the basis on Hire purchase. After the last installment of Hire purchase paid by the buyer, the ownership of the equipment passes to the buyer. (b) Leasing Finance: In leasing finance, the borrower of the capital equipment is allowed to use it, as a hire, against the payment of a monthly rent. The borrower need not purchase the capital equipment but he buys the right to use it. (c) Housing Finance: NBFCs provide housing finance to the public, they finance for construction of houses, development of plots, land, etc.

(d) Other types of finance provided by NBFCs include:

49

Consumption finance, finance for religious ceremonies, marriages, social activities, paying off old debts, etc. NBFCs provide easy and timely finance and generally those customers which are not able to get finance by banks approach these companies. (e) Investment of surplus money: NBFCs invest their surplus money in various profitable areas.

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How RBI controlling NBFC

By Supervision:
The RBI has instituted a strong and comprehensive supervisory mechanism for NBFCs.

The focus of the RBI is on prudential supervision so as to ensure that NBFCs function on sound and healthy lines and avoid excessive risk taking.

The RBI has put in place a four pronged supervisory framework based on:

On-site inspection; Off-site monitoring supported by state-ofthe art technology; Market intelligence; and Exception reports of statutory auditors ofNBFCs.

The thrust of supervision is based on the asset size of the NBFC and whether it accepts/ holds Deposits from the public.

The system of on-site examination put in place during 1997 is structured on the basis of assessment and evaluation of CAMELS (Capital, Assets, Management, Earnings, Liquidity, and Systems and Procedures) approach and the same is akin to the supervisory model adopted by the RBI for the banking system.

Market intelligence systemis also being strengthened as one of theimportant tools of supervision. This process of continuous and on-going supervision is expected to facilitate RBI to pick up warning signals,which can result in triggering supervisory action promptly.

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The returns being submitted by the NBFCs arc reviewed and re-looked at intervals to widen the scope of information so as to address the requirements either for supervisory objectives or for furnishing the same to variousinterest groups on the important aspect of the working of these companies. The companies notholding public deposits arc supervised in a limited manner with companies with asset size of Rs.100crore and above being subjected to annual inspection and other non-public deposit companies by rotation once in every 5 years. The exception reports, if any, from the auditors of such companies coupled with adverse market information and the sample check at periodical intervals are the main tools for monitoring the activities of such companysvis--vis the RBIregulations.

By Policy Developments
The RBI introduced a number of measures toenhance the regulatory and supervisory standards of this sector, to bring them on parwith commercial banks over a period of time.

The regulatory norms, applicable to NBFCs are presented in Box 6.2. Regulatory measures adopted during the year aim at aligning the interest rates in this sector with the rates prevalent in the rest of the economy, tightening prudential norms, standardizing operating procedures and aligning the RBIs regulations with the requirements of the amended Companies Act.

ALSO by imposing certain norms and restrictions some of them are as follows.
A) 1) Certificate of Registration:

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No company, other than those exempted by the RBI, cancommence or ea. the business of non-banking financial institutionwithout obtaining a CoR RBI.

The pre-requisite for eligibility for such a CoR is that the NBFC have a minimum NOF of Rs. 25 lakh (since raised to Rs. 2crore on and April 21, 1999 for anynew applicant NBFC). The RBI considers grant CoR after satisfyingitself about the companys compl iance with the c enumerated in 2) Maintenance of Liquid Assets: NBFCs have to invest in unencumbered approved securities, valued at a not exceeding current market price, an amount which,at the close of business on any day, shall not be less than 5.0per cent but not exceeding 25.0 per cent specified by RBI, of thedeposits outstanding at the close of business on the working day of the second preceding quarter.

3) Creation of Reserve Fund:

Every non-banking financial company shall create a reserve fundand transfer thereto a sum not less than 20.0 per cent of its netprofit every year as disi in the profit and loss account and beforeany dividend is declared. Such fund to be created by every NBFC Of the fact whether it accepts] deposits or not. Further,no appropriation can be made from the fund ft. purpose withoutprior written approval of RBI.

