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Foreign Direct Investment: FDI In NBFC Sector in India

Bhawna Dang

| Updated: Mar 30, 2020 | Category: FEMA, NBFC

FDI in NBFC Sector

A Non-Banking Finance Company (NBFC) is the company which is incorporated under the Companies Act, 2013 to provide loans and advances to the individual and corporates similar to a bank but is not registered under the Banking Regulation Act. This article describes the FDI in NBFC Sector.

The main function of Non-Banking Finance Company and a bank is to provide finance to its customers and they are alike the same in many activities such as providing loans and advances, credit facility and such other schemes, i.e., Insurance.

But there are major three differences between Bank and NBFC:

  • It cannot accept demand deposits
  • It doesn’t form part of the payment and settlement system and cannot issue cheque[1] drawn on itself.
  • Deposit insurance facility.

A Non-banking finance company provides full support to the bank as it is able to provide services to those geographical areas where the bank is unable to reach and has limitations in providing the services to the marginalized section.

The non-banking finance company sector has been a boon to the Indian lending Industry as it has significantly contributed to the growth of the economy. It has contributed more than the banks due to the lower cost and less regulatory compliances involved in NBFCS than the banks.

Read our article:What are the Regulatory Requirements of Non-Banking Financial Company in India?

Is FDI Allowed In NBFC Sector?

Foreign Direct Investment, FDI in NBFC Sector is the investment made by a foreign entity into the business of India by having controlling ownership.

Foreign Direct Investment has been regulated by the Foreign Exchange Management Act, 2000 and has been governed by the Reserve Bank of India.

FDI in NBFC Sector is made through either the government route or FDI automatic route.

Under Government route, approval of the Reserve Bank is required, under the Automatic route, Investments is made without the approval of the Authority.

Foreign Direct Investments has always been treated as a complicated procedure as there has always been a regulatory discomfort in allowing the foreign direct investment above the minimum capitalization norms.

With time, the perspective of government has changed, and for ease of business, foreign direct investment has been allowed up to 100% in many sectors by the Government of India.

In the Non-Banking Finance Sector, it has been allowed to 100% under the automatic route vide Notification dated September 09, 2016.

Changes in Foreign Direct Investment Norms WRT NBFC

According to the Reserve Bank of India Notification dated September 09, 2016, an amendment has been made into the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2000.

Before the said notification, 100% FDI was allowed under automatic route only when the NBFC was engaged in the 18 prescribed activities which were divided into fund-based and non-fund-based activities with the minimum capitalization norm.

Fund Based Activities

Fund-based activities are activities which deal with credit or cash Transactions

  • Merchant Banking,
  • Underwriting,
  • Portfolio Management Services,
  • Stock Broking,
  • Asset Management,
  • Venture Capital,
  • Custodial Services,
  • Factoring, Leasing
  • Finance, Housing Finance
  • Credit Card Business
  • Micro Credit
  • Rural Credit

Non-Fund Based Activities

These are activities which do not deal with credit or cash transactions

  1. Investment Advisory Services.
  2. Financial Consultancy
  3. Forex Broking
  4. Credit Rating Agencies
  5. Money Changing Business

Capitalization Norms for Fund Based Activities

  • Minimum foreign capital requirement-USD 0.5 million
  • 51 per cent of this USD 0.5 million-to be infused upfront
  • For the acquisition of a stake of more than 51 per cent, the minimum foreign capital requirement was USD 5 million, of which 75 per cent had to be infused at once.
  • A more than 75 per cent stake could only be acquired via a joint venture with a minimum capital requirement of USD 50 million, of which USD 7.5 million will have to be infused upfront.

Capitalization Norms for Non-Fund Based Activities

  1. Minimum foreign capital requirement-USD 0.5 million
  2. To be infused upfront.

After the said notification, 100% FDI is allowed under the automatic route under the head ‘other financial services’ with no other restrictions.

Under the said notification, it has its comprehensive coverage for the financial service activities regulated by financial sector regulators, viz., RBI, SEBI, IRDA, PFRDA, NHB or any other financial sector regulator as may be notified by the Government of India.

Significant Changes under the notification:

  • Conditions for Minimum Capitalization Norms have eliminated, and Now Foreign Direct Investment can be made to any amount.
  • “Other Financial Services” has extensive coverage than the 18 activities mentioned thereunder.

