RBI issues Master Circular on Bank Finance to NBFCs

Ashish M. Shaji

14 Feb, 2022

Non-banking financial companies have a significant role to play in the India’s current financial system. It broadens the access to financial services and increases competition and diversification of the financial sector. Well performing and fast growing NBFC sector has accelerated the growth of Indian financial ecosystem. NBFCs are interconnected with the banking system as a significant source of funds for them comes from banks. Considering this connection among each other, RBI recently issued a master circular on Bank finance to NBFCs. This circular proposes to specify the regulatory policy of RBI on financing of NBFCs by scheduled commercial banks.

Bank Finance to NBFCs: Key highlights

Some of the key constituents of the circular are as follows:

Permitted financing

• The RBI permitted SCBs to provide need based working capital facilities and term loans to NBFCs registered with the Reserve Bank and involved in infrastructure financing, hire-purchase, loan, equipment leasing, factoring & investment activities subject to other provisions of the RBI Circular.
• The Reserve Bank also allowed SCBs to lend to NBFCs that are exempted from RBI registration based on SCBs’ assessment of various factors.

Restricted Financing

In case where a NBFC engages in any of the following activities, then such NBFC will be ineligible for credit from SCBs:

• bills discounted/rediscounted by Non-Banking Financial Companies, except for rediscounting of bills discounted by NBFCs arising from commercial vehicles’ sale;
• unsecured loans/inter-corporate deposits by Non-Banking Financial Companies to/in a company;
• all types of loans and advances by Non-Banking Financial Companies to their subsidiaries, group companies/entities;
• financing to NBFCs for onward lending to individuals for subscribing to IPOs and for purchase of shares from secondary market;
• NBFCs engaged in equipment leasing.

SCBs have been asked not to grant bridge loans of any kind or interim finance against capital/debenture issue and/or in the form of bridge loans pending raising of long term funds from the market through capital, deposits etc. to any NBFCs.

Further, SCBs are refrained from executing guarantees covering inter-company deposits/loans, thereby guaranteeing refund of deposits/loans accepted by Non-Banking Financial Companies/firms from other NBFCs/firms/trusts or other institutions.

Investment in securities/instruments

The SCBs are not permitted to invest in zero coupon bonds issued by NBFCs, provided the issuer NBFC builds up sinking fund for every accrued interest and keeps it invested in liquid securities/investments.

The SCBs can invest in NCDs issued by NBFCs with original or initial maturity (up to 1 year).

Moreover, SCBs cannot accept shares and debentures (relating to secured loans given to NBFC borrowers) as collateral security.

Prudential norms

SCBs exposure to a single NBFC will be restricted to 20 per cent of their eligible capital base.

The exposure to a group of connected NBFCs or a group of connected counterparties having Non-Banking Financial Companies in the group shall be restricted to 25 per cent of their capital base.

The exposure of SCB to a single Non-banking Financial Company engaged in lending against collateral of gold jewellery (such loans comprising 50 per cent or more of their financial assets), will not exceed 7.5 per cent of the SCB’s capital funds.

Conclusion

Some of the major sources of funding for NBFCs include bank borrowings, debentures and commercial paper. SCBs and NBFCs need operational liberty in credit dispensation and other matters but proper regulation and supervision relating to funding to NBFCs is equally crucial to lower or avoid risks of liquidity, mismatch of asset that happen due to the complex and interconnected structure of the traditional and contemporary banking systems. Hence the RBI^[1] has sought to put in place a regulatory structure by issuing circular on bank finance to NBFCs in order to implement financial discipline and transparency in the economy.

Read our Article: No Immediate Impact on NBFCs: CARE on RBI’s PCA Framework