NBFC Regulation & Microfinance

Non-Banking Financial Companies (NBFCs) and Microfinance Institutions (MFIs) play a vital role in India's financial inclusion landscape. NBFCs have emerged as significant alternatives to banks for raising funds, while microfinance serves the poorest sections of society. For JAIIB candidates, understanding the regulatory framework for NBFCs, the evolution of microfinance, and the SHG-Bank linkage model is essential for both the exam and professional banking practice.

NBFCs have been an important contributor to the growth of the Banking, Financial Services and Insurance (BFSI) sector. They have emerged as a suitable alternative for banks in terms of raising funds for businesses.

As per the RBI Act, NBFCs must:

• Obtain a certificate of registration from RBI
• Maintain net owned funds of Rs. 25 lakh or such other amount, not exceeding Rs. 100 crore, as notified by RBI (amended 2019)
• RBI may notify different amounts for different categories of NBFCs

NBFCs have three broad classifications:

1. Liabilities-Based Classification

NBFC-Ds (Deposit-taking): Subject to:

• Capital adequacy requirements
• Liquid assets maintenance
• Exposure norms (including restrictions on land, building, unquoted shares)
• Asset & Liability Management (ALM) discipline
• Regulatory reporting requirements

Key facts about NBFC deposits:

• Deposits with NBFCs are NOT insured and repayment is not guaranteed by RBI
• Only NBFCs with RBI authorization and investment-grade rating may accept public deposits
• Maximum deposits: up to 1.5 times their Net Owned Funds
• Investment-grade rating from any of six recognised agencies: CRISIL, CARE, ICRA, Fitch India, Brickwork Ratings, or SMERA

2. Activity-Based Classification

3. Systemic Importance Classification

Based on perceived systemic importance to the financial system.

As per NABARD, MFIs are defined as institutions that provide thrift, credit and other financial services of very small amounts, mainly to the poor in rural, semi-urban, or urban areas, for enabling them to raise income levels and improve living standards.

• Micro-savings
• Micro-credit
• Micro-insurance
• Micro-pensions

Phase 1: Pre-Independence

• Agriculture Credit Department set up in RBI to promote rural credit
• Government sought to promote rural credit by strengthening cooperative institutions

Phase 2: Late 1960s Onwards

Phase 3: Modern Microfinance Movement

The global pioneer of microfinance was Professor Muhammad Yunus, who experimented with the concept in 1976 and established the Grameen Bank in 1983 in the village of Jobra, Bangladesh.

After the AP crisis, RBI appointed the Y.H. Malegam Committee to study issues in the MFI sector. Key recommendations:

1. Create a separate category: NBFC-MFI
2. Define criteria for qualifying assets as microfinance loans
3. Prescribe capital adequacy and provisioning requirements
4. Set margin cap and interest rate ceiling on individual loans
5. Ensure transparency in interest charges and loan terms
6. Address multiple lending, over-borrowing, and coercive recovery

• A collateral-free loan to a household with annual income up to Rs. 3 lakh
• Household = individual family unit (husband, wife, unmarried children)
• Loan shall not be linked with a lien on the borrower's deposit account

• Minimum 75% of total assets must be qualifying assets (microfinance loans)
• NBFCs that are NOT NBFC-MFIs: microfinance loans cannot exceed 25% of total assets (revised from earlier 10%)

• REs must prominently display minimum, maximum, and average interest rates on microfinance loans in all offices, literature, and website
• Any change in interest rate or charges must be informed in advance and effective only prospectively

• Board-approved FPC required from all regulated entities
• Must be displayed in all offices and on website

Objectives of FPC:

• Adopt best practices for customer dealings
• Ensure customer satisfaction with higher standards
• Follow transparent, fair, ethical, and legally justifiable business methods
• Provide business-related information in public interest
• Avoid unfair practices

• Recovery should normally be at a central designated place
• Field staff allowed at borrower's residence/work only if borrower fails to appear at central place on two or more successive occasions
• Board-approved policy required for field staff Code of Conduct, recruitment, training, and supervision

The loan card must contain:

• Effective rate of interest
• All terms and conditions
• Borrower identification details
• Acknowledgment of all repayments including instalments and final discharge
• Grievance redressal system details and nodal officer contact
• Non-credit product details (with full consent)
• Statement that no penalty on delayed payment
• Statement that no security deposit/margin is collected
• Statement that borrower cannot be member of more than one SHG/JLG

• A group of 4-10 people from the same village/locality of homogeneous nature
• Purpose: Availing loans from banks without collateral
• Members of JLGs continue to remain SHG members and participate in SHG activities
• SHG members who graduate to requiring higher loans may form a JLG when other members do not want to guarantee large loans

1. NBFCs need RBI registration and minimum net owned funds of Rs. 25 lakh (up to Rs. 100 crore)
2. NBFC deposits are NOT insured; maximum deposits up to 1.5x Net Owned Funds
3. Six credit rating agencies for NBFCs: CRISIL, CARE, ICRA, Fitch India, Brickwork, SMERA
4. NBFC-MFIs are the largest category of MFIs in India
5. Malegam Committee (2011) recommended creating NBFC-MFI category after AP crisis
6. Microfinance loan: collateral-free, household income up to Rs. 3 lakh
7. NBFC-MFI qualifying assets: minimum 75% of total assets
8. Non-NBFC-MFIs: microfinance loans capped at 25% of total assets
9. SHG-Bank Linkage formally launched by NABARD in 1992; included in PSL from 1996
10. MYRADA pioneered SHGs (1984-85); Grameen Bank established by Yunus (1983)
11. JLGs: 4-10 people, no collateral, same socio-economic background
12. Recovery at central designated place; field recovery only after 2+ absences
13. No penalty on delayed payment; no security deposit; no membership in multiple SHGs