Checks to be conducted before making deposits with NBFCs and Master Circular from Reserve Bank Of India

The Reserve Bank of India has today issued an advisory to members of public urging them to carefully evaluate their investment decisions, including making deposit with NBFCs. The advisory is part of the Frequently Asked Questions (FAQs) issued by the central bank. The FAQs explain in detail the various kinds of financial entities and the regulations governing them. They also list where members of public can lodge complaints in case some financial entity is found to be conducting business unauthorisedly or does not repay the deposits.

The FAQs, for instance, state that the Reserve Bank regulates Non-Bank Financial Companies that conduct financial activity as their principal business; it has authorised only a few Non-bank Financial Companies to accept deposits; all incorporated entities must necessarily be authorised to collect deposits either under the Reserve Bank of India Act 1934 or under the Companies Act, 1956; and it does not regulate chit fund activities or Collective Investment Schemes (CIS).

The FAQs also state that a detailed list of NBFCs authorised by the Reserve Bank to accept deposits is available on the RBI website (www.rbi.org.in → Sitemap → NBFC List → List of NBFCs Permitted to Accept Deposits) and hasadvised themembers of public to check the list before placing deposits with Non-Banking Financial Companies.

The Reserve Bank has been, on several occasions in the past, through press releases and through its outreach and sensitisation programmes conducted by its Regional Offices, cautioning the general public not to fall prey to fictitious offers promising unsustainable returns by individuals, unincorporated bodies and companies.

The RBI FAQs also advise members of public to immediately register their complaints in case they notice any company accepting deposits unauthorisedly or not repaying the principal and/or interest with the local police or with the Economic Offences Wing of the State Police and in case the entity is a company, to register their complaints with the Registrar of Companies.

RBI Advisory on What* to check before making deposits with NBFCs

A depositor wanting to place deposit with an NBFC must ensure that :

The NBFC is registered with RBI and is specifically authorised to accept deposits. This can be checked from the list of deposit taking NBFCs published on the RBI website – www.rbi.org.in → Sitemap → NBFC List.  The depositor should check the list of NBFCs permitted to accept public deposits and also check that it is not appearing in the list of companies prohibited from accepting deposits.

NBFCs have to prominently display the Certificate of Registration (CoR) issued by the Reserve Bank on its site. If an NBFC is authorised to accept public deposit, the certificate reflects that.

RBI does not guarantee the repayment of deposits accepted by NBFCs

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

Currently, the maximum interest rate that an NBFC can pay to a depositor should not exceed 12.5%. The Reserve Bank, however, keeps changing these interest rates depending on the macro-economic environment. The Reserve Bank publishes the change in the interest rates on www.rbi.org.in → Sitemap → NBFC List → FAQs.

The depositor must insist on a proper receipt for every amount of deposit placed with the company. The receipt should be duly signed by an officer authorised by the company and should state the date of the deposit, the name of the depositor, the amount in words and figures, rate of interest payable, maturity date and amount.

Investors must generally be circumspect if the interest rates or rates of return on investments offered are higher than those offered by others in the market place. Unless the entity accepting funds is able to earn more than what it promises, the entity will not be able to repay the investor as promised. For earning higher returns, the entity will have to take higher risks on the investments it makes. Higher risk could mean undertaking speculative activities and on such activities, there can be no assured return. As such, the public should forewarn themselves that the likelihood of losing money in schemes that offer high rates of interest are more. Still, if they want to invest in schemes that promise high rates of return, investors must ensure that the entity offering such returns is registered with one of the financial sector regulators and is authorised to accept funds, whether in the form of deposits or otherwise.

1. What is a Non-Banking Financial Company?

A Non-Banking Financial Company (NBFC) is a company a) registered under the Companies Act, 1956, b) its principal business is lending, investments in various types of shares/stocks/bonds/debentures/securities, leasing, hire-purchase, insurance business, chit business, and c) its principal business is receiving deposits under any scheme or arrangement in one lump sum or in installments.  However, a Non-Banking Financial Company does not include any institution whose principal business is agricultural activity, industrial activity, trading activity or sale/purchase/construction of immovable property.  (Section 45 I (c) of the RBI Act, 1934) . One key aspect to be kept in view is that the financial activity of loans/advances as stated in 45 I ( c) , should be for activity other than its own. In the absence of this provision, all companies would have been NBFCs.

2. What are systemically important NBFCs?

NBFCs whose asset size is of Rs.100 cr or more as per last audited balance sheet are considered as systemically important NBFCs. The rationale for such classification is that the activities of such NBFCs will have a bearing on the financial stability in our country

3. Does the Reserve Bank regulate all financial companies?

No. Some financial businesses have specific regulators established by law to regulate and supervise them, such as, IRDA for insurance companies, Securities Exchange Board of India (SEBI) for Merchant Banking Companies, Venture Capital Companies, Stock Broking companies and mutual funds, National Housing Bank (NHB) for housing finance companies, Department of Companies Affairs (DCA) for Nidhi companies and State Governments for Chit Fund Companies. Companies which do financial business but are regulated by other regulators, are given specific exemption by the Reserve Bank from its regulatory requirements, such as, registration, maintenance of liquid assets, statutory reserves, etc. The Chart below gives the nature of activities and the concerned regulators.

* NBFC is a financial Institution that is into Lending or Investment or collecting monies under any scheme or arrangement but does not include any institutions which carry on its principal business as agriculture activity, industrial activity, trading and purchase or sale of immovable properties. A company that carries on the business of accepting deposits as its principal business is also a NBFC.

4. Why are insurance companies, stock broking and merchant banking companies, Nidhis, housing finance companies and Chit Fund Companies not regulated by the Reserve Bank of India?

These companies have been exempted from registration and other regulations of RBI in order to avoid dual regulation on them as they are regulated by other financial sector regulators.

5. Does the Reserve Bank have any statutory power vis a vis these exempted NBFCs?

It depends on the extent of exemption granted. Housing Finance Companies, for instance, are exempt from RBI regulations. Other entities like Chit Funds, Nidhi companies, Mutual Benefit companies, Insurance companies, Merchant Banking companies, Stock Broking companies, etc., are granted exemption from the requirements of registration, maintenance of liquid assets and statutory reserves. RBI though does not issue directions that could conflict with the directions issued by other financial regulators, viz.,  Housing Finance Companies are regulated by the National Housing Bank, Insurance Companies by IRDA, Stock broking, Merchant Banking Companies, Venture Capital Companies and companies that run Collective Investment Schemes and Mutual Funds are regulated by SEBI, Nidhi Companies are regulated by the Ministry of Corporate Affairs and Chit Fund Companies are under the regulatory ambit of the respective State Governments.

6. What kind of specific financial companies are regulated by RBI?

The Reserve Bank of India regulates and supervises Non-Banking Financial Companies which are into the business of (i) lending (ii) acquisition of shares, stocks, bonds, etc., or (iii) financial leasing or hire purchase. The Reserve Bank also regulates companies whose principal business is to accept deposits. (Section 45I (c) of the RBI Act, 1934)

7. Does RBI regulate companies that carry on the financial activities as part of their business?

The Reserve Bank regulates and supervises companies which are engaged in financial activities as their principal business. Hence if there are companies engaged in agricultural operations, industrial activity, purchase and sale of goods, providing services or purchase, sale or construction of immovable property as their principal business and are doing some financial business in a small way, they will not be regulated by the Reserve Bank.

8. What does conducting financial activity as “principal business” mean?

Financial activity as principal business is when a company’s financial assets constitute more than 50 per cent of the total assets and income from financial assets constitute more than 50 percent of the gross income.  A company which fulfils both these criteria will be registered as NBFC by RBI. The term ‘principal business’ is not defined by the Reserve Bank of India Act. The Reserve Bank has defined it so as to ensure that only companies predominantly engaged in financial activity get registered with it and are regulated and supervised by it and other trading, manufacturing or industrial companies are not brought under its regulatory jurisdiction. Interestingly, this test is popularly known as 50-50 test and is applied to determine whether or not a company is into financial business.

9. What is a Residuary Non-Banking Company (RNBC)? In what way is it different from other NBFCs?

Residuary Non-Banking Company is a class of NBFCs whose  ’principal business’  is to receive  deposits, under any scheme or arrangement or in any other manner. These companies are not into investment, asset financing or lending.  Functioning of these companies is different from that of NBFCs in terms of method of mobilization of deposits and requirement of deployment of depositors’ funds.  These companies, however, have now been directed by the Reserve Bank not to accept any deposits and to wind up their businesses as RNBCs.

10. We understand that there is no ceiling on raising of deposits by RNBCs, then how safe is deposit with them?

It is true that there is no ceiling on raising of deposits by RNBCs.  However, every RNBC has to ensure that the amounts deposited with it are fully invested in approved investments.  In other words, in order to secure the interests of depositor, such companies are required to invest 100 per cent of their deposit liability into highly liquid and secure instruments, namely, Central/State Government securities, fixed deposits with scheduled commercial banks (SCB), Certificate of deposits of SCB/FIs, units of Mutual Funds, etc.

11.  Can RNBC forfeit deposit if deposit instalments are not paid regularly or discontinued?

No. Residuary Non-Banking Company cannot forfeit any amount deposited by the depositor, or any interest, premium, bonus or other advantage accrued thereon.

12. What is the rate of interest that an RNBC must pay on deposits and what should be maturity period of deposits taken by them?