B) Deposit Acceptance Related Regulations:

1) Ceiling on quantum of public deposits:

Loan and investment companies - 1.5 times of NOF if the company has NOF of Rs. 25 lakh, minimum investment grade (MIG) creditrating, comply with all the prudential norms and has CRAR of15 per cent. Equipment leasing and hire purchase financecompanies - if company has NOF of Rs. 25 lakh and complies with all the prudential norms.

53

i.

with MIG credit rating and 12 per cent CRAR - 4 times of NOF

ii. without MIG credit rating but CRAR 15 per cent or above -1.5 times of NOF, or Rs. 10crore, whichever is less.

2) Investment in liquid assets:

NBFCs - 15 per cent of outstanding public deposit liabilities as at the close of business on the last working day of the second preceding quarter, of which

i. not less than 10 per cent in approved securities and

ii. Not more than 5 per cent in term deposits with scheduledcommercial banks.

Directions for investments by RNBCs were rationalized in June 2004 with a view to re ducing the overall systemic risk in the Financial sector and safeguarding the interest of the depositors.

In this regard the following roadmap was prescribed: a) From the quarter ended June 2005 and onwards, RNBCs were permitted to

invest only to the extent of 10% of the Aggregated Liabilities to Depositors (ALDs) as at the second preceding Quarter or one time of their Net Owned Funds, whichever is Non-Banking Financial Companies lower, in the manner which in their opinion of the company is safe as per approval of its Board of Directors.

b)

From the quarter ended June 2006 onwards, this limit would stand abolished and RNBCs would not be permitted to invest any amount out of ALDs as per their discretion. However, to avoid strain, in complying with 100% directed investments
54

by companies, the same had been modified to 95% of ALD up to March 31, 2007 and 100% of ALD thereafter. These liquid asset securities are required to be lodged with one of the scheduled commercial banks or Stock Holding Corporation Of India Ltd.. or a depository or its participant (registered with SEB1).Effective October 1, 2002, government securities are to be necessarily held by NBFCs either in Constituents Subsidiary General Ledger Account with a scheduled Commercial bank or in a demit account with a depository participant registered with SEBI.These securities cannot be withdrawn or otherwise dealt with for any purpose other than Repayment of public deposits.

3) Period of Deposits :
No demand deposits NBFCs 12 to 60 months RNBCs 12 to 84 months MNBCs (chit Funds) 6 to 36 months

4) Ceiling of deposit rate:

NBFCs, MNBCs and Nidhis - 11.0 per cent per annum (effective March 4,2003) RNBCs - Minimum interest of 4.0 per cent on daily deposits and 6.0 per cent on other than daily deposits. Interest may be paid or Compounded at periods not shorter than monthly rests.

5) Advertisement methodology for acceptance of deposits/public deposits :

Every company which accepts deposits by advertisement has to comply with the advertisement rules prescribed in this regard, the deposit acceptance form should con-

55

tain certain prescribed information, issue receipt for deposits and maintain a deposit register. Etc.

6) Submission of returns :
All NBFCs holding or accepting public deposits have to submit periodical returns to RBI at Quarterly, half yearly and annual intervals. C)

Prudential Norms applicable to only those NBFCs which are accepting/holding public deposits.
1) Capital to Risk Assets Ratio CRAR): The NBFCs holding/accepting public deposits are required to maintain CRAR as under: i. Equipment leasing companies/hire purchase financecompanies (with MIG credit rating) 12 percent

ii. Equipment leasing companies/hire purchase finance companies (without MIG credit rating) 15 percent

iii. Loan/investment companies 15 percent

iv. RNBCs 12 per cent CRAR comprises tier I and tier II capital To be maintained on a Daily basis and not merely on the reporting dates. Tier I Capital core capital or NOF but includes compulsorily convertiblepreference shares (CCPS) as a special case for CRAR purposes. Tier II Capital all quasi-capital like preference shares (other than CCPS) subordinated debt, convertible debentures, etc. Tier III Capital not to exceed tier I capital General provisions and loss reserves not to exceed 1.25 per cent of the risk weighted Assets. Subordinated debt issued with original tenor of 60 months Or more.

