Major challenges faced by NBFCs & their solutions

Swetha Dhinesh

09 Aug, 2023

In the last few years, the financial sector has undergone a significant transformation, and the NBFCs (Non-Banking Financial Companies) have been an essential component in that change. NBFCs have continued its growth, and its contribution to the Indian GDP has gone past the contribution by banks.

Therefore, NBFC registration in India may look like an excellent option for entrepreneurs. However, there are certain challenges faced by people while starting NBFCs. In this article, we shall look at those challenges faced by NBFCs. 

Challenges faced by NBFCs

NBFCs have been capturing market shares and have made rapid progress than the banks, but small NBFCs have faced difficulty in establishing themselves due to the presence of a few prominent players in the NBFC market.

There are a number of challenges faced by NBFCs. Some of the major challenges are discussed below:

• Challenge of funding due to the absence of refinancing options: In India, banks have many options for refinancing. Likewise, housing financing companies also have refinancing alternatives and refinances from the regulator of Housing Financing Companies.

However, the NBFCs are dependent on banks or the capital markets for raising resources. This is quite unfavorable to the sustainability of the growth of NBFCs. Moreover, it is also to be noted that the funds flow from these sources can run dry anytime.

• Challenges faced in obtaining NBFC license: The process of procuring the NBFC license is quite complicated. The process involves complicated documentation procedures and approval from the Reserve Bank of India. The Reserve Bank regulates the process, which needs to be followed by the NBFCs in order to get registration.

• Complicated NBFC compliances in India: When the NBFC is incorporated, it is also required to follow a number of compliances. NBFC compliance varies from one type of NBFC to another. So the challenge arises when a person running a company of loans and advances, etc. it becomes increasingly tough to carry all aspects together. It also becomes challenging to know when the prescribed returns are to be filed and how it is to be filed.

• Lack of flexibility in loan classification of NPAs: The Non-Performing Assets (NPA) are quite relevant for big powerhouses, but businesses with irregular cash flow face an adverse impact on payments. Classification under NPA and flexibility in scheduling is essential. The NPA classification should be based on assets financed.

• Absence of a statutory recovery tool: The lack of a statutory recovery tool with NBFCs is another challenge hounding the NBFCs for long.

• Several representative bodies: In the current situation, there are a number of representative bodies. It must be understood that the NBFC sector is still in its early stages. Therefore, setting a single representative body could be an ideal thought. It is also vital that every segment is represented adequately in the apex body that facilitates the balanced growth of NBFCs.

• Lack of capacity building: It is essential that the NBFCs create a receptive ecosystem for capacity building on collective as well as on an individual basis. It lacks in present NBFCs, and the gap must be filed as soon as possible.

• Disparate tax treatment: There lies a great inequality in the tax structures for banks vs. NBFCs like Tax deduction at source, dual taxation on lease/hire purchase, etc.

• Lack of defaulter database: NBFCs are susceptible to credit risk due to the lack of vital information. Additionally, there is a need to bring essential legislative amendments in order for these companies to leverage the utility payments database in the credit assessment process.

• Stripping of priority sector status to bank lending to NBFCs: This is one of the major challenges faced by NBFCs. The priority sector status to bank lending to NBFCs should be restored. Therefore, the collaboration model between the NBFCs and banks ensures credit flow to those sections of society that are underserved. It will help NBFCs to create assets and wealth in rural parts of the country. The Reserve Bank of India¹ can put a cap on routing a fixed percentage of total bank lending priority through NBFCs.

• Minimum mandatory credit rating for NBFC: It is now obligatory for a deposit accepting NBFCs to get investment-grade credit. It will make them eligible for accepting deposits. If the rating of the NBFC is downgraded below the minimum investment grade rating, it can’t take public deposits. Moreover, it is required to report to the RBI regarding its position.

Compliance Challenge

Below are some of the major compliance challenges faced by the NBFC sector:

• The new prompt corrective action (PCA) framework for NBFCs has increased the burden of compliance.
• The increased compliance burden brought on by the NBFC’s amended regulatory framework.
• Ineffective management and tracking of relevant licences
• Complicated NBFC regulations in India.
• The absence of an accurate list of required compliances.
• Ineffective event-based compliance tracking.
• Ineffective ongoing compliance tracking.
• A management-level awareness deficit.
• Compliance is manual, paper-based, and dependent on humans, especially in small NBFCs.
• Certification of anecdotal conformity.

Expected Solution from Enterslice

Enterslice is offering a few actions that would help address the challenges with compliance and the difficulty in managing them to run an NBFC.

• Create a culture of compliance by performing a baseline applicability assessment.
• Signing up for tailored, real-time, national regulatory updates.
• Digitising compliance management.

To address these operational challenges, Enterslice can help small NBFCs by considering the following:

• Forming strategic alliances with larger financial institutions or fintech companies to access resources like capital and technology.
•  Investing in innovative technological infrastructure and automation solutions to improve productivity, enhance customer experience, and streamline procedures.
• Putting regulatory compliance first by employing specialised compliance personnel, conducting frequent training, and using outside consultants as necessary.
• Establishing a solid framework for risk management through the use of skilled personnel and thorough risk assessment procedures.
• Putting efficient client acquisition and retention tactics into practice, such as individualised customer care, targeted marketing, and loyalty programmes.
• Investigating partnerships and affiliations with trade organisations to gain access to market information, business insights, and credit-scoring models.
• Creating a proactive liquidity management strategy that includes stress testing, backup plans, and a variety of funding sources.

We assess the unique issues faced by NBFC and create specialised solutions in line with its business strategy, legal regulations, and expansion goals. 

Conclusion

FAQs

Also, read: Check List for an NBFC Business Model.

1. https://www.rbi.org.in/