The minimum interest an RNBC should pay on deposits should be 5% (to be compounded annually) on the amount deposited in lump sum or at monthly or longer intervals; and 3.5% (to be compounded annually) on the amount deposited under daily deposit scheme. Interest here includes premium, bonus or any other advantage, that an RNBC promises to the depositor by way of return.  An RNBC can accept deposits for a minimum period of 12 months and maximum period of 84 months from the date of receipt of such deposit. They cannot accept deposits repayable on demand.  However, at present, the two RNBCs in existence (Peerless and Sahara India Financial Corporation Ltd) have been directed by the Reserve Bank to stop collecting deposits, repay the deposits to the depositor and wind up their RNBC business as their business model is inherently unviable..

13. What are the powers of the Reserve Bank with regard to ‘Non-Bank Financial Companies’, that is, companies that meet the 50-50 criteria?

The Reserve Bank has been given the powers under the RBI Act 1934 to register, lay down policy, issue directions, inspect, regulate, supervise and exercise surveillance over NBFCs that meet the 50-50 criteria of principal business.  The Reserve Bank can penalize NBFCs for violating the provisions of the RBI Act or the directions or orders issued by RBI under RBI Act. The penal action can also result in RBI cancelling the Certificate of Registration issued to the NBFC, or prohibiting them from accepting deposits and alienating their assets or filing a winding up petition.

14. In respect of companies which do not fulfill the 50-50 criteria but are accepting deposits – do they come under RBI purview?

A company which does not have financial assets which is more than 50% of its total assets and does not derive at least 50% of its gross income from such assets is not an NBFC.  Its principal business would be non-financial activity like agricultural operations, industrial activity, purchase or sale of goods or purchase/construction of immoveable property, and will be a non-banking non-financial company.  Acceptance of deposits by a Non-Banking Non-Financial Company is governed by the Companies Acceptance of Deposits Rules, 1975.  The Registrar of Companies in the State Governments administer the schemes.

15. What are deposits?

Deposits mean monies collected in any manner, other than that collected by way of share capital, contribution of capital by the partners of a partnership firm, security deposit, earnest money deposit, advance consideration for purchase of goods, services or construction, loans taken from banks, financial institutions and money lenders and subscription to chit funds. Monies collected in any manner other than these would be termed as deposits.

16. Which entities can legally accept deposits from  public?

Banks, including co-operative banks, can accept deposits.  Non-bank finance companies, which have been issued Certificate of Registration by RBI with a specific licence to accept deposits, are entitled to accept public deposit.  In other words, not all NBFCs registered with the Reserve Bank are entitled to accept deposits but only those that hold a deposit accepting Certificate of Registration can accept deposits.  They can, however, accept deposits, only to the extent permissible. Housing Finance Companies, which are again specifically authorized to collect deposits and companies authorized by Ministry of Corporate Affairs under the Companies Acceptance of Deposits Rules framed by Central Government under the Companies Act can also accept deposits also upto a certain limit.  Cooperative Credit Societies can accept deposits from their members but not from the general public.  The Reserve Bank regulates the deposit acceptance only of banks, cooperative banks and NBFCs.

It is not legally permissible for other entities to accept public deposits.  Unincorporated bodies like individuals, partnership firms, and other association of individuals are prohibited from carrying on the business of acceptance of deposits as their principal business.  Such unincorporated bodies are prohibited from even accepting deposits if they are carrying on financial business.

17. Can all NBFCs registered by RBI accept deposits ? Does getting Certificate of Registration from RBI mean the company can also raise deposits?

No. As stated above, registration with RBI does not automatically allow an NBFC to accept deposits.  The Reserve Bank specifically authorizes an NBFC to accept deposits. This permission is given after verifying a registered NBFC’s performance for three years. That an NBFC is permitted to raise deposits from public is specifically mentioned in its certificate of registration. In fact as a matter of public policy, Reserve Bank has decided that only banks should be allowed to accept public deposits and as such has since 1997 not issued any Certificate of Registration (CoR) for new NBFCs for acceptance of public deposits.,

18. Why is the RBI so restrictive in allowing NBFCs to raise public deposits?

The Reserve Bank’s overarching concern while supervising any financial entity is protection of depositors’ interest. Depositors place deposit with any entity on trust unlike an investor who invests in the shares of a company with the intention of sharing the risk as well as return with the promoters. Protection of depositors’ interest thus is supreme in financial regulation. Banks are the most regulated financial entities. The Deposit Insurance and Credit Guarantee Corporation pays insurance on deposits up to Rs.one lakh in case a bank failed.

19. Which are the NBFCs specifically authorized by RBI to accept deposits?

The Reserve Bank publishes the list of NBFCs that hold a valid Certificate of Registration for accepting deposits on its website : www.rbi.org.in → Sitemap → NBFC List → List of NBFCs Permitted to Accept Deposits. At times, some companies are temporarily prohibited from accepting public deposits. The Reserve Bank publishes the list of NBFCs temporarily prohibited also on its website. The Reserve Bank keeps both these lists updated. Members of the public are advised to check both these lists before placing deposits with NBFCs.

20. What precautions should a depositor take before placing deposit with an NBFC?

A depositor wanting to place deposit with an NBFC must ensure the following before placing deposits :

       i.            That the NBFC is registered with RBI and specifically authorized by the RBI to accept deposits. A list of deposit taking NBFCs entitled to accept deposits is available at www.rbi.org.in → Sitemap → NBFC List.  The depositor should check the list of NBFCs permitted to accept public deposits and also check that it is not appearing in the list of companies prohibited from accepting deposits, which is available at www.rbi.org.in → Sitemap → NBFC List → NBFCs who have been issued prohibitory orders, winding up petitions filed and legal cases under Chapter IIIB, IIIC and others.

    ii.            NBFCs have to prominently display the Certificate of Registration (CoR) issued by the Reserve Bank on its site. This certificate should also reflect that the NBFC has been specifically authorized by RBI to accept deposits. Depositors must scrutinize the certificate to ensure that the NBFC is authorized to accept deposits.

 iii.            The maximum interest rate that an NBFC can pay to a depositor should not exceed 12.5%. The Reserve Bank keeps altering the interest rates depending on the macro-economic environment. The Reserve Bank publishes the change in the interest rates on www.rbi.org.in → Sitemap → NBFC List → FAQs.

 iv.            The depositor must insist on a proper receipt for every amount of deposit placed with the company. The receipt should be duly signed by an officer authorized by the company and should state the date of the deposit, the name of the depositor, the amount in words and figures, rate of interest payable, maturity date and amount.

21. What precautions have to be taken by the public to forewarn themselves about the likelihood of losing money in schemes that offer high rates of interest?

Before investing in schemes that promise high rates of return investors must ensure that the entity offering such returns is registered with one of the financial sector regulators and is authorized to accept funds, whether in the form of deposits or otherwise.  Investors must generally be circumspect if the interest rates or rates of return on investments offered are high. Unless the entity accepting funds is able to earn more than what it promises, the entity will not be able to repay the investor as promised. For earning higher returns, the entity will have to take higher risks on the investments it makes. Higher the risk, the more speculative are its investments on which  there can be no assured return. As such,  the public should forewarn themselves that the likelihood of losing money in schemes that offer high rates of interest are more.

22. Does RBI guarantee the repayment of the deposits collected by NBFCs ?

No. The Reserve Bank does not guarantee repayment of deposits by NBFCs even though they  may be authorized to collect deposits.  As such, investors and depositors should take informed decisions while placing deposit with an NBFC.

23. What action can a depositor take if any NBFC fails to return principal, interest thereof on deposits?

If an NBFC registered with the RBI fails to return depositor’s money, the depositor can complain against the NBFC to the nearest Regional Office of the Reserve Bank. Depositors can also approach the Company Law Board constituted under the Companies Act 1956 or a civil court or Consumer Disputes Redressal Forums for recovery of their money.  Affected persons can complain to the State Police authorities/Economic Offences Wing of the State Police as well.  Some States have passed the Protection of Interest of Depositors (in Financial Establishments) Act, which empowers the States to attach the assets of such entities and distribute the proceeds thereof to the depositors.

24. Can the exempted category of NBFCs accept/hold deposits?

No. NBFCs which are exempted from the provisions of the RBI Act or its directions cannot hold/accept deposits from the public as not holding or accepting deposits is one of the conditions for granting them such exemption. HFCs can however accept deposits to the extent allowed by NHB.

25.  Can a Co-operative Credit Society accept deposits from the public?

No. Co-operative Credit Societies cannot accept deposits from general public. They can accept deposits only from their members within the limit specified in their bye laws.

26. Can a Salary Earners’ Society accept deposits from the public?

No. These societies are formed for salaried employees and hence they can accept deposit only from their own members and not from general public.

27. How does the Reserve Bank come to know about unauthorized acceptance of deposits by companies not registered with it or of NBFCs engaged in lending or investment activities without obtaining the Certificate of Registration from it?

The Reserve Bank gets to know of NBFCs unauthorizedly accepting deposits or engaged in lending and investment without its authorization, mainly through complaints and grievances received from the public, from industry sources and from Exception Reports received from Statutory Auditors of these companies. The Reserve Bank also gets to know about this through market intelligence gathered from newspapers or from information gathered by its own Regional Offices or any other such sources.