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2)

Restrictive norms: Acceptance of public deposits not allowed if the prudential norms are not complied with fully. Any NBFC defaulting in repayment of the matured deposits prohibited from creating any further assets until the defaults are rectified.

Investments in real estate, except for own use, restricted to 10per cent of the owned fund. Investments in unquoted shares restricted as under:EL/HP Companies 10 percent of owned fund Loan/investment companies 20 per cent of owned fund No further investments in real estate or unquoted shares in case of excess position held till its regularization.

Sufficient adjustment period allowed - further extension on merits of each case. 3) Credit/investment concentration norms : Single borrower exposure limits credit - 15 percent of owned fund Investments - 15 percent of owned fund

Single group of borrower exposure limits credit - 25 percent of owned fund

Composite (credit and investments) exposure limits

Single borrower

- 25 percent of owned fund

Single group of borrowers - 40 percent of owned fund Exposure norms also applicable to own group companies and Subsidiaries. A) Includes all forms of credit and credit related and certain

Other receivables as also off balance sheet exposures.

B)

Debentures/bonds to be treated as credit for the purpose of

57

Prudential norms but as investments for the purpose of Balance sheet and compliance with investment obligations. 4) Reporting System: Half yearly return : Half-yearly returns to be submitted as at the end of March and September every year, A) Time allowed for submission - 3 months from the due date, B) The return to be certified by the statutory auditors of the Company. However, it need not wait for audit and the figures furnished therein could be the unaudited figures but must be certified by auditors

D)

Prudential Norms applicable to all NBFCs irrespective of whether they accept/hold public deposits or not.
1) Income Recognition Norms. The recognition of income on the NPA is allowed on cash basis only. The unrealized income recognized earlier is required to be reversed. 2) NPA norms. Recognition of income on accrual basis before the asset becomes NPA as under: Loans and Advances: up to 6 months and 30 days past due period (past due period done away with effect from March 31, 2003) Lease and Hire Purchase Finance: 12 months 3) Restrictive Norms Loans against own shares not allowed. 4) Policy on demand/call loans: Companies to frame a policy for demand and call loans relating to cut-off date for recalling the loans, the rate of interest, Periodicity of such interest, periodical reviews of such performance,etc.
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5)

Accounting Standards

All the Accounting Standards and Guidance Notes issued by Institute of Chartered Accountants of India (ICAl) is applicable to all NBFCs in so far as They are not inconsistent with theguidelines of RBI. 6) Accounting for investments

All NBFCs to have a well-defined investment policy. Investments classified into two categories (1) Long term and (ii) Current investments.

Long term investments to be valued as per Accounting Standard,Issued by ICAI. Current investments to be classified into - (a) quoted and (b)unquoted.

Current quoted investments to be valued at lower of cost or marketvalue. Block valuation permitted - Notional gains or losses within the Block permitted to be netted - but not inter-block, net notionalgains to be ignored but notional losses to be provided for.

Valuation norms for current unquoted investments are as under: i. Equity shares (at lower of cost or breakup value or fair value) i. Re I/- for the entire block of holding if the balance sheet of 1. the investee company is not available for the last two years ii. Preference shares at lower of cost or face value iii. Government securities at carrying cost iv. Mutual Fund units at net asset value (NAV) for each scheme and v. Commercial paper (CP) at its carrying cost

59

7)

Asset Classification

All forms of credit (including receivables) to be classified into four Categories Standard asset Sub-standard asset Doubtful asset Loss asset

8)

Provisioning for Non-PerformingAssets Loans and Advances.

