Requisite for the Conversion of NBFC into Banks

Priyanka Bajpayee

04 Jan, 2021

Non-Banking Financial Companies (NBFCs) are the financial institutions regulated by the Reserve Bank of India to provide credit facilities. Usually, NBFCs are more preferred over banks as they are quite efficient in meeting financial requirements. NBFC majorly covers those sectors i.e. Infrastructure, micro, small and medium enterprises that are not covered by the banks. In the articles, we will discuss the process and how the banks are different from NBFCs.

NBFC is playing a phenomenal role in the Indian economy by providing sound sources of funding. Conversion of NBFC into Banks results in access to lower-cost deposits and improved leverage. Banks majorly work with Public savings which require proper documentation

Role of NBFC in the Indian Economy

NBFCs are playing a vital role in the development of the country and also boosting the infrastructure, economic development, creation of wealth, employment generation. NBFC especially have focused on the weaker sections of the society.

To carry out a new division, NBFCs are offering a varied range of products, financing, leasing, housing finance, and gold loans i.e. consumer durable Loans by taking into consideration the following factors-

1. Major focus on the customer section by providing tailor-made products offering and products.
2. Enhancing the business model through improved efficiency and enhanced experience.

NBFCs are providing financial services to the various sectors of the society through the new and advanced technology to the consumers to maintain a direct link and communication with them.

How the Banks are different from NBFC in terms of working?

The Bank and NBFCs function similarly to each other but there is some power given to Banks only. i.e. 

Below mentioned activities can only perform by the Banks-

• Acceptance of Deposits;
• Payment and settlement system;
• Acceptance of Demand deposit repayable on demand.
• Issuance of credit cards and checkbook.
• Keeping the Cash Reserve Ratio and Statutory Liquidity Ratio.
• The Facility of Deposit Insurance to the customers.

The Legal Standard for converting NBFC into Bank

Non-banking financial companies (NBFCs) are seen as one of the key aspirants to receive the banking regulator’s clearance to inroad in the banking space. However, some of the NBFCs may face a problem to meet the criteria of converting NBFC into a bank.

Before Conversion of NBFC Into Banks, below mentioned conditions are required to be fulfilled-

• The Requirement of minimum Paid-up capital-For a new bank, the minimum paid-up capital requirement shall be Rs.200 crore. However, it shall be raised up to Rs.300 crore within 3 years of commencement of business.
• Promoter’s Contribution-The minimum contribution of the promoter shall be 40 % of the paid-up capital of the bank.
• Contribution other than Promoter’s Contribution-Other than the promoters’ contribution, the initial capital may be raised through public issue or private placement.
• Additional Capital Requirement by the Promoter-While increasing the capital to Rs.300crore within 3 years of commencement of business, the promoters are required to bring additional capital, which would be at least 40 % of the fresh capital raised.
• Lock-in period requirement-Lock in for a minimum period of 5 years from the date of receipt of capital by the bank.
• Large industrial houses cannot sponsor in the new banks. However, Individual companies, (Directly or indirectly associated with the large industrial houses can be allowed to participate in the equity of a New bank (Private sector) but only up to a maximum of 10 % who will not have a controlling power in the bank.
• An arm’s length relationship shall be maintained with business entities in the promoter group and the individual company.
• The link among business entities in the promoter group and the proposed new bank shall be of like between two independent and unconnected entities.

Criteria of Conversion of NBFCs into Private Sector Banks

NBFCS shall satisfy the following criteria for converting the NBFC into Private sector banks –

• A minimum net worth of Rs.200 crore in the latest balance sheet of the respective NBFC shall increase to Rs.300 crore within 3 years from the date of conversion.
• No large Industrial House or the industries owned/controlled by public authorities shall promote the NBFC. 
• The credit rating acquired by the NBFC shall not be less than AAA rating in the previous year.
• Proper compliance with RBI regulations^[1] /directions, keeping a track record, repayment of public deposits. No default should have been reported against the NBFC
• The NBFC wishing to convert into the bank should have capital adequacy of not less than 12 percent and net NPAs of not more than 5 percent.

Further for conversion NBFCs are required to comply with Capital Adequacy Ratio and all other requirements such as-

Procedure for Application for Conversion of NBFC into Banks

• Application for conversion shall be prepared and submitted in the prescribed form.
• A project report shall be attached to the application covering the potential of the business and viability of the proposed bank.
• Particulars of the background of promoters along with their experience and also disclosure of promoters’ direct and indirect interests in various companies.
• The License will be issued to those NBFCs who conform to the requirements stated by RBI. The license will be issued on a selective basis.
• To ensure prima facie eligibility of the applicants same will be checked by RBI and will be referred to a high-level Advisory Committee to be set up by RBI.
• The Committee will verify the applications by the procedure set up by them.
• In-principle approval for setting up a bank will be granted by RBI.
• The approval is valid for the period of 1 year from the date of granting in-principle approval by the RBI.

Takeaway 

The process of Conversion of NBFC into Banks is a difficult process to implement as it depends on the business model of individual NBFCs. Implementing the same long-term strategy for conversion can turn wrong. In India, the part of NBFC is growing at the charge of banks. There are so many advantages of banks over NBFCs.

Also Read: New External Commercial Borrowings Norms for NBFC Funding