Further, RBI has put in place an institutional mechanism at all its Regional Offices to coordinate between the financial sector regulators in the form of State Level Coordination Committee (SLCC). The members of SLCC include State Government officials from the Home and Law Departments, Registrar of Companies, Regional Directorate of Ministry of Corporate Affairs, National Housing Bank, SEBI, Registrar of Chits, and ICAI.  The SLCC meets every half year to exchange information on such unauthorized activities of financial entities.

28. Can Proprietorship/Partnership Concerns associated/not associated with registered NBFCs accept public deposits ?

No. Proprietorship and partnership concerns are un-incorporated bodies.  Hence they are prohibited under the RBI Act 1934 from accepting public deposits.

29. There are many jewellery shops taking money from the public in instalments.  Is this amounting to acceptance of deposits?

It depends on whether the money is received as advance for delivering jewellery at a future date or whether the money is received with a promise to return the same with interest.  The money accepted by Jewellery shops in instalments for the purpose of delivering jewellery at the end of the period of contract is not deposit.  It will amount to acceptance of deposits if in return for the money received, the jewellery shop promises to return the principal amount along with interest.

30. What action can be taken if such unincorporated entities accept public deposits? What if NBFCs which have not been authorized to accept public deposits use proprietorship/partnership firms floated by their promoters to collect deposits?

Such unincorporated entities, if found accepting public deposits, are liable for criminal action. Further NBFCs are prohibited by RBI from associating with any unincorporated bodies. If NBFCs associate themselves with proprietorship/partnership firms accepting deposits in contravention of RBI Act, they are also liable to be prosecuted under criminal law or under the Protection of Interest of Depositors (in Financial Establishments) Act, if passed by the State Governments.

31. What does RBI do to protect the interest of NBFC depositors?

RBI has issued detailed regulations on deposit acceptance, including the quantum of deposits that can be collected, mandatory credit rating, mandatory maintenance of liquid assets for repayment to depositors, manner of maintenance of its deposit books, prudential regulations including maintenance of adequate capital, limitations on exposures, and inspection of the NBFCs, besides others, to ensure that the NBFCs function on sound lines.  If the Bank observes through its inspection or audit of any NBFC or through complaints or through market intelligence, that a certain NBFC is not complying with RBI directions, it may prohibit the NBFC from accepting further deposits and prohibit it from selling its assets.  In addition, if the depositor has complained to the Company Law Board (CLB) which has ordered repayment and the NBFC has not complied with the CLB order,  RBI can initiate prosecution of the NBFC, including criminal action and winding up of the company.

More importantly, RBI initiates prompt action, including imposing penalties and taking legal action against companies which are found to be violating RBI’s instructions/norms on basis of Market Intelligence reports, complaints, exception reports from statutory auditors of the companies, information received through SLCC meetings, etc. The Reserve Bank immediately shares such information with all the financial sector regulators and enforcement agencies in the State Level Coordination Committee Meetings.

As a premier public policy institution, as part of its public policy measure, the Reserve Bank of India has been in the forefront in  taking several initiatives to create awareness among the general public on the need to be careful while investing their hard earned money. The initiatives include issue of cautionary notices in print media and distribution of informative and educative brochures/pamphlets and close interaction with the public during awareness/outreach programs, Townhall events, participation in State Government sponsored trade fairs and exhibitions. At times, it even requests newspapers with large circulation (English and vernacular) to desist from accepting advertisements from unincorporated entities seeking deposits.

32. What is the purpose of enacting Protection of Interest of Depositors in Financial Establishments by the State Governments?

The purpose of enacting this law is to protect the interests of the depositors. The provisions of RBI Act are directed towards enabling RBI to issue prudential regulations that make the financial entities function on sound lines. RBI is a civil body and the RBI act is a civil Act. Both do not have specific provisions to effect recovery by attachment and sale of assets of the defaulting companies, entities or their officials. It is the State government machinery which can effectively do this. The Protection of Interest of Depositors in Financial Establishments Acts, confers adequate powers on the State Governments to attach and sell assets of the defaulting companies, entities and their officials.

33. Will the passage of the Protection of Interest of Depositors in Financial Establishments by the State Governments help in nailing unincorporated entities and companies from unauthorisedly accepting deposits?

Yes, to a large extent. The Act makes offences, such as, unauthorized acceptance of deposits by any entity, firm or company a cognizable offence, that is entities that are indulging in unauthorized deposit acceptance or unlawful financial activities can be immediately imprisoned and prosecuted.  Under the Act, the State Governments have been given vast  powers to attach the property of such entities, dispose them off under the orders of special courts and distribute the proceeds to the depositors. The widespread State Government / State Police machinery is best positioned to take quick action against the culprits. The Reserve Bank has, therefore, been urging all the State Governments to pass the legislation on Protection of Interest of Depositors in Financial Establishment Act. Sixteen States and 1 Union Territory have this legislation in place as on date.  These States are Andhra Pradesh, Assam, Bihar, Goa, Gujarat, Himachal Pradesh, Karnataka, Madhya Pradesh, Maharashtra, Mizoram, New Delhi, Tamil Nadu, Tripura, Uttaranchal, Sikkim, Meghalaya, J&K and Chandigarh Administration.  Some State Governments have  used this Act effectively to safeguard the interests of the depositors.

34. Does RBI have any grievance redressal mechanism in place?

If complaints or grievances against the NBFCs are submitted to the nearest office of the Reserve Bank of India, the same  are taken up with the NBFC concerned to facilitate resolution of the grievance/complaint.

35. Where can one find the list of registered Non-deposit taking NBFCs which are engaged in lending and investment activities?

The list of non-deposit taking NBFCs that hold a valid Certificate of Registration and allowed to lend and make investments is available on the RBI website : www.rbi.org.in → Sitemap → NBFC List → List of NBFCs not accepting public deposits.

36. What action is taken if financial companies which are lending or making investments as their principal business do not obtain a Certificate of Registration from the Reserve Bank ?

If companies that are required to be registered with the Reserve Bank as NBFCs, are found to be conducting non-banking financial activity, such as, lending, investment or deposit acceptance as their principal business, without seeking registration, the Reserve Bank can impose penalty or fine on them or can even prosecute them in a court of law.  If members of public come across any entity which does non-banking financial activity but does not figure in the list of authorized NBFC on RBI website, they should inform the nearest Regional Office of the Reserve Bank, for appropriate action to be taken for contravention of the provisions of the RBI Act, 1934.

37. NBFCs are charging high interest rates from their borrowers.  Is there any ceiling on interest rate charged by the NBFCs to their borrowers?

Reserve Bank of India has deregulated interest rates to be charged to borrowers by financial institutions (other than NBFC- Micro Finance Institution).  The rate of interest to be charged by the company is governed by the terms and conditions of the loan agreement entered into between the borrower and the NBFCs. However, the NBFCs have to be transparent and the rate of interest and manner of arriving at the rate of interest to different categories of borrowers should be disclosed to the borrower or customer in the application form and communicated explicitly in the sanction letter etc.

38. What action can be taken against persons/financial companies making false claim of being regulated by the  Reserve Bank ?

It is illegal for any financial entity or unincorporated body to make a false claim of being regulated by the Reserve Bank to mislead the public to collect deposits and is liable for penal action under the Indian Penal Code. Information in this regard may be forwarded to the nearest office of the Reserve Bank and the Police.

39. What is the difference between acceptance of money by Chit Funds and acceptance of deposits?

Deposits are defined under the RBI Act 1934 as acceptance of money other than that raised by way of share capital, money received from banks and other financial institutions, money received as security deposit, earnest money and advance against goods or services and subscriptions to chits.  All other amounts, received as loan or in any form are treated as deposits.  Chit Funds activity involves contributions by members in instalments by way of subscription to the Chit and by rotation each member of the Chit receives the chit amount.  The subscriptions are specifically excluded from the definition of deposits and cannot be termed as deposits.  While Chit funds may collect subscriptions as above, they are prohibited by RBI from accepting deposits with effect from August 2009.

40. Is the conducting of Chit Fund business permissible under law?

The chit funds are governed by Chit Funds Act, 1982 which is a Central Act administered by state governments. Those chit funds which are registered under this Act can legally carry on chit fund business.

41. If Chit Fund companies are financial entities, why are they not regulated by RBI?

Chit  Fund companies are regulated under the Chit Fund Act, 1982, which is a Central Act, and is implemented by the State Governments. RBI has prohibited chit fund companies from accepting deposits from the public in 2009.  In case any Chit Fund is accepting public deposits, RBI can prosecute such chit funds.

42. Who has the power to take action against Unincorporated Bodies (UIBs) accepting deposits?

As per Section 45T of RBI Act, both the RBI and State Governments have been given concurrent powers. Nonetheless, in order to take immediate action against the offender, the information should immediately be passed on to the State Police or the Economic Offences Wing of the concerned State who can take prompt and appropriate action.  Since the State Government machinery is widespread and the State Government is also empowered to take action under the provisions of RBI Act, 1934, any information on such entities accepting deposits may be provided immediately to the respective State Government’s Police Department/EOW.

Many of the State Governments have enacted the State Protection of Interests of Depositors Act in Financial Establishments, which empowers the State Government to take appropriate and timely action.

Section 45S of the RBI Act 1934 specifically prohibits unincorporated bodies like individuals, firms and unincorporated association of individuals from accepting deposits from the public if they are carrying on financial activity or are accepting deposits as their principal business. The Act makes acceptance of deposits by such UIBs punishable with imprisonment or fine or both.

