Non-Banking Financial Company: Function & Features

By- Shaurya Raj

Published On: April 1, 2022 at 10:00 IST

Introduction

A Non-Banking Financial Company (NBFC) is a company registered under the Companies Act ,1956 engaged in the business of loans and advances, acquisitions of shares/ stocks/ bonds/ debentures/ securities issued by the government or local authority or other marketable securities of like nature, leasing, hire-purchase, insurance business, chit business but does not include any institution whose principal business is that of agriculture activity, purchase or sale of any goods (other than securities) or providing any services and sale/purchase/construction of immovable property.

Official Companies Act here:  Companies Act, 1956

A Non-banking institution which is a company and has principal business of receiving deposits under any scheme or arrangement in one lump sum or in installments by way of contributions or in any other manner, is also a Non-Banking Financial Company (Residuary Non-Banking Company).

They are financial institutions that offer services like an actual bank but do not have a banking license.

In general terms these institutions are prohibited to take traditional demand deposits which are readily available funds, such as those in checking or savings accounts from the public.

The Non-Banking Financial Companies are growing as promising institutions that are offering diverse services and meeting the requirement of the consumers.

Also read: Concept, Development and Procedure of Listing Securities under Companies Act, 2013

What is the difference between banks and NBFCs?

NBFCs lend and make investments and hence their work is similar to that of a normal Bank, but there are few differences between the two they are given below:

• NBFC cannot accept demand deposits but in a Bank demand deposits.
• NBFCs do not form part of the payment and settlement system and cannot give cheques draw on themselves.
• Deposit insurance facility of Deposit insurance and Credit Guarantee Corporation is not accessible to depositors of NBFCs, which is usually available in a normal bank.
• In Banks foreign investment is allowed up to 74% and in NBFCs it is allowed 100%.
• CRR(Cash reserve ratio) it is applicable only to Banks but not applicable to NBFCs.
• CRAR (Capital Adequacy Ratio) is applicable in banks but there is 15% CRAR for Deposit taking NBFCs and Non-Deposit taking- Systemically important NBFCs.

Different Types of NBFCs registered with RBI.

There are few ways with which NBFCs are categorized:

• The first type of category is the different ways of liabilities into Deposit and Non-Deposit accepting NBFCs.
• The second type is the non-deposit taking NBFCs by their size into systemically important and other non-deposit holding companies (NBFC-NDSI and NBFC-ND)
• The third type is by the different kind of activity they conduct.

Also read: RBI’s Monetary Policy in the light of Pandemic & All about RBI

Even this broad category, there some sub-category which consist the different types of NBFCs, they are as follows:

• Asset Finance Company (AFC): It is a company which is a financial institution carrying on as its principal business the financing of physical assets supporting productive and economic activity, like for example automobiles, tractors, lathe machines, generator sets, earth moving and material handing equipment’s, moving on own power and general-purpose industrial machines. Principle business for this purpose is defined as aggregate of financing real/ physical assets supporting economic activity and income arising there from is not less than 60% of its total assets and total income respectively.
• Investment Company (IC): Investment Company means any company which is a financial institution carrying on as its principal business which is acquisition of securities.
• Loan Company(LC): Loan Company means any company which is a financial institution carrying on as its principal business by providing finance whether by making loans or advances or otherwise for any activity other than its own but does not include an Asset Finance Company.
• Infrastructure Finance Company(IFC): It is another type of non-banking finance company which deploys at least 75% of its total assets in infrastructure loans, has a minimum Net Owned Funds of Rs 300 crore, has a minimum credit rating of ‘A’ or equivalent and a CRAR of 15%
• Systemically Important Core Investment Company (CIC-ND-SI): CIC-ND-SI is an NBFC carrying on the business of acquisition of shares and securities.
• Mortgage Guarantee Companies(MGC)- Mortgage Guarantee Companies are financial institutions for which at least 90% of the business turnover is Mortgage guarantee business or at least 90% of the gross income is from mortgage guarantee business and net owned fund is Rs 100 crore.