Impact of RBI Notification on FDI in NBFC Sector

  1. Foreign Banks and venture capitalist can now invest in the Indian lending Business.
  2. It will help in the development of the Financial Market.
  3. NBFC Shall be able to provide long-term loans to the infrastructure sector.
  4. It has opened the market for large investors.

See Our Recommendation: How to Raise Fund in NBFC, Is FDI a Good Option?.

Non-Banking Finance Company (NBFC) and Foreign Loan

Another aspect of the foreign direct investment in the non-banking finance company is the foreign loan which is governed by the Foreign Exchange Management (Borrowing and Lending in Foreign Exchange) Regulation, 2000, Foreign Exchange Management Act, 1999 and the regulations passed by RBI.

External Commercial Borrowing

External commercial borrowings(ECB) are loans which are raised by eligible Indian resident entities from recognized non-resident entities confined to permitted and non-permitted end-use, minimum maturity, maximum all-in-cost ceiling.

Eligible Borrowers

Entities which are allowed to raise Foreign Direct Investment are available to borrow External Commercial Borrowing, Entities such as:

  1. Port Trust
  2. Units in SEZ;
  3. SIDBI; and
  4. EXIM Bank of India.
  5. Registered Entities engaged in microfinance activities.

Recognized Lender

  1. It should be a resident of FATF or IOSCO compliant country.
  2. Multilateral and Regional Financial Institutions where India is a member country shall also be as recognized lenders;
  3. Individuals as lenders can only be permitted if they are foreign equity holders or for subscription to bonds/debentures listed abroad; and.
  4. Overseas branches/subsidiaries of Indian banks are permitted as recognized lenders only for FCY ECB (except FCCBs and FCEBs). Overseas branches/subsidiaries of Indian banks, subject to applicable prudential norms, can participate as arrangers/underwriters/market makers/traders for Rupee denominated Bonds issued overseas. However, underwriting by foreign branches/subsidiaries of Indian banks for issuances by Indian banks will not be allowed.

Limit and Leverage

Under the Automatic Route

  • Up to $ 750 million or its equivalent as per financial year.
  • In the case of FCY denominated ECB raised from direct foreign equity holder, ECB liability-equity ratio for ECB raised under the automatic route cannot exceed 7:1. However, this is not applicable to the limit of loan up to USD 5 million.

Minimum Average Maturity Period (MAMP) for NBFC:

S.No. Particular MAMP
1. For the working capital purpose or general corporate purpose 10 Years
2. On lending for repayment of Rupee loans availed domestically for capital expenditure 7 Years
3. On lending for
 repayment of Rupee loans availed domestically for purposes other than capital expenditure.
10 Years

End-use

The non-Banking Finance company can only take a loan for the following purpose:

  1. Working capital
  2. Repayment of rupee loan for Capital Expenditure
  3. Repayment of rupee loan for other than capital expenditure.

Procedure for taking the External Commercial Borrowing by Non-Banking Finance Company

  • Before taking a loan, a Loan Registration Number (LRN) must be generated from the Authorized Dealer with all the supporting documents.
  • Authorized Dealer takes the time of 7 days to generate the Loan Registration Number.
  • Only after creating the Loan registration number, the amount of loan can be credited in the bank account.
  • Monthly return in the form of ECB-2 shall be a file with Reserve Bank of India through AD Bank.

Conclusion

Allowing 100% FDI in NBFC sector is a game-changer for the Indian economy as it helps the sector in growing at a larger scale and helps in making this sector a great contributor to economic growth. Non-Banking finance company contribution is higher than any other sector in the economy growth.

Foreign direct Investment has improved the capital inflow of the Non-Banking finance sector so that NBFCs can invest in large projects or meet the daily needs of the business. Foreign direct investment has also helped in removing the domestic monopolies which were held by the large investors, and it has given an advantage to the NBFCs in the competitive market.

It can be rightly said that FDI in NBFC Sector has become the backbone for the Non-Banking Finance companies and helped them in achieving their vision and objectives efficiently.

Read, More: Foreign Investments Criteria for NBFCs: An Overview .

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Bhawna Dang

Bhawna Dang is a competent and skilled professional, holding an educational background in M. Com, Company secretaryship and LL. B. She holds ample experience of 4 years working as an Advisory Associate with a blend of corporate background. She has extensive knowledge in handling matters relating to Reserve Bank of India and has also worked on various secretarial and listing compliances of corporates.

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