The RBI Act, 1934, gives concurrent powers to the Reserve Bank and the State Government to obtain a search warrant from the Court to investigate the acceptance of deposits by such UIBs.

An authorised Officer of the Reserve Bank or the State Government can file a complaint in a court of law against the unincorporated bodies and the individuals concerned for the offence.

43. Still there are cases of unscrupulous financial entities cheating public time and again. How does RBI plan to strengthen its surveillance on unauthorized acceptance of deposits/unauthorized conduct of NBFI business by companies?

The Reserve Bank is strengthening its market intelligence function in  various Regional Offices and is constantly examining the financials of companies, references for which have been received through market intelligence or complaints to the Reserve Bank.  In this, context, members of public can contribute a great deal by being vigilant and lodging a complaint immediately if they come across any financial entity that contravenes the RBI Act. For example, if they are accepting deposits unauthorisedly and/conducting NBFC activities without obtaining due permission from the RBI. More importantly, these entities will not be able to function if members of public start investing wisely.  Members of the public must know that high returns on investments will also have high risks.  And there can be no assured return for speculative activities.  Before investing the public must ensure that the entity they are investing in is a regulated entity with one of the financial sector regulators.

44. What are money circulation/Ponzi/multi-level marketing schemes?

Money circulation, multi level marketing / Chain Marketing or Ponzi schemes are schemes promising easy or quick money upon enrollment of members. Income under Multi level marketing or pyramid structured schemes do not come from the sale of products they offer as much as from enrolling more and more members from whom hefty subscription fees are taken.  It is incumbent upon all members to enroll more members, as a portion of the subscription amounts so collected are distributed among the members at the top of the pyramid.  Any break in the chain leads to the collapse of the pyramid, and the members lower in the pyramid are the ones that are affected the most.  Ponzi schemes are those schemes that collect money from the public on promises of high returns.  As there is no asset creation, money collected from one depositor is paid as returns to the other.  Since there is no other activity generating returns, the scheme becomes unviable and impossible for the people running the scheme to meet the promised return or even return the principal amounts collected.  The scheme inevitably fails and the perpetrators disappear with the money.

45. Is acceptance of money under Money Circulation/Multi-level Marketing/Pyramid structured schemes allowed?

No. Acceptance of money under Money Circulation/Multi-level Marketing/Pyramid structured schemes and Ponzi schemes is not allowed as acceptance of money under those schemes is a cognizable offence under the Prize Chit and Money Circulation (Banning) Act 1978.

46. Does RBI regulate Money Circulation/Multi-level Marketing/Pyramid structured scheme?

No. Prize Chits and Money Circulation Schemes are banned under the Prize Chits and Money Circulation Schemes (Banning) Act of 1978. The Reserve Bank has no role in implementation of this Act, except advising and assisting the Central Government in framing the Rules under this Act.

47. Then who regulates entities that run such schemes?

Money Circulation/Multi-level Marketing /Pyramid structured schemes are an offence under the Prize Chits and Money Circulation Schemes (Banning) Act, 1978. The Act prohibits any person or individual to promote or conduct any prize chit or money circulation scheme or enrol as member to its schemes or anyone to participate in it by either receiving or remitting any money in pursuance of such chit or scheme. Contravention of the provisions of this Act, is monitored and dealt with by the State Governments.

48. What if someone operates such a scheme?

Any information/grievance relating to such schemes should be given to the police / Economic Offence Wing (EOW) of the concerned State Government or the Ministry of Corporate Affairs. If brought to RBI notice – we will inform the same to the concerned State Government authorities.

49. Are Collective Investment Schemes (CIS) regulated by the Reserve Bank of India?

No. CIS are schemes where money is exchanged for units, be it time share in resorts, profit from sale of wood or profits from the developed commercial plots and buildings and so on. Collective Investment Schemes (CIS) do not fall under the regulatory purview of the Reserve Bank.

50. Which is the authority that regulates Collective Investment Schemes (CIS)?

SEBI is the regulator of CIS. Information on such schemes and grievances against the promoters may be immediately forwarded to SEBI as well as to the EOW/Police Department of the State Government.

51. Who can the Depositor/Investor turn to in case of grievances?

The two Charts given at the end of Q3 above gives the activity and the regulator overseeing the activity.  Complaints may hence be addressed to the concerned regulator.  If the activity is a banned activity, the aggrieved person can approach the State Police/Economic Offences Wing of the State Police and lodge a suitable complaint.

Master Circular on Miscellaneous Instructions to All Non-Banking Financial Companies

Miscellaneous Instructions to All Non-Banking Financial Companies

Master Circular DNBS (PD).CC.No.290/03.02.001/2012-13, dated 2-7-2012

In order to have all current instructions in one place, the Reserve Bank of India has issued master circulars to NBFCs on various subjects. It is advised that Miscellaneous Directions/Instructions issued upto June 30, 2012, which do not find a place in such master circulars have been compiled herein. A consolidated list of all such instructions is enclosed for ready reference. The Master circular has also been placed on the RBI web-site (http://www.rbi.org.in).

1. Asset Liability Management (ALM) System for NBFCs – Guidelines

It was decided to introduce an ALM System for the Non-Banking Financial Companies (NBFCs), as part of their overall system for effective risk management in their various portfolios. The abovementioned guidelines would be applicable to all the NBFCs irrespective of whether they are accepting/holding public deposits or not. However to begin with, NBFCs (engaged in and classified as equipment leasing, hire purchase finance, loan, investment and residuary non-banking companies) meeting the criteria of asset base of Rs.100 crore (whether accepting/holding public deposits or not) or holding public deposits of Rs. 20 crore or more (irrespective of their asset size) as per their audited balance sheet as of 31 March 2001 would be required to put in place the ALM System.

A system of half yearly reporting was put in place in this regard and the first Asset Liability Management return as on 30 September 2002 was to be submitted to RBI by only those NBFCs which are holding public deposits within a month of close of the relevant half year i.e., before 31 October 2002 and continue thereafter in similar manner. The half yearly returns would comprise of three parts :

(i)  Statement of structural liquidity in format ALM

(ii)  Statement of short term dynamic liquidity in format ALM and

(iii)  Statement of Interest Rate Sensitivity in format ALM.

In the case of companies not holding public deposits, separate supervisory arrangements would be made and advised in due course of time.

2. Nomination rules under Section 45QB of RBI Act for NBFC Deposits

In terms of Section 45QB of the RBI Act, the depositor/s of NBFCs may nominate, in the manner prescribed under the rules made by the Central Government under Section 45ZA of the Banking Regulation Act, 1949 (B.R.Act). one person to whom, in the event of death of the depositor/s, the amount of deposit may be returned by the NBFC. It has been decided in consultation with the Government of India, that the Banking Companies (Nomination) Rules, 1985 are the relevant rules made under Section 45ZA of the B. R. Act. A copy of the rules is enclosed. Accordingly, NBFCs may accept nominations made by the depositors in the form similar to that specified under the said rules.

3. Safe Custody of Liquid Assets/Collection of Interest on SLR Securities

NBFCs including RNBCs are required to maintain liquid assets in the form of Government securities/guaranteed bonds as per the provisions of Section 45-IB of the RBI Act and lodge such securities in a Constituents’ Subsidiary General Ledger (CSGL) Account with a scheduled commercial bank (SCB)/Stock Holding Corporation of India Ltd., (SHCIL) or in a demat account with a depository through a depository participant (DP) registered with Securities & Exchange Board of India (SEBI) or with a branch of SCB to the extent such securities are yet to be dematerialised.

In order to protect the interest of depositors, an exclusive CSGL or demat account to hold Government securities shall be maintained for securities held for the purpose of compliance with Section 45-IB of the RBI Act. This account should be operated only for purchase or sale of securities due to increase or decrease in the quantum of public deposits or withdrawal of securities for encashment on maturity or for repayment to depositors in special circumstances, and not be used to undertake repo or other transactions.

In case an NBFC (including RNBC) deals in the government securities in a manner other than that permitted above, another CSGL account may be opened for this purpose.

It is also observed that some of the NBFCs have either not dematerialised the government securities or have dematerialized but failed to report the same to the RBI. For this purpose the quarterly liquid asset return in the reporting formats of NBS 3 and NBS 3A has been amended to include the information about the demat accounts, which will ensure that the information in this regard is not omitted by NBFCs.

It may be possible that there may be a few Government securities/Government guaranteed bonds that have not been dematerialized and are held in physical form which for the purpose of collection of interest are withdrawn from the safe custody with their designated bankers and re-deposited with the banks after collection of interest. To avoid the process of withdrawal and re-depositing the same it has now been decided that NBFCs/RNBCs shall authorize the designated banks as agents for collection of interest on due dates on these securities held in physical form and lodged for safe custody. NBFCs/RNBCs may approach their designated banker and exercise a Power of Attorney in favour of the designated bank to enable it to collect interest on the securities/guaranteed bonds held in physical form on the due date.