Standard assets - No provision Sub-standard assets- 10 per cent of outstanding balance Doubtful assets - on unsecured portion 100 per cent and on secured portion 20, 30 and 50 per cent depending on the age of the doubtful assets Loss asset - 100 per cent of the outstanding. Provisioning for Non-PerformingAssets Equipment Lease andHire Purchase accounts.

9)

Unsecured portion to be fully provided for

Further provisions on net book value (NBV) of EL/HP assets

Accelerated additional provisions against NPAsNPA for 12months or more but less than 24 months 10 per cent ofNBVNPA for 24 months or more but less than 36 months 40per cent of NBVNPA for 36 months or more but less than 48months 70 per cent of NBVNPA for 48 months or more 100per cent of NBVValue of any other security considered onlyagainst additional provisions.
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Rescheduling in any manner willnot upgrade the asset up to 12 months of satisfactoryperformance under the new terms. Repossessed assets to betreated in the same category of NPA or own assets optionlies with the company. Risk Weights and CreditConversion factors. Risk - weights to be applied to all assets except intangibleassets. Risk - weights to be applied after netting off the provisions held against relative assets. Risk - weights are 0, 20 and 100. Assets deducted from owned fund like exposure to subsidiariesor companies in the same group or intangibles to be assigned0 per cent risk weight. Exposures to all-India financial institutions (AIFIs) at 20 percent risk weight and all other assets to attract 100 per centrisk - weights. Off-balance sheet items to be factored at 50 or 100 and thenconverted for risk - weight.

10)

11)

Disclosure requirements

1. Every NBFC is required to separately disclose in its balance 1. Sheet the provisions made as outlined above without nettingthem from the income or against the value of assets.

2. The provisions shall be distinctly indicated under separateheads of accounts as under: i. ii. provisions for bad and doubtful assets; and Provisions for depreciation in investments.

3. Such provisions shall not be appropriated from the generalprovisions and loss reserves held, if any, by the NBFC.
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4. Such provisions for each year shall be debited to the profitand loss account. The excess of provisions, if any, held underthe heads general provisions and loss reserves may be written back without making adjustment against them.

5. Nidhis and Chit Fund companies exempted.

Major difference between Banks & NBFCs

NBFCs are doing functions akin to that of banks; however there are a few differences: A NBFC cannot accept demand deposits (demand deposits are funds deposited at a depository institution that are payable on demand immediately or within a very short period like your current or savings accounts). It is not a part of the payment and settlement system and as such cannot issue cheque to its customers. Deposit insurance facility of DICGC is not available for NBFC depositors unlike in case of banks.

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Guidelines of RBI to NBFC:

Priority Status:

Bank loans to all MFIs, including NBFCs working as MFIs on or after April 1, 2011, will be eligible for classification as priority sector loans under respective category of indirect finance only if the prescribed percentage of their total assets are in the nature of "qualifying assets" and they adhere to the "pricing of interest" guidelines to be issued.

Priority Sector status for Bank Loans to other NBFCs

Bank loans to other NBFCs wouldnot be reckoned as priority sectorloans with effect from April 1, 2011

Qualifying Assets

i.

Loans disbursed by an MFI to a borrower with a rural householdannual income not exceedingRs.60,000 or urban and semi urban household income not exceeding Rs.1,20,000.

ii.

Loan amount not to exceed Rs.35, 000in the first cycle andRs.50, 000in subsequent cycles. Totalindebtedness of the borrower not to exceed Rs.50, 000.

iii.

Tenure of loan not to be less than 24 months for loan amount inexcess of Rs.15,000 withoutprepayment penalty; loan to beextended without collateral

iv.

Aggregate amount of loan, given for income generation, not to be less than 75 per cent of the total loans given by the MFIs.

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v.

Loan to be repayable by weekly, fortnightly or monthly installments at the choice of the borrower.

