Guidelines on Certificate of Registration for Factoring Business

Prabhat Nigam

04 Mar, 2022

The Reserve Bank of India (RBI) on 17^th of January, 2022 came out with regulations on Registration of Factors (Reserve Bank) Regulation, 2022. These regulations will regulate the manner in which certificate of registration shall be given to the Non-Banking Financial Companies (NBFCs) who propose to be involved in the factoring business once they satisfy the prescribed conditions.

What is a factoring business?

Small businesses work with little capital and are always in a shortage of funds to run their business. Their situation is further worsened when there is undue delay in receiving payments from the buyers and the whole business cycle gets affected. Factoring is a business where an entity usually an MSME or small business sells its business receivables to a factor which is usually an NBFC to gain funds and fulfil the immediate problem of shortage of working capital. The entity doing the business purchases these receivables and in return extends immediate liquidity at a discount to these small business.

This becomes a win-win situation for both the entities where the small business entity gets immediate liquidity and the factor is able to earn the margin on the business receivables after discounting it.

Currently, in India there are only 7 licensed NBFCs who are indulged in factoring business. The Factoring Regulation (Amendment) Bill, 2020 has been passed by both the houses of the Parliament which has the potential of bringing in 9000 registered NBFCs into the factoring business. This will open the gates of liquidity for small MSMEs and improve the rates of interest for them.

Features of the Regulations  

5 crore Net Owned Funds: The Reserve bank of India^[1] has specified that for a company to be registered as NBFC-Factor, it has to maintain a Net Owned Fund of Rupees 5 crores. The RBI can change this requirement from time to time.

Principal Business Criteria (PBC):  As per the new regulations the NBFC-Factor needs to maintain at least fifty percent of its financial assets in the business of factoring and NBFC-Factors’ total income earned from the business of factoring should not be less than fifty per cent of its gross income given under regulation 4.

Registration for a factoring business

1. Every business that wishes to start the business of factoring needs to make an application with the RBI for grant of Certificate of Registration (CoR) as a NBFC-Factor under the proposed act and ensure compliance with the Principal Business Criteria.
2. Any Non-Banking Financial Company- Investment and Credit Company (NBFC-ICC) who wishes to undertake the business of factoring must make an application of CoR to the RBI under the act passed after satisfying the following conditions:
3. The NBFC-ICC must not be holding or accepting any public deposits
4. The NBFC-ICC should be having total assets whose worth is not less than Rupees 1000 crore according to the last audited balance sheet.
5. The NBFC-ICC must also meet the requirement of Net Owned Funds as provided under the regulation number 3
6. The NBFC-ICC must have fulfilled all the regulatory compliances

Any of the existing NBFC-ICC who wishes to undertake the business of factoring but does not satisfy the above mentioned conditions has to approach the RBI for conversion of NBFC-ICC to NBFC-Factor. The intending NBFC-ICC must make an application of conversion along with all the supportive documents which are required for a new entity to be registered as a NBFC-Factor. Further, the NBFC-ICC is also bound to surrender the original Registration Certificate issued by the RBI.

Conduct of the business of factoring

Any entity be it NBFC-Factors or NBFC-ICC which has been granted the CoR must run the business of factoring according to the provisions of the passed Act and also according to the rules and regulations that will be framed under the act and the ones framed by the RBI.

The RBI said in a notification that with the application of these guidelines, the number of NBFCs involved in the business of factoring will increase from the existing 7 to 182 in number.     

The Act allows the Trade Receivables Discounting System (TReDS) for filing of assignment of trade receivables transactions on behalf of the factor with the central registry in order to increase the operational efficiency within 10 days.

Conclusion

Given the condition of cash crunched MSME sector which is always on the lookout for liquidity, the Factoring Regulation (Amendment) Bill, 2020 is a boon to them where they can buy liquidity from the market quickly without worrying about delays of payments from the vendor and without affecting their business cycle. The Act is expected to open the floodgates of liquidity for the MSME sector with the entry of NBFCs in the business of factoring. The existing NBFCs will get an open playground for entering into the business of factoring which is otherwise limited to the banks and few NBFCs. Once this Act gets enforced, over nine thousand NBFCs will get a chance to enter the business of factoring on fulfilment of prescribed conditions.