4. Prudential Norms Directions – Preparation of Balance Sheet as on March 31 of every year

In terms of paragraph 9B of Non Banking Financial Companies Prudential Norms (Reserve Bank) Directions, 1998 NBFCs are to prepare the Balance Sheet and profit and loss account as on March 31 every year. Whenever an NBFC intends to extend the date of its Balance Sheet as per provisions of the Companies Act, it should take prior approval of the RBI before approaching the ROC for this purpose. It may, however, be clarified that even in the cases where RBI and ROC grant extension of time, the company would be required to furnish to RBI a Proforma Balance Sheet (unaudited ) as on March 31 of the year and the statutory returns due on the above date.

5. Certificate of Registration (CoR) issued under Section 45-IA of the RBI Act, 1934 – Continuation of business of NBFI – Submission of Statutory Auditors Certificate – Clarification

It has been observed that there are NBFCs which are no longer engaged in the business of NBFI and hence are not required/eligible to hold the CoR granted by RBI. but still continue to do so. In order to ensure that CoRs are only held by NBFCs which are actually engaged in the business of NBFI, all NBFCs should submit a certificate from their Statutory Auditors every year to the effect that they continue to undertake the business of NBFI requiring holding of CoR under Section 45-IA of the RBI Act, 1934.

It is clarified that the business of non-banking financial institution (NBFI) means a company engaged in the business of financial institution as contained in Section 45I(a) of the RBI Act, 1934. For this purpose, the definition of ‘Principal Business’ given, vide Press Release 1998-99/1269 dated April 8, 1999 may be followed.

Non- Reckoning Fixed Deposits with Banks as Financial Assets

It was clarified, that the Reserve Bank issues a Certificate of Registration for the specific purpose of conducting NBFI activities. Investments in fixed deposits cannot be treated as financial assets and receipt of interest income on fixed deposits with banks cannot be treated as income from financial assets as these are not covered under the activities mentioned in the definition of “financial Institution” in Section 45I(c) of the RBI Act 1934. Besides, bank deposits constitute near money and can be used only for temporary parking of idle funds, and/or in the above cases, till commencement of NBFI business.

In addition, the NBFC which is in receipt of a CoR from the Bank must necessarily commence NBFC business within six months of obtaining CoR. If the business of NBFC is not commenced by the company within the period of six months from the date of issue of CoR, the CoR will stand withdrawn automatically. Further, there can be no change in ownership of the NBFC prior to commencement of business and regularization of its CoR

6. Operative instructions relating to relaxation/modification in Ready Forward Contracts, Settlement of Government Securities Transactions and Sale of securities allotted in Primary Issues

All NBFCs/RNBCs are instructed to follow the guidelines on transactions in Government Securities as given in the circular IDMD.PDRS.05/10.02.01/2003-04 dated March 29, 2004 meticulously, wherever applicable. The revised guidelines come into effect from April 2, 2004.

All NBFCs including RNBCs may refer to the circular IDMD.PDRS.4777, 4779 & 4783/10.02.01/2004-05 all dated May 11, 2005 addressed to all RBI regulated entities.

All NBFCs/RNBCs are instructed to follow the guidelines on transactions in Government Securities as given in the circulars meticulously, wherever applicable. In cases of doubt they may refer to IDMD.

7. FIMMDA Reporting Platform for Corporate Bond Transactions

SEBI has permitted FIMMDA to set up its reporting platform for corporate bonds. It has also been mandated to aggregate the trades reported on its platform as well as those reported on BSE and NSE with appropriate value addition.

All NBFCs would be required to report their secondary market transactions in corporate bonds done in OTC market, on FIMMDA’s reporting platform with effect from September 1, 2007. Detailed operational guidelines in this regard would be issued by FIMMDA. In the meanwhile, the NBFCs may approach FIMMDA directly for participating in the mock reporting sessions.

8. Prior Public Notice about change in control/management

Need for public notice before (a) Closure of the Branch/Office by any NBFC (b) Sale/Transfer of Ownership by an NBFC

(a)  NBFC should give at least three months public notice prior to the date of closure of any of its branches/offices in, at least, one leading national news paper and a leading local (covering the place of branch/office) vernacular language newspaper indicating therein the purpose and arrangements being made to service the depositors etc.

(b)    (i)   A public notice of 30 days shall be given before effecting the sale of, or transfer of the ownership by sale of shares, or transfer of control, whether with or without sale of shares. Such public notice shall be given by the NBFC and also by the transferor, or the transferee or jointly by the parties concerned.

For this purpose, the term ‘control’ shall have the same meaning as defined in Regulation 2(1)(c) of the Securities and Exchange Board of India (Substantial Acquisition of Shares and Takeovers) Regulations, 1997.

(ii)  The public notice should indicate the intention to sell or transfer ownership/control, the particulars of transferee and the reasons for such sale or transfer of ownership/control. The notice should be published in one leading national and another in leading local (covering the place of registered office) vernacular language newspaper.

9. Change in Management and Mergers/Amalgamation

It has been observed that the change in management also takes place by way of amalgamation/merger of an NBFC with another NBFC or a non-financial company and as such, these mergers/amalgamations would tantamount to the change in the management, as aforesaid.

It would be obligatory on the part of such an NBFC seeking change in management or merger or amalgamation with any other company to give an option to every depositor to decide whether to continue the deposits with the company under the new management or the transferee company or not. The company would also be obliged to make the payment to the depositors who seek the repayment of their deposits. The Bank would view the non-compliance of the above instructions very seriously and penal action would be initiated against the defaulter company on the merits of each case.

The following changes are effected in the above instructions in January 2006 :

(i)  Merger and Amalgamation in terms of the High Court Order

(a)  Where merger and amalgamation takes place in terms of the High Court order in pursuance of Sections 391 and 394 of the Companies Act 1956, the company shall inform the Bank about merger or amalgamation along with Court’s order approving the same within a period of one month from the date of the order. As the public notice is given by the companies under the Companies Act 1956 and Rules made thereunder, no further public notice is required to be given by the companies in terms of the Bank’s Circular as mentioned above.

(b)  However there will be no change in other instructions contained in paragraph 5(iii) (b) of the Company Circular DNBS(PD).CC.No.12/02.01/99-2000 dated January 13, 2000.

10. The Non-Banking Financial Companies (Deposit Accepting) (Approval of Acquisition or Transfer of Control) Directions, 2009.

In exercise of the powers conferred by sections 45K and 45L of the Reserve Bank of India Act, 1934 (2 of 1934) and of all the powers enabling it in this behalf, Reserve Bank of India having considered it necessary in the public interest and being satisfied that for the purpose of enabling the Bank to regulate the credit system to the advantage of the country, it is necessary so to do, gives to every deposit taking NBFC the Directions hereinafter specified.

Short title and commencement of the Directions

1. (1) These Directions shall be known as the Non-Banking Financial Companies (Deposit Accepting) (Approval of Acquisition or Transfer of Control) Directions, 2009.

(2) These Directions shall come into force with immediate effect.

Definitions

2. For the purpose of these Directions, unless the context otherwise requires, -

(a)  ”control” shall have the same meaning as is assigned to it under clause (c) of sub-regulation (1) of regulation 2 of Securities and Exchange Board of India (Substantial Acquisition of Shares and Takeovers) Regulations, 1997.

(b)  ”NBFC” means non-banking financial company as defined in clause (xi) of sub-paragraph (1) of Paragraph 2 of Non-Banking Financial Companies Acceptance of Public Deposits (Reserve Bank) Directions, 1998.

Prior approval of RBI in cases of acquisition or transfer of control of deposit taking NBFCs

Any takeover or acquisition of control of a deposit taking NBFC, whether by acquisition of shares or otherwise, or any merger/amalgamation of a deposit taking NBFC with another entity, or any merger/amalgamation of an entity with a deposit taking NBFC, shall require prior written approval of Reserve Bank of India.

Application of other laws not barred

The provisions of these Directions shall be in addition to, and not in derogation of the provisions of any other law, rules, regulations or directions, for the time being in force.

Exemptions

The Reserve Bank of India may, if it considers necessary for avoiding any hardship or for any other just and sufficient reason, exempt any NBFC or class of NBFCs, from all or any of the provisions of these Directions either generally or for any specified period, subject to such conditions as the Reserve Bank of India may impose.

(ii) Other cases

Where merger and amalgamation or change in the management of the company takes place upon sale/transfer otherwise than as stated in sub-paragraph (i) above, the NBFCs (including RNBCs) (deposit taking and non-deposit taking companies) should give prior public notice of 30 days.

11. Cover for public deposits – creation of floating charge on Liquid Assets by deposit taking NBFCs

NBFCs raise funds for their operations from various sources like public deposits, bank borrowings, inter-corporate deposits, secured/unsecured debentures, etc.

In order to ensure protection of depositors interest, NBFCs should ensure that at all times there is full cover available for public deposits accepted by them. While calculating this cover the value of all debentures (secured and unsecured) and outside liabilities other than the aggregate liabilities to depositors may be deducted from the total assets. Further, the assets should be evaluated at their book value or realizable/market value whichever is lower for this purpose. It shall be incumbent upon the NBFC concerned to inform the Regional Office of the Reserve Bank in case the asset cover calculated as above falls short of the liability on account of public deposits. NBFCs accepting/holding public deposits were directed to create a floating charge on the statutory liquid assets invested in terms of Section 45-IB of the RBI Act, 1934, in favour of their depositors. Such charge should be duly registered in accordance with the requirements of the Companies Act, 1956.