Functions of NBFCs

• Hire Purchase services– A hire purchase service is a way through which the seller delivers the goods to the buyer without transferring the ownership of the goods. The payment of the goods is ensured to be made in instalments. Once the buyer pays all the instalments of the goods, then only ownership of the good is transferred to the buyer.
• Retail Financing– Companies that provides short term funds for loans against shares, gold, property, primarily for consumption purposes.
• Trade Finance– Companies dealing in Dealer/ Distributor finance so that they can for working capital requirements, vendor finance, and other business loans.
• Infrastructural Funding– This is the largest section where major NBFCs deal in. A lot portion of this segment alone makes up a major portion of funds lent, amongst the different segments. This majority includes Real Estate, Railways or Metros, Flyovers, Ports, Airports, etc.
• Asset Management Company– Asset Management Companies are those companies that consist of fund managers (who invest in equity shares to gain handsome gains) who invest the funds pooled by small investors and actively manage it.
• Venture Capital Services– The companies that invest in small businesses are at their initial stage but their success rate is high and are promising enough of sufficient return in the coming time.
• Micro Small Medium Enterprise (MSME) Financing– MSME is one of the roots of our economy and millions of livelihoods depends on this sector that is why the government announced such luring schemes for the MSME sector to promote its growth.

Features of NBFCs

• The NBFCs are permitted to either accept or renew public deposits for minimum of 12 months and a maximum of 60 months.
• NBFCs cannot offer higher interest rates. It should fall under the ceiling rate that is specified by the RBI. The interest must be paid or on a monthly basis.
• NBFCs cannot offer any benefit to the depositors.
• The deposits with NBFCs are not provided insurance.
• The guarantee of the repayment of deposits by NBFCs is not provided by the RBI.

Transparency and Disclosure Requirements

NBFC P2P or Peer to Peer lending is the process of lending money to individuals or businesses through online portals. An individual or financial institution can become a lender at P2P lending and earn interest paid the individual or business who has borrowed money.

An NBFC-P2P shall be required to disclose the following information:

• To the Lender- Details about the borrowers including personal identity, required amount, interest rate sought and credit score as arrived by the NBFC-P2P. Details about all the terms and conditions of the loan, including likely return, fees and taxes.
• To the Borrower- Details about the lender including proposed amount, interest rate offered but excluding personal identity and contact details.
• Publicly disclose on its website:
• Overview of credit assessment/score methodology and factors considered
• Disclosures on usage/ protection of data
• Grievance redressal mechanism
• Portfolio performance including share of non-performing assets on a monthly basis and segregation by age
• Its broad business models

NBFC-P2P shall ensure that the providing of services to a participant, who has applied for availing of such services, is backed by appropriate agreements between the participants and NBFC-P2P.

The agreements shall categorically specify all the terms and conditions among the borrower, the lender and the NBFC-P2P.

The interest rates displayed on the platform shall be in Annualized Percentage Rate (APR) format.

Participant Grievance Redressal.

• An NBFC-P2P shall put in place a Board approved policy to address participant grievances/ complaints. Complaints shall be handled/ disposed of by NBFC-P2P within such time and in such manner as provided for in its Board approved policy , but in any case, not beyond a period of one month from date of receipt.
• At the operational level, NBFC-P2P shall display the following information prominently, for the benefit of participants, on the website:
• The name and contact details (Telephone/ Mobile Nos. as well as email address) of the Grievance Redressal Officer who can be approached for resolution of complaints against the NBFC-P2P.
• That if the compliant/ dispute is not redressed within a period of one month, the participant may appeal to the Customer Education and Protection Department of the Bank.

Conclusion

Collaborating with NBFC has manifested to be an efficacious and logical business partnership between two companies considering the gains made from its service.

Some of them are better knowing what a customer prefers and do a systematic and detailed data analysis for better decision making.

Now, more and more companies are going for NBFCs collaboration because of the upgraded technology and also for a better understanding that will help any two companies before they join hands and it will be fruitful for both the companies.

References:

1. NBFC and Fintech Collaboration — Types, Features & Checklist
2. RBI Organisation: All you wanted to know about NBFC’s.
3. Banking Awareness: What are the NBFC and their Functions.
4. Disclosure/ Code/ Requirements to be followed by NBFC-P2P.

About Author: I am Shaurya Raj, Student of LL.B. (1^st Year), Army Institute of Law.

Edited By: Advocate Komal Sharma, Publishing Editor at Law Insider