NBFC

Compliances for Upper Layer

Compliances for Upper Layer

The Upper Layer shall comprise the NBFCs, which the Reserve Bank identifies explicitly as necessary to increase the compliance requirement based on a set of parameters and scoring methodology.

Components of the parametric analysis for Upper Layer:-

Parameter

 ParameterSub-ParametersSub-   Para WeightsParameter er Weights
Quantitative Parameter (70%)1. Size & LeverageTotal exposure (on- and off-balance sheet) & Leverage (total debt to total equity)20 + 1535
2. Inter- connectedness(i) Intra-financial system assets Lending to financial institutions (including undrawn committed lines (UCL) ;Holding of securities issued by other financial institutions.Net mark-to-market reverse repurchase agreements with other financial institutions.Net mark-to-market OTC derivatives with financial institutions.1025
(ii) Intra-financial system liabilities Borrowings from financial institutions (including undrawn committed lines)All marketable securities issued by the finance company to financial institutions;Net mark-to-market repurchase agreements with other financial institutions;10
 ParameterSub-ParametersSub- Para WeightsParameter er Weights
  Net mark-to-market OTC derivatives with financial institutions  
(iii) Securities outstanding with non-financial institutions (issued by the NBFC)5
3. Complexity(i) Notional Amount of Over-the-Counter (OTC) Derivatives OTC derivatives are apparent through a central counterpartyOTC derivatives settled bilaterally510
(ii) Trading and Available-for-Sale Securities5
Qualitative Parameter / Supervisory inputs (30%)4. Nature and type of liabilitiesThe amount and type of liabilities, including the degree of reliance on short-term fundingLiquid asset ratios indicate a nonbank financial company’s ability to repay its short-term debt.The ratio of unencumbered and highly liquid assets to the net cash outflows a non-banking financial company could encounter in a short-term stress scenario.Callable debt is a fraction of total debt, which provides one measure of a nonbank financial company’s ability to manage its funding position in response to changes in interest rates.Asset-backed funding versus other funding to determine a nonbank financial company’s susceptibility to distress in particular credit markets.Asset-liability duration and gap analysis are intended to indicate how well a nonbank financial company matches the re-pricing and maturity of the nonbank financial company’s assets and liabilities.A study on the borrowings split by type, i.e. Secured debt securities, subordinated debt securities, preferred shares/CCPS, CPs; unsecured debt, securitisation, and any other10                                                                      30
 ParameterSub-ParametersSub- Para WeightsParameter er Weights
 5. Group StructureTotal Number of entitiesTotal Number of layersTotal Intra group exposure10 
6. Segment penetrationThe importance of the NBFC as a source of credit to a specific segment or area10
  Total Score100

Regarding asset size, the top ten NBFCs shall permanently reside in the upper layer, irrespective of any other factor.

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Government-owned NBFCs should be in the Base Layer/  Middle Layer, as the case may be. They shall not be placed in the Upper Layer until further notice.

Capital Requirements for Non-Banking Finance Company – Upper Layer (NBFC-UL)

NBFC-Upper Layer shall maintain standard Equity Tier-1 Capital for at least 9 Percent of Risk-Weighted Assets.

Common Equity Tier 1 (CET1) ratio =Common Equity Tier 1 Capital

Total Risk-Weighted Assets

Common Equity Tier 1 capital shall comprise of:

  • Paid-up equity share capital
  • Share premium
  • Capital reserves
  •  Statutory reserves
  • Revaluation reserves

Consequent upon its revaluation by the applicable accounting standards, it may, at the discretion of the NBFC, be reckoned as CET-1 capital at a discount of 55% instead of Tier-2 capital under extant regulations, subject to the following conditions:-

  • the property is held for its use by the NBFC;
  • the NBFC can sell its property available at its own will, and there is no legal obstruction in selling the property;
  • the revaluation reserves shall be presented/disclosed separately in the financial statements of the NBFCs;
  • revaluations are realistic, following the applicable accounting standards;
  • valuations need to be obtained from two independent valuers at least once every three years;
  • Where any event has substantially impaired the value of the property, these are to be immediately revalued and appropriately factored into capital adequacy computation and
  • the auditor of the NBFC has not explicitly expressed a qualified opinion on the revaluation of the property.
  • Other disclosed free reserves, if any.
  • Accumulated losses in the Profit & Loss Account shall be reduced from CET1.
  • Profits in the current financial year will always be included in every quarter if the same has been audited or by the limited review done by the statutory auditors of the NBFC.
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EPt=NPt -0.25 *D*t

Where: EPt=Eligible profit up to quarter of the current financial year, t shall vary from 1 to 4

NPT=Net profit up to quartered

Average of dividends paid during the last three years.

Losses in the current financial year shall be fully deducted from CET 1.