Pricing of Interest:

Banks should ensure a margin cap of 12 per cent and an interest rate cap of 26 per cent for their lendingto be eligible to be classified aspriority sector loans.

Individual Lending Outside SHG/JLG: Loans by MFIs can also beextended to individuals outsidethe self-help group (SHG)/jointliability group (JLG) mechanism

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Swot analysis of NBFC

Strengths:The core strengths of NBFCs lie in their strong customer relationships, good understanding of regional dynamics, service orientation, and ability to reach out to customers who would otherwise have been ignored by banks. Because of their niche strengths, local knowledge, and presence in remote topographies, these NBFCs are able to appraise and service non-bankable customer profiles and ticket sizes. They are thus able to service segments of the population whose only other source of funding would be moneylenders, often charging usurious rates of interest.

Weakness:With the onset of retail financing, NBFCs are losing ground to banks. Also the profitability of NBFCs has also come under pressure due to the competitive dynamics in the Indian financial system. Under these circumstances, NBFCs have begun to look at high-yield segments such as personal loans of small ticket sizes, home equity, loans against shares, and public issue (IPO) financing, to boost profitability. To benefit from access to funding at lower costs, among other reasons, some leading NBFCs have also metamorphosed into banks :Ashok Leyland Finance Ltd, for instance, merged into Indus Ind Bank Ltd, and Kotak Mahindra Finance Ltd converted into Kotak Mahindra Bank Ltd.

Opportunity:Virgin business segments are likely to have NBFCs as innovators. The NBFCs willleveragetheir first mover advantage to make reasonable profits in these segments. NBFCs will play the role of innovators, going forward, with some doubling up as partners to banks. As innovators, they will help identify new businesses, or new ways of doing traditional businesses; they will build business models that will attain a measure of stability over time, before the banks step in. When that happens, it will be difficult for some NBFCs to hold their own against the competition, and some will move out; others will enter into partnerships with banks, resulting in a win-win relationship for both. Partnerships with banks can take a variety of forms. Some NBFCs will become originating agents working for a fee, like DSAs, but others are likely to have more substantial partnerships with banks. Such a partnership could, for instance, involve the NBFC performing credit appraisals, and sharing credit

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risk on assets that it has originated and sold to its partner bank. The success of this business model will depend critically on the NBFCs ability to assess the risks involved in the exposures it originates.

Threats:Factors such as ability to sustain good asset quality, provide prompt and customized services, enter into franchises or tie up arrangements with manufacturers and dealers, and build large networks to reach out to customers, are vital for success on the business front; so are strong collection and recovery capabilities. NBFC lack such facilities. On the financial side, competitive cost of funds and the ability to capitalize at regular intervals, in line with growth requirements, are key requirements for maintaining competitive positions. Slowly and steadily NBFC is losing ground to banks and it only way out is go for partnership with big.

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Future requirements of NBFC

NBFC play an important role in the credit economy. For NBFCs to continue to lend and aid economic growth in the long term, the sector needs wider sources of borrowings, particularly of longer maturity.

NBFC is a Non-Bank Financial Company registered with and regulated by the Reserve Bank of India. NBFCs typically provide small ticket retail loans; microfinance; asset finance such as loans for new & old con-

commercial vehicles , construction equipment, farm equipment, passenger vehicles;

sumer loans; capital market related products such as promoter finance (loan against shares) and infrastructure finance including equipment and project finance.

These products fulfill an important need in the economy by providing credit to under-banked sections of the economy and other key focus areas such as infrastructure.

Some of these products are provided by banks as well. However, from an operations and regulations point of view, some of these products are more efficiently delivered from an NBFC platform than from a bank platform. In fact, NBFCs have played a leading role in development of key areas such as housing, smallticket retail, infrastructure and equipment finance much before the banks entered these segments.

NBFCs are required to maintain a capital adequacy ratio of either 12% or 15% depending on their classification as compared to 9% for banks.