In view of the practical difficulties expressed by the NBFCs in creating charge on the statutory liquid assets in favour of large number of depositors, it was subsequently decided that NBFCs accepting/holding public deposits may create the floating charge on the statutory liquid assets maintained in terms of Section 45-IB of the RBI Act, 1934 and notifications issued by the Bank from time to time, in favour of their depositors through the mechanism of ‘Trust Deed’.

12. Unsolicited Commercial Communications – National Do Not Call Registry

It is an emerging practice in India to engage agents/outsource business operations for the purpose of soliciting or promoting any commercial transactions using telecommunication mode. There is a need to protect the right to privacy of the members of public and to curb the complaints relating to unsolicited commercial communications being received by customers/non-customers, as part of best business practices.

Telecom Regulatory Authority of India (TRAI) has framed the Telecom Unsolicited Commercial Communications (UCC) Regulations for curbing UCC. Further, the Department of Telecommunications (DoT) has issued relevant guidelines for telemarketers alongwith the registration procedure on June 6, 2007. These guidelines have made it mandatory for telemarketers to register themselves with DoT or any other agency authorized by DoT and also specified that the telemarketers shall comply with the Guidelines and Orders/Directions issued by DoT and Orders/Directions/Regulations issued by Telecom Regulatory Authority of India (TRAI) on Unsolicited Commercial Communications(UCC). The detailed procedure in this regard is also available on TRAI’s website (www.trai.gov.in).

NBFCs are therefore; advised

 (i)  not to engage Telemarketers (DSAs/DMAs) who do not have any valid registration certificate from DoT, Govt of India, as telemarketers;

(ii)  to furnish the list of Telemarketers (DSAs/DMAs) engaged by them along with the registered telephone numbers being used by them for making telemarketing calls to TRAI; and

(iii)  to ensure that all agents presently engaged by them register themselves with DoT as telemarketers.

13. Requirement of minimum NOF of Rs. 200 lakh for all deposit taking NBFCs

In accordance with the consultative approach adopted by the Bank in framing of guidelines, a draft circular on enhancement of minimum NOF level for deposit taking NBFCs was placed on web-site www.rbi.org.in on May 21, 2007.

The suggestions/comments received in this regard were considered. To ensure a measured movement towards strengthening the financials of all deposit taking NBFCs by increasing their NOF to a minimum of Rs.200 lakh in a gradual, non-disruptive and non-discriminatory manner, it has been decided to prescribe that :

(a)  As a first step, NBFCs having minimum NOF of less than Rs. 200 lakh may freeze their deposits at the level currently held by them.

(b)  Further, Asset Finance Companies (AFC) having minimum investment grade credit rating and CRAR of 12% may bring down public deposits to a level that is 1.5 times their NOF while all other companies may bring down their public deposits to a level equal to their NOF by March 31, 2009.

(c)  Those companies which are presently eligible to accept public deposits upto a certain level, but have, for any reason, not accepted deposits upto that level will be permitted to accept public deposits upto the revised ceiling prescribed above.

(d)  Companies on attaining the NOF of Rs.200 lakh may submit statutory auditor’s certificate certifying its NOF.

(e)  The NBFCs failing to achieve the prescribed ceiling within the stipulated time period, may apply to the Reserve Bank for appropriate dispensation in this regard which may be considered on case to case basis.

14. Reclassification of NBFCs

In terms of Company Circular DNBS.PD.CC No.85/03.02.089/2006-07 dated December 06, 2006 it was advised that NBFCs financing real/physical assets for productive/economic activity will be classified as Asset Finance Company (AFC) as per the criteria given under paragraph 4 of that circular. Consequent upon re-classification of NBFCs, in the proposed structure the following categories of NBFCs will emerge :

 (i)  Asset Finance Company

(ii)  Investment Company

(iii)  Loan Company

¹(iv)  Infrastructure Finance Company

 ²(v)  Core Investment Companies-ND-SI

Accordingly, it was advised that the companies satisfying the conditions specified may approach the Regional Office in the jurisdiction of which their Registered Office is located, along with the original Certificate of Registration (CoR) issued by the Bank to recognize their classification as Asset Finance Companies. Their request must be supported by their Statutory Auditors’ certificate indicating the asset/income pattern of the company as on March 31, 2006.

As substantial time has elapsed, since the issue of the circular, it has now been decided that erstwhile EL/HP NBFCs should, duly supported by Statutory Auditors’ Certificate as on March 31, 2008, immediately approach the Regional Office concerned for appropriate classification latest by December 31, 2008 after which NBFCs which have not opted for the classification would be deemed to be loan companies.

15. Monitoring Framework for non-deposit taking NBFCs with asset size of Rs 50 crore and above but less than Rs 100 crore

It was decided to call for basic information from non-deposit taking NBFCs with asset size of Rs 50 crore and above but less than Rs 100 crore at quarterly intervals. The first such returns for the quarter ended September 2008 were to be submitted by first week of December 2008. The quarterly return as at the end of each quarter were to be filed online with the Regional Office of the Department of Non-Banking Supervision in whose jurisdiction the company was registered, within a period of one month from the close of the quarter, while the the procedure/system for online submission would be conveyed at a later date.

Applicable NBFCs were later advised to submit the above return as hard copy and soft copy (via e-mail in Excel format) to the Regional Office of the Department of Non-Banking Supervision in whose jurisdiction their company was registered, within a period of one month from the close of the quarter, till the online procedure in this regard is advised.

16. Accounting for taxes on income – Accounting Standard 22 – Treatment of deferred tax assets (DTA) and deferred tax liabilities (DTL) for computation of capital

As creation of DTA or DTL would give rise to certain issues impacting the balance sheet of the company, it is clarified that the regulatory treatment to be given to these issues are as under :-

  -  The balance in DTL account will not be eligible for inclusion in Tier I or Tier II capital for capital adequacy purpose as it is not an eligible item of capital.

  -  DTA will be treated as an intangible asset and should be deducted from Tier I Capital.

  -  NBFCs may keep the above clarifications in mind for all regulatory requirements including computation of CRAR and ensure compliance with effect from the accounting year ending March 31, 2009.

In this connection it is further clarified that

DTL created by debit to opening balance of Revenue Reserves or to Profit and Loss Account for the current year should be included under ‘others’ of “Other Liabilities and Provisions.”

DTA created by credit to opening balance of Revenue Reserves or to Profit and Loss account for the current year should be included under item ‘others’ of “Other Assets.”

Intangible assets and losses in the current period and those brought forward from previous periods should be deducted from Tier I capital.

DTA computed as under should be deducted from Tier I capital :

 (i)  DTA associated with accumulated losses; and

(ii)  The DTA (excluding DTA associated with accumulated losses) net of DTL. Where the DTL is in excess of the DTA (excluding DTA associated with accumulated losses), the excess shall neither be adjusted against item (i) nor added to Tier I capital.”

17. Introduction of Interest Rate Futures – NBFCs

All NBFCs (excluding RNBCs) were advised to refer to the Directions issued by the Reserve Bank of India in terms of Notification No. FMD.1/ED(VKS)-2009 dated August 28, 2009, covering the framework for trading of Interest Rate Futures (IRFs) in recognized exchanges in India.

It has been decided that NBFCs may participate in the designated interest rate futures exchanges recognized by SEBI, as clients, subject to RBI/SEBI guidelines in the matter, for the purpose of hedging their underlying exposures.

NBFCs participating in IRF exchanges may submit the data in this regard half yearly, in the format enclosed, to the Regional office of the Department of Non-Banking Supervision in whose jurisdiction their company is registered, within a period of one month from the close of the half year.

18. Compliance with FDI norms-Half yearly certificate from Statutory Auditors of NBFCs

NBFCs having FDI whether under automatic route or under approval route have to comply with the stipulated minimum capitalisation norms and other relevant terms and conditions, as amended from time to time under which FDI is permitted.

As such these NBFCs are required to submit a certificate from their Statutory Auditors on half yearly basis (half year ending September and March) certifying compliance with the existing terms and conditions of FDI. Such certificate may be submitted not later than one month from the close of the half year to which the certificate pertains, to the Regional Office in whose jurisdiction the head office of the company is registered.

19. Finance for Housing Projects – Incorporating clause in the terms and conditions to disclose in pamphlets/brochures/advertisements, information regarding mortgage of property to the NBFC

In a case which came up before the Hon’ble High Court of Judicature at Bombay, the Hon’ble Court observed that the bank granting finance in housing, should insist on projects, disclosure of the charge or any other liability on the plot in question or development project being duly made in the Brochure or pamphlet etc. which may be published by developer/owner inviting public at large to purchase flats and properties. The Court also added that this obviously would be part of the terms and conditions on which the loan may be sanctioned by the bank.

Keeping in view the above, it is felt desirable that while granting finance to housing/development projects, NBFCs also should stipulate as a part of the terms and conditions that :

(i)  the builder/developer/owner/company would disclose in the Pamphlets/Brochures/advertisements etc., the name(s) of the entity to which the property is mortgaged.

(ii)  the builder/developer/owner/company should indicate in the pamphlets/brochures, that they would provide No Objection Certificate (NOC)/permission of the mortgagee entity for sale of flats/property, if required.

NBFCs were advised to ensure compliance with the above stipulations and funds should not be released unless the builder/developer/owner/company fulfils the above requirements.

20. Loan facilities to the physically/visually challenged by NBFCs

It was brought to the notice of RBI that a NBFC has discriminated against physically/visually challenged persons in the matter of offering loans.

