Startup

10 Reasons Why Startups Should Choose NBFCs Over Banks

When startups seek financial backing to fuel their growth, the choice between Non-Banking Financial Companies (NBFCs) and traditional banks can significantly shape their future. NBFCs have emerged as a flexible and dynamic alternative for entrepreneurs seeking financial solutions tailored to their ventures’ unique needs. Unlike conventional banks, which often have rigid structures and lengthy approval processes, NBFCs offer a range of financial products designed to meet startups’ ever-evolving demands.

In the rapidly changing business landscape, startups require agility and quick access to funds to seize opportunities as they arise. NBFCs, with their simplified procedures, ease of accessibility, and willingness to engage with risk, present an ideal option. This article will explore why NBFCs are becoming an increasingly attractive choice for startups over traditional banking institutions.

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Shedding Light on Banks in Brief

A bank is an authorized establishment that takes deposits that can be withdrawn when needed, aiding individuals in handling their money. People and companies put their savings into a bank with the guarantee that they can withdraw money whenever they need to. Banks provide two important guarantees to customers: the security of their deposits and the option to withdraw money when necessary.

Banks provide interest on deposits to increase the initial sum and motivate people to save. In addition, banks provide loans using these deposits, thus aiding in the economic growth of the nation and the financial stability of its people. Given this responsibility, it is crucial to grasp the main operations that a bank carries out.

A Glimpse of How Banks Work

Banks, whether physical or online, oversee the movement of funds between individuals and companies. They provide safe deposit accounts where individuals can securely store their money and utilize funds from deposit accounts to provide loans for individuals or companies.

The bank receives interest payments from borrowers in exchange for those loans.

A portion of the interest earned is returned to the initial deposit account holder as interest, usually in a savings, money market, or CD account. Banks’ main revenue sources are the interest earned on loans and the fees collected from customers.

These charges can be connected to particular products, like bank accounts or linked to financial services. As an illustration, an investment bank providing portfolio management to investors may impose a fee for this particular service. Alternatively, a financial institution might charge an origination fee while approving a home loan for a borrower. The banking industry is subject to strict regulations. The RBI supervises banks and financial institutions, working with state regulatory agencies to ensure compliance with guidelines.

Glimpse of NBFC

NBFCs, also known as non-banking financial companies, are financial institutions that differ from traditional banks. NBFCs do not hold a banking license granted by the RBI. NBFCs have the legal approval to approve loans and start credit services for borrowers. Certain non-banking financial companies also assist individuals in planning for their retirement.

Investment banks, money market funds, hedge and private equity funds, chit funds, mortgage lenders, and peer-to-peer lenders are all considered part of the NBFC category. A financial entity qualifies as an NBFC:

• If its financial assets make up more than 50% of its total assets,
• And if the income from the financial assets constitutes more than 50% of the gross income.

Additionally, an NBFC is prohibited from engaging in a core business centred around agriculture and industry and buying or selling goods other than securities, real estate development, or property transactions.

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How do NBFCs Actually Work?

Non-banking financial companies (NBFCs) collect funds from various sources, such as banks, financial institutions, individual investors, and capital markets. The money is subsequently utilized to offer loans and advances to borrowers as credit. Non-banking financial companies levy interest on the loans at a rate that exceeds the interest rates banks charge. The NBFCs generate income from the lending rate and borrowing cost variance.

Non-banking financial companies (NBFCs) are required to uphold a minimum net owned fund (NOF) and adhere to different regulatory directives, such as capital adequacy ratio (CAR) and asset-liability management (ALM). The RBI oversees NBFC operations through regular inspections, examinations on-site, and surveillance conducted off-site.

NBFCs provide various services, such as insurance, leasing, and hire-purchase. These services assist NBFCs in broadening their revenue sources and decreasing their reliance on interest earnings. NBFCs also provide tailored financial services to meet the unique requirements of their clients.

Difference between NBFCs and Traditional Banks

NBFCs and traditional banks vary in many aspects. They are as follows:

• The banks in India are regulated as licensed financial institutions by the Reserve Bank of India Act of 1934 and the Banking Regulation Act of 1949. NBFCs are regulated by the Reserve Bank of India Act of 1934 and are formed under the guidelines of either the Companies Act of 1956 or the Companies Act of 2013.
• Banks offer a range of services to their customers, including credit card capabilities, advance loans, guarantees, money transfers, check processing, and other offerings. In contrast, NBFCs offer services that include mutual funds, equity, insurance, savings, investment programs, and other offerings.
• Non-banking financial companies, unlike banks, acquire funds by securitizing assets, while banks primarily focus on attracting deposits and extending loans.
• Banks can receive repayable deposits, but NBFCs are prohibited from accepting such deposits.
• While banks can receive a maximum of 74% of their foreign investments, NBFCs are allowed to receive up to 100%.
• Banks’ primary role is to engage in the process of payments and settlements. Conversely, Non-Banking Financial Companies do not belong to any payment and settlement cycle.
• Banks must regularly maintain two measures: Statutory Liquidity measures (SLR) and Cash Reserve Ratios (CRR). NBFCs are not required to uphold these ratios.
• The Deposit Protection and Credit Guarantee Corporation (DICGC) provides deposit protection to banks. However, NBFCs are excluded from utilizing this service.
• Banks can be involved in the process of creating credit. However, NBFCs are incapable of creating credit.
• Non-Banking Financial Companies do not provide the same transactional services as banks, such as deposits, cash withdrawals, checks, debit card payments, and internet payments.