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While NBFCs can raise term deposits from public, the cost of a deposit raising machinery is prohibitive. However, NBFCs do benefit due to an overall lesser regulatory supervision, control, disclosure, reserves and directed lending requirements as compared to that for banks.

NBFCs primarily depend on borrowings from banks, mutual funds and wholesale markets.

They access various facilities and instruments including, amongst others, bank lines of credit, commercial paper, pass through certificates, non-convertible debentures etc.

These borrowings are primarily in the domestic debt market with limited overseas borrowings. The loans given by the NBFCs typically tend to be a fixed duration whereas the borrowings are a combination of short and long maturities leading to maturity mismatches.

During the liquidity crunch in the financial markets in the past couple of months, NBFCs faced a shortage of credit at reasonable costs.

Most NBFCs have had to slow down their disbursements and instead focus on repaying their maturing short term obligations.

The Regulators have made significant efforts to improve liquidity in the overall financial markets and particularly for NBFCs.

Some of these measures include special liquidity support to banks for lending to NBFCs, allowing specific NBFCs to issue perpetual debt instruments and to raise up to USD 10 MN through short-term foreign currency loans up to a maturity of 3 years amongst other measures.

These measures have eased the availability of credit a bit.

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In order that NBFCs continue to lend profitably and thereby aid growth of the economy over the long term, the sector now needs certain measures which can provide wider sources of borrowings, particularly of longer maturity.

This requires measures to deepen the debt markets in India and increase the availability of long term funds in general.

External commercial borrowings (ECB) are possibly one source of long maturity funds, notwithstanding the current liquidity shortage in global credit markets.

The Regulators can consider broad-basing the end-use of ECB to include domestic asset finance on a selective basis linked to overall creditworthiness of the NBFC based on parameters like long-term average NPA, CAR, overall corporate governance etc.

Mutual Funds are emerging as an important source of finance for the NBFCs. Regulations which aid Mutual Funds to mobilize long term funds will enable them to lend long.

The current crisis has been one of confidence and not on credit quality. NBFCs have been viewed with suspicion and during financial crisis NBFCs tend to get relatively more affected than most other participants.

Historically NBFCs have been subject to lesser regulatory supervision and control as compared to the banks. This has been used by the NBFC to their advantage. However, this probably is also the cause of lack of confidence amongst investors.

A greater supervision & control by the regulator coupled with better disclosure may actually enhance confidence in the sector.

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Banks are now playing a lead role in the product segments which hitherto were the mainstay of NBFCs. In this context, it is imperative for NBFCs to innovate and create niches to meet credit needs of unique sections in the economy and thereby become partners to banks rather than competitors.

NBFCs with a strong business proposition, pedigree and corporate governance may also consider transforming themselves on to a banking platform if availability of long term finance continues to be a challenge.

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Current Status of NBFC:

Recent years have witnessed significant increase in financial intermediation by the NBFCs. But as far as the current status of the NBFCs is concerned, these are trapped in a cycle of high costs of funds leading to high rate of interest for borrowers. In order to meet with the fund requirements, NBFCs borrow from the markets directly at much higher rates than the banks. Consequently, the rates at which they lend are also higher. As a result, higher interest outgo caps margins of the borrowers from the NBFCs and also deters their growth. NBFCs mostly lend to sectors like infrastructure equipment, farm equipment and commercial vehicles since these areas do not get loans from the banks. Conversion of some of these NBFCs into full-fledged banking structure would enable these infrastructure companies to raise loans at a cheaper rate. Low cost of fund raising will enable these infra companies to maintain the competitive spirit of the industry.