NBFCs were therefore advised that there shall be no discrimination in extending products and facilities including loan facilities to the physically/visually challenged applicants on grounds of disability. NBFCs were also instructed to advise their branches to render all possible assistance to such persons for availing of the various business facilities.

21. Participation in Currency Futures

Reserve Bank had issued guidelines to banks on trading in currency futures in recognised stock/new exchanges on August 6, 2008. It was decided that all NBFCs excluding RNBCs may participate in the designated currency futures exchanges recognized by SEBI as clients, subject to RBI (Foreign Exchange Department) guidelines in the matter, only for the purpose of hedging their underlying forex exposures. NBFCs were advised tomake appropriate regarding transactions undertaken in the Balance sheet.

22. Services to persons with Disability – Training Programme for Employees

In terms of DNBS.CC.PD.No.191/03.10.01/2010-11 dated July 27, 2010 NBFCs were advised that there shall be no discrimination in extending products and facilities including loan facilities to the physically/visually challenged applicants on grounds of disability and that they may also advise their branches to render all possible assistance to such persons for availing of the various business facilities.

In continuation to the above, NBFCs are advised that they may include a suitable module containing the rights of persons with disabilities guaranteed to them by the law and international conventions, in all the training programmes conducted for their employees at all levels. Further, NBFCs may ensure redressal of grievances of persons with disabilities under the Grievance Redressal Mechanism already set up by them.

23. Submission of data to Credit Information Companies – Format of data to be submitted by Credit Institutions

In terms of Section 2(f)(ii) of the Credit Information Companies (Regulation) Act, 2005, a non-banking financial company as defined under clause (f) of Section 45-I of the Reserve Bank of India Act, 1934 has also been included as “credit institution”. Further, the Credit Information Companies (Regulation) Act provides that every credit institution in existence shall become a member of at least one credit information company. Thus all NBFCs being credit institutions are required to become a member of at least one credit information company as per the statute.

In this regard, in terms of sub-sections (1) and (2) of Section 17 of the Credit Information Companies (Regulation) Act, 2005, a credit information company may require its members to furnish credit information as it may deem necessary in accordance with the provisions of the Act and every such credit institution has to provide the required information to that credit information company. Further, in terms of Regulation 10(a)(ii) of the Credit Information Companies Regulations, 2006, every credit institution shall :

(a)  keep the credit information maintained by it, updated regularly on a monthly basis or at such shorter intervals as may be mutually agreed upon between the credit institution and the credit information company; and

(b)  take all such steps which may be necessary to ensure that the credit information furnished by it, is update, accurate and complete.

It is therefore, advised that NBFCs which have become member/members of any new credit information company/companies may provide them the current data in the existing format. Such NBFCs may also provide historical data in order to enable the new credit information companies to validate their software and develop a robust database. Care should be taken to ensure that no wrong data/history regarding borrowers is given to Credit Information Companies.

24. Implementation of Green Initiative of the Government

As part of the ‘Green Initiative’ of the Government, the Government of India has suggested that steps be taken by entities in financial sector, including NBFCs to help better utilisation of their resources and also better delivery of services.

NBFCs were therefore, requested to take proactive steps in this regard by increasing the use of electronic payment systems, elimination of post-dated cheques and gradual phase-out of cheques in their day to day business transactions which would result in more cost-effective transactions and faster and accurate settlements.

25. Attempt to defraud using fake bank guarantee-modus operandi

In view of reports of instances of frauds involving fake Bank Guarantee with forged signature etc in certain bank branches, NBFCs were advised to take notice of the names of the beneficiaries/representative of beneficiaries and applicants of BGs in order to exercise due caution while handling cases involving the firms/individuals cited in the circular.

26. Credit Default Swaps – NBFCs as Users

NBFCs shall only participate in CDS market as users. As users, they would be permitted to buy credit protection only to hedge their credit risk on corporate bonds they hold. They are not permitted to sell protection and hence not permitted to enter into short positions in the CDS contracts. However, they are permitted to exit their bought CDS positions by unwinding them with the original counterparty or by assigning them in favour of buyer of the underlying bond.

Apart from complying with all the provisions above, NBFCs were advised that, as users, they shall also be required to ensure that the guidelines enclosed including operational requirements for CDS are fulfilled by them.

Annex-1

Guidelines for Credit Default Swaps – NBFCs as users

Definitions

The following definitions are used in these guidelines:

(i)  Credit event payment – the amount which is payable by the credit protection seller to the credit protection buyer under the terms of the credit derivative contract following the occurrence of a credit event. The payment can be only in the form of physical settlement (payment of par in exchange for physical delivery of a deliverable obligation).

(ii)  Underlying asset/obligation – The asset¹ which a protection buyer is seeking to hedge.

(iii)  Deliverable asset/obligation – any obligation² of the reference entity which can be delivered, under the terms of the contract, if a credit event occurs. (Assets under (iii) above, will rank at least pari-passu or junior to the underlying obligation).

(iv)  Reference obligation - the obligation³ used to calculate the amount payable when a credit event occurs under the terms of a credit derivative contract. [A reference obligation is relevant for obligations that are to be cash settled (on a par-less-recovery basis).]

2. Operational requirements for CDS

(a)  A CDS contract should represent a direct claim on the protection seller and should be explicitly referenced to specific exposure, so that the extent of the cover is clearly defined and incontrovertible.

(b)  Other than non-payment by a protection buyer of premium in respect of the credit protection contract, it should be irrevocable.

(c)  There should be no clause in the contract that would allow the protection seller unilaterally to cancel the credit cover or that would increase the effective cost of cover as a result of deteriorating credit quality in the hedged exposure.

(d)  The CDS contract should be unconditional; there should be no clause in the protection contract outside the direct control of the NBFC that could prevent the protection seller from being obliged to pay out in a timely manner in the event that the original counterparty fails to make the payment(s) due.

(e)  The credit events specified by the contracting parties should at a minimum cover:

 (i)  failure to pay the amounts due under terms of the underlying obligation that are in effect at the time of such failure (with a grace period that is closely in line with the grace period in the underlying obligation);

(ii)  bankruptcy, insolvency or inability of the obligor to pay its debts, or its failure or admission in writing of its inability generally to pay its debts as they become due, and analogous events; and

(iii)  restructuring of the underlying obligation (as contemplated in the guidelines on CDS issued vide Circular No. IDMD.PCD.No.5053/14.03.04/2010-11 dated May 23, 2011) involving forgiveness or postponement of principal, interest or fees that results in a credit loss event;

(iv)  when the restructuring of the underlying obligation is not covered by the CDS, but the other requirements in paragraph 2 are met, partial recognition of the CDS will be allowed. If the amount of the CDS is less than or equal to the amount of the underlying obligation, 60% of the amount of the hedge can be recognised as covered. If the amount of the CDS is larger than that of the underlying obligation, then the amount of eligible hedge is capped at 60% of the amount of the underlying obligation.

(f)  If the CDS specifies deliverable obligations that are different from the underlying obligation, the resultant asset mismatch will be governed under paragraph (j).

(g)  The CDS shall not terminate prior to expiration of any grace period required for a default on the underlying obligation to occur as a result of a failure to pay⁴.

(h)  If the protection buyer’s right/ability to transfer the underlying obligation to the protection seller is required for settlement, the terms of the underlying obligation should provide that any required consent to such transfer may not be unreasonably withheld.

(i)  The identity of the parties responsible for determining whether a credit event has occurred should be clearly defined. This determination should not be the sole responsibility of the protection seller. The protection buyer should have the right/ability to inform the protection seller of the occurrence of a credit event.

(j)  A mismatch between the underlying obligation and the reference obligation or deliverable obligation is permissible if (1) the reference obligation or deliverable obligation ranks pari passu with or is junior to the underlying obligation, and (2) the underlying obligation and reference obligation or deliverable obligation share the same obligor (i.e. the same legal entity) and legally enforceable cross-default or cross-acceleration clauses are in place.

(k)  A mismatch between the underlying obligation and the obligation used for purposes of determining whether a credit event has occurred is permissible if (1) the latter obligation ranks pari passu with or is junior to the underlying obligation, and (2) the underlying obligation and reference obligation share the same obligor (i.e. the same legal entity) and legally enforceable cross-default or cross acceleration clauses are in place.

3. Treatment of exposures below materiality thresholds

Materiality thresholds on payments below which no payment is made in the event of loss as per the CDS contract, are equivalent to retained first loss positions and should be assigned risk weight of 667% (1/0.15*100 as minimum CRAR requirement for NBFCs is 15%) for capital adequacy purpose by the protection buyer.

4. Prudential treatment post-credit event

In case the credit event payment is not received within the period as stipulated in the CDS contract, the NBFC shall ignore the credit protection of the CDS and reckon the credit exposure on the underlying asset and maintain appropriate level of capital and provisions as warranted for the exposure. On receipt of the credit event payment, (a) the underlying asset shall be removed from the books if it has been delivered to the protection seller; or (b) the book value of the underlying asset shall be reduced to the extent of credit event payment received if the credit event payment does not fully cover the book value of the underlying asset and appropriate provisions shall be maintained for the reduced value.