The following Adjustment shall be applied in the calculation of CET1 Capital to be deducted from those mentioned above:-

  1. Goodwill and other intangible assets
  2. Deferred Tax Assets (DTAs)
  3. Investment in the shares of other NBFCs and claims, debentures, bonds, outstanding loans and advances, including hire purchase and lease finance shall be made to and deposits with subsidiaries and companies in the same group exceeding, in the aggregate, ten per cent of the owned funds of the NBFC.
  4. Impairment Reserve shall not be recognised in CET1 capital.
  5. Deductions, if any, required on unrealised gains and losses from regulatory capital concerning paragraphs 3(a) (i) to (iii) of the Annexures on “Implementation of IAS” shall be reduced from CET 1 capital.
  6. Securitisation Transactions
  7. Defined Benefit Pension Fund Assets and Liabilities
  8. Investments in Own Shares (Treasury Stock)

Provisioning for Standard assets by Non-Banking Financial Company – Upper Layer

NBFC-Upper Layer shall maintain provisions for the ‘standard’ assets at the below-mentioned rates for the funded amount outstanding:

Category of AssetsRate of Provision
Individual housing loans and loans to SMEs0.25%
Housing loans extended at teaser rates02.00 % will decrease to 0.40 per cent after one year from the date the rates are reset at higher speeds (only in the standard Cases.’
Advances to Residential Housing-  Commercial Real Estate –  (CRE – RH) Sector0.75 %
Advances to the Commercial Real Estate (other than CRE-RH)01.00 %
Restructured advances :As mentioned in the applicable prudential norms for restructuring advances
All other loans and advances not included above, including loans to Medium Enterprises0.40%

The same shall also be applicable in the case of derivative transactions.

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NBFCs with a Net worth of Rs. 250 Crore or above shall be required to comply with Ind AS for the preparation of their financial statements; they shall continue to hold impairment allowances as required under Ind AS, subject to the prudential floor as prescribed under Paragraph 2 of the Annex.

Prudential Floor for Expected Credit Loss [ECL]

  • Shall hold impairment allowances as required by Ind AS.
  • Asset classification & compute provisions as per prudential norms on Income Recognition, Asset Classification & provisioning (IRACP).

Where impairment allowance (IA) under Ind AS 109 is less than the provisioning requirement under the IRACP ( which includes the standard-asset provisions).

NBFC/ARCs can appropriate the difference from their net profit/ loss after tax to a separate  ‘Impairment Reserve’.

The ‘Impairment Reserve’ balance shall not be reckoned from the capital.

Further, this reserve will not permit withdrawals without prior permission from the Department of Supervision, RBI.

  • Qualification of Board Members – Board composition should be a mix of educational qualifications & experience of the Board. The Board shall be competent to manage the affairs of the NBFC. Individuals shall be appointed based on the contribution they or shall be making to the organisation.
  • Listing & Disclosures – There is a listing requirement for NBFC-UL once the same has been identified as Upper Layer within three years of identification as NBFC-UL.

As per the board-approved policy, disclosure requirements must be placed along the same lines as applicable to a listed company even before the listing.

  • Removal of Independent Directors – In case the independent director is removed before the completion of his tenure, it needs to be intimated to the Supervisors.
  • Large Exposure Framework – It has been decided to introduce a Large Exposure Framework (LEF) for NBFCs placed in the Upper Layer. Significant exposure of an NBFC for all counterparties and groups of connected counterparties shall be considered for exposure ceilings. Simplified and separate guidelines will be issued for incorporating the definition of considerable exposure, regulatory reporting and significant exposure limits.
  • Internal Exposure Limits – Besides the internal limits on Sensitive Sector Exposure (SSE) concerning the capital market and commercial real estate, the Board shall also determine the internal exposure limit on the other credit sector.

NBFC-UL should also determine internal exposure limits on other essential sectors to which credit is extended. Further, NBFC-UL shall put an internal board-approved limit for exposure to the NBFC sector.

Transition Path

Once the NBFC is identified as NBFC-UL by the Department of Regulation, it shall comply with the following:-

  1. The board-approved policy shall be adopted for the enhanced regulatory framework and chart an implementation plan for adhering to the new regulations.
  2. The Stipulation Prescribed shall be adhered to within a maximum period of 24 Months from the date of being classified as NBFC-UL1.
  3. The roadmap shall be submitted to the regulatory for review.

Transition of NBFCs to the Upper Layer

a) Once the NBFC is categorised as NBFC-UL, it shall enhance its regulatory requirement within five years from its classification in the layer, even if it does not meet the parametric criteria.

In other words, they will be eligible to move out of the enhanced regulatory framework only if they do not meet the criteria for the classification for the  5 consecutive years.

b) The NBFC-Upper layer may, however, move out of the enhanced regulatory framework before the period if the movement is a voluntary strategic move to readjust operations as per an approved policy. This stipulation shall not apply if operations are scaling down due to adverse situations specific to the NBFC and its deteriorating financial conditions.

c) NBFCs close to meeting such Parameters as prescribed for the NBFC-Upper Layer shall be intimated to readjust their operations as they want to continue as NBFC-Middle Layer.

All the compliances shall apply to the Base layer, and the Middle layer shall apply to the Upper layer.

Conclusion

 As the NBFCs are getting categorised as an Upper layer, transparency and regulatory compliances have increased, and more is expected from the NBFCs.

References

  1. https://www.rbi.org.in/Scripts/BS_NBFCNotificationView.aspx?Id=12298

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