Why should Startups prefer NBFCs over Traditional Banks?

When startups need financial support, non-banking financial companies (NBFCs) often provide a more accessible and flexible option than traditional banks. Let’s explore 10 compelling reasons why NBFCs should be preferred for startups seeking business loans.

Quick Loan Disbursal

Startups often face urgent financial needs, and traditional banks’ rigorous verification and documentation processes can lead to delays. NBFCs, on the other hand, have more lenient lending criteria and streamlined processes. They require minimal documentation, allowing faster disbursal of funds. This enables startups to access quick finance during emergencies, helping them avoid cash flow disruptions.

Competitive Interest Rates

Interest rates can significantly affect a startup’s ability to repay loans. NBFCs tend to offer lower interest rates compared to traditional banks. Since NBFCs determine their rates based on the Prime Lending Rate (PLR), which isn’t regulated by the Reserve Bank of India (RBI), they have greater flexibility to adjust rates and attract more clients. This can ease financial pressure on startups, making NBFCs a more affordable option for business loans.

Broader Access to Loans

NBFCs often serve a wider audience than banks. While banks typically require a steady income for loan approval, NBFCs assess a borrower’s potential cash flows, allowing them to lend to startups and individuals without regular income. This broad reach allows underbanked startups to access the funds they need to grow their businesses.

Simplified Loan Process

Applying for loans with NBFCs is much more straightforward than applying with banks. With simpler approval and payment procedures, business owners can get loan approvals within as little as three working days. This rapid turnaround makes NBFCs particularly attractive to startups needing quick capital access.

Fewer Regulations and Easier Compliance

Since NBFCs operate under the Companies Act, they are subject to less stringent regulations than traditional banks. This makes loan processing much simpler, which, in turn, reduces the administrative burden on startups. This relaxed regulatory environment is particularly beneficial for startups that need flexibility in terms of loan approval and repayment.

Holistic Credit Assessment

Unlike banks, which primarily rely on a borrower’s or CIBIL scores, NBFCs use a more holistic approach to credit evaluation. They consider factors such as the borrower’s industry, tenure in business, bank statements, turnover, and income tax returns (ITRs) from previous years. This method allows startups with less established credit histories to access funds based on their broader financial health.

Customer-Centric Approach

NBFCs are known for their customer-focused services, often surpassing banks regarding responsiveness and personalized care. They provide borrowers with up-to-date loan information and payment details through online platforms, making it easy for startups to manage their loans. Additionally, NBFCs are adapting to modern customer care standards, offering real-time support to ensure a smoother borrowing experience.

Digital Application Process

In today’s digital age, NBFCs have embraced paperless transactions, allowing startups to apply for loans entirely online. By simply uploading the required documents, business owners can receive funds directly in their accounts without visiting a branch. This digital-first approach contrasts with banks’ more traditional, paperwork-heavy processes, offering startups a faster, more convenient way to secure loans.

Pre-Approved Loan Limits

NBFCs often provide startups with pre-approved loan limits, allowing them to draw funds as needed without reapplying for loans each time. This structure helps startups manage their cash flow more effectively, as they only pay interest on the amount withdrawn, not the total pre-approved amount. This flexibility ensures startups can access funds whenever necessary without incurring extra costs.

Convenience and Flexibility

With their fast, customer-friendly approach, NBFCs offer the convenience startups need in a busy world. From digital applications to flexible repayment options, NBFCs provide personalized solutions that meet the unique needs of each borrower. This ease of access is invaluable for startup founders who juggle multiple responsibilities.

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Conclusion

With flexible lending conditions, faster disbursement processes, and customer-centric services, NBFCs offer startups a more efficient and accessible way to secure business loans. The rise of NBFC credit in India, particularly during challenging financial times, further solidifies their role as a preferred business lender. For startups looking to grow and thrive, choosing the right NBFC can be the key to unlocking their potential.

When selecting an NBFC, it’s crucial to consider factors beyond interest rates, like the lender’s reputation and the overall cost of the loan, to make an informed decision.

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