5. Capital Adequacy

In terms of NBFC Prudential Norms Directions, 2007, risk weights for credit risk for corporate bonds held by NBFCs is 100%. A CDS contract creates a counterparty exposure on the protection seller on account of the credit event payment. In case of hedging of the cash position by CDS, the exposure will be reckoned on the protection seller subject to the conditions mentioned in para 6 below. NBFCs shall calculate the counterparty credit risk charge for all bought CDS positions as the sum of the current mark-to-market value, (if positive and zero, if MTM is negative) and the potential future exposure.

6. Treatment of exposure to the protection seller

6.1 Exposure to the underlying asset in respect of the hedged exposure shall be deemed to have been substituted by exposure to the protection seller, if the following conditions are satisfied:

a.  Operational requirements mentioned in para 2 are satisfied

b.  There is no maturity mis-match between the underlying asset and the deliverable obligation. If this condition is not satisfied, then the amount of credit protection to be recognised should be computed as indicated in paragraph 6.2 below.

In all other cases the exposure will be deemed to be on the underlying asset.

6.2 Risk weights as applicable to the underlying assets shall be applied for the unprotected portion of the exposure. The amount of credit protection shall be adjusted if there are any mismatches between the underlying asset/obligation and the deliverable asset/obligation with regard to asset or maturity. These are dealt with in detail in the following paragraphs.

6.3 Mismatches

The amount of credit protection shall be adjusted if there are any mismatches between the underlying asset/obligation and the deliverable asset/obligation with regard to asset or maturity.

(i)  Asset mismatches

Asset mismatch will arise if the underlying asset is different from the deliverable obligation. Protection will be reckoned as available to the NBFC only if the mismatched assets meet the requirements specified in paragraph 2 (j) above.

(ii)  Maturity mismatches

The NBFC would be eligible to reckon the amount of protection if the maturity of the credit derivative contract were to be equal to the maturity of the underlying asset. If, however, the maturity of the CDS contract is less than the maturity of the underlying asset, then it would be construed as a maturity mismatch. In case of maturity mismatch the amount of protection will be determined in the following manner:

  a.  If the residual maturity of the credit derivative product is less than three months no protection will be recognized.

  b.  If the residual maturity of the credit derivative contract is three months or more protection proportional to the period for which it is available will be recognised. When there is a maturity mismatch the following adjustment will be applied.

Pa = P x (t- .25) ÷ (T- .25)

Where:

Pa = value of the credit protection adjusted for maturity mismatch

P = credit protection

t = min (T, residual maturity of the credit protection arrangement) expressed in years

T = min (5, residual maturity of the underlying exposure) expressed in years

Example: Suppose the underlying asset is a corporate bond of Face Value of Rs. 100 where the residual maturity is of 5 years and the residual maturity of the CDS is 4 years. The amount of credit protection is computed as under:

100 * {(4-.25) ÷ (5-.25)} = 100*(3.75÷ 4.75) = 78.95

  c.  Once the residual maturity of the CDS contract reaches three months, protection ceases to be recognised.

6.4 NBFCs as users need to adhere to all the criteria required for transferring the exposures fully to the protection seller in terms of paragraph 7.1 above on an on-going basis so as to qualify for exposure relief on the underlying asset. In case any of these criteria are not met subsequently, the NBFC will have to reckon the exposure on the underlying asset. Therefore, NBFCs should restrict the total exposure to an obligor including that covered by way of CDS within an internal exposure ceiling considered appropriate by the Board of the NBFC in such a way that it does not breach the single/group borrower exposure limit prescribed by RBI. In case of the event of any breach in the single/group borrower exposure limit, the entire exposure in excess of the limit will be risk weighted at 667%. In order to ensure that consequent upon such a treatment, the NBFC does not breach the minimum capital requirement prescribed by RBI, it should keep sufficient cushion in capital in case it assumes exposures in excess of normal exposure limit.

6.5 No netting of positive and negative marked-to-market values of the contracts with the same counterparty will be allowed for the purpose of complying with the exposure norms.

7. General Provisions Requirements

For the CDS positions of NBFCs, they should hold general provisions for gross positive marked-to-market values of the CDS contracts.

8. Reporting Requirement:

On a quarterly basis, NBFCs should report “total exposure” in all cases where they have assumed exposures against borrowers in excess of the normal single/group exposure limits due to the credit protections obtained by them through CDS, guarantees or any other permitted instruments of credit risk transfer, to the Regional Office of Department of Non-Banking Supervision where they are registered.

9. NBFCs shall also disclose in their notes to accounts of balance sheet the details given in annex- 2.

ANNEX-2

Format of disclosure to be made in the Annual Financial Statements

(Rs. crore)

1.  No. of transactions during the year

2.  Amount of protection bought during the year

3.  No. of transactions where credit event payment was received during the year

(a)  pertaining to current year’s transactions

(b)  pertaining to previous year(s)’ transactions

4.  Outstanding transactions as on March 31:

(a)  No. of Transactions

(b)  Amount of protection

5.  Net income/profit (expenditure/loss) in respect of CDS transactions during year-to-date:

(a)  premium paid

(b)  Credit event payments received (net of value of deliverable obligation).

Appendix

List of Circulars

Sl. No.	Circular No.	Date
1.	DNBS.(PD).CC.No.11/02.01/99-2000	November 15, 1999
2.	DNBS.(PD).CC.No.12/02.01/99-2000	January 13, 2000
3.	DNBS.(PD).CC.No.15/02.01/2000-2001	June 27, 2001
4.	DNBS.(PD).C.C.No.27/02.05/2003-04	July 28, 2003
5.	DNBS.(PD).C.C.No.28/02.02/2002-03	July 31,2003
6.	DNBS.(PD).CC.No.37/02.02/2003-04	May 17, 2004
7.	DNBS.(PD).CC.No.38/02.02/2003-04	June 11, 2004
8.	DNBS.(PD).C.C.No.42/02.59/2004-05	July 24, 2004
9.	DNBS.(PD).C.C.No.43/05.02/2004-05	August 10, 2004
10.	DNBS.(PD).C.C.No.47/02.01/2004-05	February 07, 2005
11.	DNBS.(PD).CC.No.49/02.02/2004-05	June 9, 2005
12.	DNBS.(PD).CC.No.63/02.02/2005-06	January 24, 2006
13.	DNBS.(PD).C.C.No.79/03.05.002/2006-07	September 21, 2006
14.	DNBS.(PD).C.C.No.81/03.05.002/2006-07	October 19, 2006
15.	DNBS.(PD).CC.No.82/03.02.02/2006-07	October 27, 2006
16.	DNBS.PD.CC. No.85/03.02.089/2006-07	December 06, 2006
17.	DNBS.(PD)C.C No.87/03.02.004/2006-07	January 4, 2007
18.	DNBS.PD/C.C.No.105/03.10.001/2007-08@ @ Actual Circular Number should be DNBS.PD/C.C.No.96/03.10.001/2007-08	July 31, 2007
19.	DNBS.PD/C.C No.109/03.10.001/2007-08	November 26, 2007
20.	DNBS. (PD).C.C.No.114/03. 02.059/2007-08	June 17, 2008
21.	DNBS.(PD).C.C.No.124/03.05.002/2008-09	July 31, 2008
22.	DNBS.PD.CC No.128/03.02.059/2008-09	September 15, 2008
23.	DNBS.PD. Notification No.208	September 17, 2008* * Actual date should be 17-09-09
24.	DNBS.PD.CC.No.130/03.05.002/2008-09	September 24, 2008
25.	DNBS.PD.CC.No.137/03.05.002/2008-09	March 02, 2009
26.	DNBS.PD/CC.No.142/03.05.002/2008-09	June 9, 2009
27.	DNBS.(PD).CC.No.167/03.10.01/2009-10	February 04, 2010
28.	DNBS.PD.CC.No.168/03.02.089/2009-10	February 12, 2010
29.	DNBS.(PD).CC.No.173/03.10.01/2009-10	May 03, 2010
30.	DNBS.(PD).C.C.No.174/03.10.001/2009-10	May 6, 2010
31.	DNBS.CC.PD.No.191/03.10.01/2010-11	July 27, 2010
32.	DNBS (PD) CC No. 195/03.10.001/2010-11	August 9, 2010
33.	DNBS.(PD).CC.No.200/03.10.001/2010-11	September 17, 2010
34.	DNBS(PD).CC.No.206/03.10.001/2010-11	January 5, 2011
35.	DNBS.CC.PD.No.208/03.10.01/2010-11	January 27, 2011
36.	DNBS(PD).CC. No.245/03.10.42/2011-12	September 27, 2011
37.	DNBS(PD).CC. No 248/03.10.01/2011-12	October 28, 2011
38.	DNBS (PD)CC.No.259/03.02.59/2011-12	March 15, 2012
39.	DNBS.CC.PD.No.253/03.10.01/2011-12	December 26, 2011

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1.  Please refer to paragraph 2.4 of the circular IDMD.PCD.No. 5053/14.03.04/2010-11 dated May 23, 2011

2.  For the present, only deliverable obligation permitted in terms of guidelines on CDS vide circular IDMD.PCD.No. 5053/14.03.04/2010-11 dated May 23, 2011.

3.  Please refer to paragraph 2.4 of the circular IDMD.PCD.No. 5053/14.03.04/2010-11 dated May 23, 2011

4.  Definition of maturity – the maturity of the underlying exposure and the maturity of the hedge should both be defined conservatively. The effective maturity of the underlying should be gauged as the longest possible remaining time before the counterparty is scheduled to fulfill its obligation, taking into account any applicable grace period.