Budget expectations
Give private banking licenses - The NBFCs wants private banking license because they borrow from the markets directly at much higher rates than the banks. Consequently, the rates at which they lend are also higher. As a result, a higher interest outgo caps margin of the borrowers from the NBFCs deters their growth. NBFCs mostly lend to sectors like infrastructure equipment, farm equipment and commercial vehicles since these areas do not get loans from the banks. Halt monetary tightening - Another demand of the industry is that it wants the finance ministry to urge Reserve Bank of India (RBI) on the issue of monetary tightening because though control-

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ling inflation is of utmost importance, further monetary tightening measures will further boost the refinancing rates for NBFCs. This will result in higher lending and hence decline in overall volume of business. as well because of increase in borrowing rates and tight liquidity conditions will hamper borrowing and lending conditions. Restore the status of priority sector lending against gold loan - Since the RBI has said that advances given by banks to NBFCs for loans that are provided to farmers against gold jewelry, will not be treated as priority sector lending, the NBFCs now dont get priority sector loans and hence the interest rates on the loans they take from banks have been increased because regular loans are costlier than priority sector ones. Hence, the industry wants the status of priority sector lending against gold loan to be restored so that fund raising plans of the industry will not be impacted Outlook NBFC sector faced significant stresses on asset quality, liquidity and funding costs due to the global economic slowdown & its impact on the domestic economy. While all the NBFCs were affected, the impact varied according to the structural features of each NBFC. However, with Indian economy recovering rapidly over the last few quarters, demand side of NBFCs has improved and challenges to asset quality have also come down. As such, the sector is now more robust due to the lessons learned from this crisis. Though, profitability is expected to be lower than historical levels due to conservative ALM (asset-liability management), higher provisioning and avoidance of high yielding unsecured loan segments. However, profits are at the same time expected to be much more stable & less susceptible to liquidity related pressures going forward. A robust banking and financial sector is crucial for facilitating higher economic growth and financial intermediaries like NBFCs have a definite and very important role in the financial sector, particularly in a developing economy like ours.

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NBFCs provide a vital link among various building blocks in a financial system. Hence, NBFCs in India are expected to flourish in the medium-long term since they serve a strong source of finance to infra and auto segments which will be the key sectors for the countrys economic growth in the coming years. After the expected approval of banking license in this budget, these NBFCs will be able to avail deposits from the public which will be the cheapest and best source of fund and will enable these NBFCs to expand their operations in an aggressive manner.

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Conclusion:
NBFCs are gaining momentum in last few decades with wide variety of products and services. NBFCs collect public funds and provide loan able funds. There has been significant increase in such companies since 1990s. They are playing a vital role in the development financial system of our country. The banking sector is financing only 40 per cent to the trading sector and rest is coming from the NBFC and private money lenders. At the same line 50 per cent of the credit requirement of the manufacturing is provided by NBFCs. 65 per cent of the private construction activities was also financed by NBFCs. Now they are also financing second hand vehicles. NBFCs can play a significant role in channelizing the remittance from abroad to states such as Gujarat and Kerala. NBFCs in India have become prominent in a wide range of activities like hire purchase finance, equipment lease finance, loans, investments, and so on. NBFCs have greater reach and flexibility in tapping resources. In desperate times, NBFCs could survive owing to their aggressive character and customized services. NBFCs are doing more fee-based business than fund based. They are focusing now on retailing sector-housing finance, personal loans, and marketing of insurance. Many of the NBFCs have ventured into the domain of mutual funds and insurance. NBFCs undertake both life and general insurance business as joint venture participants in insurance companies. The strong NBFCs have successfully emerged as Financial Institutions in short span of time and are in the process of converting themselves into Financial Super Market. The NBFCs are taking initiatives to establish a self-regulatory organization (SRO). At present, NBFCs are represented by the Association of Leasing and Financial Services (ALFS), Federation of India Hire Purchase Association (FIHPA) and Equipment Leasing Association of India (ELA). The Reserve Bank wants these three industry bodies to come together under one roof. The Reserve Bank has emphasis on formation of SRO Particularly for the benefit of smaller NBFCs.

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BIBLOGRAPHY:

BOOKS:-

NON BANKING FINANACIAL COMPANY

www.NBFC.com www.RBI.com www. Wikipedia.com

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